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By James J. Newhard, CPA

My high school freshman midterm exam in honors biology remains a strong memory – not the subject matter, but rather the life lesson learned. During the test, a fellow student asked a question about … the questions. They were hard to understand what they were asking. Mr. Sharp's answer was simple and succinct: "Interpretation is part of the question." That statement conveyed that learning was more than facts, but also circumstances and context, rules and exceptions. It is art and science.

Today, do-it-yourself (DIY) opportunities have exploded in popularity through technology. Want to put laminate flooring down? There's a YouTube video to help. Want to do your own taxes? There's software to walk you through to completion at, you think, a very modest price.

DIY tax software, such as TurboTax or TaxAct, or online programs, such as H&R Block, provide a series of questions. The answers you provide then take you to different screens for input. That seems simple enough. After all, the "software" is preparing the tax return, and you are just following its programmed tax intelligence.

Ah, but remember Mr. Sharp and "interpretation is part of the question"?

As a DIY tax preparer, how well do you understand what the question is really asking? Do you know the context? Are you aware of the deeper definitions of words, and how those definitions might differ depending on circumstances? Do you know the rules and the exceptions, and which apply, if at all? Remember, not all expenses are permitted deductions. And if something is a deduction, do you meet the qualifying fact pattern? Do you have the necessary documentation? Have you met the applicable timeliness? Met safe-harbors? Have you obtained the necessary "tax authority" for a position or deduction claimed?

In a recent Tax Court case (Bulakites, T.C. Memo. 2017-79), the Tax Court held that a taxpayer couldn't blame tax prep software for deductions that he took on his tax return that were disallowed. The taxpayer asserted that the software "lured him" into claiming the excess deductions that the IRS disallowed. Unfortunately, the taxpayer was not sufficient at "interpreting the questions" the software asked. Further, his documentation was not sufficient. Many "procedural" necessities were not followed. Also, the taxpayer apparently did not know what constitutes alimony.

The court upheld all the tax deficiencies resulting from the changes, as well as the IRS's imposition of accuracy-related penalties for substantial understatements of income tax. Further, the court rejected the claim that the software was responsible for the taxpayer's mistakes. In doing so, it quoted another Tax Court case (Bunney, 114 T.C. 259, 267 (2000)): "Tax preparation software is only as good as the information one inputs into it." Reliance on the tax software did not relieve the taxpayer from accuracy penalties or negligence penalties.

In a closer-to-home example, a new client came to me a couple years ago. I'll call him Mr. Smith. Smith had a well-paying job and invested in several rental properties (thanks, in part, to an inheritance). In preparing his own tax return, Smith calculated well over $100,000 in losses on his rental properties, but in the tax software the losses didn't show up on the actual 1040. This didn't make sense to him. He went back to "the questions" and found that when he clicked "yes" to a question as to whether he was a real estate professional, the entire loss carried to his 1040 and his tax dropped nearly $40,000. He thought he had answered correctly. Smith also claimed charitable deductions for clothing given to Goodwill that he valued at $10,000.

The Smiths may have been aggressive or did not understand the meaning of the questions (clothing "replacement cost" is nowhere close to "thrift store value"), and an IRS examination that assessed in the neighborhood of $60,000 in tax, penalties, and interest helped Smith understand that there was much more to taxes than tax software.

Another frequent example of trip-ups that occur with DIY tax software occurs among families with kids in college. Often, a college student who has worked during the school year finds free or inexpensive tax software, and wishes to quickly file in hopes of some refund spending money. Little Johnny or Mary then files the simplest tax return, claims themselves as a dependent (they undoubtedly figure, "Of course I'm a dependent of me!"), calculate a relatively low tax, and claim the refund for direct deposit so it is available before spring break rolls around. Mom and Dad then get their taxes done, and find that not only is their return rejected during electronic filing (because they also claimed Johnny and/or Mary), but also that they are denied tax benefits for qualified education expenses (deduction or tax credit). Someone now has to prepare an amended tax return for Johnny and/or Mary, and submit it along with, perhaps, a check for the difference in the tax. Only then can Mom and Dad file their return claiming their dependent college students and the related qualified education tax deduction or tax credits. This may become even more problematic going forward with the new changes in the 2018 tax laws (the Tax Cuts and Jobs Act).

As a CPA tax professional, I am certainly biased. But it has been my experience that CPAs who do taxes have mastered both the science (tax laws, rules, and regulations) and the art (applicable court cases, facts and circumstances, exceptions, sufficiency of support documentation, and the interpretation of the questions) of preparing a tax return. The CPA is mandated to apply due professional care, and to understand the questions. On the other hand, our goal is to ensure that our taxpayers claim every deduction and benefit to which they are entitled.

I'm not here to say that DIY tax prep doesn't serve a purpose or is never the answer; sometimes, it may be. The question that you, the taxpayer, must interpret is whether doing it yourself presents a danger of noncompliance or misstatement on the tax return, and whether you believe there might be untapped and unclear opportunities for not only the preparation, but insights on other available deductions going forward, and what you might expect in future years with either some basic or more extensive tax planning and projections.

This will likely be very important as the rules have changed quite a bit for 2018.

James J. Newhard, CPA, CGMA, is the owner of James J. Newhard, CPA in Paoli, Pa. He is past president of the PICPA Greater Philadelphia Chapter and serves on several PICPA committees, including Federal Taxation and CPA Image Enhancement.