Accountants and other tax practitioners are facing a minefield of new liability dangers as a result of the actions of tax shelter promoters who patent their tax reduction strategies, legal experts warned Congress.Testifying recently before the House Ways and Means Subcommittee on Select Revenue Measures, Internal Revenue Service Commissioner Mark Everson outlined a nightmare scenario for accountants who advise clients on estate and gift tax issues - only to discover that the tried-and-true tax reduction strategy that they recommended has been patented by another practitioner.
"In these cases, a practitioner who wishes to use a standard planning technique could expose himself and his client to potential liability for royalties or infringement litigation," Everson told Congress.
Other witnesses at the House hearings also voiced concerns over heightened liability exposure for tax accountants due to the upsurge in patenting tax advice - a controversial practice that is allowed by the U.S. Patent and Trademark Office despite concerns raised by the IRS and practitioners.
Whittier Law School Professor Richard S. Gruner warned that if tax professionals are aware that the tax planning methods that they are helping clients to implement are patented, attorneys and accountants may incur patent infringement liability by aiding and abetting the infringement of their clients. In these cases, Gruner said, the practitioner would be "equally responsible for patent damages along with the client."
Even if the accountant is unaware that a particular tax strategy had been patented, the practitioner may well face expensive litigation and serious penalties under federal law, Loyola Law School Associate Dean Ellen Aprill told the subcommittee.
"A taxpayer can infringe a patent without intent or actual knowledge of the patent," she said, adding, "Ignorance of an applicable patent is not a defense to an infringement action." And as if to add insult to injury, tax advisors whose clients face patent infringement suits may themselves face malpractice claims from their own clients, Aprill added.
Expensive either way
The cost of violating a patent can be heavy, as patent holders often seek treble damages for lost profits, as well as royalties from the alleged violator. While the accused could challenge the validity of the patent in court, this type of litigation tends to be expensive and difficult, Aprill said. Because patents enjoy "a presumption of validity, an alleged infringer defending use of a technique must show the invalidity of a patent by clear and convincing evidence," she testified.
By the same token, however, avoiding litigation over patented tax strategies could become costly and burdensome for the nation's tax accountants, Aprill told lawmakers at the hearing. "Taxpayers and accountants may need to begin considering whether to conduct patent searches in connection with any tax planning activity."
IRS Commissioner Everson agreed, and noted that "patented tax strategies place an increased burden on practitioners who, while simply developing good gift, estate or business-planning strategies for their clients, would be obligated to conduct due diligence searches for existing patents on such strategies."
Such a process would prove to be cumbersome and time-consuming, he told Congress.
Everson also cautioned taxpayers to guard against a false sense of security because a particular tax strategy is patented. The "granting of a patent on a tax strategy provides protection to the patent holder against infringement by other parties, but has no bearing on its legitimacy or illegitimacy under the tax laws," he testified. "Unlike a private letter ruling, a pre-filing agreement, or an advance pricing agreement, a patent carries with it no assurance whatsoever that the patented process, transaction or structure will pass IRS muster."
Everson told the panel that the IRS is currently considering ways to reduce the risk of taxpayers mistakenly believing that the issuance of a patent is an indication that the IRS has approved the particular technique being marketed.
The tax service "will issue a policy statement that will make this clear to all taxpayers," Everson said.
During his testimony, Everson raised the specter of other associated problems, including the possibility that taxpayers may attempt to patent abusive tax schemes. Although he said that the IRS has not yet encountered such a patent, Everson told Congress that the agency is on the lookout for such tactics.
The IRS has also provided the U.S. Patent and Trademark Office with "ideas on how to ferret out a tax strategy during a patent examination," and has encouraged the American Institute of CPAs to supply patent officials with assistance in reviewing patent applications for tax strategies.
Other witnesses at the congressional hearings called for more forceful action to halt the patenting of tax advice altogether.
Richmond, Va.-based tax attorney Dennis Belcher told the subcommittee that, "It should be against public policy to allow a patent of a tax reduction technique, because the patent prevents taxpayers from exercising their right to minimize their taxes within the limits of the law."
Worse yet, he charged that "patenting tax reduction techniques allows private individuals to leverage the federal tax system, thereby imposing an additional cost on taxpayers."
By the same token, he said, "Patenting estate-planning techniques unfairly increases the federal estate and gift tax liability of taxpayers. Some taxpayers will refuse to pay tribute to the holder of an estate-planning patent. ... These taxpayers will be forced either to pay more than their fair share of federal estate and gift taxes, or risk being sued for the unauthorized use of a patented technique."
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