Rev. Rul. 82-25, 1982-1 CB 214


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


Preparer penalties will not be abated if the taxpayer's liability is eliminated or not assessed because of a net operating loss carryback. Preparer penalties will be abated if a taxpayer's liability is abated because of an unclaimed item arising in the same year.


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ISSUES


1. Will a preparer penalty under section 6694(a) of the Internal Revenue Code be abated if a taxpayer's liability is eliminated by a net operating loss carryback?


2. May a preparer penalty under section 6694(a) of the Code be assessed if no deficiency is assessed because of the application of a carryback?


3. Will a preparer penalty under section 6694(a) of the Code be abated if a deficiency is eliminated because of an offsetting adjustment arising in the same tax year?


FACTS


Situation 1. B, an income tax return preparer, negligently overstated A's expenses on A's 1978 federal income tax return. The Internal Revenue Service examined the return and assessed a deficiency against A. A agreed to the assessment and paid the tax due. The Service also assessed a penalty against B under section 6694(a) of the Code. In 1980, A incurred a net operating loss. A filed claims for refund carrying back the loss to 1977, 1978, and 1979, eliminating all tax due for those years. The Service examined the claims, determined they were correct, and allowed the refunds.


Situation 2. Same as above, except the Service did not examine A's 1978 return until the refund claims were filed. An examination of all four years disclosed that the net operating loss for 1980 was correctly computed but that the tax shown on A's original 1978 return was understated due to B's negligence. The potential deficiency due from A was not assessed because of the carryback, although interest was properly assessed against A from April 15, 1979, to December 31, 1980.


Situation 3. B negligently overstated some of A's expenses on A's 1978 return but also negligently failed to claim other deductions for a greater amount that A was entitled to. The Service examined A's 1978 return and disallowed the negligently overstated expenses, resulting in a deficiency which A agreed to and paid. The Service also assessed a penalty under section 6694(a) of the Code against B. A later discovered the other deductions not taken and filed a claim for refund. The Service examined the claim, determined that it was correct, and refunded the overpayment to A.


LAW AND ANALYSIS


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


Section 6694(d) of the Code provides that the penalty will be abated if at any time there is a final administrative determination of judicial decision that there was no understatement of liability with respect to a return of claim for refund for which a penalty under section 6694(a) has been assessed.


Section 6694(e) of the Code defines "understatement of liability" as any understatement of the net amount payable or any overstatement of the net amount creditable or refundable with respect to any tax imposed by subtitle A.


Rev. Rul. 72-484, 1972-2 C.B. 638, holds that penalties under section 6651(a) of the Code may not be refunded if a net operating loss carryback results in a refund of the tax paid.


The applicable rules in section 6694 of the Code do not require that tax actually be assessed against a taxpayer in order for a penalty to be assessed against the preparer. Section 6694(d) merely requires that any penalty that is assessed must be abated if it is determined that there was no understatement of liability on the underlying return. In Situation 1 and 2, B's negligence resulted in an understatement of A's liability on A's 1978 return. While the tax due from A in Situation 1 was later eliminated, there was no final administrative determination that there was no understatement of liability relating to the return. Similarly, in Situation 2, the failure to make an assessment against A was not due to a determination that the return prepared by B did not understate A's liability. The crucial element in these situations is not whether A owed tax after carryback adjustments were made to the total liability but whether the return, when filed, showed an understatement of the tax due. Thus, in Situation 3, there was no understatement of liability on A's return because the total liability that should have been shown by B in preparing the return was less than the amount actually shown.


HOLDINGS


1. The penalty under section 6694(a) of the Code will not be abated if the taxpayer's liability is eliminated by a net operating loss carryback.


2. The penalty under section 6694(a) of the Code may be assessed if no underlying deficiency is assessed because of the application of a carryback.


3. The penalty under section 6694(a) of the Code will be abated if a deficiency is abated because of an offsetting adjustment arising in the same tax year.