How far can Alabama go back and adjust my taxes for mistakenly claiming the rural physician tax credit for more than five consecutive years?

[heathforestry]

I claimed the rural physician tax credit for 2006-2016 but I am only allowed to claim it for 5 consecutive years. Now the state has disallowed the credit and sent me a bill for 2011-2016. Wouldn’t the statute of limitations come into play? My understanding of the tax law was that they could only go back 3 years unless I failed to file a return or omitted more than 25% of my income.

[DanielV01 · Accepted solution]

It depends.  In general, you are correct that Alabama only audits within 3 years.  However, there are exceptions, as shown on this website: Taxpayer Bill of Rights – Alabama Department of Revenue.  If you click on the link, you will see this excerpt:  

Time Limitations

In most cases, the Department has three years from the date a tax return is due or filed, whichever is later, to audit your tax return and assess any additional tax, penalty, and interest due. A taxpayer also generally has three years to claim a refund of any tax overpaid. However, if the tax was paid by withholding or estimated payments, and you failed to timely file a return, any refund must be claimed within two years from the original due date of the return. This authority is granted under Title 40, Chapter 2A, Code of Alabama 1975.

There are, however, certain circumstances in which the time limitations to assess additional tax may be extended. Some of those circumstances are as follows:

1. The Internal Revenue Service (IRS) adjusts your federal income tax return and these changes affect your Alabama return.
2. You signed an agreement with the Department to extend the time period to adjust your state or local tax return.
3. You omitted more than 25 percent of the taxable base that should have been reported on your tax return.
4. You failed to file a return or intentionally misstated or fraudulently filed your tax return. (Italics added on points 3 and 4)

The point of highlighting these points is not to argue that Alabama is correct in its audit, but rather, the two most likely reasons that they are doing so.  If you wish to contest the audit, you would want to be able to prove that neither of these two points apply to you.  However, either point does (and what will especially be claimed by the state is point #4), then Alabama can go back more than 3 years to assess delinquent tax (and associated penalties and interest).