On Dec. 16, 2008, the Internal Revenue Service released the long-awaited final tax return preparer regulations. Although they had been expected to be issued in November, they were further delayed by the changes to Code Sec. 6694 included in the Emergency Economic Stabilization Act of 2008. In addition to the final regulations, the agency also promulgated Notice 2009-5, providing some interim guidance for the 2008 tax filing season, and Revenue Procedure 2009-11, updating the list of IRS forms that are subject to the preparer penalties.The final regulations do not differ significantly from the proposed regulations, but make several changes in response to comments received. The interim guidance responds to the statutory changes made by the Emergency Economic Stabilization Act and can be relied on by tax return preparers until final guidance is issued. Tax return preparers will want to make sure that they are familiar with these new requirements to avoid penalties as the 2008 tax return season gets underway.
The EESA
Signed into law in October, the Emergency Economic Stabilization Act of 2008 made two significant changes to the Code Sec. 6694 penalties. First, for general undisclosed positions, the penalty applies unless there is substantial authority for the position. This changes the standard to the same standard that applies to taxpayers. The standard had been raised to "reasonable belief" that the position is more likely than not to be sustained on the merits by the Small Business Work Opportunity Tax Act of 2007.
Second, for listed and reportable transactions, tax return preparers continue to be required to have a reasonable belief that the position would more likely than not be sustained on the merits.
The standard for general undisclosed positions as revised by the EESA applies to returns prepared after May 25, 2007. The standard for listed and reportable transactions applies to returns prepared for tax years ending after Oct. 3, 2008.
TREASURY DECISION 9436
Responding to written comments that it received, the final regulations modify and clarify the proposed regulations issued in June 2008 in several respects:
* Copy of return to taxpayer. The return preparer may provide a copy of the return to the taxpayer in any medium acceptable to both the taxpayer and the return preparer.
* Preparer's identification number. The tax return preparer may omit the preparer's identification number on the copy of the return provided to the taxpayer.
* Signing preparer. A corporation, partnership or other organization that employs a signing tax return preparer to prepare for compensation (or as a partner or member) a tax return or claim for refund is treated as the sole signing tax return preparer.
* Preparer within the firm. There can be only one preparer per position within a firm, usually the one with supervisory responsibility for the position. If both a signing preparer and a non-signing preparer within a firm could be found to be primarily responsible, the IRS is authorized to assess a penalty against one, but not both.
* Reliance on information provided. A return preparer may rely on information provided even from another advisor or return preparer within the same firm. The prohibition against relying on legal conclusions in the proposed regulations is removed, but return preparers must still meet all diligence standards in their reliance.
* Reasonable-to-believe-more-likely-than-not standard. The "reasonable to believe" component of the "more likely than not" standard is the same standard as the reasonable belief standard.
* Adequate disclosure. No general disclaimer is allowed, but documented advice constitutes adequate disclosure. For a non-signing preparer providing advice to another preparer within the same firm, a single instance of contemporaneous documentation could constitute adequate disclosure.
* Burden of proof and of production. Tax return preparers should rely on Code Sections 7427 and 7491 for burden-of-proof and burden-of-production direction.
* Definition of a return preparer. A signing preparer includes an individual tax return preparer who has the primary responsibility for the overall substantive accuracy of the preparation of such a return or claim for refund. An anti-abuse rule is added to provide that advice on a position constituting less than 5 percent of the aggregate advice time that occurred after the events primarily to avoid treatment as a tax return preparer subject to penalty will negate the 5 percent safe harbor.
* Appraisers. Code Section 6694 and 6695A penalties will only be applied in the alternative.
The final regulations became effective Dec. 22, 2008.
NOTICE 2009-5
Notice 2009-5 provides interim guidance for the changes to Code Sec. 6694 made by the Emergency Economic Stabilization Act of 2008. Tax return preparers may continue to rely on the transitional relief provided in Notices 2007-54 and 2008-11 for the periods covered by those notices:
* All tax returns, amended tax returns and claims for refund filed on or after May 25, 2007, and on or before Dec. 31, 2007;
* All employment and excise tax returns filed on or after May 25, 2007, and on or before Jan. 31, 2008; and,
* Advice provided on or after May 25, 2007, and on or before Dec. 31, 2007.
For subsequent periods, for positions other than with respect to tax shelters and reportable transactions, tax return preparers may continue to rely on the interim guidance provided by Notice 2008-13 for tax returns, amended tax returns, and claims for refund filed, and advice provided, before Jan. 1, 2009. Alternatively, tax return preparers may apply the substantial-authority standard under the Emergency Economic Stabilization Act and Notice 2009-5 for returns prepared after May 25, 2007.
For positions with respect to tax shelters and reportable transactions, tax return preparers shall apply Notice 2008-13 to returns or claims for refund for tax years ending prior to Oct. 3, 2008. The guidance of Notice 2009-5 is to apply to such positions on or after Oct. 3, 2008.
Notice 2009-5 includes guidance on the application of the substantial-authority standard. The standard to be applied for purposes of Code Section 6694(a) is to have the same meaning as the taxpayer accuracy-related penalty regulations under Section 1.662-4(d)(2). For a return preparer, substantial authority exists with a written determination even if the determination contains a misstatement or omission of material fact, unless the tax return preparer knew or should have known of the misstatement or omission when the return or claim for refund was filed.
Generally, the applicability of court cases to the taxpayer's situation by reason of the taxpayer's residence in a particular jurisdiction is not taken into account as being sufficient precedent as to excuse nondisclosure; however, there is substantial authority if the position is supported by controlling precedent of a United States Court of Appeals to which the taxpayer has a right of appeal with respect to the position. Substantial authority is sufficient if it exists either on the date that the return or claim for refund is deemed prepared or on the last day of the tax year to which the return relates.
Notice 2009-5 also provides compliance rules for tax shelters. A position with respect to a tax shelter will not be deemed an unreasonable position if there is substantial authority for the position and the return preparer advises the taxpayer of the penalty standards, including the substantial-authority and reasonable-to-believe-more-likely-than-not standards applicable to the taxpayer in the event that the transaction is deemed to have a significant purpose of tax avoidance. The advice must be contemporaneously documented.
A non-signing preparer providing advice to another preparer regarding a position with respect to a tax shelter must have substantial authority for the position and provide a statement to the other return preparer about the penalty standards applicable, along with creating contemporaneous documentation. These penalty compliance rules do not apply to reportable or listed transactions.
Notice 2009-5 is effective for tax shelter and reportable transaction positions for tax returns for tax years ending after Oct. 3, 2008, and for other positions for all advice rendered or returns, amended returns, and claims for refund prepared after May 25, 2007.
REV. PROC. 2009-11
Revenue Procedure 2009-11 provides a current complete list of all tax returns or claims for refund that can make a return preparer subject to Code Sec. 6694 penalties. The list includes income tax returns, estate and gift tax returns, employment tax returns, excise tax returns, information returns, and even a procedure and administrative return, Form 8752 for required payments or refunds under Code Sec. 7519.
SUMMARY
This guidance starts to finally bring to a close an unsettled period with respect to tax return preparer penalties. Unless significant criticisms emerge with respect to Notice 2009-5, this guidance will probably settle the area for a while.
However, even though the basic standard for tax return preparer penalties has been lowered to a substantial-authority standard, the increased scope of Code Sec. 6694 in terms of the tax returns to which it applies and the size of the penalties that may be assessed still remains. Also remaining is the renewed emphasis by the IRS on enforcing taxpayer compliance not only by pursuing taxpayers but also by pursuing tax return preparers who the IRS feels contribute to the enforcement problem.
While not returning to the former standards of tax return preparation practice, with this guidance and the recent statutory changes, we are starting to settle into an enhanced enforcement environment that tax return preparers can at least survive in without feeling that a choice must be made between safeguarding their clients and protecting their own interests in reporting or not reporting the details of tax strategies that have been undertaken.
George G. Jones, JD, LL.M, is managing editor, and Mark A. Luscombe, JD, LL.M, CPA is principal analyst, at CCH Tax and Accounting, a Wolters Kluwer business.
