IRS finalizes tax preparer due diligence penalty rules

The Internal Revenue Service has issued final regulations for the tax preparer due diligence penalty, extending it from the Earned Income Tax Credit to other types of refundable tax credits.

The final regulations implement tax law changes from 2015 expanding the scope of the tax return preparer due diligence penalty so it also applies to the Child Tax Credit, the Additional Child Tax Credit and the American Opportunity Tax Credit as well as to the eligibility to file a tax return or a claim for refund as a head of household.

Prior to 2016, section 6695(g) of the tax code imposed a penalty on tax preparers who failed to comply with the due diligence requirements for determining eligibility for, or the amount of, the EITC. But for tax years starting after Dec. 31, 2015, the PATH Act of 2015 expanded the scope of section 6695(g) to apply the penalty to tax preparers who failed to comply with due diligence requirements with respect to determining eligibility for, or the amount of, the CTC, the ACTC and the AOTC. The IRS issued final, but temporary regulations, in December 2016 and is now finalizing the regulations. A commenter on the 2016 proposed regulations recommended that the rule include language stating that the phrase “tax return preparer” be defined to include business entities and persons without an identifying number. The commenter suggested that including this definition in the rule would decrease the likelihood that tax return preparers without an identifying number would be able to escape enforcement of section 6695(g) of the tax code, but the IRS said the rule already included those categories.

Completion and filing of Form 8867 by tax preparers is an essential part of the due diligence enforcement process, according to the IRS. A commenter stated that some tax preparers are uncertain as to whether completing Form 8867 is enough to avoid due diligence penalties under section 6695(g). The IRS noted that filing a completed Form 8867 is one of the requirements established by the final regulations, but there are other requirements too. Paragraph (b)(2) requires tax preparers who file returns or claims for refund claiming one or more of the EIC, CTC, ACTC, and AOTC to either complete the applicable worksheets, or record in one or more documents the tax preparer’s method and the information used to compute the credits.

Tax preparers also have to meet certain knowledge requirements concerning the basis for the benefits they claim on returns or on claims for refund and also they need to contemporaneously document any inquiries and responses related to meeting these knowledge requirements. There are also retention requirements for documents used in preparing a tax return or claim for refund. A tax preparer who completes Form 8867 but fails to comply with one or more of those additional requirements hasn’t satisfied the due diligence requirements.

The IRS noted that Form 8867 will be revised later this year to reflect the addition of the head of household filing status. Paid tax preparers are required to keep copies of the form or comparable documentation for their records, which is also subject to review by the IRS. They are subject to a penalty that is indexed to inflation for each failure to comply with the requirement. For tax year 2018, the penalty will be $520.

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The Internal Revenue Service building in Washington, D.C.

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