"Any tax advice included in this written or electronic communication was not intended or written to be used, and it cannot be used by the taxpayer, for the purpose of avoiding any penalties that may be imposed on the taxpayer by any governmental taxing authority or agency." (Proposed Circular 230 disclaimer language from Deloitte.)Going forward, tax clients across the country, whether they seek advice from a Big Four Firm, a tax attorney or even a sole practitioner, can expect to see disclaimers like this accompanying all correspondence and written advice.
In December 2004, in a climate suffused with the repercussions from Enron and some very visible abusive tax shelters, the Internal Revenue Service issued final regulations relating to Circular 230, the rules that govern those who practice before the agency. These rules cover accountants, attorneys, enrolled agents and enrolled actuaries. The new regulations became effective in June 2005, and the visible effects are starting to turn up everywhere.
Tax advisors who fail to comply with the provisions of Circular 230 are potentially subject to monetary fines, suspension from practicing before the IRS, disbarment, censure and sanctions.
Actions that can result in penalties include failure to disclose certain transactions, taxpayer understatement of tax resulting from a reportable tax avoidance transaction, taxpayer failure to disclose foreign transactions and accounts, failure to comply with regulations regarding required tax shelter participation lists and information return requirements, and false statements made by tax shelter promoters regarding the organization or sale of tax shelters.
Included in the description of certain transactions that are required to be disclosed are 31 possible tax avoidance transactions. The IRS has grouped these transactions under the heading of "Listed Abusive Tax Shelters and Transactions."
These transactions include a variety of specific tax shelters and other transactions, such as deductions for 401(k) contributions attributable to income deferred until after the end of the year; prohibited allocations of securities in S corporations; inappropriate deductions for payments made through a partnership; indirect contributions to Roth IRAs; and more.
The complete list is on the IRS Web site at www.irs.gov/businesses/corporations/article/0,,id=120633,00.html.
Beefing up the service
The new rules also give more rights to the IRS to track down abuses, including extended statutes of limitations, additional penalties, sanctioning opportunities against practitioners, and removal of confidentiality privileges for tax shelters.
While giving the appearance of targeting advice about tax shelters and other abusive transactions, the new regulations are generic enough to cover many situations, and can also provide an umbrella that might cover unforeseen future events.
Has the IRS gone too far with these regulations?
"A lot of people think that they have, and I sort of agree with them," said Michael Gray, a CPA based in San Jose, Calif. "They've made language that's so general that it could be applied, if they want to, to a big variety of situations." However, he added, "I really think the target is these listed transactions or tax shelter opinions."
The disclaimer blues
Some practitioners think the disclaimer requirement for written advice will have little impact. "I think when you attach that kind of standard disclaimer, it becomes meaningless and people don't read it," said Bradley Kirschner, a Seattle-based CPA. Like many tax professionals, Kirschner has added a disclaimer to his Web site.
"If the client ever reads this and says, 'I followed your advice and got in trouble, I had penalties,' you can go back and say the advice was not intended for that," Kirschner added.
Michelle Golden, president of Golden Marketing Inc., in St. Louis, advised her clients to be careful with the wording they choose for disclaimers. "I know that there's some requisite language, but I find that the wording in the bulky disclaimers most firms are using undermines the advice that they're giving," said Golden.
Among other things, Golden suggests that for Web site and e-mail disclaimers, advisors include a link that leads to a more thorough description of Circular 230, explaining what the disclaimer is all about. Alternatively, she suggests enclosing an explanatory letter with this spring's tax packet.
The new rules pertain to any written tax advice, including e-mail communication. The IRS separates written tax advice into two categories - covered opinions and, basically, any other written tax advice.
Covered opinions are written statements that have to do with any of the listed transactions or any other transaction, the principal purpose of which is to avoid or evade income tax. In addition, the phrase "covered opinions" applies to a written statement about a transaction, the significant purpose of which is to avoid or evade taxation. The IRS distinguishes between "principal" and "significant purpose" statements by indicating that those statements in the latter group qualify as covered opinions if they are defined as a reliance opinion, a marketed opinion, if they are subject to conditions of confidentiality, or if they are subject to contractual protection. (See box for descriptions of these terms.)
Covered opinions are now officially subject to myriad rules. Each type of opinion defined in the regulations has specific rules. In short, these rules include the requirement to rely on relevant facts and tax law, make reasonable assumptions, base opinions on factual representations, and disclose all such facts and assumptions and representations. Conclusions regarding each federal tax issue covered in the written opinion must be included with the opinion, and an evaluation of the chance of success of the tax issues covered in the opinion must also accompany the opinion.
Opinions and other written statements of tax advice that don't qualify as covered opinions are still subject to disclaimer rules, and practitioners are required to base all opinions on reasonable factual and legal assumptions, representations, statements or findings.
In all situations, tax practitioners are not permitted to present any suggestion to the effect that a tax return might not be audited or that a particular issue might not be raised in an audit, or that a likelihood might exist that a particular issue might be settled in an audit.
Clients can expect to see more than small disclaimers at the bottom of their letters and e-mail messages. It's likely they are going to see higher fees as well, particularly from the firms that engage in providing covered opinions.
St. Louis-based CPA firm Huber Ring Helm & Co. explained the changes in a letter to its clients: "Previously, we could offer prompt advice to you regarding the tax issues based on our experience and expertise without lengthy analysis. Now, under Circular 230, any written tax advice must include verification of the facts, discussion of all appropriate tax laws, conclusions as to the applicability of the tax laws and other discussions - a great deal more information than previously required."
But before clients start fearing higher fees, Huber Ring explained the relevance of the new disclaimer. "In most cases, in order to reduce your accounting fees, we will not issue a formal federal tax opinion unless required by Circular 230 or requested by you. Instead, we will normally provide the required disclaimer."
So far, firms that have begun using a disclaimer on their communication with clients have not heard many complaints or even comments. The new disclaimers appear in "everybody's e-mail messages, everybody's tax messages, everybody's Web site - and so people start to ignore it," said Kirschner.
Clients might take a second look at the disclaimers if they are required to pay penalties after taking the advice of their tax practitioners. Meanwhile, more paperwork is required of everyone, service hours and related fees will increase where covered opinions are required, and the beat goes on.
Welcome to tax season 2006.
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