The Internal Revenue Service hopes that new interim guidance for tax preparers will ease concerns over the expanded preparer penalties and heightened standards of conduct that must be met to avoid the penalties.

The guidance, contained in Notice 2008-13, implements the rules passed in May 2007 as part of the Small Business and Work Opportunity Act of 2007. That law tightened the disclosure requirements for tax preparers under Section 6694 of the Tax Code by requiring preparers to disclose to the IRS any tax positions taken by a taxpayer that didn't meet the code's "more likely than not" standard.

Because the new law raised the standard for tax preparers to a level above the standard for taxpayers, it created the potential for conflicts of interest between preparers and their clients, according to American Institute of CPAs vice president for tax Tom Ochsenschlager.

The "more likely than not" standard generally requires a reasonable belief that a position on a return has a better than 50 percent chance of being accepted by the IRS or a court. The IRS delayed implementation of the new law in June. The guidance in Notice 2008-13 provides preparers with an understanding of how they can comply with the new law during the current filing season and until final IRS guidance is developed.

Under the notice, tax preparers would not be required to make disclosures in returns and would not be subject to penalties under Section 6694 if they advise their clients of the difference between the reporting standards for taxpayers and preparers, document that advice, and demonstrate that the taxpayer met the "substantial authority" standard.

"It's probably the best we could hope for under the circumstances," Ochsenschlager said. "Now the tax preparer is going to have to discuss the position with the client, and tell the client that there is a question whether the position passes the more-likely-than-not test."

"It may cause the preparer to get home later at night, but at least it doesn't put a wedge between the taxpayer and the preparer," he observed.


For undisclosed positions, the new rules replaced the realistic possibility standard with a requirement that there be a reasonable belief that the tax position would more likely than not be sustained on its merits. For disclosed positions, the rules replaced the non-frivolous standard with the requirement that there be a reasonable basis for the tax treatment.

"Now, if you're in a position that has a greater than 20 percent chance of success, but does not reach the level of a more-likely-than-not chance, then you have to disclose under the new rules," explained Bill Smith, director of the national tax office at CBiz Accounting, Tax & Advisory Services. "Under the old rules, if it was above 5 percent but did not reach a one-in-three chance -- a reasonable possibility -- then you had to disclose, so it bumped up the disclosure requirement from 5 to 20 percent, and if not disclosing, it got bumped up from 33-1/3 percent to greater than 50 percent chance of success."

"Assuming a position has a chance of success between 40 percent (substantial authority) and 51 percent (more likely than not)," he said, "the taxpayer could say, 'Let's go forward, because I'm not subject to penalties,' while the preparer could say, 'I don't want to sign the return because I am subject to a penalty.'"

"Now, you can still sign the return as long as you advise the client of the different penalty standards and document that contemporaneously," Smith said.

Notice 2008-13 states that the regulations that will be finalized "may be substantially different from the rules described in this notice, and in some cases more stringent."

"That's a warning that the IRS may take a position requiring disclosure on the return, as opposed to having discussions with your clients, but if they do, I'm optimistic that it would be only for returns filed in 2009," Ochsenschlager said.

Meanwhile, the AICPA supports a bill, H.R. 4318, that would restore the role of CPAs as advocates for taxpayers by equalizing the standards for preparers and taxpayers, according to Ochsenschlager.

However, the pending legislation doesn't address the fact that taxpayers can get out of penalties at three different levels, depending on what penalty is asserted, noted Smith. "If it's the negligence penalty, the threshold they have to meet is a reasonable basis; if it's the penalty for disregard of rules and regulations, there has to be a reasonable possibility of success; and for a substantial understatement, the threshold is substantial authority."

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