The U.S. District Court for the District of Columbia has ruled that the Internal Revenue Service doesn’t have the authority to regulate CPA tax return preparers’ contingent fee arrangements in the preparation of ordinary refund claims.
The ordinary refund claim is a procedure that a taxpayer may undertake if he determines that he has overpaid his taxes. It may be filed after the tax return has been filed or during the course of an examination, but prior to filing suit in court for a refund.
In the case, Ridgely v. Lew, 7/17/2014, Gerald Lee Ridgely, Jr., a practicing CPA, brought suit arguing that the IRS exceeded the scope of its statutory authority in regulating the preparation and filing of ordinary refund claims. Concluding that the IRS lacks the statutory authority to regulate the preparation and filing of such claims, the court granted Ridgely’s motion for summary judgment.
Particularly where the refund claim is complex, a taxpayer may elect to hire a CPA to help prepare and file his claim, the court noted. A CPA may assist a taxpayer in preparing and filing a refund claim and, in doing so, would not be legally representing the taxpayer until the IRS responds to the claim and the CPA submits a power-of-attorney form to the IRS.
“Thus, what Ridgely challenges here is the IRS’s proclaimed authority to regulate fee arrangements entered into by CPAs for preparing and filing ordinary refund claims before the commencement of any adversarial proceedings with the IRS or any formal legal representation by the CPA,” the court said.
The ruling would also apply to other practitioners governed by Circular 230, such as Enrolled Agents and tax attorneys.
In 2007, the IRS promulgated regulations prohibiting the charging of contingent fees except in limited circumstances. 31 U.S.C. Section 330, originally enacted in 1884, governs the authority to regulate representatives of persons who practice before it. However, nowhere does it define the meaning of the term ”practice.” Ridgely argued that IRS authority is limited to regulating “practice,” and the preparation and filing of ordinary refund claims does not constitute “practice” because such claims, by definition, precede agency adjudication.
The court agreed with Ridgely. It said the plain text of Section 330(a) limits the regulatory authority of the Treasury to the practice of representatives of persons before the department of the Treasury. It cited the recent Loving v. IRS decision to interpret section 330(a)(1). In the Loving case, the same district court found last year that the IRS had exceeded its statutory authority in requiring testing and continuing education of all tax return preparers.
“As the Loving court explained, two terms in this provision are key: representative’ and practice.’ To fall under Section 330’s purview, the regulated conduct must be practice’ and must be undertaken by a representative.’”
As to the meaning of the term “representative,” the court said that Loving is clear: a “representative” is traditionally one “with authority to bind others. Tax return preparers neither possess that authority to act on behalf of the taxpayer, nor can they legally bind the taxpayer by acting on the taxpayer’s behalf.”
Likewise, the filing of an ordinary refund claim, before any back and forth with the IRS, is similar to the process of filing a tax return in that both take place prior to any type of adversarial assessment, the court said.
“Because a CPA prepares and files an ordinary refund claim before becoming a legal representative and presenting his case,” the court said, “preparing and filing such claims is not within the scope of the actions originally targeted by Section 330.”
The court granted Ridgely a declaratory judgment that the IRS lacked statutory authority to promulgate contingent fee restrictions on those preparing and filing ordinary refund claims pursuant to Section 10.27 of Circular 230, and permanently enjoined the IRS from enforcing this regulation.