MY HOMEPAGE: TAX PRACTICE

TAX PRACTICE

1 Introduction to Tax Practice and Ethics

Establishes the professional context for federal tax research by outlining the major facets of tax practice and the ethical responsibilities that govern them. The chapter is generally divided into three core areas: the functions of a tax professional, the regulatory ethical rules, and non-regulatory ethical models.

1. Elements of Tax Practice

The four primary areas of a tax professional's work are:

Tax Compliance: Preparing tax returns and ensuring adherence to the law.
Tax Planning: Advising clients on how to structure their financial affairs to legally minimize tax liability.
Tax Litigation: Representing a client in court proceedings with the Internal Revenue Service (IRS).
Tax Research: The systematic process of finding authority (the law) to answer a specific tax question, which is the foundation for the other three elements.

2. Rules and Ethics in Tax Practice

The second, and most substantial, part of the chapter introduces the various sets of rules and standards that govern professional conduct in the tax field. These regulations are critical for maintaining the integrity of the profession. Key regulations include:

Circular 230: The official Treasury Department rules that govern practice before the IRS. This is the primary authority for tax practitioners.
AICPA Code of Professional Conduct: The professional ethical guidelines for Certified Public Accountants (CPAs).
Statements on Standards for Tax Services (SSTS): Specific, enforceable guidelines published by the AICPA that define a CPA’s responsibilities to clients and the public in all aspects of tax practice.
Other professional standards, such as the ABA Model Rules of Professional Conduct (for attorneys) and the impact of Sarbanes–Oxley (SOX) on tax work, are also discussed.

3. Non-regulatory Ethical Behavior Models

Finally, the chapter moves beyond the enforceable rules to discuss how practitioners should approach ethical decision-making in ambiguous situations.

It covers ethical dilemmas and models for ethical reasoning, emphasizing that adherence to the law and professional standards is the minimum requirement, but true professional behavior often requires exercising judgment in "gray areas."
It encourages the adoption of ethical professional behavior through education and training.
The chapter concludes with a section on Legal Research by Certified Public Accountants in preparation for the subsequent chapters on the technical process of tax research.

2 Tax Research Methodology

The foundational guide for the entire process of conducting tax research. It systematically breaks down the six steps required to solve a tax issue and introduces the two fundamental types of authority (sources of law).

1. The Six Steps of the Tax Research Process

The core of the chapter outlines a disciplined, six-step process that a tax professional must follow to correctly identify, analyze, and communicate the solution to a tax problem:

Step 1: Establish the Facts: This involves gathering all relevant information about the taxpayer, the transaction, and the surrounding circumstances. It's emphasized as the most crucial step, as a change in facts can completely alter the legal conclusion.
Step 2: Identify the Issues: The researcher must use the established facts to formulate a clear, concise research question or issue that must be resolved.
Step 3: Locate Authority: This involves searching for the primary sources of tax law (statutes, regulations, court cases) that govern the issue identified in Step 2.
Step 4: Evaluate Authority: Once sources are found, the researcher must determine the weight or precedential value of each source (e.g., is a Supreme Court decision more authoritative than an IRS Revenue Ruling?).
Step 5: Develop Conclusions and Recommendations: Based on the weight of the authority, the researcher synthesizes the findings to reach a well-supported conclusion and formulate practical advice for the client.
Step 6: Communicate the Recommendations: The final step involves effectively communicating the research findings, conclusion, and recommendations to the client or supervisor, typically through a research memo or a client letter.

2. Types of Authority and Research Systems

The chapter also introduces the distinction between the two types of authority and the methods used to find them:

Primary Authority: The official sources of tax law, which include Statutory (the Internal Revenue Code, or IRC), Administrative (Treasury Regulations, Revenue Rulings, etc.), and Judicial (court decisions). Only primary authority is considered "substantial authority" that a taxpayer can rely on to avoid penalties.
Secondary Authority: Materials that explain, analyze, and interpret primary authority. This includes tax journals, newsletters, treatises, and commercial tax services (like Checkpoint or AnswerConnect). These are useful for understanding the law but cannot be cited as legal authority.
This also provides an initial overview of how to formulate and execute effective search queries, preparing the student for later chapters that focus on specific commercial tax research software.

12. Working with the IRS

This chapter focuses on the Internal Revenue Service's structure, administrative procedures, and the practitioner's role in representing clients before the agency. This chapter shifts the focus from purely academic research to the real-world application of tax law during compliance and controversy.

12.1. The Internal Revenue Service (IRS)

The chapter begins by detailing the organization of the IRS, explaining its structure, functions, and key operating divisions, such as Wage and Investment, Large Business and International, and Small Business/Self-Employed. Understanding the IRS hierarchy is crucial for navigating its administrative processes effectively.

12.2. Taxpayer Bill of Rights and IRS Examinations (Audits)

A significant portion of the chapter is dedicated to the relationship between the taxpayer and the IRS, with a strong focus on examinations (audits) and the Taxpayer Bill of Rights. Key topics include:

Taxpayer Bill of Rights: A set of 10 fundamental rights that all taxpayers have in their dealings with the IRS.
Audit Selection Process: How the IRS selects returns for examination.
Types of Examinations: Distinguishing between correspondence audits (by mail), office audits (at an IRS office), and field audits (at the taxpayer's or practitioner's office).
The Audit Process: The steps involved from the initial contact to the final determination, including the taxpayer's rights during the process.

12.3. Post-Examination Procedures and Taxpayer Relief

The chapter covers the options available to a taxpayer following an audit determination, emphasizing the importance of administrative remedies before resorting to litigation:

Appeals: The process of appealing an unfavorable audit decision within the IRS Office of Appeals, which aims to resolve disputes fairly without litigation.
Collection Process: Procedures and rules governing the collection of tax liabilities, including the different levies and liens the IRS can use.
Innocent Spouse Relief: The rules under which one spouse can be relieved of liability for tax, interest, and penalties on a joint return if the other spouse failed to report income or claimed improper deductions.
Refunds: Procedures for requesting and receiving tax refunds.
Taxpayer Advocate Service (TAS): The role of the TAS as an independent organization within the IRS that assists taxpayers experiencing economic hardship or who believe the IRS is not following proper procedures.

13. Tax Planning

This chapter shifts the focus from the mechanics of research and compliance (which were covered in earlier chapters) to the proactive, strategic application of tax knowledge to advise clients on future transactions.

13.1. The Tax Planning Process

The central theme is the methodology of effective tax planning, which involves:

Understanding the Client's Goals: Identifying the client's non-tax objectives (e.g., selling a business, funding retirement, passing wealth to heirs) before attempting to integrate tax minimization.
Identifying and Evaluating Alternatives: Researching and analyzing different legal structures or transaction methods to achieve the client's goal with the lowest possible tax cost.
The Crucial Role of Research: Emphasizing that effective tax planning relies heavily on rigorous research to confirm the authority supporting a planned transaction's tax outcome.

13.2. Fundamental Tax Planning Strategies

The chapter discusses the four classic tax planning strategies that tax professionals aim to utilize:

Timing: Accelerating deductions into the current year or deferring income into future years to take advantage of the time value of money and anticipated lower future tax rates.
Shifting: Shifting income to taxpayers in lower tax brackets (e.g., from a parent to a child) or shifting deductions to taxpayers in higher tax brackets.
Conversion: Converting income from one type (e.g., ordinary income) to another (e.g., capital gain) to take advantage of preferential tax rates.
Jurisdiction: Structuring transactions to occur in or involve jurisdictions (domestic or international) with more favorable tax laws.

3. Ethical and Practical Constraints - *****IMPORTANT SECTION****

A critical part is the discussion of the limits and ethics of tax planning:

Distinction Between Tax Avoidance and Tax Evasion: Stresses the difference between legal tax planning (avoidance) and illegal tax schemes (evasion).

Judicial Doctrines: Explains the importance of judicial doctrines, such as the Substance-Over-Form doctrine, the Business Purpose doctrine, and the Step Transaction doctrine, which courts use to recharacterize transactions that lack economic substance, thereby limiting aggressive tax planning.

Tax Shelters and Reportable Transactions: Discusses the ethical and legal risks associated with aggressive tax planning, including the IRS's requirements for disclosing certain "reportable transactions."

In summary, this brings the research process full circle, showing how the knowledge and skills learned throughout the book are applied proactively to help clients achieve their financial goals in a tax-efficient and legally compliant manner. Here is more detail: Detailed Learning Points: Tax Practice and Administration 1, forms the concluding section of Part IV: Implementing the Research Tools.1 This chapter synthesizes the technical research skills acquired throughout the textbook and applies them to the procedural, ethical, and administrative realities of professional tax practice. It provides essential knowledge regarding professional conduct standards, the mechanisms of taxpayer and preparer penalties, the procedural requirements for engaging with the Internal Revenue Service (IRS), and the strategic considerations for tax controversy litigation.

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Knowing the Federal Tax Procedure, Penalties, and Professional Standards allows a Tax Pro to:

1. Explain the IRS audit and appeal process

2. Compare client options upon audit

3. Identify various taxpayer and preparer penalties

4. Analyze and compare return position standards

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I. Foundational Concepts in Tax Practice and Professional Ethics

The foundation of modern tax practice rests on adherence to stringent ethical and professional standards designed to protect the integrity of the tax system. Chapter 13 details the requirements imposed by both the U.S. Treasury Department and professional accounting organizations.

A. Treasury Department Circular 230: Governing Practice Before the IRS

Treasury Department Circular 230 (Title 31, Part 10 of the Code of Federal Regulations) is the definitive set of rules governing practice before the IRS by attorneys, Certified Public Accountants (CPAs), Enrolled Agents (EAs), and other authorized practitioners.3 The overarching purpose of Circular 230 is to raise the standard of tax practice and administration, thereby serving the public good.4

A1. Due Diligence and Standards for Written Advice

A core requirement under Circular 230 is the mandate that practitioners exercise due diligence in preparing documents, making submissions, and providing advice to clients concerning federal tax matters.3 Specific, rigorous standards apply when providing written tax advice, which includes formal opinions and detailed correspondence.5

When formulating written advice, the practitioner must reasonably consider all relevant facts known or those that reasonably should be known.5 Furthermore, reasonable efforts must be expended to identify and ascertain all pertinent facts relevant to the federal tax matter being addressed.5

A2. The Unreasonable Reliance and Audit Risk Standard

Two critical constraints govern the creation of written advice. First, a practitioner cannot reasonably rely on representations, statements, findings, or financial forecasts provided by the taxpayer or other parties if such reliance would be deemed unreasonable.5 Second, the practitioner must connect the applicable law and authorities directly to the facts of the client’s situation.5

A particularly crucial directive is the prohibition against considering enforcement risk. When evaluating a federal tax matter, the practitioner must not take into account the possibility that a tax return will not be audited or that a specific matter will not be raised during an audit.5 This requirement fundamentally anchors tax advice in the legal merits of the position rather than relying on the low probability of IRS detection, reinforcing the goal of high-quality tax administration.4 Failure to comply with Circular 230 can result in sanctions, including censure, suspension, or disbarment from practicing before the IRS, imposed by the Office of Professional Responsibility (OPR).6

B. AICPA Statements on Standards for Tax Services (SSTS)

For CPAs, the AICPA Statements on Standards for Tax Services (SSTS) provide an additional layer of ethical guidance, forming the primary framework for responsibilities to taxpayers, the public, the government, and the profession.7 These standards were updated in 2023.7

The SSTS aim to foster increased public compliance and confidence in the tax system.8 Key standards include SSTS No. 1, which addresses advising on tax positions, requiring a CPA to have a good-faith belief that a position has at least a realistic possibility of being sustained on its merits if challenged.7 If a position possesses only a "reasonable basis," adequate disclosure of that position is required. SSTS No. 2 addresses knowledge of errors, requiring the CPA to advise the client when an error is discovered in a previously filed return, detailing the potential penalties and the necessary corrective actions.7 This advice must address both the ethical questions and potential legal implications facing the client.2

The overlapping requirements of Circular 230 and the SSTS establish a complex environment where the practitioner must always satisfy the highest applicable ethical threshold. The AICPA standards focus on maintaining professional integrity, while Circular 230 governs the conduct during practice before the federal agency. This dual accountability structure elevates the required standard of care for CPAs beyond basic legal compliance.

II. Taxpayer Penalty Regimes (IRC Subchapter B)

Chapter 13 thoroughly examines the consequences for taxpayers who fail to meet their compliance obligations, particularly focusing on the Accuracy-Related Penalty under Internal Revenue Code (IRC) § 6662.

A. The Accuracy-Related Penalty (IRC § 6662)

The Accuracy-Related Penalty, when imposed, equals 20% of the portion of the tax underpayment attributable to specific types of non-compliance.9 The penalties are not cumulative; although the IRS may assess multiple components, the total penalty rate on any given portion of the underpayment may not exceed 20%.10

The penalty applies when the underpayment results from several defined infractions 9:

Negligence or Disregard of Rules or Regulations: Negligence is broadly defined as any failure to make a reasonable attempt to comply with the IRC, such as failing to maintain adequate records. Disregard refers to careless, reckless, or intentional failure to comply.10
Substantial Understatement of Income Tax: This applies when the understatement exceeds a specific computational threshold set by the statute.10
Substantial Valuation Misstatements: This includes misstatements related to income, estate, or gift taxes.9
Transactions Lacking Economic Substance: The penalty is specifically applied to claims of tax benefits derived from transactions that lack economic substance as defined by IRC § 7701(o).9

B. Penalty Avoidance Mechanisms (Adequate Disclosure)

Taxpayers can often mitigate the accuracy-related penalty, specifically the portions attributable to negligence or substantial understatement, by demonstrating that they had reasonable cause and acted in good faith, or by providing adequate disclosure of the controversial position.9

For a position to qualify for penalty protection through disclosure, the position must possess at least a reasonable basis.9 The requirements for achieving adequate disclosure are procedural and technical.

B1. Disclosure Forms

If a specific item or position is not automatically deemed adequately disclosed by existing annual revenue procedures, disclosure must be made using specific IRS forms.11 Taxpayers generally use Form 8275 (General Disclosure Statement) or Form 8275-R (Regulation Disclosure Statement), depending on whether the disclosure relates to a position contrary to a specific regulation.11 Proper completion of these forms, including providing all required information in detail, is necessary for the disclosure to be considered adequate.12 Disclosure must accompany a timely filed original return or a qualified amended return.

The IRS releases annual revenue procedures outlining specific recurring items (such as certain disclosures on Schedules M-1 or M-3 for corporate taxpayers) that are considered adequately disclosed without the need for Form 8275, provided the information reasonably alerts the IRS to a potential controversy.11 However, for most complex or questionable items, the formal disclosure process must be followed to secure protection against the 20% accuracy-related penalty.11

III. Tax Return Preparer Penalty Regimes

Practitioners are subject to direct penalties for failures related to the quality of tax returns and compliance with information security rules. These penalties are designed to ensure accountability among those compensated for assisting taxpayers.

A. Defining the Tax Return Preparer

A critical concept within the regulatory framework is the broad definition of a tax return preparer. It extends far beyond the individual who signs the return.13 A preparer includes:

1. Any person in the business of preparing or assisting in preparing tax returns.

2. Any person who provides auxiliary services connected with preparation, such as software developers used for filing, or Authorized IRS e-file Providers.13

3. Individuals compensated for preparing a tax return for another person.13

Furthermore, the concept includes non-signing preparers, who are individuals who prepare all or a substantial portion of a return or claim for refund.14 This typically involves providing written or oral advice concerning events that have already occurred, where the resulting position on the return constitutes a substantial portion of the tax liability or the item is large or complex relative to the taxpayer's gross income.14 The intent behind this broad definition is to hold tax advisors accountable for significant input, even if they do not physically affix their signature to the return.14

B. Understatement Penalties (IRC § 6694)

The penalties imposed on preparers for understating a client's tax liability escalate based on the preparer's level of culpability.15

B1. Understatement Due to an Unreasonable Position (IRC § 6694(a))

This penalty applies when an understatement is due to a position that is deemed unreasonable. Generally, this means the position does not meet the "substantial authority" standard, unless the position has a "reasonable basis" and is adequately disclosed to the IRS.16 The penalty imposed is the greater of $1,000 or 50% of the income derived by the preparer for the preparation of that return.16

B2. Understatement Due to Willful or Reckless Conduct (IRC § 6694(b))

A far more severe penalty applies if the understatement results from the preparer's willful attempt to understate the tax liability, or reckless or intentional disregard of rules and regulations.15 The penalty rises significantly to the greater of $5,000 or 75% of the income derived by the preparer from the return.16

C. Disclosure and Confidentiality Penalties

Preparers face additional specific financial and criminal penalties for non-compliance with procedural and ethical duties:

• Due Diligence Failures (IRC § 6695(g)): Specific, annually adjusted penalties are imposed for failing to exercise due diligence in determining a taxpayer's eligibility for certain high-value credits, such as the Earned Income Tax Credit (EITC), the Child Tax Credit, and the American Opportunity Credit.16

• Confidentiality Breaches (IRC §§ 7216 and 6713): Preparers are legally constrained from knowingly or recklessly disclosing or using tax return information for purposes outside of return preparation.13 Violation of IRC § 7216 is a misdemeanor with penalties including imprisonment for up to one year and a fine of up to $1,000.13 A related civil penalty under IRC § 6713 imposes a penalty of $250 per prohibited disclosure or use, up to $10,000 per calendar year.13

IV. IRS Administrative Procedures and Statutes of Limitations

The proper application of tax law requires an understanding of the chronological boundaries and procedural steps governing IRS actions and taxpayer rights.

A. Statutes of Limitations (Assessment and Refund)

A1. Assessment of Tax (IRC § 6501)

The period within which the IRS can legally assess additional tax is typically defined by IRC § 6501.17

• General Assessment Statute Expiration Date (ASED): The IRS generally has three years to assess tax, starting from the later of the return's due date (including extensions) or the date the return was actually received.17

• Exceptions: This period can be extended in specific circumstances:

• Substantial Omission of Gross Income: If the taxpayer omits more than 25% of the gross income reported on the return, the statute of limitations is extended to six years.18

• Failure to File: If a required return is never filed, there is no statute of limitations, allowing the IRS to assess tax indefinitely.18

A2. Claims for Credit or Refund (IRC § 6511)

Taxpayers seeking a refund must act within a defined period.19 A claim must be filed by the later of these two dates:

• Three years from the date the return was filed.

• Two years from the date the tax was paid.19

The recoverable amount of the refund is constrained by the "lookback" rule; it is limited only to the tax paid during the two or three years immediately preceding the filing of the refund claim.19

B. The IRS Examination and Appeals Process

When the IRS proposes an adjustment, the taxpayer is entitled to an administrative appeal to the IRS Independent Office of Appeals.21 This office is separate and functions independently from the IRS division that conducted the examination (e.g., Small Business/Self-Employed, SB/SE).21

The Appeals Office's core mission is to resolve controversies without litigation on a basis that is fair and impartial, generally achieving settlement based on the inherent hazards of litigation—the probability of prevailing in court.22

To request an Appeals conference, the taxpayer must file either a small case request or a formal written protest, as instructed in the proposed adjustment letter.21 Representation before Appeals is restricted to attorneys, CPAs, or Enrolled Agents.21 A formal protest requires the taxpayer or representative to detail the disputed issues, provide supporting facts, and outline the relevant law relied upon.21 The examiner who handled the case must prepare a rebuttal to this protest before the file is forwarded to Appeals.23 The IRS also offers mechanisms like Fast Track Settlement (FTS), where an Appeals official may mediate to achieve a rapid resolution.23

C. Advanced Topic: Tax Obligations in Chapter 13 Bankruptcy

Chapter 13 bankruptcy, often referred to as the "wage earner's plan," provides a path for individuals to repay debts, including federal tax liabilities, over three to five years.24 This process involves intricate administrative requirements regarding tax compliance during the bankruptcy proceedings.

Individuals filing under Chapter 13 must ensure all required tax returns for periods ending within four years of filing the bankruptcy petition have been submitted.25 Additionally, taxpayers must file and pay all current tax obligations as they come due during the bankruptcy case; failure to do so can result in the case being dismissed or converted to a liquidating Chapter 7 bankruptcy.

A crucial legal point involves the discharge-ability of pre-petition tax debts. Taxes that qualify as priority claims must be fully paid through the Chapter 13 plan. This generally includes income taxes assessed within 240 days before the bankruptcy petition filing, or those associated with returns due within three years of the petition.24 Furthermore, the three-year "lookback period" used to determine priority status for tax claims is tolled (suspended) during the pendency of any prior bankruptcy petition.26 This means prior bankruptcy filings can inadvertently extend the period during which a tax debt remains non-dischargeable, necessitating careful legal and procedural analysis by both a tax adviser and a bankruptcy attorney.24

V. Judicial Review and Forum Selection

When administrative resolution at the Appeals level is unsuccessful, the taxpayer’s next step is to litigate the controversy in federal court. Strategic selection of the judicial forum is a complex decision dependent on specific facts, legal precedent, and financial capacity.

A. The Hierarchy of Federal Tax Litigation

The federal court system operates on a three-tiered structure: district courts (trial courts), circuit courts (first level of appeal), and the Supreme Court of the United States (the final level).27 Tax cases are unique in that they may originate in one of three trial-level courts that hold specialized or nationwide jurisdiction: the U.S. Tax Court (T.C.), the U.S. District Court (D.Ct.), or the U.S. Court of Federal Claims (CFC).27

B. Strategic Comparison of Federal Trial Forums

The choice of forum dictates whether the taxpayer must prepay the deficiency, whether a jury is available, and, critically, which appellate precedent governs the case.

Feature U.S. Tax Court (T.C.) U.S. District Court (D.Ct.) U.S. Court of Federal Claims (CFC)

Primary Jurisdiction Deficiency Disputes Refund Suits, General Federal Cases Refund Suits Against U.S. Government

Requirement to Prepay Tax No Prepayment Required Yes, Full Payment Required Yes, Full Payment Required

Jury Trial Available No Yes (Only Forum Available) No

Appeal Route Regional Circuit Court of Appeals (1st–11th, D.C.) Regional Circuit Court of Appeals (1st–11th, D.C.) Court of Appeals for the Federal Circuit

The requirement for prepayment distinguishes the forums sharply. The Tax Court is the only venue where a taxpayer can litigate a proposed deficiency without first remitting the disputed tax amount, making it the court of necessity for many taxpayers.27 Conversely, the District Court is the only forum that offers the procedural right to a jury trial.

The selection of the appellate route is the highest strategic consideration. Both the Tax Court and the District Courts appeal to the regional circuit court where the taxpayer resides, meaning they must follow that circuit’s prior legal rulings (the Golsen rule for the Tax Court). However, the Court of Federal Claims appeals exclusively to the Court of Appeals for the Federal Circuit.28 The determination of which court has the most favorable controlling precedent on a contested technical matter, based on the tax researcher’s findings, is often the decisive factor in selecting the appropriate forum.

VI. Conclusion: Integrating Research and Accountability

"Tax Practice and Administration" serves as the essential guide for applying complex tax research in the real world of professional practice. The detailed learning points illustrate that successful tax administration requires a comprehensive integration of technical tax law knowledge with strict procedural compliance and ethical behavior. The practitioner must reconcile the legal authority for a position (research findings) with the ethical standards governing its recommendation (Circular 230/SSTS), understand the time limitations governing its assessment (IRC § 6501/§ 6511), and be prepared to defend it through administrative appeal and strategic judicial forum selection. The rigorous adherence to these intertwined professional and administrative responsibilities ensures that tax professionals contribute positively to the fairness and efficiency of the federal tax system.

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My notes on STATUTE OF LIMITATIONS and EXTENSIONS:

Statute extension can be extended only with permission of taxpayer via signing form 872.

RULE IS 3 YEARS: Statute is normally 3 years. From date of filing of a tax return.

If IRS examination team needs more time to examine an issue they will file an extension. Eg they also may need to time to receive and review the taxpayer’s PROTEST.

If a taxpayer declines to extend and the IRS thinks they have enough evidence they will issue the 90-day letter (statutory notice of deficiency) and the case will go to Tax Court.

EXCEPTION 1 IS UNLIMITED YEARS: If a tax return is fraudulent the statute never lapses.

If a tax return is not fraudulent then the statute of limitations is three years. If IRS proposes to extend the taxpayer can counter this eg say three months versus one year (which is what the IRS normally requests).

EXCEPTION 2 IS SIX YEARS: If there is a 25% or more deficiency then the state of limitation is 6 years (rare circumstances).

Form 872 is filed for an extension. If there are numerous un-agreed issues and the case is likely to go to appeal then there has to be a minimum one year extension. The appeals court won’t see the case unless one year extension.

A 90-day letter is effectively a “ticket to tax court”. Taxpayer can file a petition to the tax court after receiving the 90-day letter.

A 30-day letter is effectively a “ticket to appeals”.

After a 90-day letter the IRS won’t budge on any issues that favor the taxpayer, but they may still apply any items that increase the burden on the taxpayer. Doing this to protect the government’s case.

Going straight to 90-day letter without a 30-day means bypassing appeals.

A Taxpayer can also skip the appeals process in some situations by immediately petitioning the tax court by not extending the statute of limitations. So presumably quickest things can get resolved are a little over three years.

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AICPA CODE SUMMARY:

The AICPA Code of Professional Conduct applies to:

All members of the AICPA, including CPAs and non-CPAs, regardless of their employment sector. This covers members in public practice, business and industry, government, and education.
Non-CPAs: The code also applies to non-CPA members of the AICPA.
In summary, anyone involved in accounting in the US who is a MEMBER OF THE AICPA.
It does not apply to any non-members.

AICPA members that have financial interest in a client don't have to disclose this to other clients BUT under 101, a CPA in public practice must be independent of the enterprise for which his or her services are being provided. A CPA is not considered independent if he or she has a financial interest in a client.

AICPA members can never disclose confidential client into unless have specific written consent of the client.

AICPA member cannot charge higher fee for unqualified versus qualified audit opinion. CPA's may not charge contingent fees to a client for whom the CPA performs audit work. A contingent fee, which is based on results, would include charging a much greater fee for an unqualified opinion than for a qualified opinion.

AICPA member who violates the Code of Professional Conduct may receive admonishment, suspension, or expulsion from membership in the AICPA. The Code of Professional Conduct applies not only to the AICPA member, but also to others (such as employees) who act on the CPA's behalf. While the Code of Professional Conduct only applies to AICPA members, the CPA's actions may also be subject to similar state licensing restrictions.

AICPA STANDARDS FOR TAX SERVICES (SSTS)

The Statements on Standards for Tax Services (SSTS) are the enforceable ethical standards for members of the American Institute of Certified Public Accountants (AICPA) who provide tax services.

The primary purposes of the SSTS are to:

Establish a framework for ethical guidance: The SSTS and their interpretations define the professional and ethical responsibilities of AICPA members to taxpayers, the public, the government, and the accounting profession.

Promote uniform standards: They identify and develop appropriate standards in providing tax services and promote their consistent application by CPAs, regardless of the jurisdiction in which they practice or the types of taxes involved.

Enhance public confidence: By adhering to these standards, CPAs reinforce their professionalism, which fosters increased public compliance with and confidence in the U.S. tax system.

Increase understanding of responsibilities: They help officials from the Internal Revenue Service (IRS) and the U.S. Treasury better understand a CPA's responsibilities, which can encourage the development of similar standards for their own personnel.

Mitigate risk: Compliance with these standards can help protect CPAs from time-consuming and costly litigation or disciplinary proceedings.

The standards cover various aspects of tax practice, including:

Tax return positions: Guiding members on when they can recommend a tax return position (generally, requiring a good-faith belief that the position has at least a "realistic possibility of being sustained").
Data protection: Requiring members to make reasonable efforts to safeguard taxpayer data, including data transmitted or stored electronically.
Reliance on tools: Providing guidance on the appropriate professional care and judgment needed when using technology tools like tax software, AI, and online data searches.
Representation services: Outlining the professional and regulatory obligations of members when representing clients before taxing authorities.

Use of estimates: Allowing the use of estimates in certain situations, provided they are reasonable and the CPA uses professional judgment about any necessary disclosure.

Errors on returns: Providing steps for a CPA who becomes aware of an error in a previously filed tax return, including advising the client of the error and potential consequences.

The AICPA provides resources, including the Statements on Standards for Tax Services Library, to help members navigate and comply with these professional obligations

SSTS are meant to supplement the Code of Professional Conduct and designate appropriate standards for tax practice

In order to sign a return or recommend a position on a tax return, SSTS No. 1 requires the tax practitioner to determine and comply with the standards imposed by the applicable taxing authority. SSTS No. 1 attempts to broadly follow the standards of return positions in Circular 230 and IRC § 6694 (covered in more detail later in the course) by simply paralleling the applicable taxing authorities. At a minimum, the practitioner must (1) have a good faith belief that the position has a realistic possibility of being sustained on it merits, or (2) have a reasonable basis and disclose the position. Both of these standards are higher than "frivolous" but lower than "more likely than not."

In preparing or signing a return for a client, the CPA ordinarily may rely without verification on information that the taxpayer has provided. SSTS No. 3 allows the tax practitioner to ordinarily rely on the information supplied by the taxpayer, without independent verification. However, the practitioner should make reasonable inquiries if the information furnished appears incorrect, incomplete, or inconsistent. In addition, if the tax law or regulations require certain substantiating documentation, the practitioner should make inquiries to determine if the conditions have been met.

In giving advice to clients, the tax practitioner should assume the advice will be used for return reporting purposes and follow the level of authority needed for reporting purposes. SSTS No. 7 sets forth standards concerning certain aspects of providing advice to taxpayers. Advice does not need to be in writing, but if it s, then the communication should comply with any applicable standards for written tax advice, such as Circular 230 Section 10.37. In addition, the practitioner should assume that the advice will impact the manner in which the issue is reported on the taxpayer's return, and therefore should consider return reporting and disclosure standards.

Circular 230 is a set of Treasury Department regulations governing tax practitioners.

Circular 230 is part of the Treasury Regulations, and can be found in §§ 10.0 - 10.93. It contains rules governing attorneys, CPAs, enrolled agents, and other persons representing taxpayers before the IRS.

Someone who is not an attorney, CPA, enrolled agent, or enrolled actuary:

cannot provide tax services to a client
is not governed by Circular 230 and can represent taxpayers before the IRS without restriction
can never represent a taxpayer before the IRS
can only represent a taxpayer before the IRS in limited circumstances

Under § 10.3, generally only attorneys, CPAs, enrolled agents, enrolled actuaries, enrolled retirement plan agents, and registered tax return preparers can practice before the IRS. However, § 10.7 allows other to represent taxpayers before the IRS in limited circumstances.

Circular 230 requires tax practitioners to use "due diligence" in preparing tax returns, which:

Is defined as anything other than willful and reckless misconduct
Requires the tax practitioner to use reasonable effort to comply with the tax laws, but overlooks simple errors
Requires the tax practitioner to verify by audit the information submitted by the taxpayer
Requires the taxpayer to provide all relevant documentation to the tax practitioner

Section 10.22 of Circular 230 provides that "a practitioner must exercise due diligence (1) in preparing or assisting in the preparation of, approving, and filling tax returns, documents, affidavits and other papers relating to IRS matters; (2) in determining the correctness of oral or written representations made by the practitioner to the Department of the Treasury; and (3) in determining the correctness of oral or written representation made by the practitioner to clients with reference to any matter administered by the IRS." Although Circular 230 itself does not define due diligence, it is generally considered to involve conduct that is more than a simple error, but less than willful and reckless misconduct.

Circular 230 prohibits a tax practitioner from charging an unconscionable fee, which is:

Not defined by Circular 230
Any fee over annual guidelines published by the IRS
Any fee over $10,000
Any fee over $20,000

Section 10.27(a) of Circular 230 simply states that "a practitioner may not charge an unconscionable fee in connection with any matter before the IRS." However, the term is not defined in Circular 230. The fee should be in line with the value of the service provided by the practitioner.

Circular 230 allows a tax practitioner to charge a contingent fee:

Anytime, provided it is not unconscionable in amount
Never
In limited circumstances involving an IRS examination of a return
For each return filed

Section 10.27(b)(1) provides that a practitioner cannot charge a contingent fee except in certain listed circumstances. A contingent fee is any fee that is based on the result achieved. The purpose of this rule is to prevent a practitioner from receiving a fee commensurate with the amount of refund he or she obtains for the client.

In reporting an item on a tax return, Circular 230 provides that a tax practitioner:

Must satisfy the "more likely than not" standard
Must rely on their employer's policies
May rely on the taxpayer's instructions
May not take an "unreasonable position"

Circular 230 Section 10.34, which has undergone several changes over the years, deals with the level of authority a tax practitioner must have before taking or recommending a reporting position on a tax return. This section provides that a practitioner may not sign a return, or advise a client to take a position on a return, that (1) lacks a reasonable basis; (2) is an unreasonable position as described in IRC § 6694(a)(2); or (3) is a reckless or intentional disregard of the rules and regulations. This standard will be discussed in more detail later in this course.

PENALTIES

Internal Revenue Code (IRC) § 6662 authorizes the IRS to impose an accuracy-related penalty on any portion of a tax underpayment that is attributable to specific taxpayer conduct or misstatements. The standard penalty amount is 20% of the underpayment amount, but it can be as high as 40% or 50% in certain circumstances.

◦ Reasons for the Penalty - The penalty applies to underpayments resulting from several actions, including negligence or disregard of rules, substantial understatements of income tax, and various valuation misstatements. Other reasons include overstatements of pension liabilities and qualified charitable contributions, undisclosed foreign financial asset understatements, and claiming tax benefits from transactions lacking economic substance.

◦ Penalty Rate Variations - The standard penalty rate is 20%. However, it increases to 40% for gross valuation misstatements, nondisclosed noneconomic substance transactions, or undisclosed foreign financial asset understatements. A 50% penalty applies to certain overstatements of the qualified charitable contributions deduction.

◦ Avoiding the Penalty - Taxpayers may avoid or reduce the penalty by demonstrating they had reasonable cause and acted in good faith. This determination considers the taxpayer's efforts, knowledge, experience, and reliance on a tax professional. Adequate disclosure of a return position can also help in some situations.

AVOIDING PENALTIES

IRS Form 8275, Disclosure Statement, is used by taxpayers and tax return preparers to disclose tax positions or items on a return that are not otherwise adequately disclosed to potentially avoid certain penalties. The primary purpose is to avoid specific portions of the accuracy-related penalty (generally 20% of the underpayment) and some tax return preparer penalties. This can apply to penalties for disregard of rules, substantial understatement of income tax for non-tax shelter items, and those related to transactions lacking economic substance.

Form 8275 is for positions not contrary to a Treasury regulation. If a position is contrary to a regulation, IRS.gov must be used instead. Disclosure on Form 8275 requires the tax position to have a "reasonable basis". The form must be attached to the original tax return or a qualified amended return. Some items are adequately disclosed without this form if they meet IRS requirements. Filing the form signals a taxpayer's good faith and effort to comply with tax laws. The form and instructions are available on the IRS website.

The accuracy related penalty may also be imposed if the taxpayer has a “substantial understatement of income tax,” which is generally defined for individuals as

an understatement which exceeds 20% of the proper tax liability.
an understatement which exceeds the greater of 10% of the proper tax liability or $5,000.

See IRC § 6662(d)(1)(A). Note that this is a pure mechanical test based on the amount of the understatement caused by an improperly reported item. There is a different threshold for corporations. Pursuant to IRC § 6662(d)(1)(B), corporations have a substantial understatement of income tax if the understatement for the tax year exceeds the lesser of (i) 10 percent of the tax required to be shown on the return for the taxable year (or, if greater, $10,000), or (ii) $10,000,000.

IRC § 6662(d)(2)(B)(i) provides that the accuracy-related penalty will not be imposed if the taxpayer has "substantial authority" for the position taken on the return. The term "substantial authority" is thoroughly defined in Treas. Reg. § 1.6662-4(d). This is an important regulation that should be reviewed carefully

Treas. Reg. § 1.6662-4(d)(3)(iii) discusses the types of authority that can be relied on for purposes of determining whether there is substantial authority for the tax treatment of an item. The listed items are only items of primary authority. Secondary authority is not considered "authority" in determining whether there is substantial authority for a tax position taken on a return.

A district court decision that got overruled is no longer primary authority - Treas. Reg. § 1.6662-4(d)(3)(iii) specifically provides that "In the case of court decisions, for example, a district court opinion on an issue is not an authority if overruled or reversed by the United States Court of Appeals for such district." This Regulation also applies the Golsen rule, stating: "However, a Tax Court opinion is not considered to be overruled or modified by a court of appeals to which a taxpayer does not have a right of appeal, unless the Tax Court adopts the holding of the court of appeals.

A PLR issued to another taxpayer can be considered "authority" for purposes of substantial authority but is accorded very little weight if it is more than 10 years old. Treas. Reg. § 1.6662-4(d)(3)(iii) treats private letter rulings as authority. However, in weighing the authorities on a tax issue, Treas. Reg. § 1.6662-4(d)(3)(ii) provides: "An older private letter ruling, technical advice memorandum, general counsel memorandum or action on decision generally must be accorded less weight than a more recent one. Any document described in the preceding sentence that is more than 10 years old generally is accorded very little weight."

A taxpayer without substantial authority for a position who wants to avoid the substantial understatement penalty can still take the position on the return if the taxpayer has a "reasonable basis" for the position and discloses the position on the return using Form 8275.

Treas. Reg. § 1.6662-4(e)(2)(i) provides that proper disclosure of a position for which the taxpayer has a "reasonable basis" (which is less authority than "substantial authority"), will avoid the IRC § 6662 accuracy-related penalty.

Substantial authority means more than 50% likelihood the position taken is correct. Treas. Reg. § 1.6662-4(d)(2) provides that "The substantial authority standard is less stringent than the more likely than not standard (the standard that is met when there is a greater than 50-percent likelihood of the position being upheld), but more stringent than the reasonable basis standard as defined in §1.6662-3(b)(3)." Of course, determining a precise likelihood of success is very challenging.

FAILURE TO FILE

The failure to file penalty is 5% of the unpaid taxes for each month (or part of a month) that the tax return is late, with a maximum penalty of 25% of the unpaid tax.

Key details of the IRS penalty:

Rate: The penalty is 5% per month, up to a maximum of 25% after five months.
Minimum Penalty: If the return is more than 60 days late, a minimum penalty applies. For returns due in 2025 (filed in 2026), the minimum is the lesser of $510 or 100% of the unpaid tax.
Combined Penalties: If both the failure to file and failure to pay penalties apply in the same month, the failure to file penalty is reduced by the failure to pay penalty amount (which is 0.5% per month, up to 25%) so that the combined penalty is 5% per month. The failure to pay penalty can continue to accrue after the failure to file penalty has maxed out, up to a combined maximum of 47.5%.
No Tax Owed: If you are owed a tax refund, there is generally no penalty for filing late.
Reasonable Cause: Penalties may be waived or abated if you can show a reasonable cause for not filing or paying on time, and the failure was not due to willful neglect.

If a taxpayer is due a refund on his or her tax return and files a return late, the failure to file penalty WILL NOT be imposed.

A taxpayer who files a return late based on the advice of his or her tax advisor will likely qualify for the “reasonable cause” defense and avoid penalties….(!) Reliance on the advice of competent tax counsel is a common example of "reasonable cause." However, it should be cautioned that in many cases the courts may not absolve a taxpayer of responsibility even though a tax advisor is involved.

FAILURE TO PAY

The IRS failure-to-pay penalty is generally 0.5% of the unpaid taxes for each month (or part of a month) the tax remains unpaid, up to a maximum of 25% of your unpaid taxes.

The specific percentage can vary based on certain circumstances:

Standard Rate: The typical penalty is 0.5% per month.
During a Payment Plan: If an IRS installment agreement is approved, the penalty is reduced to 0.25% per month or partial month the plan is in effect.
After Notice of Intent to Levy: The penalty rate increases to 1% per month if the tax remains unpaid 10 days after the IRS issues a notice of intent to levy your property.
Maximum Penalty: The failure-to-pay penalty will not exceed 25% of the unpaid tax.
Important Considerations:
Interest: In addition to penalties, interest is also charged on unpaid taxes. The interest rate is determined quarterly and compounds daily.
Reasonable Cause: Penalties may be removed or reduced if you can show reasonable cause for not paying on time and acted in good faith. You can request penalty relief on the IRS website.
Combined Penalties: If both the failure-to-file and failure-to-pay penalties apply in the same month, the combined penalty is capped at 5% for that month, with the failure-to-file penalty (usually 5%) reduced by the failure-to-pay penalty (0.5%).

Interest on underpayments:

The interest charged on underpayments

eliminates the benefit that the taxpayer could obtain by adopting an aggressive tax position.
is intended to act as a penalty against the taxpayer.

The penalty provisions – such as the IRC § 6662 accuracy-related penalty – are intended to discourage and penalize certain behavior of the taxpayer. The interest provisions are to compensate for the time value of money that was not paid when it should have been paid.

It is often said that the penalty provisions are the “true cost” of taking an aggressive tax position because

the penalty amount is generally higher than the amount of interest collected.
the interest paid by the taxpayer on a tax deficiency will be offset by the interest earned by the taxpayer from the original tax savings.

The interest can be very significant on a tax deficiency.

Interest is imposed on an “underpayment” which is defined as

any amount not paid by the taxpayer within 21 days after a notice for payment is sent to the taxpayer by the IRS at the conclusion of an audit.
the amount of tax that should have been paid with the taxpayer's return, after any adjustments determined by the IRS, less the amount that was actually paid.

The last date that is prescribed for payment is usually the unextended due date of the return. Any amount not correctly reported creates a tax deficiency that will carry interest from that date

The IRS compounds the interest charged to taxpayers on a tax deficiency

annually
daily

Note that it may take years from the time a return is filed until an audit is concluded, especially if a taxpayer protests the audit results or takes the case to court. Consequently, the interest accruing on an unpaid tax liability can be very significant.

The applicable Federal rates that are used to determine the interest charged on underpayments and overpayments

are published each month in a Revenue Ruling.
are fixed by statute.

See IRC § 6621(b)(3), which refers to the applicable federal rates determined in accordance with IRC § 1274(d). Under these provisions, the IRS issues short-term, mid-term, and long-term interest rates each month.

The rate of interest that the IRS charges for underpayments (and pays for overpayments)

is fixed by statute and not adjusted unless Congress amends the statute.
is adjusted quarterly.

See IRC § 6621(b)(1) and (3). Congress has authorized the IRS to determine the interest rate that is used for this purpose.

Able, an individual, files an extension of time to file his personal tax return, but does not know the amount of tax, if any, that he will ultimately owe until he completes his return. When he has his return completed and timely files it in September, he owes $1000, which he pays with the return.

No interest is due on the $1,000 since he paid it with a valid extension of time to file his return
Interest will be due on the $1,000 since he did not pay it on April 15th when it was originally due.

An individual who is requesting an extension of time to file has likely not completed his or her tax return. However, there is no extension of time to pay the tax found due. Therefore, taxpayers should estimate any taxes due and pay those with the extension of time to file in order to avoid interest and penalties on the late payment.

If penalties are imposed on a taxpayer

interest is calculated on the penalties as well as on any tax deficiency.
interest is not calculated on the penalties: only on the tax deficiency.

See IRC § 6601(e)(2). Interest is also calculated on unpaid penalties. Although no interest is charged on delinquent estimated tax payments, they are subject to penalties.

If the taxpayer has a good reason for not paying his or her tax when due,

the IRS will still not waive the interest charge.
the IRS may waive the interest charge.

The IRS has no authority to forgive the payment of interest.

TAX PREPARER LIABILITY

Yes, a tax preparer can be held personally responsible for penalties related to a client's tax return under certain circumstances, primarily involving negligence, willful misconduct, or fraud. However, the client (taxpayer) remains ultimately responsible for the correct amount of tax owed, even if the error was the preparer's fault.

When the Preparer is Responsible for Penalties

The IRS can assess significant penalties against a paid tax preparer if they do not follow tax laws, rules, and regulations. The preparer may be liable for:

Understatements due to unreasonable positions: A penalty of the greater of $1,000 or 50% of the preparer's fee applies if the preparer knew (or reasonably should have known) that a tax position lacked "substantial authority" or a "reasonable basis" if disclosed.
Understatements due to willful or reckless conduct: The penalty increases to the greater of $5,000 or 75% of the preparer's fee if the understatement resulted from a willful attempt to understate tax liability or a reckless disregard of tax rules and regulations.
Failure to exercise due diligence: Specific penalties (e.g., $635 per failure for returns filed in 2025) can be imposed if the preparer fails to be diligent in determining a client's eligibility for certain tax benefits, such as the Earned Income Tax Credit (EITC) or Child Tax Credit.
Other compliance failures: Penalties can also apply for failures such as not signing the return, not providing the client with a copy, or not including a correct Preparer Tax Identification Number (PTIN).

Client vs. Preparer Responsibility

Tax liability: The client is always responsible for paying the correct amount of tax that is ultimately determined to be due.
Penalties and interest: While the initial penalties and interest are often assessed to the taxpayer, the taxpayer may be able to argue that the preparer should cover the cost of penalties and interest if they can prove the preparer was negligent or committed malpractice.
Proving fault: To hold a preparer liable, the client usually needs to prove that the error was due to the preparer's professional negligence or intentional wrongdoing, not due to the client providing inaccurate or incomplete information.
Contractual agreements: Engagement agreements between preparers and clients often outline the scope of responsibility. It is highly recommended that preparers carry Errors & Omissions (E&O) insurance to protect against legal claims.

In cases of serious misconduct, such as fraud, preparers can also face criminal charges, including substantial fines and imprisonment, in addition to civil penalties and professional sanctions (like suspension or disbarment from practicing before the IRS). Clients who believe a tax preparer made an error can file a complaint with the IRS using Form 14157, Complaint: Tax Return Preparer.

Under IRC § 6694(a), a tax return preparer can face a penalty for an understatement of tax liability resulting from an unreasonable position they knew or should have known about. The penalty amount is the greater of $1,000 or 50% of the income the preparer earned from the specific return or claim.

This penalty is triggered if the position taken lacks "substantial authority" and is not disclosed, or if disclosed, lacks a "reasonable basis". It is different from the penalty for willful or reckless conduct under IRC § 6694(b). There is an exception if the preparer can show reasonable cause and good faith. The IRS typically has three years to assess this penalty.

If a return preparer willfully or recklessly prepares a return which results in an understatement of tax

the return preparer faces criminal prosecution
the penalty increases to the greater of $5,000 or 75% of the fee charged to the client for preparing that return.

Under IRC § 6694(b), the penalties increase for willful or reckless conduct, which is defined as a willful attempt in any manner to understate the tax liability or a reckless or intentional disregard of rules or regulations. Criminal prosecution may result if the preparer aids or assists in the preparation or presentation of a false return or other document. See IRC § 7206.

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CIVIL AND CRIMINAL PENALTIES

The Service will challenge the claims of individuals who improperly attempt to avoid or evade their federal tax liability.

In addition to liability for the tax due plus statutory interest, taxpayers who fail to file valid returns or pay tax based on arguments that wages and other compensation for personal services are exempt from federal income tax face substantial civil and criminal penalties.

Potentially applicable civil 8 penalties include: (1) the section 6662 accuracy-related penalties, which are generally equal to 20 percent of the amount of tax the taxpayer should have paid; (2) the section 6663 penalty for civil fraud, which is equal to 75 percent of the amount of tax the taxpayer should have paid; (3) the section 6702(a) penalty of $5,000 for a “frivolous tax return”; (4) the section 6702(b) penalty of $5,000 for submitting a “specified frivolous submission”; (5) the section 6651 additions to tax for failure to file a return, failure to pay the tax owed, and fraudulent failure to file a return; (6) the section 6673 penalty of up to $25,000 if the taxpayer makes frivolous arguments in the United States Tax Court; and (7) the section 6682 penalty of $500 for providing false information with respect to withholding.

Taxpayers relying on these frivolous positions also may face criminal prosecution under: (1) section 7201 for attempting to evade or defeat tax, the penalty for which is a significant fine and imprisonment for up to 5 years; (2) section 7203 for willful failure to file a return, the penalty for which is a significant fine and imprisonment for up to one year; (3) section 7206 for making false statements on a return, statement, or other document, the penalty for which is a significant fine and imprisonment for up to 3 years; or (4) other provisions of federal law.

Persons, including return preparers, who promote these frivolous positions and those who assist taxpayers in claiming tax benefits based on frivolous positions may face civil and criminal penalties and also may be enjoined by a court pursuant to sections 7407 and 7408.

Potential penalties include: (1) a $250 penalty under section 6694 for each return or claim for refund prepared by an income tax return preparer who 9 knew or should have known that the taxpayer’s position was frivolous (or $1,000 for each return or claim for refund if the return preparer’s actions were willful, intentional or reckless); (2) a penalty under section 6700 for promoting abusive tax shelters; (3) a $1,000 penalty under section 6701 for aiding and abetting the understatement of tax; and (4) criminal prosecution under section 7206, for which the penalty is a significant fine and imprisonment for up to 3 years, for assisting or advising about the preparation of a false return, statement or other document under the internal revenue laws.

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The amount of the accuracy-related penalty of IRC § 6662 is:

20% of the underpayment of tax.

The accuracy-related penalty is imposed in certain situations (for example, where there is negligence or disregard of the rules and regulations, or where there is a substantial understatement of the tax.) The amount of the penalty is 20% of the amount by which the tax is understated.

The “negligence penalty” portion of the IRC § 6662 accuracy-related penalty is imposed upon the taxpayer’s

negligence or disregard of rules or regulations

The IRC § 6662 "accuracy-related penalty" is imposed for several different situations concerning the accuracy of the position taken by a taxpayer on a return. IRC § 6662(b)(1) imposes the penalty for a taxpayer's "negligence or disregard of rules or regulations." IRC § 6662(c) defines "negligence" as "any failure to make a reasonable attempt to comply with the provisions of this title," and the term "disregard" as including "any careless, reckless, or intentional disregard."

The negligence component of the penalty is waived

if the taxpayer acted in good faith and had reasonable cause for the underpayment.

Treas. Reg. §1.6664-4 provides that "No penalty may be imposed under section 6662 with respect to any portion of an underpayment upon a showing by the taxpayer that there was reasonable cause for, and the taxpayer acted in good faith with respect to, such portion." Rules for determining whether the reasonable cause and good faith exception applies are set forth in paragraphs (b) through (h) of Treas. Reg. § 1.6664-4.

The negligence penalty can also be avoided if the taxpayer

discloses a non-frivolous position on the return using Form 8275.

See Treas. Reg. § 1.6662-3(c), which indicates that the penalty will not be imposed if the position is fully disclosed on the return. Ignorance of the law is no excuse: Treas. Reg. § 1.6662-3(b)(2) provides that "a disregard [of the rules and regulations] is 'reckless' if the taxpayer makes little or no effort to determine whether a rule or regulation exists."

If a taxpayer is determined to have an underpayment of tax simply due to poor record keeping

the negligence penalty may be imposed.

Treas. Reg. § 1.6662-3(b)(1) provides that negligence "also includes any failure by the taxpayer to keep adequate books and records or to substantiate items properly." Thus, poor record keeping may subject the taxpayer to the accuracy-related penalty for any understatement of tax on his or her return.

The accuracy related penalty may also be imposed if the taxpayer has a “substantial understatement of income tax,” which is generally defined for individuals as

an understatement which exceeds the greater of 10% of the proper tax liability or $5,000.

A defense to the substantial understatement of income tax is available if the taxpayer

has substantial authority for the position taken on the return.

In determining if a taxpayer has “substantial authority” for a position taken on a return, one can rely on

only primary authority.

A district court decision that has been reversed on appeal

is not considered "authority" for this purpose.

Treas. Reg. § 1.6662-4(d)(3)(iii) specifically provides that "In the case of court decisions, for example, a district court opinion on an issue is not an authority if overruled or reversed by the United States Court of Appeals for such district." This Regulation also applies the Golsen rule, stating: "However, a Tax Court opinion is not considered to be overruled or modified by a court of appeals to which a taxpayer does not have a right of appeal, unless the Tax Court adopts the holding of the court of appeals."

A private letter ruling (issued to another taxpayer – not the one in question)

can be considered "authority" for purposes of substantial authority but is accorded very little weight if it is more than 10 years old.

Treas. Reg. § 1.6662-4(d)(3)(iii) treats private letter rulings as authority. However, in weighing the authorities on a tax issue, Treas. Reg. § 1.6662-4(d)(3)(ii) provides: "An older private letter ruling, technical advice memorandum, general counsel memorandum or action on decision generally must be accorded less weight than a more recent one. Any document described in the preceding sentence that is more than 10 years old generally is accorded very little weight."

A taxpayer without substantial authority for a position who wants to avoid the substantial understatement penalty

can still take the position on the return if the taxpayer has a "reasonable basis" for the position and discloses the position on the return using Form 8275.

Substantial” authority likely requires

around a 40% likelihood that the taxpayer will prevail on the position in court.

Treas. Reg. § 1.6662-4(d)(2) provides that "The substantial authority standard is less stringent than the more likely than not standard (the standard that is met when there is a greater than 50-percent likelihood of the position being upheld), but more stringent than the reasonable basis standard as defined in §1.6662-3(b)(3)." Of course, determining a precise likelihood of success is very challenging.

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That Statements of Standards for Tax Services are intended to:

Supplement the Code of Professional Conduct and designate appropriate standards for tax practice

This series of statements issued by the AICPA is intended to specifically address the tax practitioner's role with the client and the public. The Statements on Standards for Tax Services can be found on the AICPA's website.

In order to sign a return or recommend a position on a tax return, SSTS No. 1 requires the tax practitioner to:

Determine and comply with the standards imposed by the applicable taxing authority

SSTS No. 1 attempts to broadly follow the standards of return positions in Circular 230 and IRC § 6694 (covered in more detail later in the course) by simply paralleling the applicable taxing authorities. At a minimum, the practitioner must (1) have a good faith belief that the position has a realistic possibility of being sustained on it merits, or (2) have a reasonable basis and disclose the position. Both of these standards are higher than "frivolous" but lower than "more likely than not."

In preparing or signing a return for a client, the CPA ordinarily:

May rely without verification on information that the taxpayer has provided

SSTS No. 3 allows the tax practitioner to ordinarily rely on the information supplied by the taxpayer, without independent verification. However, the practitioner should make reasonable inquiries if the information furnished appears incorrect, incomplete, or inconsistent. In addition, if the tax law or regulations require certain substantiating documentation, the practitioner should make inquiries to determine if the conditions have been met.

If the tax practitioner discovers an error in a taxpayer's previously filed return, the practitioner:

Must advise the client promptly and recommend corrective measures

SSTS No. 6 requires the tax practitioner to immediately notify the client of an error in previously filed return, regardless of whether that practitioner prepared the return. In addition, the practitioner should advise the member of potential consequences and recommend corrective measures, but is NOT allowed to inform the taxing authority without the taxpayer's permission.

In giving advice to clients, the tax practitioner:

Should assume the advice will be used for return reporting purposes and follow the level of authority needed for reporting SSTS No. 7 sets forth standards concerning certain aspects of providing advice to taxpayers. Advice does not need to be in writing, but if it s, then the communication should comply with any applicable standards for written tax advice, such as Circular 230 Section 10.37. In addition, the practitioner should assume that the advice will impact the manner in which the issue is reported on the taxpayer's return, and therefore should consider return reporting and disclosure standards.

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The AICPA Code of Professional Conduct applies to:

All AICPA members

Although the AICPA Code of Professional Conduct only applies to AICPA members, many state licensing agencies may have similar conduct codes. The principles and rules of the AICPA Code of Professional Conduct are intended to provide a framework for the CPA's professional responsibilities.

If an AICPA member directly owns a financial interest in a client, the member:

Is likely violating the independence requirement

Under 101, a CPA in public practice must be independent of the enterprise for which his or her services are being provided. A CPA is not considered independent if he or she has a financial interest in a client.

An AICPA member may disclose confidential client information:

With the specific consent of the client

The answer is "with specific consent of the client." Explanation: Confidentiality is an important aspect of the tax practitioner-client relationship, and generally the practitioner must not disclose confidential client data. However, such disclosure can be made with the consent of the client, as well as in certain situations such as in response to a subpoena or an inquiry of a disciplinary body.

An AICPA member who charges a greater fee for an unqualified audit opinion than for a qualified audit opinion:

Is like charging a prohibited contingent fee

CPA's may not charge contingent fees to a client for whom the CPA performs audit work. A contingent fee, which is based on results, would include charging a much greater fee for an unqualified opinion than for a qualified opinion.

An AICPA member who violates the Code of Professional Conduct:

May receive admonishment, suspension, or expulsion from membership in the AICPA

The Code of Professional Conduct applies not only to the AICPA member, but also to others (such as employees) who act on the CPA's behalf. While the Code of Professional Conduct only applies to AICPA members, the CPA's actions may also be subject to similar state licensing restrictions.

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Circular 230 is:

A set of Treasury Department regulations governing tax practitioners

Someone who is not an attorney, CPA, enrolled agent, or enrolled actuary:

Can only represent a taxpayer before the IRS in limited circumstances

Circular 230 requires tax practitioners to use "due dilligence" in preparing tax returns, which:

Requires the tax practitioner to use reasonable effort to comply with the tax laws, but overlooks simple errors

Circular 230 prohibits a tax practitioner from charging an unconscionable fee, which is:

Not defined by Circular 230

Circular 230 allows a tax practitioner to charge a contingent fee:

In limited circumstances involving an IRS examination of a return

In reporting an item on a tax return, Circular 230 provides that a tax practitioner:

May not take an "unreasonable position"

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If a taxpayer has to pay a penalty on a tax deficiency, the penalty is generally

not deductible.

The Code typically characterizes tax penalties as an "addition" to tax. Thus, per IRC § 6665(a)(1), penalties are not deductible

The failure to file penalty will be imposed upon a taxpayer if a return is filed

any time after its original or extended due date.

IRC § 6651(a)(1) imposes a penalty for the failure to file any return "on the date prescribed therefor (determined with regard to any extension of time for filing)." Thus, a penalty will be imposed if the return is filed any time after its due date, but a validly obtained extension will extend the filing deadline.

If a taxpayer files a return late, the penalty may be waived by the IRS if the taxpayer has

reasonable cause for the late filing

IRC § 6651(a)(1) provides that the penalty will not be imposed if the taxpayer can show that the failure to timely file is due to "reasonable cause and not due to willful neglect." The substantial authority standard comes into play with a different penalty provision

death or serious illness of the taxpayer.

Although there is no statutory or regulatory definition of "reasonable cause," the Internal Revenue Manual describes reasonable cause to include several issues, including the death or serious illness of the taxpayer. Even if the taxpayer does not have the funds to pay any tax due, the return must still be filed or a failure to file penalty will be imposed.

A taxpayer who files a return late based on the advice of his or her tax advisor

will likely qualify for the "reasonable cause" defense.

Reliance on the advice of competent tax counsel is a common example of "reasonable cause." However, it should be cautioned that in many cases the courts may not absolve a taxpayer of responsibility even though a tax advisor is involved.

The amount of the failure to file penalty is

5% of the amount of tax due for each month that the return is not filed.

IRC § 6651(a)(1) imposes a failure to file penalty of 5 percent of the unpaid tax for each month or fraction of a month that the return is late, with a maximum penalty of 25%. The 20% penalty is found under IRC § 6662 for other issues.

If a taxpayer is due a refund on his or her tax return and files a return late, the failure to file penalty

will not be imposed

Since the amount of the failure to file penalty is based on the tax due with a tax return, a taxpayer who is due a refund will not be subject to a failure to file penalty if a return is filed late.

A failure to pay penalty will be imposed when a taxpayer

fails to pay a tax that is shown to be due on his or her return.

The failure to pay penalty is imposed if a taxpayer fails to either pay a tax shown on his or her return, or fails to pay an assessed deficiency within 21 days of an IRS notice and demand. It is important to note that an extension of the time to file a return does not extend the time to pay any tax due.

The amount of the failure to pay penalty is

0.5% of the tax liability due for each month that the tax is not paid.

The failure to pay penalty is 0.5% of the required liability for each month or fraction of a month that the tax is not paid, but increases to 1% of the underpaid tax per month after notice and demand by the IRS, with a maximum of 25% of the outstanding tax.

If a taxpayer pays a tax late, the failure to pay penalty may be waived by the IRS if the taxpayer has

reasonable cause for the late payment.

IRC § 6651(a)(2) provides that the failure to pay penalty will not be imposed if the taxpayer can show that the failure to pay is due to "reasonable cause and not due to willful neglect." The substantial authority standard comes into play with a different penalty provision.

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The interest charged on underpayments

eliminates the benefit that the taxpayer could obtain by adopting an aggressive tax position.

It is often said that the penalty provisions are the “true cost” of taking an aggressive tax position because

the interest paid by the taxpayer on a tax deficiency will be offset by the interest earned by the taxpayer from the original tax savings.

The interest can be very significant on a tax deficiency.

Interest is imposed on an “underpayment” which is defined as

the amount of tax that should have been paid with the taxpayer's return, after any adjustments determined by the IRS, less the amount that was actually paid.

The last date that is prescribed for payment is usually the unextended due date of the return. Any amount not correctly reported creates a tax deficiency that will carry interest from that date

The IRS compounds the interest charged to taxpayers on a tax deficiency

daily

The applicable Federal rates that are used to determine the interest charged on underpayments and overpayments

are published each month in a Revenue Ruling.

The "applicable federal rates," which are authorized in IRC § 1274(d), are used for a variety of interest calculations throughout the Code. They are generally issued each month in a Revenue Ruling.

The rate of interest that the IRS charges for underpayments (and pays for overpayments)

is adjusted quarterly.

Although the applicable federal rates are published monthly, IRC § 6621 provides that for purposes of underpayments and overpayments, the rate used is the Federal short-term interest rate for the first day of the quarter.

Interest will be due on the $1,000 since he did not pay it on April 15th when it was originally due.

An extension of time to file is not an extension of time to pay.

If penalties are imposed on a taxpayer

interest is calculated on the penalties as well as on any tax deficiency.

On certain penalties, interest is calculated if the penalty is not paid within 21 days of an IRS notice and demand. On other penalties, interest runs from the extended due date of the return. See IRC § 6601(e)(2).

If the taxpayer has a good reason for not paying his or her tax when due,

the IRS will still not waive the interest charge.

The IRS has no authority to forgive the payment of interest.

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A paid return preparer who takes an unreasonable position on a client’s tax return

may be personally subject to a penalty.

IRC § 6694 provides that if a return preparer prepares a return with an unreasonable position which results in an understatement of tax, and the preparer knew, or reasonably should have known, of the position that resulted in the understatement, the preparer is subject to a penalty.

The amount of the preparer penalty under IRC § 6694(a) is

equal to the greater of $1,000 or 50 % of the income derived (or to be derived) by the tax return preparer with respect to the return.

In 2007, IRC § 6694(a) was amended to increase the preparer penalty from $250 to the greater of $1,000 or 50% of the fee charged to the client for preparing that return.

An “unreasonable position,” which may subject the return preparer to the IRC § 6694 penalty, is defined as

an undisclosed position for which there is not substantial authority.

IRC § 6694 defines an "unreasonable position" as an undisclosed position for which there is not substantial authority. Thus, if there is not substantial authority for a position taken on a return, both the preparer (under IRC § 6694) and the taxpayer (under IRC § 6662) may be subject to a penalty. The same substantial authority standard described in Treas. Reg. § 1.6662-4(d) should be used here.

The preparer § 6694 penalty may be avoided if

the preparer has a "reasonable basis" for the position and adequately discloses it on the return.

Similar to the taxpayer's accuracy-related penalty, a position can be taken on a return with less than "substantial authority" and the penalties avoided provided there is a "reasonable basis" for the position and it is adequately disclosed on the return. The preparer penalties are often related to events that may trigger taxpayer penalties, but are independent.

If a return preparer willfully or recklessly prepares a return which results in an understatement of tax

the penalty increases to the greater of $5,000 or 75% of the fee charged to the client for preparing that return.

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