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Tax Guide
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File amended return to correct tax errors

April 15 may be gone, but not forgotten - not if a mistake on your 1040 can be corrected by filing an amended return.

Believe it or not, the Internal revenue service code doesn't mention amended returns. There's no requirement to file one, says Ralph Anderson, a Florham Park, N.J., partner at Richard A. Eisner & Co.

But we recommend amended returns if a balance is due or a refund is due, either way, of over $1,000, Anderson added. Then it's up to the client whether to file.

If you owe more tax than you paid, the IRS has three years to come after you for back taxes, interest and penalties. If the tax due was understated by 25% or more, there's a six-year statute of limitations. In cases of criminal fraud, the clock never stops ticking.

Honest mistake

But let's say you made an honest mistake. Perhaps you miscalculated the cost basis of reinvested dividends and paid too little capital-gains tax on the sale of mutual fund shares. Or you didn't realize that incentive stock options pushed you into owing the alternative minimum tax. Should you file an amended return and pay the difference?

Likewise, maybe you paid too much capital-gains tax on a sale. Or you forgot a charitable deduction that would have reduced your income. Filing an amended return should get you a refund.

Most taxpayers want to amend their returns if a refund is due. But the cost of having an amended return prepared professionally can deter some. People are especially hesitant if little money is at stake.

There are times, though, when it's in your interest to amend a return filed for a prior year. That can happen when Uncle Sam changes the rules.

Let's say you owned a small business. Late in 1999, you sold the business, its inventory and the building that housed it. You arranged to take the payment in installments over several years to provide ongoing income.

But Congress disallowed the installment method of accounting in these situations as of Dec. 17, 1999. So you had to pay tax on the entire sales price when you filed your federal return in 2000, even though you hadn't received the entire amount.

At the very end of 2000, though, Congress reinstated the installment method. Congress made it retroactive to Dec. 17, 1999.

Under the new rules, if you file an amended return for the 1999 tax year, you report only the portion of gain reflecting the amount of cash you actually received that year, says Tom Ochsenschlager. He's a tax expert at Grant Thornton's Washington office.

Sometimes special rules come into play. If you live somewhere that's been officially designated a federal disaster area, you have a choice. You can write off the loss in the year of the disaster or on the return for the previous year. Filing for the previous year, of course, yields a quicker refund.

For example, on April 10 President Bush declared three Massachusetts counties disaster areas, due to severe storms and flooding that took place in March. Several Vermont counties got the same treatment, based on excessive snow. Residents of these counties could claim a casualty deduction on their income tax returns for 2000.

If they had already filed their federal returns for that year, they could file amended returns to claim the deduction. A deductible casualty loss is limited to $100 plus 10% of adjusted gross income, reduced by any insurance reimbursement.

Three years to file

An amended return is filed on Form 1040X and must be filed within three years of the filing date for the tax year in question. Under the three-year rule, a return for 1998, filed by April 15, 1999, can be amended until April 15, 2002.

Be sure to use the tax rates for the year of the return you're amending, Kevin McCormally wrote in Kiplinger's cut your taxes. Send the amended return to the IRS service center for the area you now live in, even if the original return was filed elsewhere.

When large refunds are at stake, most taxpayers will file amended returns. But some worry that an amended return will trigger an IRS audit.

The IRS itself says this isn't so. Accountants' views vary. Anderson says it's not precisely an audit, but says amended returns are scrutinized closely. Because most states piggyback their income tax on the federal government's, you can expect a state review as well.

By Grace W. Weinstein
Investors Business Daily (May 11, 2001)