Tax return preparers should always demonstrate due diligence when preparing returns. Paid tax return preparers generally can rely on the taxpayers' representations, but EITC due diligence requires the paid preparer to take additional steps to determine that the net self-employment income used to calculate the amount of or eligibility for EITC is correct and complete. EITC due diligence, IRC §6695(g), requires paid tax return preparers make additional inquiries of taxpayers who appear to be making inconsistent, incorrect or incomplete claims related to their self-employment when the tax return includes the earned income tax credit. The additional inquiries made and the client's responses must be documented.
Tax preparers should ensure that the amount of net self-employment income reported is correct. Taxpayers sometimes want to over-report or under-report their income to qualify for or maximize the amount of EITC. The preparer should ask sufficient questions of clients claiming self-employment income to be satisfied that the client is actually conducting a business, the client has records to support income and expenses, or can reasonably reconstruct income and expenses records, and the client has included all income and related expenses on Schedule C, Profit or Loss from Business (Sole Proprietorship).
It is important to note that all preparers are held to the ethical standards defined in Circular 230 and are subject to consequences if the standards are not met. In addition, penalties may be assessed on a paid preparer for failure to comply with EITC due diligence. If after exercising EITC due diligence, a tax preparer is not satisfied the return is correct, the preparer may refuse to prepare the return.
This training module introduces the due diligence responsibilities involved with preparing returns with a Schedule C where EITC is claimed. The module also includes recordkeeping guidelines, recommendations on reconstructing records, and examples of how to comply with EITC due diligence in common Schedule C situations a preparer may encounter.
Follow the links below to see more information about each topic:
- Who is self-employed?
- How is self-employment reported on a tax return?
- Why are Schedule C's an EITC issue?
- What is EITC due diligence?
- How does EITC due diligence apply to Schedule C claims prepared by paid tax preparers?
- What are the consequences for not meeting your due diligence and filing incorrect EITC returns?
- What Schedule C situations should raise a red flag for you as a tax preparer?
- What techniques can be used to obtain information from your client?
- Why should taxpayers conducting a trade or business keep records?
- What should be included in the taxpayer's books and records?
- What Business Expenses can be claimed on Schedule C?
- What are examples of supporting documents?
- What should you do if the taxpayer does not have records?
- What choices do you have if you are not satisfied with the records?
- Where can you get additional guidance on EITC due diligence?
- Scenario 1 - No Expenses
- Scenario 2 - False Business Income
- Scenario 3 - Overstated Expenses
- Scenario 4 - No Expenses
- Scenario 5 - Rounded Expenses
- 1099-Misc Income Treatment Scenarios