Rev. Rul. 80-265 1, 1980-2 CB 377


Section 6694.--Understatement of Taxpayer's Liability by Income Tax Return Preparer

26 CFR 1.6694-1: Understatement of taxpayer's liability by income tax return preparer.


A return preparer who prepared both an individual's return and the return of the individual's wholly owned corporation deducted interest paid by the corporation to the individual on the corporate return, but did not report the interest as income on the individual's return. The negligence penalty does not apply to the preparer if the information provided by the corporation did not indicate who received the interest and the information provided by theindividual did not indicate receipt of such payment. However, the penalty would apply if the information provided by the corporation indicated that the individual received the interest payment.


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ISSUE


Does the penalty for negligent disregard of rules and regulations under section 6694(a) of the Internal Reve-Code apply in the following situations?


FACTS

Situation 1


An income tax return preparer prepared both A's individual federal income tax return for calendar year 1978 and the corporate income tax return of X, A's wholly-owned corporation for its taxable year ended December 31, 1978.The preparer was not the auditor of X and had no knowledge whatsoever of any loans by A to X. The preparer deducted interest paid by X to A on the corporation's return filed March 15, 1979. However, the preparer did not report the interest as income on A's individual return filed April 15, 1979. The information provided by X to the preparer did not indicate who received the interest payment and the information provided by A to the preparer did not indicate receipt of such payment. Upon examination the Internal Revenue Service determined that the failure to report the interest income resulted in an understatement of tax liability on A's individual return.


Situation 2


The facts are the same as in situation 1 except that the information provided by X indicated A received the interest payment from X.


LAW AND ANALYSIS


Section 6694(a) of the Code provides that if any part of any understatement of liability with respect to any return is due to the negligent or intentional disregard of rules and regulations by any person who is an income tax return preparer with respect to such return, such person shall pay a penalty of $100 with respect to such return.


Under section 61 of the Code interest received on loans are includable in gross income.


Rev. Proc. 80-40, page 774, this Bulletin, sets forth guidelines for the application of the penalty under section 6694(a) of the Code for the negligent disregard of rules and regulations by an income tax return preparer. The revenue procedure indicates that the penalty generally will not apply where a preparer in good faith relies without verification upon information furnished by the taxpayer, but the preparer may not ignore the implications of information furnished to the preparer or actually known to the preparer.


In situation 1, the preparer could rely upon the information furnished by A in connection with A's individual return. The preparer was not required to examine or review A's books and records and had no reason to believe that the information as furnished might be incorrect or incomplete.


In situation 2, the preparer, based on the information furnished by X, in connection with X's corporate return, had reason to believe that the information furnished by A might be incorrect or incomplete. The preparer should have made inquiries to reconcile the information furnished by X with the omission by A of the interest income.


HOLDING


The penalty for negligent disregard of rules and regulations under section 6694(a) of the Code does not apply to the preparer in situation 1. The penalty does apply to the preparer in situation 2.


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1 Also released as New Release IR-80-94 dated Sept. 15, 1980.