Individuals suffering from mental illness or the effects of substance abuse may have a “reasonable cause” for penalty relief.  Example, an indivdual who is suffering from chonic drug dependency who may have been in and out of rehab facilities, (think of any number of celebrities) or an individual with a degenerative mental condition such as Alzheimer’s .  These individuals may have intermittent periods during which they are awre of their obligations to file timely income tax and information returns  (such as a Report of Foreigin Gift, or Inheritance, Report of Foreign Bank Account, FBAR, Report of Foreign Trust), but because of their impairment do not do so. At some point, they may obtain the assistance of a tax professional to seek penalty relief.    The tax professional will  have to accumulate and/or reconstruct the financical records of the client in order to have accurate returns prepared and penalties abated.

It is not enough to establish that the failure to timely file a tax or information return was due to mental or physical impairment, there must be an accurate return filed.  Tax professionals are often confronted with situations where the taxpayer’s records are either unavialable or are incomplete and they must therefore “reconstruct” those records.  The Internal Revenue Manual provides the following instructions to IRS agents when evaluating “reasonable cause” claims:

20.1.1.3.2.2.3 – Unable to Obtain Records

[Last Revised: 12-11-2009]

(1) Explanations relating to the inability to obtain the necessary records may constitute reasonable cause in some instances, but may not in others.

(2) Consider the facts and circumstances relevant to each case and evaluate the request for penalty relief.

(3) If the taxpayer was unable to obtain records necessary to comply with a tax obligation, the taxpayer may or may not be able to establish reasonable cause

The hardest part of representing clients who sufffer from physical or mental impairment and claim penalty relief based upon resonable cause for the late or incomplete filing is the records reconstruction.  In many cases the tax professional will have to use estmiates beccause records are incomplete.  But as long as there is a sufficent basis to support the estimate it should be admissible into evidence in the event of a legal proceeding. The key is having skilled tax professionals prepare the reonstruction.

The client sufferiing from physical or mental disese or impariment needs not only to establish the legitemacy of the condition, he or she needs to establish the correctness of the financial records in order to obtain penalty relief bases upon “reasonable cause”.