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The term “alternate accounting methods” is usually associated with cash, accrual, or IFRS. When I plan the accounting work behind a tax return, however, I use the term more loosely to cover a wider range of tools for reconstructing income and expenses when the records are incomplete.

Why would a CPA need these tools at all? In a perfect world, preparing a tax return means matching data from third-party sources and fitting it into the forms. That description fits few of the returns I prepare. I am more often involved when the usual records are not available. The cause might be a natural disaster (my own office landed upside down in the water after Superstorm Sandy), a technology failure, a serious bookkeeping error, absentmindedness, substance abuse, depression or another mental health issue, or incarceration. In recent years, general stress has become the fastest-growing reason a taxpayer cannot produce records. A person worried about a utility shutoff or a property tax lien foreclosure is not focused on bookkeeping. Whatever the cause, the taxpayer is still required to file.

The goal in these cases is to meet the taxpayer’s legal obligation by filing a timely, defensible return at the lowest possible cost and tax liability that the available facts support. Few of these taxpayers expect 100% accuracy, and the professional standards do not demand it. Treasury Department Circular 230 and the AICPA Statements on Standards for Tax Services both permit a preparer to use reasonable estimates when records are unavailable, provided the estimates are not presented in a way that implies more precision than exists. The courts have accepted reasonable estimates for nearly a century under what tax professionals call the Cohan rule.

There is one firm limit. The tax code does not allow estimates for vehicle, travel, gift, and certain listed-property expenses. Those deductions require specific substantiation, and no amount of statistical skill replaces it.

Once the reason and the goal are clear, I may propose one or a combination of these methods:

• Estimating
• Statistical sampling
• Trend analysis
• Ratio analysis
• Industry analysis

Each method depends on understanding the data and applying sound statistical principles. The IRS itself uses many of these same techniques when it reconstructs income during an examination, so a return built on them speaks the examiner’s language. It is not enough, for example, to use random estimates. Those numbers must be based on sound logic and mathematics. The worksheets documenting the methodology should be preserved with the other tax return data.

When the work is based on a legal theory, it is equally important to document those details as the basis for our work.

Finally, it makes sense to conclude the tax return work by developing and adapting a plan to ensure that the same problem does not happen again. I consider that to be the very important coaching aspect of my work.

If you are behind on a return because your records are lost, incomplete, or simply too much to face right now, that is not a reason to stay stuck. It is a common starting point for the work I do.

To arrange a private call to discuss your situation, send a short introduction text message to 856-314-5625. Do not include any private personal information in the text. We will establish a secure way to share information later if needed.

The City of Philadelphia sent a small business client a proposed assessment for delinquent Business Income and Receipts Tax (BIRT). The total due shown on the letter was about $16,000. The notice offered an incentive to pay now and avoid additional penalties. The Revenue Department stated confidently that it had evidence of taxable business receipts for the year in question.

As far as I could see, the business had no Philadelphia receipts subject to that tax, and the income we did know about would not produce a tax of that size. I said so in writing, and I asked the Revenue Department to produce the evidence it claimed to have. The department responded by sending the proposed assessment again. I asked again. Meanwhile the client asked whether they had to pay it, and I said I saw nothing that would sustain the assessment. The exchange ran close to four months before the city conceded the error and closed the matter. No tax was paid.

I want to be careful about the moral of that story, because the obvious one is wrong. The obvious one is that persistence pays. Persistence had very little to do with it.

What the Philadelphia business tax notice does not tell you

The letter arrives with an amount due on it, and the amount is what everyone looks at. The amount is the least important thing in the envelope.

A proposed assessment of this kind generally begins with a gap in the city’s file rather than with information about your income. An open business tax account and a missing return give the Revenue Department authority to estimate a liability and bill it. The estimate does not require the city to know what you earned. Knowing that changes the entire conversation, because it means the department may hold no evidence at all, and that asking for the evidence is not a stalling tactic but the center of the case.

The department never produced any. Over four months of correspondence, it did not identify a payer, a return, an information document, or any other source for the receipts it had asserted.

Then there are the dates. A petition to the Philadelphia Tax Review Board contesting the principal of an assessment must be filed within 60 days of the notice from the Department of Revenue. Informal correspondence with the department does not extend that window. This matter took four months to resolve. A taxpayer conducting the same patient, reasonable, entirely sensible correspondence without knowing about the timeline would have watched a wrong assessment become a final one while doing everything that felt right.

That is the difference between someone who knows this territory and someone who does not. It is not effort. It is not nerve. It is knowing which of the many things in front of you is the one that can hurt you.

The unrepresented business owner

Most people who receive a notice like this do one of two things. They pay it, because $16,000 is frightening and the letter implies that paying now is the less expensive option. Or they set it aside, because they know they do not owe it and they assume the matter will correct itself. Both responses end badly, and both are completely understandable from someone who has never seen one of these before.

A representative changes the outcome in three ways. Someone who has handled these matters recognizes the shape of the assessment on sight and knows what it is likely built on. Someone who works in the deadlines protects the appeal rights while the informal conversation plays out. And someone who is not the taxpayer can press the department for months without the exhaustion and self-doubt that wear down a business owner who has a business to run.

Thirty years of tax controversy work is what made four months of letters feel routine rather than terrifying. The value was never in the letters. It was in knowing, on the day the notice arrived, that the city probably had nothing, and knowing exactly how long we had before the matter would need to be escalated into a formal protest.

If a notice like this is sitting on your desk, the useful question is not how much you owe. It is whether the person reviewing it with you has seen one before and knows how to respond.

Tony Novak, CPA, MT, MBA, handles tax controversy and representation matters at TaxProblems.CPA. This account is published with the client’s permission and omits identifying details. It is general information and not advice on your specific situation.

For a no obligation discussion of a tax matter with the City of Philadelphia or another jurisdiction, text 856-314-5625 with the words TAX PROBLEM. Do not include any personal information in the text. I will respond with an invitation to a secure messaging and document sharing platform so we can discuss it safely.