Module 3TAX PRACTICE, PROCEDURES, &

PROFESSIONAL RESPONSIBILITIES

Tax Practice

Key Learning Objectives

Considered practicing law Three separate areas

ComplianceCompliance ResearchResearch PlanningPlanning

Tax Compliance

Complying with rules, laws, and regulations Preparation of a tax return Preparer--anyone compensated for

preparing return/claim for refund

Tax Research/Planning

Tax research Use of primary and secondary tax Use of primary and secondary tax

authorities authorities to answer a tax-related questionto answer a tax-related question Tax planning

Structuring a prospective transactionStructuring a prospective transaction Both require complying with rules, laws,

and regulations

Professional Responsibilities

Key Learning Objectives

IRS Code and regulations Standards of practice Statement on Responsibilities in Tax

Practice

IRS Code & Regulations

§7701(a)(36) defines income tax preparer§7701(a)(36) defines income tax preparer §§6694-6696 imposes money penalties on §§6694-6696 imposes money penalties on

preparerpreparer Related regulations Related regulations

provide more informationprovide more information §7206 provides penalties§7206 provides penalties

for fraud--includesfor fraud--includesjail timejail time

Standards of Practice--Lawyers, CPAs, Enrolled Agents

Circular 230Circular 230 Issued by U. S. Treasury DepartmentIssued by U. S. Treasury Department Violations can cause being barred from Violations can cause being barred from

practice (representing clients with IRS)practice (representing clients with IRS) Does not apply toDoes not apply to

Preparation of tax returns &Preparation of tax returns & Responding to IRS noticesResponding to IRS notices

Circular 230--Realistic Possibility

Minimum standard of authority requiredMinimum standard of authority required 1 in 3 chance would be sustained by IRS1 in 3 chance would be sustained by IRS Other, non-frivolous, positions must be Other, non-frivolous, positions must be

fully disclosed on tax returnfully disclosed on tax return Penalties may be imposed on taxpayerPenalties may be imposed on taxpayer Form 8275Form 8275

Penalties

Key Learning Objectives

Tax preparer penalties Taxpayer penalties

Tax Preparer Penalties

Based on understatement of tax liabilityBased on understatement of tax liability $250--failure to follow realistic possibility $250--failure to follow realistic possibility

standardstandard $1,000--willful attempt to understate or $1,000--willful attempt to understate or

reckless/intentional disregard of rulesreckless/intentional disregard of rules Possible defense--good faith/reasonable causePossible defense--good faith/reasonable cause Other penalties--administrative issuesOther penalties--administrative issues

Taxpayer Penalties--Accuracy related understatementAccuracy related understatement

Penalty = 20% of understatement, ifPenalty = 20% of understatement, if Substantial understatement of tax liabilitySubstantial understatement of tax liability Substantial overstatement of pension liabilitySubstantial overstatement of pension liability Negligence/disregard of rulesNegligence/disregard of rules Substantial valuation misstatement forSubstantial valuation misstatement for

Income taxIncome tax Gift or estate taxGift or estate tax

If fraud, penalty = 75% of related If fraud, penalty = 75% of related underpaymentunderpayment

Taxpayer Penalties--Accuracy related understatementAccuracy related understatement

Negligence--Negligence-- Lack of reasonable attempt to complyLack of reasonable attempt to comply

Disregard of rules--Disregard of rules-- Careless, reckless, intentionalCareless, reckless, intentional

Substantial understatement of tax liabilitySubstantial understatement of tax liability > $5,000 or 10% of tax required to be shown> $5,000 or 10% of tax required to be shown >$10,000 for most regular corporations>$10,000 for most regular corporations

Avoiding Substantial Underpayment Penalty

The penalty does not apply if the taxpayer's position had Substantial authority ORSubstantial authority OR A reasonable basis and was adequately A reasonable basis and was adequately

disclosed.disclosed.

Reasonable Basis for Avoiding Substantial Underpayment Penalty

Minimum standard--arguable, but fairly unlikely to prevail in court

Significantly higher than ““Not patently improper" Not patently improper" ““Not frivolous"Not frivolous"

More than merely arguable Disclosure also required

Substantial Authority for Avoiding Substantial Underpayment Penalty Objective standard involving an analysis of

the law and application of the law to relevant facts

The weight accorded an authority depends on its relevance and persuasiveness, and the type of document providing the authority

Disclosure not required, but retain contemporaneous written documentation

Research Query: Substantial Authority

What types of authority constitute What types of authority constitute “substantial authority” under §6662(d)(2)“substantial authority” under §6662(d)(2)(B)(i)? (B)(i)?

SeeSee Reg § 1.6662-4(d)(3)(iii)Reg § 1.6662-4(d)(3)(iii) Notice 90-20, Sec. V(A), 1990-1 CB 328Notice 90-20, Sec. V(A), 1990-1 CB 328 H Rept No. 101-247 (PL 101-239) p.1389-90H Rept No. 101-247 (PL 101-239) p.1389-90

Solution--Research Query: Substantial Authority

The Code and other statutesThe Code and other statutes Final and temporary regulationsFinal and temporary regulations Proposed regulations not yet supersededProposed regulations not yet superseded Federal Court casesFederal Court cases Revenue rulings and proceduresRevenue rulings and procedures Tax treaties, plus IRS and other official Tax treaties, plus IRS and other official

explanations of such treatiesexplanations of such treaties......

Solution--Research Query: Substantial Authority

Congressional intent as reflected inCongressional intent as reflected in Committee reportsCommittee reports Joint explanatory statements of Joint explanatory statements of

managers included in conference managers included in conference committee reportscommittee reports

Floor statements made before Floor statements made before enactment by one of a bill's managersenactment by one of a bill's managers

Solution--Research Query: Substantial Authority

After public release, the following become After public release, the following become substantial authority substantial authority if dated after Dec. 31, 1984if dated after Dec. 31, 1984

Private letter rulingsPrivate letter rulings Technical advice memorandaTechnical advice memoranda Actions on decisionsActions on decisions General counsel memorandaGeneral counsel memoranda

Solution--Research Query: More Substantial Authority

Internal Revenue Service information or Internal Revenue Service information or press releasespress releases

Notices, announcements and other Notices, announcements and other administrative pronouncements published administrative pronouncements published by IRS in the Internal Revenue Bulletinby IRS in the Internal Revenue Bulletin

"Blue books," i.e..., General explanations of "Blue books," i.e..., General explanations of tax legislation prepared by the Joint tax legislation prepared by the Joint Committee on TaxationCommittee on Taxation

Statement on Responsibilities in Tax Practice--Advisory Only

Eight Separate StandardsEight Separate Standards SRTP 1: Follows Circular 230 disclosure SRTP 1: Follows Circular 230 disclosure

rulesrules SRTP 2: Some general questions on return SRTP 2: Some general questions on return

can be disregarded for causecan be disregarded for cause SRTP 3: Need not audit informationSRTP 3: Need not audit information

must use knowledge and investigate if must use knowledge and investigate if information appears incorrect/incompleteinformation appears incorrect/incomplete

Statement on Responsibilities in Tax Practice--Advisory Only

SRTP 4: Materiality not defenseSRTP 4: Materiality not defense can use reasonable estimates if disclosedcan use reasonable estimates if disclosed

SRTP 5: Each year stands aloneSRTP 5: Each year stands alone unless consistency agreed to in closing unless consistency agreed to in closing

agreement agreement SRTP 6: Error on prior returnSRTP 6: Error on prior return

inform client only, not IRSinform client only, not IRS

Statement on Responsibilities in Tax Practice--Advisory Only

SRTP 7: Error discovered during auditSRTP 7: Error discovered during audit advise client to disclose advise client to disclose

SRTP 8: Communicate important advice in SRTP 8: Communicate important advice in writingwriting advice is subject to professional judgmentadvice is subject to professional judgment

Other Procedural Issues

Key Learning Objectives

Engagement letters Legal liability IRS audit procedures

Other Procedural Issues--Engagement Letters

Defines scope of work to be performed Helps to limit liability exposure

Other Procedural Issues--Legal Liability

Professional negligence Improper statement of tax liability Communication/documentation important Make it clear that return position might be

challenged Make it clear that additional taxes & penalties

could be assessed if IRS wins

Other Procedural Issues--IRS Audit Procedures

Taxpayer Compliance Measurement Program

Discriminant Income Function (DIF) score Correspondence examination--by mail Interview examination--tax auditor Field examination--revenue agent

Compliance Query: SRTP 6

What steps should a What steps should a CPA take if a CPA take if a significant error is significant error is discovered on a discovered on a client’s previously client’s previously filed return?filed return? See SRTP 6See SRTP 6

Solution--Compliance Query

Inform the client immediatelyInform the client immediately Do Do notnot inform the IRS inform the IRS

Recommend corrective measuresRecommend corrective measures Consider withdrawing from the engagement Consider withdrawing from the engagement

if corrective measures are not takenif corrective measures are not taken

SRTP #6SRTP #6

Ethics Query...

A tax preparer can avoid the $250 A tax preparer can avoid the $250 understatement penalty by meeting the understatement penalty by meeting the “realistic possibility” standard“realistic possibility” standard

A taxpayer can avoid the 20% substantial A taxpayer can avoid the 20% substantial understatement accuracy penalty by understatement accuracy penalty by meeting the “substantial authority” standardmeeting the “substantial authority” standard

““Substantial authority” is a higher standard Substantial authority” is a higher standard than the “realistic possibility” standard...than the “realistic possibility” standard...

Ethics Query--continued

Discuss the following:Discuss the following:

Is it ethical for a preparer to take a return Is it ethical for a preparer to take a return position that meets the “realistic possibility” position that meets the “realistic possibility” standard but does not meet the “substantial standard but does not meet the “substantial authority” standard?authority” standard?