You file your 1040 timely and sometime afterwards you receive a notice from the IRS that they have made “adjustments” to your federal adjusted income, thereby creating a new tax liability owed to the IRS. As part of the normal procedure, the IRS will notify the Comptroller’s office in Maryland (and other states where applicable) regarding the “adjustment,” thus automatically triggering a re-assessment with the state.
If you agree with the federal adjustment and the corresponding state adjustment, you must file what is a called a §13-409 report with the Comptroller’s office. This report is required under Maryland law, tax article section 13-409, whenever an adjustment is made to your federal return. This report requires the taxpayer to include a complete copy of the federal audit including any exhibits (Maryland Code Regs. 03.04.02.11) along with a statement of the amount of the increase. If you contend that the federal determination is erroneous, you must provide an explanation of the reasons for the contention that the adjustment is not correct and contest it through the proper process.
The self reporting requirement is critical, particularly if the adjusted tax liability is based on older tax returns. Depending on the type of tax and the length of time from assessment, or the filing of the §13-409 report, some, if not all of the tax liability could be discharged in a bankruptcy proceeding.
In a recent case from the 4th Circuit Court of Appeals, a Maryland taxpayer, Ms. Ciotti filed tax returns from 1992-1996 without issue. In 2002 she filed for protection under Chapter 7 of the Bankruptcy Code seeking to discharge among her consumer debts, her tax liabilities.
At some point, the IRS made adjustments to her federal returns adjusting her “federal adjusted income” and creating an additional federal and state liability. She did not amend her state tax returns nor did she notify the Comptroller of Maryland that the adjustments had been made as required under §13-409. This was a critical and costly mistake for Ms. Ciotti. As expected, Maryland made adjustments to her state tax returns based on the information provided to it from the IRS, creating a $500,000 additional assessment in taxes, penalty and interest.
Ms. Ciotti moved to re-open her bankruptcy case to have the bankruptcy court declare that the additional assessment was discharged along with her other taxes as part of her 2002 case. Although the bankruptcy court initially agreed with her, on appeal, the 4th Circuit did not. The 4th Circuit Court of Appeals held that because she did not file the §13-409 report or amended returns in compliance with Maryland law, she did not meet the requirements that could have discharged all of the newly assessed tax debt. This was a $500,000 mistake for Ms. Ciotti that could have been avoided. Don’t let this happen to you! For questions regarding your personal tax debt and options available, please contact the attorneys at HPK for a consultation.