What to Do When You Receive an IRS Letter

eminent tax

What to Do When You Receive an IRS Letter

Don’t panic! Most IRS letters are routine correspondence that can be resolved quickly. Here’s your step-by-step guide to responding properly and protecting your interests.

90% of IRS letters can be resolved without professional help if you respond properly and on time. The key is staying calm and following the correct procedures.

Key Takeaway

Your First 10 Minutes: Stay Calm and Assess

Receiving an IRS letter can be scary, but remember: the IRS sends out millions of letters each year, and most are routine correspondence about minor discrepancies or missing information. Your situation is likely much less serious than you think.

Most IRS letters are not collection notices or audit notifications. They’re often simple requests for clarification or notification of minor adjustments to your return.

Take a Deep Breath

Common Types of IRS Letters

Understanding what type of letter you received helps determine the appropriate response:

High

CP2000: Underreported Income Notice

IRS believes you didn’t report all income on your tax return

Critical

CP504: Intent to Levy Notice

Final notice before IRS begins collection action

Medium

CP14: Balance Due Notice

You owe additional tax on your return

Critical

CP90/297: Intent to Levy Notice

Final notice of intent to levy and your right to a hearing

Your Step-by-Step Response Plan

01

Take a deep breath and read the entire letter carefully. Most IRS letters are not as serious as they initially appear.

Don't Panic - Read Carefully

How the S-Corp Election Works

The S-Corp election is a tax-only change. Your LLC remains an LLC legally, but for tax purposes, you’re treated as an S-Corporation. Here’s what changes:

You Become an Employee

You must pay yourself a “reasonable salary” as an employee of your LLC. This salary is subject to payroll taxes, just like any employee.

Remaining Profits Are Distributions

Any profit above your salary comes to you as “distributions” which are NOT subject to self-employment tax. You save 15.3% on every dollar above your salary.

California LLC Fee May Be Eliminated

In many cases, the S-Corp election can eliminate or reduce the $800 California LLC fee, adding even more savings to your tax strategy.

Who Should Consider the S-Corp Election?

The S-Corp election isn’t right for everyone. Here’s when it makes the most sense:

Great Candidates

LLC profit over $30,000 annually
Service-based businesses
Consistent income streams
Single or few members
Willing to manage payroll
Located in California

Not Ideal For

Low or inconsistent profits
Significant business losses
Multiple passive investors
Complex ownership structures
Heavy equipment/inventory needs
Very new businesses (<1 year)

Critical Mistakes That Cost Thousands

Mistake #1: Paying Yourself Too Little

The IRS requires a “reasonable salary.” Paying yourself $10,000 when you should earn $40,000 will trigger an audit. Always pay market rate for your role.

Mistake #2: Missing the Filing Deadline

Form 2553 must be filed by March 15th to be effective for the current tax year. Missing this deadline means waiting another full year.

Mistake #3: Ignoring Payroll Requirements

S-Corp elections require real payroll with quarterly filings, W-2s, and unemployment insurance. Don’t try to skip this – it’s required by law.

Real Client Success Story

Sarah's Marketing Agency - San Francisco

The Situation:

LLC making $80,000 annual profit, paying $800 LLC fee + $12,240 self-employment tax = $13,040 in avoidable taxes

The Solution:

S-Corp election with $48,000 salary, $32,000 distributions. Payroll taxes: $7,344 (vs. $12,240)

The Result:

Annual savings: $5,696. Over 5 years: $28,480 saved in taxes.

Your Next Steps

If you’re a California LLC owner paying more than necessary in taxes, here’s your action plan:

Calculate Your Potential Savings

Determine if the S-Corp election makes sense for your specific situation. Generally, if you’re saving more than $2,000 annually, it’s worth considering.

Consult with a California Tax Expert

California tax law is complex. Work with a CPA who understands both federal S-Corp rules and California-specific requirements.

File Before March 15th

If you decide to make the election, Form 2553 must be filed by March 15th to be effective for the current tax year. Don’t miss this critical deadline.