Module 3 TAX PRACTICE, PROCEDURES, & PROFESSIONAL RESPONSIBILITIES

Tax Practice Key Learning Objectives n n Considered practicing law n n Three separate areas u Compliance u Research u Planning

Tax Compliance n n Complying with rules, laws, and regulations n n Preparation of a tax return n n Preparer--anyone compensated for preparing return/claim for refund

Tax Research/Planning n n Tax research u Use of primary and secondary tax authorities to answer a tax-related question n n Tax planning u Structuring a prospective transaction n n Both require complying with rules, laws, and regulations

Professional Responsibilities Key Learning Objectives n n IRS Code and regulations n n Standards of practice n n Statement on Responsibilities in Tax Practice

IRS Code & Regulations n §7701(a)(36) defines income tax preparer n §§ imposes money penalties on preparer n Related regulations provide more information n §7206 provides penalties for fraud--includes jail time

Standards of Practice-- Lawyers, CPAs, Enrolled Agents n Circular 230 n Issued by U. S. Treasury Department n Violations can cause being barred from practice (representing clients with IRS) n Does not apply to u Preparation of tax returns & u Responding to IRS notices

Circular Realistic Possibility n Minimum standard of authority required n 1 in 3 chance would be sustained by IRS n Other, non-frivolous, positions must be fully disclosed on tax return u Penalties may be imposed on taxpayer u Form 8275

Penalties Key Learning Objectives n n Tax preparer penalties n n Taxpayer penalties

Tax Preparer Penalties n Based on understatement of tax liability n $250--failure to follow realistic possibility standard n $1,000--willful attempt to understate or reckless/intentional disregard of rules n Possible defense--good faith/reasonable cause n Other penalties--administrative issues

Accuracy related understatement Taxpayer Penalties-- Accuracy related understatement n Penalty = 20% of understatement, if u Substantial understatement of tax liability u Substantial overstatement of pension liability u Negligence/disregard of rules u Substantial valuation misstatement for F Income tax F Gift or estate tax n If fraud, penalty = 75% of related underpayment

Accuracy related understatement Taxpayer Penalties-- Accuracy related understatement n Negligence-- u Lack of reasonable attempt to comply n Disregard of rules-- u Careless, reckless, intentional n Substantial understatement of tax liability u > $5,000 or 10% of tax required to be shown u >$10,000 for most regular corporations

Avoiding Substantial Underpayment Penalty n n The penalty does not apply if the taxpayer's position had u Substantial authority OR u A reasonable basis and was adequately disclosed.

Reasonable Basis for Avoiding Substantial Underpayment Penalty Minimum standard--arguable, but fairly unlikely to prevail in court n n Significantly higher than u “Not patently improper" u “Not frivolous" n n More than merely arguable n n Disclosure also required

Substantial Authority for Avoiding Substantial Underpayment Penalty n n Objective standard involving an analysis of the law and application of the law to relevant facts n n The weight accorded an authority depends on its relevance and persuasiveness, and the type of document providing the authority n n Disclosure not required, but retain contemporaneous written documentation

Research Query: Substantial Authority n What types of authority constitute “substantial authority” under §6662(d)(2)(B)(i)? n See u Reg § (d)(3)(iii) u Notice 90-20, Sec. V(A), CB 328 u H Rept No (PL ) p

Solution--Research Query: Substantial Authority n The Code and other statutes n Final and temporary regulations n Proposed regulations not yet superseded n Federal Court cases n Revenue rulings and procedures n Tax treaties, plus IRS and other official explanations of such treaties...

Solution--Research Query: Substantial Authority n Congressional intent as reflected in u Committee reports u Joint explanatory statements of managers included in conference committee reports u Floor statements made before enactment by one of a bill's managers

Solution--Research Query: Substantial Authority n After public release, the following become substantial authority u if dated after Dec. 31, 1984 n Private letter rulings n Technical advice memoranda n Actions on decisions n General counsel memoranda

Solution--Research Query: More Substantial Authority n Internal Revenue Service information or press releases n Notices, announcements and other administrative pronouncements published by IRS in the Internal Revenue Bulletin n "Blue books," i.e..., General explanations of tax legislation prepared by the Joint Committee on Taxation

Statement on Responsibilities in Tax Practice--Advisory Only Eight Separate Standards n SRTP 1: Follows Circular 230 disclosure rules n SRTP 2: Some general questions on return can be disregarded for cause n SRTP 3: Need not audit information u must use knowledge and investigate if information appears incorrect/incomplete

Statement on Responsibilities in Tax Practice--Advisory Only n SRTP 4: Materiality not defense u can use reasonable estimates if disclosed n SRTP 5: Each year stands alone u unless consistency agreed to in closing agreement n SRTP 6: Error on prior return u inform client only, not IRS

Statement on Responsibilities in Tax Practice--Advisory Only n SRTP 7: Error discovered during audit u advise client to disclose n SRTP 8: Communicate important advice in writing u advice is subject to professional judgment

Other Procedural Issues Key Learning Objectives n n Engagement letters n n Legal liability n n IRS audit procedures

Other Procedural Issues-- Engagement Letters n n Defines scope of work to be performed n n Helps to limit liability exposure

Other Procedural Issues-- Legal Liability n n Professional negligence n n Improper statement of tax liability n n Communication/documentation important n n Make it clear that return position might be challenged n n Make it clear that additional taxes & penalties could be assessed u u if IRS wins

Other Procedural Issues-- IRS Audit Procedures n n Taxpayer Compliance Measurement Program Discriminant Income Function (DIF) score n n Correspondence examination--by mail n n Interview examination--tax auditor n n Field examination--revenue agent

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

Solution--Compliance Query n Inform the client immediately u Do not inform the IRS n Recommend corrective measures n Consider withdrawing from the engagement if corrective measures are not taken SRTP #6

Ethics Query... n A tax preparer can avoid the $250 understatement penalty by meeting the “realistic possibility” standard n A taxpayer can avoid the 20% substantial understatement accuracy penalty by meeting the “substantial authority” standard n “Substantial authority” is a higher standard than the “realistic possibility” standard...

Ethics Query--continued n Discuss the following: Is it ethical for a preparer to take a return position that meets the “realistic possibility” standard but does not meet the “substantial authority” standard?