Every filing season carries with it the very real risk of exposure to professional liability claims against preparers. For years, insurance pros have advised that tax practice generates the most frequent malpractice claims against CPAs (though not necessarily the largest suits in terms of recoveries). And the 2021 filing season may be the most extreme example of this trend in years, according to observers.
“This filing season will be very challenging,” said John Raspante, director of risk management for McGowanPro, citing new legislation and the fact that the IRS is still playing catch up from last season’s COVID-hampered process. And seemingly little things such as stimulus payments can mushroom into major headaches.
“A lot of taxpayers don’t realize that the economic stimulus payments are a credit intended for the tax return but were given out in advance of filing the return,” Raspante said. “So it’s incumbent on the preparer to verify with the client the amount of the payment received in 2020. A lot that were entitled to a payment didn’t get it. Any discrepancy could cause delays in processing, which might give rise to claims against the preparer.”
“It could be a practice management nightmare for CPAs. It’s enough that they need to keep track of IDs and driver’s licenses, and direct deposit information. And PIN numbers are now part of the processing. All of these are administrative responsibilities put on the preparer, and if there’s any lapse the clients will hold the CPA responsible,” he added.
For business tax filers, the Employee Retention Credit is another tricky area, according to Raspante. “The rules for 2020 returns are different from 2021 returns. For 2020 there has to be a 50 percent decline in revenue from the prior year, while for 2021 there has to be a 20 percent decline. And while a PPP loan won’t disqualify you for the ERC, which was the case at first, you can’t use PPP income for the program. For a small employer with five employees, it’s a very detailed calculator. History has shown that if clients are not entitled to a benefit they felt they should get, they will say it’s the responsibility of the CPA.”
PPP forgiveness and loans from round two are two other areas Raspante feels could give rise to liability. “The deadline for round two PPP application is March 31, 2021,” he noted. “The last thing we need is another deadline.”
Raspante foresees liability issues related to the NOL carryback provisions of the CARES Act: “Two years ago, carrybacks were prohibited, but the CARES Act has modified this, so now a taxpayer can carry back a loss, or carry it forward in anticipation of higher tax rates. A wrong decision by the taxpayer may get placed on the CPA that prepared the return.”
Stimulus risks
All preparers will encounter stimulus-related issues when preparing 2020 returns, according to Bill Nemeth, executive director and education chair of the Georgia Association of Enrolled Agents.
“We have to put the amount of the Recovery Rebate Credit on the 2020 1040 returns,” he said. “If the taxpayer did not receive the correct amount of stimulus payments, it is trued-up on the return. Beginning in April of 2020, taxpayers were sent IRS Notice 1444 telling them how much of an Economic Impact Payment they would receive during the year. When the last piece of federal tax legislation was signed on Dec. 29, 2020, a second EIP was authorized and an IRS Notice 1444B was sent out. Taxpayers are supposed to bring these letters in when we prepare their taxes, but most cannot find the letters. They can check bank statements or check books, but likely will not have the information.”
That’s why Nemeth recommends getting a Form 8821, “Tax Information Authorization,” on every client.
“Those of us with an active Form 8821 on every one of our tax prep clients just have to look in the IRS 2020 account transcript to verify the amount of stimulus payments the taxpayer received. I require a Form 8821 on every one of our tax prep clients,” he explained. “Since Circular 230 practitioners — CPAs, Enrolled Agents and lawyers — are supposed to file complete and accurate returns, some preparers may ‘guess,’ which opens them up to penalties. If a Circular 230 practitioner were to guess, they should cover themselves by filing a Form 8275, “Disclosure Statement,” advising the IRS that the EIP amount was reconstructed using the best information available. This will eliminate any penalties to the preparer.”
Beanna Whitlock, executive director of the National Center for Professional Education Fellowship and former IRS director of National Public Liaison, suggests that preparers have their clients complete the following statement to support amounts reported as EIPs:
“Federal stimulus payments do not increase income for 2020. If you are eligible to receive a first- or second-round stimulus check, but you did not get it or it was not for the full amount, you may qualify for the ‘recovery rebate’ credit on your 2020 tax return for the stimulus money you should have received.
“You can claim the recovery rebate credit on Line 30 of your 2020 Form 1040 or Form 1040-SR.
“We will prepare a worksheet to calculate the amount of your credit, if any.
“In order to properly complete this reconciliation, you must provide the amount of EIP you received in the first payment mid-2020 and what you received with the second amount received in late 2020 or early 2021.
“These amounts will be used to prepare your return. Should the IRS not agree with the amounts reported there will be an adjustment to your refund due you.
“I (We) acknowledge receipt of the following amounts of EIP payments, to the best of our knowledge, and authorize the amounts to be reported on our 2020 Form 1040.”
The form should include lines for the “First Amount” and the “Second Amount” and signature lines for the taxpayer and their spouse.
Whitlock highlighted a bill proposed by Sen. Dick Durbin, D-Illinois, and Rep. Cindy Axne, D-Iowa, as a boon to many taxpayers but a potential headache and liability-generating issue for preparers. The bill would exempt from federal income tax the first $10,200 in unemployment benefits that taxpayers received in 2020. Supporters include Sens. Bernie Sanders, D-Vermont, and Elizabeth Warren, D-Massachusetts. A similar law was enacted in 2009 to address the recession.
“It stands a good chance of being passed,” predicted Whitlock. “They may wrap it into the next stimulus bill. If it is enacted, the preparers will have to amend all the returns that were completed which included unemployment compensation as income.”
