Tax Tips Newsline - May 2015

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Tax Tips Newsline - May 2015

Transcript of Tax Tips Newsline - May 2015

TAX TIPS NEWSLINE__________________ MAY 2015

Produced monthly for Clients & Friends of the Advisory Group AssociatesOur Mission: Sharing ideas that make a real difference.

This TAX TIPS NEWSLINE is compiled by its founder, Frank Zerjav CPA and team of Professional Tax Associates, and then it is sent by email each month because you need tax and compliance knowledge. Its a big part of your life and the entities that you operate.

Our firm engages in strategic tax planning for professionals, business owners, investors and individuals. Our responsibility to our clients is to minimize their tax burden by appropriate proven methods, which helps them to keep more of what they earn. Our primary objective is the well-being of clients, as well as their satisfaction with the work we do.

Inside this Month's Issue

Become a Real Estate Professional Postpone, cut tax on real estate sales Tips to Know if you Get a Letter from the IRS Traditional, Non-Traditional, & Specialized Services Provided Make Reasonable S Corporation Salary Tax News Form 1099 Compliance Plan Now for 2015 Tax Return Fraud Risk Questionnaire Wide Range of Services Offered

BECOME A REAL ESTATE PROFESSIONAL

The so-called passive activity loss (PAL) rules limit the write-offs that certain real estate investors are able to claim. Now, the same investors could get socked by the new 3.8% Medicare surtax on their net rental income.

Strategy: Be proactive. A real estate professional isnt restricted by the PAL rules and their rental income generally isnt subject to the new surtax.

Generally, your annual write-off for passive activities is limited to your income from such passive activities. In other words, you cant claim an overall passive loss. Any excess loss is suspended and carried over to the next year. The PAL rules were enacted to crack down on artificial losses sustained in tax shelter deals.

A passive activity is one in which you do not materially participate. The IRS has established several tests for establishing material participation. For example, youre treated as a material participant if you spend more than 500 hours during the year on the activity. Unfortunately, however, a rental real estate activity is generally considered a passive activity by definition.

Key exception: An active participant who owns at least 10% of the property is allowed to treat up to $25,000 of rental real estate losses as nonpassive, meaning they can be used to offset income from other sources such as wages and investments. However, this $25,000 exception phases out between modified adjusted gross income (MAGI) of $100,000 and $150,000.

To compound matters, the 3.8% Medicare surtax applies to the lesser of your annual net investment income (NII) or the excess above $200,000 of MAGI for single filers and $250,000 for joint filers. Although income from an active trade or business doesnt count as NII, income from a passive activity does. Therefore, a passive rental real estate activity can further increase your tax liability.

Tax solution to the problem. So-called real estate professionals qualify for another exception to the passive loss rules. Under the exception, a real estate professional can treat rental real estate losses as nonpassive if the professional materially participates in the rental activity (or activities). But you must meet these two requirements to qualify as a real estate professional: (1) More than half of the personal services you perform in all trades or businesses during the tax year are performed in real property trades or businesses in which you materially participate. (2) You spend more than 750 hours on your real property trades or businesses. A written time log is required to support the time spent.

If you satisfy this two-part test, rental real estate activities in which you materially participate arent treated as passive activities. However, each ownership interest in rental real estate is treated as a separate activity, unless you make a special election to treat all your interests in rental real estate as a single activity.

You can make this election in any year in which you qualify as a real estate professional. And, if you forgo it one year, you can still make it in a later year.

Tip: Once you make the election, it is binding for that tax year, plus any following years in which youre a real estate professional.

Time must be on your side. The Tax Court has consistently said you wont qualify for the exception as a real estate professional unless you do the time.

New decision: The taxpayer, a full-time pharmaceutical salesperson owned seven rental properties along with his wife. He performed most of the management duties for the properties, including collecting rents and performing repairs, and kept a log of these activities. The logbook showed that the taxpayer spent no more than 800 hours on real estate in 2008 and 715 hours in 2009. Thus, he didnt satisfy the 750-hour threshold in 2009. For 2008, he worked 1,500 hours in sales, so his real estate services were less than half of his personal services.

Result: The taxpayer didnt qualify as a real estate professional in either tax year. Therefore, his rental real estate losses for both years were passive and limited by the PAL rules unless the taxpayers spouse was qualified.

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POSTPONE, CUT TAX ON REAL ESTATE SALES

If youre selling a prime piece of real estate, you can probably get top dollar in todays market. But it may be worthwhile to structure the deal so you receive payments over several years.

Strategy: Sell the property on the installment sale basis. As long as you receive payments from the buyer in two or more tax years, you dont owe current tax on all of your gain in the year of sale.

Not only does this defer the tax, it may also reduce your overall tax bill on the gain.

Recent tax-law changes further encourage real estate sellers to use the installment sale method.

Under the installment sale rules, only a portion of the gain is taxable in the year in which you receive a payment. Also, the taxable portion on the sale qualifies for favorable capital gain treatment.

The current maximum federal income tax rate on long-term capital gains is 20% for taxpayers in the highest ordinary income tax bracket. However, most taxpayers will owe no more than 15% to the feds on long-term capital gains. For sales of depreciable real estate, a maximum federal rate of 25% applies to the portion of gain attributable to your depreciation deductions. In addition, a 3.8% Medicare surtax now applies to the lesser of net investment income,(NII) which includes most sales of rental real estate properties, or the amount by which your modified adjusted gross income (MAGI) exceeds a threshold of $250,000 for joint filers (or a MAGI of $200,000 for single filers). These figures are not indexed for inflation.

Thus, you could pay an effective tax rate of 23.8% (20% + 3.8%) or 28.8% (25% + 3.8%) on the sale of highly appreciated long-term capital gain property in 2015.

What is the taxable portion of the payment? Its based on the gross profit ratio. Gross profit ratio is determined by dividing the gross profit from the real estate sale by the contract price.

Example:You acquired a parcel of commercially zoned land several years ago. It has an adjusted tax basis of $600,000, in 2015, you agree to sell the property for $1.5 million in five annual installments of $300,000 each with the first installment received in 2015. Because your gross profit is $900,000 ($1.5 million - $600,000), the taxable percentage of each installment payment is 60% ($900,000 divided by $1.5 million).

When you report the sale on your 2015 tax return, youre only taxed on $180,000 of gain (60% of $300,000), reducing your exposure to the 20% capital gains rate and the 3.8% net investment income tax.

For simplicity, lets say you save the 5% capital gains differential on $100,000 of income each year. Thats a tax savings of $25,000 (5% of $500,000) - well worth the wait.

Finally, watch out for a little known tax trap. If the sales price of your property (other than farm property or personal property) exceeds $150,000, interest must be paid to the government on the deferred tax to the extent that your outstanding installment receivables exceed $5 million.

Tip:Keep an eye on the $5 million limit if you want to preserve tax deferral.

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TIPS TO KNOW IF YOU GET A LETTER FROM THE IRS

The IRS mails millions of notices and letters to taxpayers each year. There are a variety of reasons why they might send you a notice. Here are the top 10 tips to know in case you get one.

Dont panic. You often can take care of a notice simply by responding to it.

An IRS notice typically will be about your federal tax return or tax account. It will be about a specific issue, such as changes to your account. It may ask you for more information. It could also explain that you owe tax and that you need to pay the amount that is due.

Each notice has specific instructions, so read it carefully. It will tell you what you need to do.

You may get a notice that states the IRS has made a change or correction to your tax return. If you do, review the information and compare it with your original return.

If you agree with the notice, you usually dont need to reply unless it gives you other instructions or you need to make a payment.

If you do not agree with the notice, its important for you to respond. You should write a letter to explain why you disagree. Include any information and documents you want the IRS to consider. Mail your reply with the bottom tear-off portion of the notice. Send it to the address shown in the upper left-hand corner of the notice. Allow at least 30 days for a response.

You wont need to call the IRS or visit an IRS office for most notices. If you do have questions, call the phone number in the upper right-hand corner of the notice. Have a copy of your tax return and the notice with you when you call. This will help the IRS answer your questions.

Always keep copies of any notices you receive with your other tax records.

Be alert for tax scams. The IRS sends letters and notices by mail. The IRS does not contact people by either telephone, email or social media to ask for personal or financial information.

For more on this topic visit IRS.gov. Click on the link Responding to a Notice at the bottom left of the home page. Also, see Publication 594, The IRS Collection Process. You can get it on IRS.gov/forms at any time.

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TRADITIONAL, NON-TRADITIONAL, & SPECIALIZED SERVICES PROVIDED

We would be pleased to visit further regarding the nature, scope and array of services that we provide for you, your family and your enterprises. Our mission is Sharing Ideas that make a Real Difference. We offer Traditional, Non-Traditional, and Specialized services.

Traditional services is a total range of tax and compliance services that includes tax return preparation, representation, accounting and financial statements.

It never ceases, and we are amazed by the number of compliance issues clients have been confronted with from both federal and state regulators. Business owners and professionals contend with the IRS, Department of Labor, State Division of Employment Security and Sales/use taxes and are compelled to be in Compliance with seemingly endless and often changing regulations.

As a result, our traditional role has changed from tax return preparation to tax compliance.

Non-Traditional services include Tax planning that begins with structuring a Tax Efficient entity integrated with asset protection solutions. We help business owners to protect, grow and exit their business or professional practice. By sharing ideas, business owners are taken through comprehensive tax planning sessions to implement proven strategies and methods that reduce or even eliminate taxes.

In addition to Tax and Estate planning, we are always prepared to defend positions taken in event of any examination or other scrutiny through this comprehensive approach. Business owners and investors are faced with what seems to be an endless array of both federal and state regulatory agencies. Compliance involves both knowledge and keeping good records with appropriate documentation. This knowledge is gained from our monthly newsletter TAX TIPS NEWSLINE provided to all clients by email to share ideas and be informed regarding current topics and planning opportunities.

Our practice specialties include our role in tax problem resolution. As tax professionals for 40 years, our team has helped clients in all areas of tax controversy and dealing with the IRS. In addition to un-filed tax returns, penalty abatement, lien and levy releases, collection issues and offers in compromise, this often includes representation and defense strategies during IRS or state examinations.

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MAKE REASONABLE S CORPORATION SALARY

Why would you pick the S corporation as a form of business entity? Your likely answer: to cut self employment taxes. How do you do that? Pay a low salary and take the remaining profits as distributions that are not subject to the self employment tax.

This article will help you establish a salary thats not too low and not too high. Thus, if your purpose for the S corporation is to save money on self employment taxes, this article is for you.

Size Matters: The one-owner personal service S corporation with no employees has no chance claiming: A zero salary, and All S corporation profits as corporate distributions.

The combination of zero salary and big profit distributions to the S corporation owner/operator rendering personal services simply does not work.

Finding and Proving the Reasonable Salary: There is no one best way to identify and prove the reasonable salary, but you do need proof. With good proof, you are not only armed should you be attacked by the IRS, but also you may well have bulletproof armor.

The Proof: You want in your files proof that your salary level is indeed reasonable, before the IRS thinks about sending you an audit notice. You could make this part of your annual stockholders meeting and fold it into the corporate minutes. You dont need a valuation expert to do this for you, although that certainly would not hurt.You simply need good evidence of why your salary (low as it might be) is a reasonable salary. Look to your trade association for evidence.

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TAX NEWS

IRS still on the job. Despite predictions early in tax-return season about furloughs and reduced services for taxpayers, IRS Commissioner John Koskinen now says those measures wont be necessary. Even though weve had to do less with less, so far filing season has been running as smoothly as we could hope thanks to the dedicated work of IRS employees, Koskinen stated on March 18.

Threat to Obamacare. The U.S. Supreme Court began hearing oral arguments in King V. Burwell in March. (S. Ct. Docket No. 14-114, 3/4/15). The key issue in this case is whether the federally operated health insurance marketplace can grant premium tax credits under Obamacare, the informal name for the Affordable Care Act (ACA). Without the credits, millions of taxpayers cant afford health insurance, making it a major threat to the ACAs survival. The nations highest court is expected to rule in June.

Hurry up and wait. Are you filing your 2014 tax return electronically or on paper? IRS Commissioner John Koskinen warned that paper filers could face delays of a week or more on their refunds. Koskinen attributed the slowdown to budget cuts, which could lead to a longer hiring freeze; fewer resources dedicated to customer services, tax enforcement and overtime; and a possible two-day furlough for IRS employees.

IRS raises prices. If you want a private letter ruling from the IRS, the price tag has gone up. (Revenue Procedure 2015-1, 1/2/15) Effective Feb. 1, 2015, the cost for a taxpayer with income under $250,000 is $2,200 (up from $2,000); for a taxpayer with income between $250,000 and $1 million its $6,500 (up from $5,000); and a whopping $28,300 (up from $19,000) for those with income above $1 million.

Lowdown on high income. New IRS statistics show the top 1% of all filers paid about 38.1% of all federal income tax in 2012, the last year the agency analyzed it. Thats up 3% from the prior year. The top 5% paid 58.9% of the total income tax and accounted for 36.8% of adjusted gross income (AGI). Conversely, the bottom 50% of filers paid only 2.8% of the total tax revenue.

Up in smoke. The trend toward legalizing marijuana continues. It was voted in by Oregon, Alaska and the District of Columbia with more states likely to adopt similar measures. What does this mean to consumers for federal income tax purposes? Not much. Even if a doctor prescribes marijuana use for medical reasons, it cant be deducted as a medical expense because federal law doesnt sanction the usage.

Dont expect miracles. IRS Commissioner John Koskinen is on record as predicting that the 2015 tax filing season will be a very complex one. In an email to IRS employees, Koskinen noted that the 2015 budget is comparable to the 1998 budget after factoring in inflation, but the IRS now receives 27.4 million more individual returns and 3 million more business returns than it did in 1998.

More tax mileage. The IRS has announced new standard mileage rates for 2015 (IRS Notice 2014-79, 12/10/14). In lieu of deducting actual business auto expenses, you can deduct a flat rate of 57.5 cents per business mile, up from 56 cents in 2014, plus parking and tolls. But the standard rate for medical or moving expense driving drops to 23 cents per mile for 2015, down from 23.5 cents per mile in 2014. The flat rate for charitable driving remains at l4 cents per mile.

Review T&E reimbursements. The tax law limits deductions for T&E expense, including meals. But if an arrangement involves a third party - say a leasing company-who does the limit apply to? According to the IRS, the parties can determine which one is subject to the limit. Absent such an agreement, the 50% limit applies to the party making the reimbursements. (T.D. 9625, Reg. 1.274-2, 07/31/2013).

Key tax break for iPads. The IRS has informally indicated that iPads and other tablets will be treated like cellphones when employers provide them to employees. Thus, employees wont be taxed on the value of personal use, as long as the devices are provided primarily for business reasons rather than as a form of compensation. Similarly, reimbursements made by employers to employees for personally owned iPads generally should not be subject to tax when used primarily for business.

Find your comfort level. Are you confident about having saved enough for retirement? According to the Employee Benefit Research Institutes 23rd annual Retirement Confidence Survey, more than half of the respondents had some measure of confidence that they would have enough saved to be comfortable in retirement (13% very confident and 38% somewhat confident), 21% were not too confident and 28% were not all confident.

IRS has 2020 vision. The IRS and the Free File Alliance will be in business together until 2020. The agency has announced a new five-year agreement providing free federal tax-preparation-software products to 70% of all taxpayers. (IRS Internal News Release 2015-52, 3/17/15). The agreement paves the way for innovations such as importing the prior years information and requests for additional options for free state tax returns. For 2015, taxpayers with income of $60,000 or less were eligible for the free tax software, while those above the $60,000 threshold could use Free File Fillable Forms, the electronic version of IRS paper forms. Free File also provides free tax filing extensions. For more information, visit www.irs.gov/FreeFile.

Handle this letter with care. Have you received a 5071C letter from the IRS? The IRS generates this letter when its computers stop a suspicious tax return in its racks and the agency needs more information to process it accurately. Go to IDVerify.irs.gov where you will be asked a series of questions about your identity and tax return history by an independent, secure identity assurance service. This service uses nongovernmental information to create the questions that only you are likely to know the answers to. The information provided to the IRS will be checked against your records to protect you from identiy theft.

Prepare for stormy tax weather. National Taxpayer Advocate (NTA) Nina E. Olson delivered her annual report to Congress on Jan. 14, 2015. (IRS Internal Release IR-2015-02, 1/14/15) For the most part, the news wasnt good. According to Olson, during the 2015 tax filing season, taxpayers can expect to experience the worst level of service seen in a decade. The NTA, which operates independently within the IRS, is placing most of the blame on recent budget cuts and reduced resources. Combined with an extra workload for the IRS, due to the health care legislation and other factors, a perfect storm of trouble could be brewing for taxpayers. Finally, in addition to addressing a host of other tax issues, Olson strongly urged Congress to codify a principles-based Taxpayer Bill of Rights. Previous versions havent been included in the tax law.

Get serious about tax reform. This time, the Senate Finance Committee (SFC) appears to mean business. It recently announced that it has launched five separate bipartisan working groups that will provide recommendations on comprehensive tax reform.

The five groups are as follows: (1) Individual Income Tax, (2) Business Income Tax, (3) Savings & Investment, (4) International Tax and (5) Community Development & Infrastructure. Each group will collaborate with the nonpartisan Joint Committee on Taxation (JCT) to produce an in-depth analysis of options and potential legislative solutions. Then they will submit the results to SFC chairman Orrin Hatch (R-UT) and former chairman Ron Wyden (D-OR), the highest-ranking Democrat, no later than May 30. Stay tuned.

To have and to withhold. The 3.8% Medicare surtax on net investment income (see page 1) isnt the only tax complication triggered by the Patient Protection and Affordable Care Act (PPACA). Under the PPACA, an additional 0.9% Medicare tax applies to wages received by employees above $200,000 for single filers, heads of households and qualifying Widows and Widowers; $250,000 for joint filers; or $125,000 for married taxpayers filing separately. The additional 0.9% Medicare surtax also hits net self-employment income in excess of the aforementioned thresholds.

The IRS recently refreshed the Frequently Asked Questions (FAQs) section for the 0.9% Medicare surtax on its website. For instance, the FAQs explain that wage withholding of the 0.9% surtax must begin in 2015 when an employee earns more than $200,000 even though a married employee and his or her spouse may not have combined wages above the $250,000 threshold for married joint filers.

Tax hikes in ABLE Act. The Achieving a Better Life Experience (ABLE) Act authorizes states to create tax-favored accounts for disabled individuals and allows Section 529 plan holders to change their investment decisions twice a year (SBTS, January 2015). But the new law comes with a price: certain revenue-raisers to offset these tax breaks. For instance, the new law increases the inland waterways fuel tax by 9 cents per gallon to 29.1 cents a gallon and indexing certain penalties for returns filed after 2014. This includes penalties for failing to file a tax return or to pay tax and for not filing information returns, as well as fines for tax return preparers who dont sign returns, provide copies to taxpayers or put their tax ID number on returns.

Higher grade for earnings test. If you continue working while you receive Social Security benefits, you might have to forfeit part of your benefits under the so-called earnings test. For those who started collecting benefits before the normal retirement age (NRA) for full benefits - 66 for most baby boomers - the earnings limit for 2015 is $15,720 (up from $15,480 in 2014). You lose $1 in benefits for every $2 over the limit. If you attain the NRA in 2015, the limit is $41,880 (up from $41,400 in 2014). You lose $1 in benefits for every $3 over the limit.

Crackdown on nest eggs? A new report from the Government Accountability Office (GAO) zeroes in on so-called mega IRAs. This is the name given to IRAs that have grown into seven figures or higher on a tax-deferred basis. Using figures from the 2011 tax year, the GAO says an estimated 600,000 taxpayers had aggregate IRA balances exceeding $1 million. About 6,000 to 10,000 taxpayers had aggregated IRA balances of $5 million to $10 million and 700 to 1,000taxpayers had more than $10 million. Senator Ron Wyden (D-Ore.), chairman of the Senate Finance Committee, has pledged support for legislation that would curtail big IRAs. However, the new Congress is likely to be cool to the idea. Stay tuned, we will keep you posted on any developments.

Beware of phony email from IRS. Weve said it before; well say it again: Never send personal financial data in response to unsolicited email. The IRS says scam artists are sending emails to random people, telling them theyre due a refund or under investigation. The message directs people to a fake IRS website that asks for personal data. In reality, the IRS wont contact you via email.

Need an old tax return Fast? Contact your tax advisor. A special IRS service lets tax practitioners receive transcripts of clients tax returns electronically in minutes. Taxpayers can still receive a free paper transcript of their returns within seven to 10 days by calling the IRS at (800) 829-1040.

Know the difference between gifts and compensation. If you give a favorite employee a big check at Christmas, you might consider it a gift, but the IRS will likely consider it income. That could be true even if the employee and owner are family. In one case, the IRS said payments to an owners daughter (who was an employee) were for past services, not a gift. Talk with your tax pro if YOU face a similar dilemma.

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FORM 1099 COMPLIANCE

The IRS has mandated business owners, professionals and landlords to issue forms 1099-MISC when amounts paid to a single contracted provider or vendor exceeds $600 during the calendar year. This is an important COMPLIANCE matter since the penalties for non-compliance has been increased significantly. Form W-9 needs to be obtained from providers and retained with the payers records.

Tip Carefully check any forms 1099-MISC issued by your customers to determine that the correct taxpayer identification number (TIN) was used as well as the name of the company. Generally, your SSN should not be given when a company conducts the business. When errors are found, prompt corrective actions need to be taken since the IRS intends to match amounts reported.

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PLAN NOW FOR 2015 TAX RETURN

Most people stop thinking about taxes after they file their tax return. But theres no better time to start tax planning than right now. And its never too early to set up a smart recordkeeping system. Here are six IRS tips to help you start to plan for this years taxes:

Take action when life changes occur. Some life events, like a change in marital status, the birth of a child or buying a home, can change the amount of taxes you owe. When such events occur during the year, you may need to change the amount of tax taken out of your pay. To do that, you must file a new Form W-4, Employees Withholding Allowance Certificate, with your employer. Use the IRS Withholding Calculator on IRS.gov to help you fill out the form. If you receive advance payments of the premium tax credit it is important that you report changes in circumstances, such as changes in your income or family size, to your Health Insurance Marketplace.

Keep records safe. Put your 2014 tax return and supporting records in a safe place. That way if you ever need to refer to your return, youll know where to find it. For example, you may need a copy of your return if you apply for a home loan or financial aid. You can also use it as a guide when you do next years tax return.

Stay organized. Make sure your family puts tax records in the same place during the year. This will avoid a search for misplaced records come tax time next year.

Think about itemizing. If you usually claim a standard deduction on your tax return, you may be able to lower your taxes if you itemize deductions instead. A donation to charity could mean some tax savings. See the instructions for Schedule A, Itemized Deductions, for a list of deductions. Keep up with changes. Subscribe to and read this monthly publication TAX TIPS NEWSLINE.

Remember, a little planning now can pay off big at tax time next year.

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FRAUD RISK QUESTIONNAIRE

This questionnaireis intended for general guidance and information only. The list of risk factors is presented for illustrative purposes only and is not exhaustive. Use of this questionnairedoes not guarantee the prevention or detection of fraud and is not intended as a substitute for audit or similar procedures.We invite you to call if you havevital concerns about fraud prevention orsuspect that fraud exists.

Does the organization have an adequate level of fraud awareness, and are appropriate policies in place to minimize fraud risk, specifically:Generic Risk Factors

Has the organization assigned each employee a maximum opportunity level to commit fraud, that is, has management asked itself the question, What is the maximum amount this employee could defraud the organization, and does this represent an acceptable risk?

Has the organization set a catastrophic opportunity level; that is, has management asked itself the question, Have we ensured that no single employee, or group of employees in collusion, can commit a fraud that would place the organization in imminent risk of survival?

Does the organization have a policy of immediately dismissing any employee who has committed fraud?

Does the organization have a policy of reporting all frauds to the authorities and pressing charges?

For all frauds experienced by the organization in the past, has management evaluated the reasons that led to the fraud and taken corrective action?

Individual Risk Factors

Does the organization have a written mission statement, which includes an objective of good citizenship or the maintenance of good standing in the community?

Does the organization have a written code of ethics and business conduct?

Does the organization conduct ethical and security training for new employees and periodic updates for existing employees?

Does management set the right example that is, does it follow the organizations mission statement, code of ethics and business conduct, and other policies of the organization and is it clearly seen to be doing so by employees?

Does the organizations culture avoid characteristics that promote unethical behavior, for example, high or even hostile competitiveness within the organization that might push employees to the point of burnout; pointless rigid or petty policies, or both; over centralization of authority?

Do the organizations hiring policies, to the extent possible, seek out individuals of high moral character and weed out those of low moral character?

Does the organization use screening and or testing procedures for especially sensitive positions; for example, psychological tests, drug tests, or lie detector tests, or a combination of all three, where permitted by law?

Does the organization provide or encourage counseling or both for employees with personal problems, for example, alcohol and drug abuse?

Does the organization have fair policies in the area of employee relations and compensation for example, salaries, fringe benefits, performance appraisal, promotions, severance pay; and do these policies compare favorably with those of competitors and promote an environment that minimizes disenchantment and other similar motives to commit fraud?

Does the organization have fair mechanisms in place for dealing with employee grievances?

Does the organization have a feedback mechanism concerning employee relations policies and conduct exit interviews with departing employees?

Overall Risk Factors

Does the organization exhibit an awareness of fraud and its possible manifestations, for example, signs of employee problems such as drug addiction, employees who are living beyond their means, etc.

Internal Control

Has the organization explicitly considered the need for fraud prevention in the design and maintenance of the system of internal controls?

Control over Physical and Logical Access

Does the organization have a policy of locking doors, desks, and cabinets after hours and when, unattended, especially in areas with valuable assets including files and records, for example, personnel and payroll, customer and vendor lists, corporate strategies, marketing plans, research?

Does the organization use IDs and passwords, for example, for computer files?

Does the organization state and enforce a policy that restricts access to those requiring it for job performance, including a strict policy against employees allowing access to unauthorized personnel, for example, by loaning keys or sharing passwords?

Has the organization installed, for especially sensitive areas, the computerized security or electronic surveillance systems, or both?

Does the workplace appear, to an impartial observer, to have adequate access controls?

Job Descriptions Does the organization have written specific job descriptions?

Are job descriptions adhered to?

Does the organization have an organization chart that reflects and is consistent with the job descriptions of its employees?

Are incompatible duties segregated, for example, the handling of valuable assets especially cash and related records?

Does the organization properly segregate the purchasing functions that are ensuring that one single individual cannot requisition goods or services approve and make the related payment, and access accounts payable records?

Are especially sensitive duties duplicated, for example, the double signing of checks over a specified amount?

Do job descriptions specify that employees must take annual vacations?

Is the overall process of formulating job descriptions integrated with adequate consideration the importance of fraud prevention?

Regular Accounting Reconciliation and Analysis:

Are all bank accounts reconciled? Monthly?

Are all accounts receivable reconciled, for example, month-to-month, general ledger to sub ledger?

Are all accounts payable reconciled, for example, month-to-month, general ledger to sub ledger?

Has the organization performed a variance analysis of general ledger accounts, for example budget to actual, current year versus prior year?

Has the organization performed a vertical analysis of profit and loss accounts that is, as a percentage of sales against historical or budget standards, or both?

Has the organization performed an analysis of detailed sales and major expenses, for example, by product line or geographic territory?

Supervision

Do supervisors and managers have adequate fraud awareness, that is, are they alert to the possibility of fraud whenever an unusual situation occurs, such as supplier or customer complaint about their accounts?

Do supervisors and managers diligently review their subordinates work, for example, accounting reconciliation, and redo the work when appropriate?

Does close supervision adequately compensate against the increased risk of fraud in smaller businesses or where an inability to divide duties exists.

Is supervisory or management override prohibited and are others within the firm alert to the fraud risks associated with management override?Audit

Is there an internal audit function?

Does the internal audit function perform regular checks to ensure that fraud prevention mechanisms are in place and operating as intended?

Are external audits performed on a regular basis, for example, quarterly for larger businesses?

Are the timing demands of management on external auditors reasonable?

Do external auditors receive full cooperation from management with respect to their work in general and fraud matters in particular, for example, through the audit committee?

Has the organization specifically addressed the following fraud prevention issues? Ethical Environment

Risk Financing

Computer Security

Misappropriation of Assets Are there planned layoffs, which have become known by employees throughout the company?

Are the companys assets easily convertible and are they physically available to employees?

Is there insufficient segregation of duties related to check writing, wiring of funds, or cash?

Are the controls over the accounting system or automated records inadequate?

Do certain employees exhibit a change in behavior to a disagreeable or discontent state?

Does the organization require that a fidelity bond be purchased or have an adequate level of insurance in event fraud has been detected?

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