The Internal Revenue Manual – Chapter 1 -
Section 6. Preparer, Promoter Penalties
20.1.6 Preparer, Promoter Penalties • 20.1.6.1 Overview of the Return Preparer, Promoter, and Material Advisor Penalties
• 20.1.6.2 Office of Professional Responsibility
• 20.1.6.3 Preparer Conduct Penalties:IRC Section 6694
20.1.6.1 (02-08-2008)
Overview of the Return Preparer, Promoter, and Material Advisor Penalties
1. This IRM provides guidelines to be followed by all operational and processing functions.
2. The IRS has penalty and injunctive authority to address improper income tax return preparation. The Internal Revenue Code (IRC) provides the following penalties to stop fraudulent, unscrupulous and/or incompetent tax return preparers and abusive transaction promoters. Penalty assertion is the key enforcement vehicle for noncompliant preparers and promoters.
3. Income tax return preparer penalties under:
A. Note: IRC 6694 was amended by The Small Business and Work Opportunity Act of 2007 (SBWOA) which was enacted into law on May 25, 2007, for tax returns prepared after May 25, 2007. SBWOA extended the application of the income tax return preparer penalties to all tax return preparers, altered the standards of conduct, and increased applicable penalties. This IRM was written prior to the release of the related Regulations; therefore, this IRM does not include information on IRC section 6694 pertaining to returns filed after May 25, 2007.
B. IRC section 6694, Understatement of Taxpayer's Liability by Income Tax Return Preparer
C. IRC section 6695, Other Assessable Penalties With Respect to the Preparation of Income Tax Returns for Other Persons
D. IRC section 6713, Disclosure or Use of Information by Preparers of Returns
4. Tax shelter promoter penalties under:
A. IRC section 6700, Promoting Abusive Tax Shelters, Etc.
B. IRC section 6701, Penalties for Aiding and Abetting Understatement of Tax Liability
5. Material advisor penalties under:
A. IRC section 6707, Failure to Furnish Information Regarding Reportable Transactions
B. IRC section 6708, Failure to Maintain Lists of Advisees with Respect to Reportable Transactions
6. The Service may also pursue injunctions under:
A. IRC section 7407, Action to Enjoin Income Tax Return Preparers
B. IRC section 7408, Actions to Enjoin Specified Conduct Related to Tax Shelters and Reportable Transactions
7. Preparer, promoter and material advisor penalties are important tools for the IRS to collect the proper amount of tax revenue at the least cost. These penalties support the IRS's policy only if their application enhances voluntary compliance. See Policy Statement P-20-1, IRM 1.2.20, Penalties Enhance Voluntary Compliance.
8. Each Division has developed programs to administer preparer, promoter and material advisor penalties. See IRM 4.32, Abusive Tax Avoidance Transactions (ATAT), for procedures involving ATAT issues for SB/SE and LMSB. The Return Preparer Penalty program addresses return preparer penalties, and electronic filing requirements. See IRM 20.1.6.1.2, Program Coordination Responsibilities,for procedures involving preparer issues, and IRM 4.11.51, Return Preparer Program.
20.1.6.1.1 (02-08-2008)
Definitions
1. The definitions used in this IRM relate to Preparer, Promoter, or Material Advisor Penalties.
20.1.6.1.1.1 (02-08-2008)
Adequate Disclosure
1. Note: IRC 6694 was amended by The Small Business and Work Opportunity Act of 2007 (SBWOA) which was enacted into law on May 25, 2007, for tax returns prepared after May 25, 2007. SBWOA extended the application of the income tax return preparer penalties to all tax return preparers, altered the standards of conduct, and increased applicable penalties. This IRM was written prior to the release of the related Regulations; therefore, this IRM does not include information on IRC section 6694 pertaining to returns filed after May 25, 2007.
2. Disclosure is made on a Form 8275, Disclosure Statement , or Form 8275-R Regulation Disclosure Statement, as appropriate, or per the annual revenue procedure issued for the purposes of the substantial understatement penalty. A preparer is not subject to a civil penalty for an unrealistic position under IRC section 6694(a) if the position is not frivolous and is adequately disclosed. Different disclosure rules apply to signing and nonsigning preparers (see Treas. Reg. 1.66942(c)(3)(i) and (ii), and Treas. Reg. 1.66943(e)(1) and (2)).
A. Signing preparers.The disclosure must be made on a properly completed and filed Form 8275, Disclosure Statement , or 8275-R, Regulation Disclosure Statement, as appropriate, or on the return per an annual revenue procedure. (Treas. Reg. 1.66942(c)(3)(i).
B. Nonsigning preparers.The disclosure may be made in the manner prescribed above for signing preparers or by including in the advice to the taxpayer (or to another preparer) a statement that contains the information required by Treas. Reg. 1.66942(c)(3)(ii).
20.1.6.1.1.2 (02-08-2008)
Frivolous Position
1. Note: IRC 6694 was amended by The Small Business and Work Opportunity Act of 2007 (SBWOA) which was enacted into law on May 25, 2007, for tax returns prepared after May 25, 2007. SBWOA extended the application of the income tax return preparer penalties to all tax return preparers, altered the standards of conduct, and increased applicable penalties. This IRM was written prior to the release of the related Regulations; therefore, this IRM does not include information on IRC section 6694 pertaining to returns filed after May 25, 2007.
2. A position that is patently improper. See Treas. Reg. 1.66942(c)(2).
20.1.6.1.1.3 (02-08-2008)
Gross Valuation Overstatement
1. A statement as to the value of any property or services if the stated value exceeds 200 percent of the amount determined to be the correct value, and the value of the property or service is directly related to the amount of any allowable deduction or credit. See IRC section 6700(b).
A. If a promoter provides a gross valuation overstatement in connection with the organization or sale of an interest in an entity, the IRC section 6700 penalty applies regardless of whether the promoter knows or has reason to know of the overvaluation.
B. The gross valuation overstatement must be directly related to a material matter.
C. Reasonable Basis/Good Faith Exception. When an IRC section 6700 penalty is based on a gross valuation overstatement, the Service may waive the penalty if the valuation had a reasonable basis and was made in good faith. This exception does not apply to penalties based on making or furnishing a false or fraudulent statement as to the tax benefits to be derived from participating in the arrangement.
20.1.6.1.1.4 (02-08-2008)
Income Tax Return Preparer
1. Note: IRC 6694 was amended by The Small Business and Work Opportunity Act of 2007 (SBWOA) which was enacted into law on May 25, 2007, for tax returns prepared after May 25, 2007. SBWOA extended the application of the income tax return preparer penalties to all tax return preparers, altered the standards of conduct, and increased applicable penalties. This IRM was written prior to the release of the related Regulations; therefore, this IRM does not include information on IRC section 6694 pertaining to returns filed after May 25, 2007.
2. Any person (including a partnership or corporation) who prepares for compensation all or a substantial portion of a tax return or claim for refund under the income tax provisions of the Code.
20.1.6.1.1.4.1 (02-08-2008)
Persons Who Are Income Tax Return Preparers
1. Note: IRC 6694 was amended by The Small Business and Work Opportunity Act of 2007 (SBWOA) which was enacted into law on May 25, 2007, for tax returns prepared after May 25, 2007. SBWOA extended the application of the income tax return preparer penalties to all tax return preparers, altered the standards of conduct, and increased applicable penalties. This IRM was written prior to the release of the related Regulations; therefore, this IRM does not include information on IRC section 6694 pertaining to returns filed after May 25, 2007.
2. The IRC section 7701(a)(36), Income Tax Return Preparer , definition of a tax return preparer has been interpreted by Treas. Reg. 301.770115 and various revenue rulings to include persons (including nonsigning preparers) who:
A. Furnish sufficient advice or information so that the completion of the return by another individual is a mechanical process. (Treas . Reg. 301.770115(a)(1))
B. Supply computerized tax return preparation services to tax practitioners, or offers services or programs that make substantive tax determinations. (Rev. Rul . 85187, 19852 C.B. 338, Rev. Rul. 85188, 19852 C.B. 339, , and Rev. Rul. 85189, 19852 C.B . 341)
C. Software companies or other persons that prepare computer programs and sell them to taxpayers for use in preparing their returns, may also be an income tax return preparer for purposes of the return preparer penalties. (Rev. Rul. 85-189)
D. For the purposes of IRC section 6694(a) or (b) penalties, no more than one individual associated with a firm (i.e., an employee or partner) is treated as a preparer of the same return or claim (one-preparer-per-firm rule). See Treas. Reg. 1.66941(b)(1). NOTE: The one-preparer-per-firm rule does not mean that an IRC section 6694 penalty cannot also be asserted against the firm, as an employer. It also does not mean that there can never be more than one preparer per return. For example, if a CPA receives advice from an attorney (who is not associated with the same firm) and the advice constitutes a substantial portion of the return, both the CPA and the attorney are income tax return preparers with respect to that return.
E. A nonsigning preparer who prepares a schedule or entry that constitutes a substantial portion of the return may be considered a tax return preparer. In making the decision as to what constitutes a substantial portion, examiners should consider the relation of the entry or schedule to the tax liability, the complexity of the return as a whole, and the relative time involved in preparing it.
F. An electronic return originator may be a return preparer under IRC section 7701(a)(36) and Treas. Reg. 301.770115, and who could be liable for these penalties. However, an electronic filer who is primarily a transmitter with services limited to typing, reproduction or other mechanical assistance in the preparation of a return or claim for refund is not an income tax preparer for purposes for these penalties. See Rev. Proc. 200560, 200535 I.R.B. 449.
G. A general partner who prepares a partnership return can be an income tax return preparer of a limited partner's return in certain situations. (Rev. Rul. 81270, 19812 C.B. 250).
H. A preparer (1st preparer) can be a preparer of a return prepared by another preparer (2nd preparer) if the 2nd preparer relied on information contained on the return prepared by the 1st preparer. This occurs, for example, when the 1st preparer negligently overstates the expenses on a prior year's return, thus creating an NOL, and the 2nd preparer, in good faith, applies the NOL carryover in preparing the subsequent year's return. (Rev. Rul. 81171, 19811 C.B. 589)
I. The definition of income tax preparer is slightly altered for purposes of IRC section 6695(g), Failure to be Diligent in Determining Eligibility For Earned Income Credit . Preparers who merely give advice or prepare another return that affects the EITC return or refund claim are not considered preparers. The due diligence standards are imposed only on paid preparers who prepare the EITC return or claim. (Treas. Reg. 1.66952(a))
20.1.6.1.1.4.2 (02-08-2008)
Persons Who Are Not Income Tax Return Preparers
1. Note: IRC 6694 was amended by The Small Business and Work Opportunity Act of 2007 (SBWOA) which was enacted into law on May 25, 2007, for tax returns prepared after May 25, 2007. SBWOA extended the application of the income tax return preparer penalties to all tax return preparers, altered the standards of conduct, and increased applicable penalties. This IRM was written prior to the release of the related Regulations; therefore, this IRM does not include information on IRC section 6694 pertaining to returns filed after May 25, 2007.
2. The following persons are not income tax return preparers:
A. A person who prepares a return or claim for refund with no explicit or implicit agreement for compensation even though the person receives a gift or return service or favor. (Treas. Reg. 301.770115(a)(4))
B. A person who only provides mechanical assistance in the preparation of an income tax return or claim for refund (e.g., provides typing and/or copying services). (Treas. Reg. 301.770115(d)(1))
C. A person who prepares an income tax return or claim for refund of a person, or an officer, general partner, or employee of a person, by whom the individual is regularly and continuously employed or in which the individual is a general partner. (Treas. Reg. 301.770115(d)(2))
D. A person who prepares an income tax return or claim for refund for an estate or a trust but only if such person is a fiduciary or is an officer, general partner, or employee of the fiduciary. (Treas. Reg. 301.770115(d)(3))
E. A person who prepares a claim for refund for a taxpayer in response to a deficiency notice or a waiver of restriction after initiation of an examination of the taxpayer or another taxpayer (if a determination in the other taxpayer's examination affects, indirectly or directly, the taxpayer in question). (Treas. Reg. 301.770115(d)(4))
F. Any person who provides tax assistance under the VITA program. (Treas. Reg. 301.770115(a)(7))
G. Any person who provides tax assistance as part of a qualified Low-Income Taxpayer Clinic (LITC ) as defined in IRC section 7526. (Treas. Reg. 770115(a)(7). The assistance must be directly related to a controversy with the IRS or as part of an LITC's English as a Second Language (ESL) outreach program. The LITC cannot charge a separate fee or vary a fee based on whether the LITC provides assistance with a return or claim, and the LITC cannot charge more than a nominal fee for its service.
20.1.6.1.1.5 (02-08-2008)
Penalty Steering Committee (PSC)
1. A multifunctional group that is established by the Area Planning and Special Programs (PSP) Territory Manager. The PSC members can include among others: the Electronic Filer Coordinator, Examination Return Preparer Coordinator, a representative designated by the Area Director and a Criminal Investigations representative. The PSC identifies patterns of preparer abuse, recommends the initiation of a project on potentially abusive return preparers, and reviews the appropriateness and accuracy of return preparer penalty assertion.
2. Cross-reference IRM 20.1.6.1.2.3(3).
20.1.6.1.1.6 (02-08-2008)
Promoter for Purposes of IRC Section 6700 Penalty
1. Any person who organizes, assists in the organization of, or participates (directly or indirectly) in the sale of any interest in a partnership or other entity, investment plan or arrangement, or plan or other arrangement. The class of persons covered by the IRC section 6700 penalty includes not only sellers, but also individuals who:
A. Aid or assist sellers,
B. Cause other persons to make or furnish statements, or
C. Cause an appraiser to grossly overvalue property.
20.1.6.1.1.7 (02-08-2008)
Reason to Know Standard
1. The IRC section 6700 penalty for making a statement about the allowability of any deduction or credit, the excludability of any income, or the securing of any tax benefit only applies when the individual knows or has reason to know that the statement is false or fraudulent. Whether a person knows or has reason to know that a statement is false or fraudulent depends on their role in the organization or sale, as well as their experience, knowledge, and education.
20.1.6.1.1.8 (02-08-2008)
Reasonable Cause/Good Faith
1. Note: IRC 6694 was amended by The Small Business and Work Opportunity Act of 2007 (SBWOA) which was enacted into law on May 25, 2007, for tax returns prepared after May 25, 2007. SBWOA extended the application of the income tax return preparer penalties to all tax return preparers, altered the standards of conduct, and increased applicable penalties. This IRM was written prior to the release of the related Regulations; therefore, this IRM does not include information on IRC section 6694 pertaining to returns filed after May 25, 2007.
2. Penalties under IRC section 6694 and 6695 will not be imposed if, considering all the facts and circumstances, it is determined that the preparer had reasonable cause and acted in good faith. Factors to consider in making this determination include the nature of the error, the materiality of the error, the frequency of the error, the preparer's normal office practice, and the preparer's reliance on the advice of another preparer. (See IRM 20.1.1.3.1,Reasonable Cause.)
20.1.6.1.1.9 (02-08-2008)
Reckless or Intentional Disregard
1. Note: IRC 6694 was amended by The Small Business and Work Opportunity Act of 2007 (SBWOA) which was enacted into law on May 25, 2007, for tax returns prepared after May 25, 2007. SBWOA extended the application of the income tax return preparer penalties to all tax return preparers, altered the standards of conduct, and increased applicable penalties. This IRM was written prior to the release of the related Regulations; therefore, this IRM does not include information on IRC section 6694 pertaining to returns filed after May 25, 2007.
2. In general, a preparer is considered to have recklessly or intentionally disregarded a rule or regulation if the preparer takes a position on the return or claim that is contrary to a rule or regulation and the preparer knows of, or is reckless in not knowing of, the rule or regulation.
A. A preparer who makes little or no effort to determine if a rule or regulation exists may be subject to an IRC section 6694(b) penalty if such conduct substantially deviates from a reasonable preparer standard. Diligence is implicitly a part of the standard for a reasonable preparer.
B. An IRC section 6694(b) penalty predicated on reckless or intentional disregard would not be imposed if there is adequate disclosure of a nonfrivolous position and, in the case of a regulation, the position represents a good faith challenge to the regulation's validity.
20.1.6.1.1.10 (02-08-2008)
Rules and Regulations
1. Provisions of the Internal Revenue Code, temporary or final regulations, revenue rulings, or notices (other than notices of proposed rules making) that are published in the Internal Revenue Bulletin. Revenue procedures are not included in this definition. (Treas. Reg. 1.6694-3(f))
20.1.6.1.1.11 (02-08-2008)
Understatement of Liability
1. Note: IRC 6694 was amended by The Small Business and Work Opportunity Act of 2007 (SBWOA) which was enacted into law on May 25, 2007, for tax returns prepared after May 25, 2007. SBWOA extended the application of the income tax return preparer penalties to all tax return preparers, altered the standards of conduct, and increased applicable penalties. This IRM was written prior to the release of the related Regulations; therefore, this IRM does not include information on IRC section 6694 pertaining to returns filed after May 25, 2007.
2. Any understatement of the net amount payable for any tax due under Subtitle A of the Code (income taxes) or any overstatement of the net amount creditable or refundable for any such tax may subject a preparer to an IRC section 6694 penalty.
A. A final administrative or judicial determination concerning the taxpayer's return is not required in order to assert return preparer penalties. However, the penalties must be abated if a subsequent judicial or administrative determination concludes that no understatement exists (IRC section 6694(d)).
B. For purposes of the return preparer penalties, the net amount payable is not reduced by any carryback.
C. For further guidance on the meaning of this term, see IRM 20.1.6.3.3, Asserting the IRC Section 6694 Penalties, below.
20.1.6.1.1.12 (02-08-2008)
Unrealistic Position
1. Note: IRC 6694 was amended by The Small Business and Work Opportunity Act of 2007 (SBWOA) which was enacted into law on May 25, 2007, for tax returns prepared after May 25, 2007. SBWOA extended the application of the income tax return preparer penalties to all tax return preparers, altered the standards of conduct, and increased applicable penalties. This IRM was written prior to the release of the related Regulations; therefore, this IRM does not include information on IRC section 6694 pertaining to returns filed after May 25, 2007.
2. A position for which there was not a realistic possibility of being sustained on its merits (realistic possibility standard). The preparer must have known or reasonably should have known of such position.
A. A position has a realistic possibility of being sustained if a reasonable and well-informed analysis by a person knowledgeable in tax law would lead such a person to conclude that the position has approximately a one-in-three, or greater, likelihood of being sustained on its merits.
B. For signing preparers, the relevant date for determining realistic possibility is generally the date the preparer signs and dates the return. The relevant date for nonsigning preparers is generally the date, based on all the facts and circumstances, that the preparer provides the advice.
C. The analysis used for determining whether substantial authority is present for purposes of the accuracy-related penalty under IRC section 6662 also applies in making a determination concerning the realistic possibility standard. Only the authorities specified in Treas. Reg. 1.66624(d)(3)(iii) are considered. Also, see Examples (1), (2), (3) and (5) in IRM 20.1.6.3.5, Examples of IRC 6694(a) Penalty Application, below.
D. Positions contrary to a revenue ruling or a notice but which satisfy the realistic possibility standard - A preparer will not be considered to have recklessly or intentionally disregarded a revenue ruling or a notice if the position contrary to the revenue ruling or notice satisfies the realistic possibility standard. This rule also does not apply to a position contrary to a regulation. (Treas. Reg. 1.66943(c)
20.1.6.1.1.13 (02-08-2008)
Willful Conduct
1. Knowing and intentional conduct. Preparers are considered to have acted willfully if they disregard information provided (or add information not provided) by the taxpayer or other persons in an attempt to wrongfully reduce tax. It is not necessary to prove that the preparer acted with a bad purpose or evil motive in order to establish willfulness.
20.1.6.1.2 (02-08-2008)
Return Preparer Program (RPP) Coordination Responsibilities
1. There are specific RPP coordination responsibilities assigned to Headquarters, Area, and Area PSP offices as noted below.
20.1.6.1.2.1 (02-08-2008)
National Headquarters
1. The Director, SB/SE Examination, will designate a staff member to functionally supervise, on a nationwide basis, all Examination aspects of the program.
20.1.6.1.2.2 (02-08-2008)
Area Office
1. Field Territory Managers may assign one or more examiners to the Return Preparer Specialist (optional at the discretion of the Area). The examiners can be assigned to office or field groups. Responsibilities of the position will include:
A. Reviewing completed case files to ensure the facts and circumstances regarding the preparation of the return are fully developed; the preparer's position is fairly and carefully considered and clearly reflected in the penalty case workpapers; and the appropriate copies of the income tax examination workpapers, return and tax change reports (Form 4549) are included in the file.
B. Contacting the preparer for a closing conference. If the case is unagreed, the group manager or a manager in a local POD will be requested to attend the closing conference.
Additional assignments for the specialist may include:
C. Conducting and documenting interviews with noncompliant preparers to discuss problem areas in an effort to curb future noncompliance by the return preparer;
D. Referring information on return preparers suspected of involvement in questionable practices to the Return Preparer Coordinator (RPC). This information will be obtained by working examiners.
20.1.6.1.2.3 (02-08-2008)
Planning and Special Programs (PSP)
1. Each Area Planning and Special Programs (PSP) Territory Manager will designate a staff member to coordinate on an Area basis all Examination aspects of the program. Area Return Preparer Coordinators (RPC) will be responsible for:
A. Planning and coordinating Examination activities related to return preparer activities with other functions, Areas, and Campuses.
B. Orienting appropriate Area and Campus Examination personnel.
C. Developing additional guidelines and procedures as necessary.
D. Maintaining the quality of determinations and uniformity in applying return preparer provisions throughout the Area.
E. Monitoring program progress and the application of return preparer penalties, identifying problem areas, and notifying Area offices and National Headquarters of appropriate solutions.
2. PSP Territory Managers will establish multifunctional Penalty Steering Committees (PSC). The PSC members can include among others: the Electronic Filing Coordinator, Examination Return Preparer Coordinator (RPC), a representative designated by the Area Director and a Criminal Investigation (CI) representative. Contact will be made with Campus representatives from CI and Examination as needed.
3. PSCs will be responsible for:
A. Planning and coordinating the implementation of Area and National Headquarter Return Preparer strategies.
B. Establishing viable communication lines between PSP, Area e-file Program Coordinators, CI Questionable Refund Program Coordinators (QRPC), Campus Examination RPCs, and CI RPCs. The major goals of PSCs are to more effectively identify patterns of preparer abuse and prevent duplication of efforts within the Areas and Campuses.
C. Holding quarterly meetings (monthly during the filing season). These meetings will focus on monitoring program results, analyzing methods, and making recommendations to Area Directors concerning changes to the program.
D. Reviewing all preparer case files from whatever source, including recommendations to initiate projects on identified preparers and reports provided by site visitation teams.
E. Receiving information referred from Area Office functions, Electronic Return Originator (ERO) site visits, Campus reports, including Campus CI and Correspondence Examination.
F. Coordinating site visitation teams who will assert IRC section 6695 penalties, if warranted, recommend initiation of Program Action Cases (PAC) or no action. Examiners charge time for site visits to Activity Code 522/500.
G. Recommending approval of PACs to the Area Director.
H. Determining the number of teams needed to conduct visitations.
I. Selecting and determining the formation of teams.
J. Conducting orientation for team members on e-file Program requirements, return preparer provisions, authority to conduct visits, penalty assertions and referrals to the PSC.
4. Each PSP Territory Manager will designate an RPC who will be responsible for:
A. Accumulating all types of referrals including those forwarded by Campus Examination, and Forms 5808,Return Preparer - Penalty Follow-up.
B. Working closely with, and making recommendations to, the PSC including preparing a summarization of referrals to the Area PSC.
C. Ordering return preparer information. See IRM 20.1.6.1.6(9).
D. Ordering and screening returns.
E. Coordinating all Examination activity of income tax returns prepared by return preparers approved for program action by the Area Director.
F. Communicating with examiners when a fraud referral is pending on a particular preparer whose penalty case investigation has begun.
G. Forwarding copies of completed Forms 5809, Preparer Penalty Case Control Card, to the Area or Campus Electronic Filing Coordinator. This information is needed for the suitability checks required in IRM 3.42,Electronic Tax Administration - Overview of the Electronic Tax Administration (ETA) Programs.
H. Working with the Disclosure Office and/or Governmental Liaisons to obtain leads from local state tax agencies on abusive preparers.
I. Releasing Freeze Code 570 with TC 571 for those returns received from Campus Classification, through the PSC, that will not be examined; and releasing frozen refunds, at the direction of the PSC, (either partially or in full) on cases being held for examination.
Note: In all situations in which refunds are held during an examination the Area Director's approval is required.
20.1.6.1.3 (02-08-2008)
Penalty Examination Guidelines
1. Note: IRC 6694 was amended by The Small Business and Work Opportunity Act of 2007 (SBWOA) which was enacted into law on May 25, 2007, for tax returns prepared after May 25, 2007. SBWOA extended the application of the income tax return preparer penalties to all tax return preparers, altered the standards of conduct, and increased applicable penalties. This IRM was written prior to the release of the related Regulations; therefore, this IRM does not include information on IRC section 6694 pertaining to returns filed after May 25, 2007.
2. Return Preparer Penalties:
IRC section 6694, Understatement of Taxpayer's Liability by Income Tax Return Preparer, and
IRC section 6695, Other Assessable Penalties With Respect to the Preparation of Income Tax Returns for Other Persons
A. Examiners will determine if return preparer violations exist. The determination will be made for every examination and recorded on Form 4318, Examination Workpapers, or Form 4700-A, Supplement. Examiners will only propose opening a penalty case when sanctions are warranted. When facts and circumstances in the examination do not give rise to the development of a penalty issue, a simple statement to that effect in the workpapers is sufficient.
B. During income tax examinations, all discussions relating to return preparer penalties with any party will be limited to the development of facts to determine the applicability of a penalty. Penalties will not be proposed against a return preparer in the presence of the underlying taxpayer.
C. A determination on a return preparer case is conducted independently of, and without regard to, the determination on the underlying income tax case. The income tax case has bearing on the return preparer case only insofar as assertion of a penalty may require an understatement of tax or other item on the related tax return.
D. Generally, no return preparer penalty will be proposed until the underlying income tax examination is completed at the group level. However, if the return preparer case is inseparable from the income tax examination, both cases may be completed simultaneously.
E. Examiners must contact their local RPC when they have concluded and obtained managerial approval to start a Return Preparer Investigation. A list of RPCs can be found at http: //sbse.web.irs.gov/EPD/PSP/Preparer/RPClist.htm .
F. Comments made by examiners proposing or discussing penalties against return preparers may not be appropriate when a related criminal case is under consideration against the underlying taxpayer. These cases should be discussed with CI.
3. Promoter Penalties - Civil promoter investigations conducted under the following code sections are discussed in IRM 4.32.2.11.1, Penalty Overview:
IRC section 6700, Promoting Abusive Tax Shelters, Etc.,
IRC section 6701, Penalties for Aiding and Abetting Understatement of Tax Liability,
IRC section 6707, Failure to Furnish Information Regarding Reportable Transactions,and
IRC section 6708, Failure to Maintain Lists of Advisees with Respect to Reportable Transactions.
20.1.6.1.4 (02-08-2008)
Appeal Rights
1. Promoter Rights Relating to IRC sections 6700 and 6701: There are no pre-assessment appeal rights - see IRM 4.32.2.11.11.1(1). After the Service assesses the penalty and issues a notice and demand:
A. The penalties may be appealed post-assessment if the special claim for refund procedures of IRC section 6703 are followed and the claim is disallowed. See IRM 4.32.2.11.11.1(2). Collection activity is suspended when a person pays at least 15 percent of the penalty and files a claim for refund within 30 days after the date of notice and demand. Late filed claims and claims based on moral, political, constitutional, religious, or similar arguments are disallowed. See IRM 4.32.2.11.11.1(3) and (4).
B. However, when a person seeks refund of a partial payment, the person must then bring suit in Federal District Court within 30 days of receiving a Notice of Claim Disallowance, or 30 days after the expiration of six months from the filing of the claim, whichever is earlier; or
C. The person may bring a refund suit in either the U.S. Court of Federal Claims or a district court within two years of the date of denial of the claim or upon the expiration of six months after the date of filing the claim, if the penalty has been paid in full.
2. Preparer and material advisor penalties have been designated as Appeals Coordinated Issues. In general, taxpayers and tax return preparers are entitled to one administrative appeal with the Office of Appeals (see generally Treas. Reg. 601.106, Appeals Function). The appeal process differs depending on the penalty involved.
3. Preparer and material advisor penalties may be the subject of Fast Track Settlement (see Rev. Proc. 2003-40,1 C.B. 1044), or Fast Track Mediation (see Rev. Proc. 2003-41, 20031 C.B. 1047) procedures and may also be considered by Appeals during the course of a Collection Due Process hearing (see IRC section 6320,Notice and Opportunity for Hearing Upon Filing of Notice of Lien, and IRC section 6330,Notice and Opportunity for Hearing Before Levy).
Note:
For reference purposes only - the 6707 penalty in the future may not be subject to fast track mediation pending further discussion with Appeals.
4. ) Underlying Tax Cases - Unagreed Cases. Some penalties are related to positions taken or items reported on underlying tax returns (the related tax return). In general, an unagreed penalty case will not be sent to Appeals before the related tax return is submitted to Appeals. Examination will include in the preparer case file information on the current status and location of the related return.
20.1.6.1.4.1 (02-08-2008)
Pre-Assessment Appeals IRC Section 6694 and IRC Section 6695
1. Treas. Reg.1.6694-4(a)(1) allows for pre-assessment appeal rights of IRC section 6694 penalties. Although the regulation only relates to IRC section 6694 penalties, Area and Campus examiners will follow the same guidelines for IRC section 6695 penalties. With the exception of IRC section 6695(f), all IRC section 6694 and IRC section 6695 penalties will have pre-assessment appeal rights. A return preparer may appeal IRC section 6695(f) and IRC section 6713, Disclosure or Use of Information by Preparers of Returns , penalties using the post-assessment penalty appeal procedures or the denial of a claim for refund procedures.
2. Examination sends the return preparer a 30-day letter, Letter 1125 (DO), Transmittal of Examination Report, with an examination report and Publication 5, Your Appeal Rights and How To Prepare a Protest If You Don't Agree, for appeal procedures. If there is no timely response to the letter, the penalty is assessed. Pre-assessment appeals consideration will be granted if requested for IRC section 6694 and IRC section 6695 penalties (except IRC section 6695(f)).
3. Short Statute:
A. If the statutory period for assessment is about to expire and the preparer will not agree to an extension, the penalty will be assessed. If the preparer has not previously had the opportunity to request a hearing with the Office of Appeals, the preparer, upon request, will be provided post-assessment appeal rights in the same way pre-assessment appeal rights would have been provided. Examiners will advise return preparers that the period for filing a claim for refund under IRC section 6694(c), Extension of Period of Collection Where Preparer Pays 15 Percent of Penalty, is not extended by a post-assessment appeal.
B. Examiners will not submit preparer penalty cases to Appeals if less than 180 days remain on the statute of limitations when received by Appeals. In these instances, examiners will first solicit an extension of the statutory period for assessment.
C. See IRM 20.1.6.1.8.Statute of Limitations.
20.1.6.1.4.2 (02-08-2008)
Post-Assessment Appeal Procedures
1. There are post-assessment appeals rights for IRC section 6695(f), IRC section 6707, IRC section 6708 and IRC section 6713 penalties. In cases where there has not been a prior hearing with the Appeals Office, the person may request, and will be granted, an appeals hearing after assessment. Advise tax return preparers that the period for filing a claim for refund under IRC section 6694(c) is not extended by a post-assessment appeal.
2. There are no post-assessment appeal rights for IRC section 6700 and IRC section 6701 Penalties. See 20.1.6.1.4.3 below for IRC section 6703 Special Claim for Refund procedures, which apply only to IRC section 6700 and IRC section 6701.
3. There are no post-assessment appeal rights for IRC section 6707A.
20.1.6.1.4.3 (02-08-2008)
Special Claim for Refund Procedures for IRC 6700 and IRC 6701
1. Within 30 days after the day that notice and demand is made, preparers/promoters may pay 15 percent of the penalty and file a special claim for refund of IRC section 6700 and IRC section 6701 penalties.
A. Form 843 is used to file claims for refund made under these conditions.
B. Under IRC section 6703(c), collection action and the running of the statute of limitations on collection are suspended until the claim is finally resolved.
C. Any claims filed using IRC 6703 special claims for refund procedures should be forwarded immediately to the SBSE Lead Development Center (LDC) in Laguna Niguel, CA. The SBSE LDC will ensure the claim is reviewed by the appropriate examination personnel.
2. Denial of special claim for refund.
A. If the claim is denied, collection continues to be suspended if the preparer/promoter brings suit in District Court within 30 days of receiving a Notice of Disallowance, or 30 days after the expiration of six months from the filing of the claim, whichever is earlier.
B. Preparers and promoters may appeal the denial of a special claim for refund. Administrative appeal rights will be granted when the basis for the claim does not conflict with Appeals function procedural rules set forth in Regulation Section 601.106(b) of the Statement of Procedural Rules. An appeal should not be based on moral, political, constitutional, religious, or similar arguments.
20.1.6.1.5 (02-08-2008)
Claims for Refund
1. If a return preparer has not had a hearing with the Appeals Office and files a claim for refund of assessed penalties, the return preparer may request, and will be granted, an appeals hearing after the proposed denial of the claim. Preparers use Form 6118, Claim for Refund of Income Tax Return Preparer Penalties, to submit claims. The preparer has three years from the date of payment to file a claim for preparer penalties under IRC section 6694. See IRC section 6696(d)(2), Claim for Refund , Treas. Reg.1.6696-1(g).
2. For IRC section 6700 and IRC section 6701 promoter penalties, a claim for refund of penalties paid timely must be made within 6 years of the date paid using Form 6118.
3. Any claims for refunds of IRC section 6700 and IRC section 6701 penalties should be forwarded immediately to the SBSE Lead Development Center (LDC) in Laguna Niguel, CA. The SBSE LDC will ensure the claim is reviewed by the appropriate examination personnel.
4. IRC section 6694(c), IRC section 6700 and IRC section 6701.
A. IRC section 6694(c) and IRC section 6703(c) provide special claim for refund procedures for preparers/promoters assessed penalties under IRC section 6694, IRC section 6700 and IRC section 6701. Within 30 days after the day that notice and demand is made, preparers/promoters may pay 15 percent of the penalty and file a claim for refund of IRC section 6694, IRC section 6700, and IRC section 6701 penalties. Form 6118 is used to file claims for refund of preparer/promoter penalties.
B. Under IRC section 6694(c) and IRC section 6703(c) collection action and the running of the statute of limitation on collection are suspended until the claim is finally resolved administratively or judicially (i.e., by Appeals or by the Federal District Court).
C. These special claims must be processed on an expedite basis, especially when Appeals consideration is warranted and will be granted.
D. In any proceeding involving IRC section 6700 and IRC section 6701 penalties, the government has the burden of proof and deficiency procedures do not apply. See IRC section 6703,Rules Applicable to Penalties Under Sections 6700, 6701, and 6702.
E. The U.S. may counterclaim for the balance of the IRC section 6700 or IRC section 6701 penalties when the taxpayer uses the special claim for refund procedures in IRC section 6703(c).
20.1.6.1.5.1 (02-08-2008)
Campus Claim Processing
1. Claims filed at the Campus will be identified and forwarded to the appropriate function.
20.1.6.1.6 (02-08-2008)
Program Action Cases
1. A Program Action Case (PAC) is the examination of returns prepared by one preparer when information indicates a pattern of noncompliance with the preparer provisions of IRC section 6694 and IRC section 6695. Area Directors have the authority to approve PACs.
2. Program action is selectively designed to concentrate enforcement activity on preparers who represent habitual noncompliance and lack of competence. Projected examination results are part of, but not the sole deciding factor for, program action.
3. A PAC can result in the assessment of IRC section 6694 or IRC section 6695 penalties which in turn might result in an injunction under IRC section 7407. Alternately, the government might seek an injunction under section 7407 without prior assessment of a penalty.
4. The Return Preparer Coordinator (RPC) in each Area will maintain files containing information on return preparer activity and related Service actions. The RPC will review these files monthly. Those containing information indicating a pattern of noncompliance will be considered for program action.
5. These files will contain:
A. Various information received from the Campuses, Examination, Collection, and other sources.
B. Copies of Form 5809, Preparer Penalty Case Control Card , showing penalties previously asserted against preparers and pending assertion.
C. Information on representative bypass actions.
D. Information forwarded through the group manager on examiners' recommendations for program action or no program action.
6. A return preparer can violate both IRC section 6694 and IRC section 6701, but both penalties may not be assessed with respect to the same document. It is important that coordination between the Return Preparer Program Coordinators and the Lead Development Center (LDC) occur at various stages of the PAC process.
7. Beforea RPC submits a PAC request, they will contact the LDC to determine if an IRC section 6700 or IRC section 6701 investigation has been considered.
A. If an IRC section 6700 or IRC section 6701 investigation is already approved or approval is pending, the RPC will provide support (evidence) to the person conducting the investigation. A PAC will not be requested.
B. If an IRC section 6700 or IRC section 6701 investigation on the preparer is not already approved or pending approval, then the LDC will evaluate the lead. If there is no indication of promoter activity, the LDC will add the preparers name to the database or update an existing record to reflect the preparer penalty investigation. The LDC will then place the RPC's name in the database as the assigned person and the RPC will proceed with the PAC approval process.
C. If an IRC section 6700 or IRC section 6701 investigation on the preparer is not already approved, or pending approval but there is indication of promoter activity, the LDC will review the lead on an expedited basis to determine if an IRC section 6700 promoter investigation is warranted. If so, then the LDC will notify the RPC that the promoter will be approved for an IRC section 6700 or IRC section 6701 investigation and the RPC will not proceed with the PAC.
8. The RPC will contact the local CI return preparer coordinator to avoid any conflict.
9. RPCs get listings of returns prepared by preparers using IDRS command code RPVUE. Both individual and business returns can be identified through RPVUE. See IRM 2.3.63.3, Command Code RPVUE, for further information.
10. If, after these steps, the RPC determines that program action should be initiated, they prepare a summary of all facts indicating the advisability of such action and present it to the Penalty Steering Committee (PSC). The PSC will carefully consider all relevant information to ensure that there is strong evidence of a preparer's alleged negligence, intentional disregard of rules or regulations, unrealistic position, or patterns of willful understatement, before seeking approval to initiate program action. Program action will be limited to abusive cases where information indicates that a return preparer has engaged in a widespread practice of making material errors which demonstrates intentional misconduct or clear incompetence in preparing income tax returns. If there is no PSC, the RPC will make the decision to initiate a request for program action.
11. The PSC/RPC will forward a written request for approval to initiate program action through the PSP Territory Manager to the Area Director.
A. The request will state the number of returns in the sample to be examined. The Area Director will make the final determination, in writing, to approve or disapprove the request for program action.
B. If approved, the RPC will order the participants' returns and screen the returns to determine if they appear to warrant examination. A sample of the returns (10% to a maximum of 30 cases) will be examined, preferably by Tax Compliance Officers (TCO). The TCO will assert IRC section 6694 or IRC section 6695 preparer penalties if applicable. The results of these examinations will be monitored by the RPC and, if appropriate, the remaining returns will be examined by correspondence examination at the Campus. When the volume of returns expected to be generated by the PAC is determined, the RPC should notify the Program Analyst for the Return Preparer Program and the ERS Senior Program Analyst, Headquarters. Based on the results of these examinations, the Area Director will determine whether additional actions are warranted. Under no circumstance will a sample of returns be examined without the written approval of the Area Director.
12. Returns selected for examination under a program action will be clearly identified as Return Preparer Program Action Case and the case file will include all information provided by the RPC. These cases will be assigned to the appropriate examination group by the RPC.
A. The RPC will establish AIMS controls on those cases selected for examination and will be responsible for the disposition of non-selected returns.
B. All returns, including related, prior and subsequent periods, will be established using Aging Reason Code 49 and the appropriate local project code.
C. Examiners should become familiar with the practitioner's method of operation so that they may use their time most effectively. Information provided by the RPC should be helpful in this preparation.
D. Examiners should follow established procedures and standards in considering whether to assert the accuracy-related penalties under IRC section 6662 for program action returns.
13. During the PAC, the RPC will monitor the examinations of the preparer's taxpayers and the assessment of preparer penalties. If applicable, consideration should be given for a subsequent formal referral back to the LDC to initiate an injunction investigation. The request should be considered, if during the PAC, the activity at issue is continuing or likely to recur and one of the following factors are met:
• Five or more IRC section 6694 or IRC section 6695 penalties have been assessed against the preparer during the past two years and the preparer has failed to correct their behavior.
• The preparer's activities are responsible for large dollar losses to the government and/or a large number of returns are impacted.
• The preparer's activities affect more than one Area.
• Any other factor exists that the RPC determines impacts local compliance.
14. Each Area should develop a follow-up system on preparers where penalties, suspension of filing privileges, and/or injunctive actions were undertaken.
. Returns prepared in subsequent periods by these preparers may be evaluated and selected for examination on a sample basis in order to determine the extent of continued compliance or noncompliance.
A. Areas may find it beneficial to use multifunctional site visitation teams to determine compliance of return preparers identified as preparing abusive returns in prior periods. Information obtained by the team may be used to initiate program action on the preparer.
15. If the RPC determines that an injunction may be appropriate, they should consult the Area Abusive Tax Avoidance Transactions (ATAT) Coordinator. The ATAT Coordinator and the RPC will jointly prepare a formal referral to the LDC requesting approval of an IRC section 7407 injunction investigation. See IRM 4.32,Abusive Tax Avoidance Transactions (ATAT), for more information on referrals and injunctions.
20.1.6.1.7 (02-08-2008)
Affidavits
1. An affidavit is a person's written declaration or statement of facts voluntarily made and confirmed by oath or affirmation before a person with authority for administering it. It is taken from any person having knowledge of facts and circumstances relating to a violation of law to document and validate the Service's position in applying sanctions. Affidavits relating to the return preparer program will usually be taken from taxpayers.
2. Affidavits are not used routinely in return preparer cases; however, affidavits are recommended in all cases where the Service may ask the Justice Department to seek an injunction. The affidavit will facilitate the filing of a suit, obtaining a preliminary injunction, and an early hearing. Form 2311, Affidavit, can be used for this purpose. See also IRM 4.16.1.3.2.1, Securing Affidavits.
3. The following items should be identified and incorporated in the affidavit:
A. The judicial district involved.
B. The name, TIN, business and home address, and business and home telephone numbers of the witness.
C. Persons present during the interview and their relation to the investigation.
D. Persons present during the interview and their relation to the investigation.
E. Tax periods involved.
F. Specific portions of the return that are false or fabricated, if any.
4. The affidavit should include other relevant information pertaining to the preparer:
A. Actions taken by the preparer when informed of the client's examination (e.g., preparer offered to supply false documents to support false deductions, the preparer told the client to ignore the IRS, etc.).
B. Experience of the preparer in preparing returns.
C. Education of the preparer.
D. Where the preparer is or was working.
E. How the preparer solicits clients and whether the preparer is currently soliciting clients.
5. Examiners should make the following determinations and also include them in the affidavit:
A. How and when the taxpayer met the person under investigation,
B. The specific information that the taxpayer gave to the person under investigation, and how and when that information was given.
C. Whether the taxpayer signed the return, has seen the return, was provided a copy of the return and had the return explained to them.
D. If the person under investigation was paid and how the fee was determined (e.g., a set fee, percent of the refund, etc.).
E. How the fee was paid (e.g., cash, check, money order, barter, etc.).
F. When the fee was paid (e.g., when the information was provided, after the return was completed, after the refund was received, etc) .
G. Whether the taxpayer asked the preparer to put false items on the return/claim.
20.1.6.1.8 (02-08-2008)
Statute of Limitations
1. The statute of limitations on assessment of penalties depends on the code section:
A. IRC section 6694(a) and IRC section 6695, expires three years from the later of the due date of the underlying related return or the date the return was filed.
B. There is no statute of limitations on assessment for IRC section 6694(b), IRC section 6700, IRC section 6701, IRC section 6708, and IRC section 6713 penalties.
C. If a person required to register a tax shelter failed to file the Form 8264, or its successor, Material Advisor Disclosure Statement, former IRC section 6707(a)(1)(A) penalties may be assessed at any time.
D. Former IRC section 6707(b)(2)(e) penalties for failing to include a tax shelter registration number on a return must be assessed within 3 years of filing the return with the missing identification number.
E. IRC section 6707 penalties (as amended effective 10/22/06) must be assessed within 3 years of the filing of the Form 8264 or its successor.
F. There is no statute of limitations on actions to enjoin preparers or promoters under IRC section 7407 or IRC section 7408.
2. CAUTION: Extending the statute (Form 872) on a taxpayer's return does not extend the statute for the return preparer penalty case.
3. The statute on a return preparer penalty case under IRC section 6694(a) and IRC section 6695 can be extended using Form 872D, Consent to Extend the Time on Assessment of Tax Return Preparer Penalty. (See Rev. Rul. 78245, Limitation Period; Assessment of Return Preparer Penalties.)
4. A transcript of the underlying return that the preparer penalty is based upon should be included in the preparer penalty case file for accurate monitoring of the statute expiration date.
5. Consents should be obtained when the statute of limitations for assessing the preparer penalty will expire within 180 days and there is insufficient time to complete the examination. Also, the statute for assessment must be extended if the preparer requests to go to Appeals and there is less than 180 days remaining on the statute for assessment, when received by Appeals. Ample time for processing is important because deficiency procedures do not apply to preparer and promoter penalties.
6. A separate consent should generally be obtained for each taxable period under consideration, but the related taxpayer returns for which the penalties are applicable can be included on each consent.
7. See IRM 25.6.22.6.15,Preparer Penalty, and IRM 25.6.10.4.1, The Period of Assessment, for further information.
20.1.6.1.9 (02-08-2008)
Processing and Assessment Instructions
1. ) Return preparer penalties are assessed or abated on the Master File Civil Penalty Module using MFT 55 for individual (IMF) returns and MFT 13 for business (BMF) returns.
2. These procedures allow tracking of return preparer penalty assessments or abatements. The information must be input completely and correctly for data on the Return Preparer Penalty Program to be accurate.
20.1.6.1.9.1 (02-08-2008)
Responsibilities
1. Examiners will attach Form 3198, Special Handling Notice for Examination Case Processing, to each penalty case file, identifying it as a return preparer penalty case and referencing the applicable IRC section.
2. In completing Form 8278, Computation and Assessment of Miscellaneous Penalties, originators will enter in red and initial:
A. The applicable statute of limitations on assessment expiration date in Item 6 (or, if applicable, enter No Statute in Item 4), and
B. The date the Form 8278 was completed by the originator in Item 9 or 11.
3. When the same penalties for the same period apply to a preparer for more than one return, and the statute of limitations on the preparer penalty is determined by the statute of limitations for the return, complete Form 8278 using the earliest statute of limitations date. (See IRM 20.1.6.1.8. Statute of Limitations.)
4. When more than one penalty under different IRC sections will be assessed against the same preparer for the same period, a separate Form 8278 has to be completed for each penalty.
20.1.6.1.9.2 (02-08-2008)
Centralized Case Processing (CCP)
1. NOTE: The return preparer penalty account is not established on AIMS.
2. Imminent statute cases will be processed under quick assessment procedures.
3. The following guidelines are used by CCP in establishing name lines:
A. Establishing a civil penalty name line (CVPN) only applies to MFT 55 assessments. Information to otherwise update the entity, such as an address change, must be input prior to establishing the CVPN.
B. IMFOL or a hard copy MFTRA will be requested for all preparer penalty cases (complete entity and all active modules).
C. If the MF name line of the preparer being assessed is joint or ever has been, a CVPN must be established using Form 2363, Master File Entity Change, TC 013, RF 55, (RF 55 informs the terminal operator that only a preparer penalty name line is being established or changed). DO NOT change the name line of the MFT 30 account.
D. If the name line is single, the special action to establish the CVPN is not warranted. The preparer penalty may be assessed directly. MF will automatically extract and establish the penalty name line.
E. If the MFTRA shows no record, then a MF entity must be established using Form 2363, TC 000 (with a mail file requirement of 1 for MFT 55), for the year of the penalty assessment. Input the preparer's complete name and address. This allows the penalty to be assessed.
F. If a penalty is to be asserted for a year prior to when the preparer has filed a return, a MF name line must be established for the year the penalty is to be assessed using Form 2363, TC 013. The penalty may then be assessed. MF will automatically extract and establish the penalty name line.
4. Underline the following entries on Form 8278 in brown pencil to facilitate pick up by remote terminal operators:
• Taxpayer's Name Control.
• Taxpayer Identification Number (TIN).
• MFT Code.
• Taxable Period.
• Transaction Code.
• Reference number.
• Complete the cents column with numbers only (no dash mark is permitted).
• Statute date if notated.
5. A separate Form 8278 has to be completed for each penalty asserted under different IRC sections if more than one applies to the same preparer for the same period. If the instructions in IRM 20.1.6.1.9.1 , Responsibilities, above have not been observed, return the case file to the originator for completion. When multiple penalties apply to the same preparer for the same period:
. Input the first penalty to be assessed using blocking series 52X.
A. Input subsequent penalties using blocking series 53X.
B. Annotate Form 8278 with the correct blocking series opposite each penalty to facilitate terminal input.
C. With blocking series 53X, CP Notice 55 will be generated to alert the Campus to associate Forms 5147, IDRS Transaction Record, for subsequent penalty assessments with the penalty case file containing the input and source documents.
6. IRC sections and reference numbers for return preparer penalties on the Civil Penalty Module are on Form 8278, Computation and Assessment of Miscellaneous Penalties.
. Form 8278 completed by the examiner is an adjustment document. The assessments and abatements will be input to Master File (MF) through IDRS using Command Code ADJ54, Transaction Code (TC) 290 with a zero amount, the appropriate three digit reference number, and the amount of the penalty. Reference numbers must be input correctly in all instances in order to track related data.
A. An assessment generates a TC 240 and an abatement generates a TC 241 to MF with the respective reference number of the penalty adjustment. TC 290 is only a carrier transaction and will not post to MF. The reference numbers generate a notice to the preparer which explains assessment and appeal rights.
7. After terminal input, all preparer penalty case files with Form 8278 will be forwarded to Campus files function to be associated with Form 5147, IDRS Transaction Record.
20.1.6.1.10 (02-08-2008)
e-file Program (Formerly Electronic Filing Program (ELF))
1. Preparers in the e-file Program (formerly Electronic Filing Program (ELF)) must meet standards reflected in Rev. Proc. 200560, 200535, I.R.B. 449, Publication 1345, Handbook for Authorized IRS e-file Providers , and Publication 1345A, Filing Season Supplement for Authorized IRS e-file Providers. Since penalties asserted against preparers are a factor in determining suitability for the e-file Program, Return Preparer Coordinators will notify Electronic Filing Coordinators (EFC) of all penalties asserted on return preparers.
2. Section 6 of Rev. Proc. 2005-60 broadly defines the applicability of return preparer penalties for those participating in the e-file Program: . . .the Service may assert all appropriate preparer, non-preparer, and disclosure penalties against an Authorized IRS e-file Provider as warranted under the circumstances.
3. Area offices may establish multi-functional teams to visit electronic filers to determine their compliance with the e-file program procedures. A team approach is preferred if resources are available. A team consists of two (2) representatives who may be from Examination. Examiners who participate on these teams charge their time to Activity Code 522/000.
4. See IRM 3.42.1, Overview of Electronic Tax Administration (ETA) Programs,for more information on the e-file Program.
20.1.6.1.11 (02-08-2008)
Third Party ContactsIRC Section 7602(c) cross reference IRM 4.32.2.7.3.2
1. RRA 98 created IRC section 7602(c), Notice of Contact of Third Parties, to require that before Service employees initiate contact with third parties for the determination or collection of a taxpayer's tax liability, the taxpayer must be given reasonable notice in advance that third parties may be contacted. IRC section 7602(c) also requires the Service to make a record of persons contacted and provide that record to the taxpayer both periodically and upon the taxpayer's request. See IRM 4.10.1.6.12, Third Party Contacts - Background, and IRM 5.1.17, Third Party Contacts, for general Examination procedures on third party contacts. In certain situations the notice and recordkeeping requirements of IRC section 7602(c) may apply to contacts made to determine the applicability of return preparer penalties because these penalties are treated as a tax under IRC section 6671, Rules for Application of Assessable Penalties. When IRC section 7602(c) applies is indicated below with reference to specific Code provisions.
2. IRC section 6695 (a) and (f)During a routine examination, mandatory pro forma inquiries addressed to the taxpayer regarding the preparer's compliance with IRC section 6695(a) and (f) are not third party contacts.
A. The notice requirements of IRC section 7602(c) are not immediately triggered if the taxpayer's response to pro forma questions asked as part of a routine examination provides a basis for conducting a preparer penalty investigation.
B. If the taxpayer indicates that the preparer did not provide a copy of the return and/or the preparer negotiated the refund check, examiners should briefly confirm and record the response, discontinue inquiry on the issue, and continue with the examination of the return. Contact the preparer to determine if IRC section 6695(a) and/or (f) penalties apply. If further contact with the taxpayer regarding the determination of a preparer penalty is necessary, issue Letter 3164N (DO), Third Party Contact to Preparers, to the preparer before re-contacting the taxpayer. Notification is now required since contact with the taxpayer is a third party contact with respect to a determination of the preparer's liability for a penalty.
3. IRC section 6695(g), Failure To Be Diligent in Determining Eligibility for Earned Income Credit . Compliance visits with preparers to determine the due diligence requirement for the earned income credit are not third party contacts.
4. IRC section 6694, Understatement of Taxpayer's Liability by Income Tax Return Preparer . During routine examinations, the preparer penalty issue under IRC section 6694 is usually not subject to third party notification and recordkeeping requirements.
A. Criteria for applying IRC section 6694 penalties - unrealistic positions, willful attempts to understate the liability, reckless or intentional disregard of rules and regulationsare decided by the character of the adjusted return positions and the preparer's part in the noncompliance.
B. Information on the applicability of preparer penalties is often a by-product of an examination and does not always require examiners to directly address the taxpayer as a third party for information on the preparer's conduct. The notice requirements of IRC section 7602(c) are not immediately triggered by a taxpayer's response that provides a basis for conducting a preparer penalty investigation. For example, in order to account for an erroneous return position and determine if an IRC section 6662 penalty applies against the taxpayer, examiners may ask taxpayers what information was given to the preparer and to what extent the preparer was informed of all relevant, underlying facts.
C. Information from the taxpayer in response to a proposed IRC section 6662 penalty may indicate that the advice exception applies. (See Treas. Reg.1.66644(c) and IRM 20.1.5.6.2,Reliance on Advice.) Any contact with preparers to determine the applicability of the taxpayer's penalty is a third party contact. Mail Letter 3164 to the taxpayer prior to any additional contacts with the preparer and record the contact on Form 12175, Third Party Contact Report Form.
D. The notice and recordkeeping requirements come into effect whenever examiners address taxpayers as a third party, i.e., whenever the examiner directly asks the taxpayer for information needed for making a determination on the preparer's liability for a penalty. Before an inquiry of that character is initiated, examiners must issue Letter 3164 N (DO) to the preparer and then re-contact the taxpayer. Record the contact on Form 12175.
5. Program action. Examination contacts with program action taxpayers are considered third party contacts for purposes of making penalty determinations for the related preparer. Letter 3164 N (DO) must be issued to the preparer after the return preparer project is approved and before the related taxpayers are first contacted for examinations. See IRM 20.1.6.1.6. Program Action Cases, for program action guidelines and paragraph (10) below. Contacts with each related taxpayer must be documented on Form 12175.
6. Criminal investigations.
A. Examiners may conduct examinations of program action taxpayers (following procedures in paragraph (5) above) regarding civil issues at the same time that special agents are independently conducting a criminal investigation of the related preparer.
B. The pending criminal investigation exception under IRC section 7602(c)(3)(C) applies to third party contacts made by special agents in CI. It also applies to examiners or other Service personnel while working under CI and assisting in a criminal investigation.
7. IRC section 6700 and IRC section 6701. Contact with third parties for the purpose of:
A. Investigating persons described in IRC section 6700(a) who may be subject to a tax shelter promoter penalty, and
B. Investigating IRC section 6701 penalties on aiding and abetting the understatement of a tax liability are third party contacts and are subject to IRC section 7602(c) requirements. As such, Letter 3164-P (DO) must be issued and each contact must be documented on Form 12175.
8. IRC section 6713, Disclosure or Use of Information by Preparers of Returns . A violation regarding the prohibition on a preparer's disclosure of tax return information is almost always brought to the attention of the Service by the affected taxpayer. The unsolicited receipt of information from a third party is not initiated by the IRS and is not subject to IRC section 7602(c) notification or reporting requirements.
9. IRC section 7407, Action to Enjoin Income Tax Return Preparers, and IRC section 7408, Action to Enjoin Specific Conduct Related To Tax Shelters and Reportable Transactions. Actions to enjoin income tax return preparers and to enjoin promoters of abusive tax shelters, etc., are legal proceedings to prohibit certain conduct and are not to determine or collect tax liabilities. Therefore, IRC section 7602(c) does not apply to the action to enjoin nor to referrals to Area Counsel or the Department of Justice. However, the underlying investigative actions requiring third party contacts, such as certain contacts under paragraphs (2), (4), (5), and (7) above, are subject to IRC section 7602(c) requirements.
10. General considerations.
A. Mail Letter 3164 to the last known address. If Letter 3164 is returned undeliverable and a correct current address is located, update Master File with the correct address and reissue Letter 3164 .
B. Wait ten calendar days after issuing Letter 3164 before contacting the third party.
C. Letter 3164 may be issued in person. In these cases, the third party contacts may be made immediately.
20.1.6.2 (02-08-2008)
Office of Professional Responsibility
1. The Office of Professional Responsibility is responsible for overseeing:
A. The Circular 230 rules governing practitioners (i.e., attorneys, certified public accountants, enrolled agents, enrolled actuaries, and other persons representing clients before the Service), and
B. The rules relating to authority to practice before the Service, and the duties, restrictions, and disciplinary action that pertain to such practice.
2. The Office of Professional Responsibility also helps ensure the cooperation and integrity of the practitioner community in the overall field of tax administration.
20.1.6.2.1 (02-08-2008)
Referral to the Office of Professional Responsibility- Cross Reference IRM 4.32.2.12.4.2
1. When the following penalties are asserted against a practitioner, an information referral to the Office of Professional Responsibility (OPR) is mandatory:
A. IRC section 6694(a), Understatements Due to Unrealistic Positions, and IRC section 6694(b), Willful or Reckless Conduct, penalties when closed agreed by examiners, sustained in Appeals, or closed without Appeal contact.
B. IRC sections 6695(f),Negotiation of Check.
C. IRC section 6700 and IRC section 6701, penalties when proposed.
2. A referral is discretionary for IRC section 6695(a) through (e) penalties. Normally referrals will be made if there are a number of similar penalties asserted against the same practitioner, because this could indicate reckless conduct or lack of competence.
3. Federal courts have the authority to permanently prohibit individuals from practicing before the IRS. This usually results from an IRC section 6700 or IRC section 6701 investigation. Examiners assigned promoter investigations should contact the Office of Professional Responsibility and coordinate any additional actions with it.
4. Section 10.53(a) of Treasury Department Circular No. 230 requires Service employees to make a written report to the Office of Professional Responsibility when there is reason to believe that a tax practitioner has violated the rules in the Circular. When disciplinary action is deemed appropriate, the report will include sufficient detail, documentation, and exhibits to substantiate the character and extent of the violation.
5. Examiners may use Form 8484, Report of Suspected Practitioner Misconduct, as the written report for Circular 230 action. Using this form is optional. A written report may be made in any other format, but it must contain all the information required by this form. The report is sent directly to OPR, with a copy to the local Return Preparer Coordinator. There is no Area Director approval authority required for an OPR referral. The referral will be transmitted by memorandum explaining the preparers conduct, whether an appeal will be made, and to what extent the preparer normally practices before the Service.
6. Mail or Fax the referral to the Office of Professional Responsibility at:
IRS/Office of Professional Responsibility
SE:OPR
Attn: Misconduct Reports Desk
1111 Constitution Avenue, NW
Washington, D.C. 20224
Fax: 202-622-2207
20.1.6.3 (02-08-2008)
Preparer Conduct Penalties:IRC Section 6694
1. Note: IRC 6694 was amended by The Small Business and Work Opportunity Act of 2007 (SBWOA) which was enacted into law on May 25, 2007, for tax returns prepared after May 25, 2007. SBWOA extended the application of the income tax return preparer penalties to all tax return preparers, altered the standards of conduct, and increased applicable penalties. This IRM was written prior to the release of the related Regulations; therefore, this IRM does not include information on IRC section 6694 pertaining to returns filed after May 25, 2007.
2. Criteria for imposition of the IRC section 6694(a) penalty :
A. The individual was an income tax return preparer.
B. There must be an understatement of income tax liability.
C. The understatement must be due to a position that has no realistic possibility of being sustained on the merits and the income tax return preparer knew or reasonably should have known of such position.
D. There was no adequate disclosure on the return or it was a frivolous position.
E. There was no reasonable cause and good faith.
3. Criteria for imposition of the IRC section 6694(b) penalty:
A. The individual was an income tax return preparer.
B. There must be an understatement of income tax liability, and
C. The understatement must be due to a willful attempt to understate the income tax liability or due to any reckless or intentional disregard of rules or regulations.
4. When Both IRC section 6694(a) and IRC section 6694(b) Penalties Apply. If both penalties apply to a preparer, the IRC section 6694(b) penalty amount must be reduced by the IRC section 6694(a) penalty amount. Therefore, examiners should ensure that the combined assessment of IRC section 6694(a) and (b) penalties against a preparer do not exceed $1,000 with respect to one return or claim for refund.
5. Burden of Proof for IRC Section 6694(a) Penalty
The preparer bears the burden of proof on issues such as:
A. Whether the preparer knew or reasonably should have known that the questioned position was taken on the return or claim for refund.
B. Whether there is reasonable cause and good faith with respect to the position.
C. Whether the position was adequately disclosed. (Treas. Reg.1.66942(e).
6. Burden of Proof for IRC Section 6694(b) Penalty:
The IRS bears the burden of proof on the issue of whether the preparer willfully attempted to understate the income tax liability. The preparer bears the burden of proof on issues such as:
A. Whether the preparer recklessly or intentionally disregarded a rule or regulation.
B. Whether a position contrary to a regulation represents a good faith challenge to the validity of the regulation.
C. Whether disclosure was adequately made. (Treas. Reg. 1.66943(h)
20.1.6.3.1 (02-08-2008)
Coordination with Other Penalties
1. Although IRC section 6694 and IRC section 6701 set different standards for imposition of each penalty, in some instances both penalties could apply. IRC section 6701(f) provides that a penalty under IRC section 6694 may not be assessed if a penalty has already been assessed under IRC section 6701. This provision allows the Service to choose which penalty to assert if both apply to a set of facts, but prohibits the Service from assessing penalties under both sections for the same document.
2. The preparer penalties imposed by IRC section 6694(b) and 6701 require different activities as grounds for assertion. Thus, the penalty under IRC section 6701 may apply in cases in which the IRC section 6694(b) penalty would not apply and vice versa.
3. As with all income tax examinations, examiners should consider whether IRC section 6662 accuracy-related penalties are applicable to a taxpayer. Assertion of the penalty under IRC section 6694 against an income tax preparer does not preclude assertion of the penalty against a taxpayer under IRC section 6662.
4. IRC section 6695, Other Assessable Penalties With Respect to the Preparation of Income Tax Returns for Other Persons, identification penalties can be asserted in conjunction with IRC section 6694 conduct penalties.
20.1.6.3.2 (02-08-2008)
Who Asserts the Penalty
1. Area examiners have responsibility for asserting IRC section 6694 penalties.
20.1.6.3.3 (02-08-2008)
Asserting the IRC Section 6694 Penalties
1. Income tax return preparer penalty cases are the key enforcement vehicle for identifying and penalizing noncompliant preparers. In preparer penalty cases, the Service focuses on the conduct of the preparer rather than the taxpayer and determines if that conduct warrants penalties. If preparer penalty cases are not opened, preparer misconduct may not be identified and penalized, and return preparer coordinators may not have the information necessary to identify patterns of noncompliance and initiate program action cases. However, in conformity with Policy Statement P-201 examiners will not automatically assess preparer penalties based solely on a determination of deficiency proposed in a related taxpayer's examination. Examiners will ensure that preparer penalties are used for their proper purpose and not as an automatic and mechanical component of the examination process.
2. During every field and office examination, examiners will determine if an income tax return preparer conduct violation exists. If there are indications of misconduct, examiners should open a preparer penalty case to determine if sanctions against the preparer are warranted. In this regard:
A. Each income tax examination is separate and distinct from the return preparer violation case relating to the income tax examination.
B. Examiners will not propose or discuss conduct penalties per se in the presence of the taxpayer.
C. During an income tax examination, examiners will make inquires, as warranted, to develop facts and circumstances to determine whether or not a preparer penalty case should be opened.
D. Generally, no return preparer penalty will be proposed until the income tax examination is completed at the group level. Where practical, the preparer case may remain open after completing the income tax case. However, if the preparer case is inseparable from the income tax examination, both cases may be closed together. If the income tax case is unagreed, the examiner may pursue the preparer penalty after the unagreed income tax case is submitted at the group level.
E. The determination on and settlement of the income tax examination will at all times proceed without regard to the return preparer penalty issue.
F. CAUTION: On Forms 4318, Examination Workpapers Index, and Form 4700, Supplement, examiners should only document the fact that the required inquiries on the return preparer issues were completed. The taxpayer's answers to these inquiries should not be written on Forms 4318 and 4700A nor should they be included in any other workpapers in the taxpayer's case file. All information on the return preparer's activities and the applicability of any penalties relating to the return preparer should be separated from the taxpayer's case file. If the information were included in the case file, it would be disclosed to the taxpayer if the taxpayer requested a copy of the case file. This would constitute an IRS disclosure violation, since information regarding the return preparer's liability for taxes is confidential.
20.1.6.3.3.1 (02-08-2008)
Understatements Due to Unrealistic Positions
1. Note: IRC 6694 was amended by The Small Business and Work Opportunity Act of 2007 (SBWOA) which was enacted into law on May 25, 2007, for tax returns prepared after May 25, 2007. SBWOA extended the application of the income tax return preparer penalties to all tax return preparers, altered the standards of conduct, and increased applicable penalties. This IRM was written prior to the release of the related Regulations; therefore, this IRM does not include information on IRC section 6694 pertaining to returns filed after May 25, 2007.
2. A preparer is subject to penalty under IRC section 6694(a) if any part of any understatement of liability with respect to any return or claim for refund is due to a position for which there is not a realistic possibility of being sustained on its merits.
3. A position is considered to have a realistic possibility of being sustained on its merits if a reasonable and well-informed analysis by a person knowledgeable in tax law would lead such a person to conclude that the position has approximately a one in three, or greater, likelihood of being sustained on its merits (realistic possibility standard). See Treas. Reg. 1.66942(b)(3) and IRM 20.1.6.3.5 for examples of the application of the realistic possibility standard.
4. The penalty under IRC section 6694(a) will not be imposed if, considering all the facts and circumstances, it is determined that the understatement was due to reasonable cause and that the preparer acted in good faith. See Treas. Reg. 1.66942(d) for factors to consider when determining reasonable cause and good faith.
5. Examples of IRC Section 6694(a) Penalty Application
A. Note: IRC 6694 was amended by The Small Business and Work Opportunity Act of 2007 (SBWOA) which was enacted into law on May 25, 2007, for tax returns prepared after May 25, 2007. SBWOA extended the application of the income tax return preparer penalties to all tax return preparers, altered the standards of conduct, and increased applicable penalties. This IRM was written prior to the release of the related Regulations; therefore, this IRM does not include information on IRC section 6694 pertaining to returns filed after May 25, 2007.
B. Example 1. A new statute is unclear as to whether a certain transaction that a taxpayer has engaged in will result in favorable tax treatment. Prior law, however, supported the taxpayer's position. There are no regulations under the new statute and no authority other than the statutory language and committee reports. The committee reports state that the intent was not to adversely affect transactions similar to the taxpayer's transaction. The taxpayer's position satisfies the realistic possibility standard.
C. Example 2. A taxpayer has engaged in a transaction that is adversely affected by a new statutory provision. Prior law supported a position favorable to the taxpayer. The preparer believes that the new statute is inequitable as applied to the taxpayer's situation. The statutory language is unambiguous as it applies to the transaction (e.g., it applies to all manufacturers and the taxpayer is a manufacturer of widgets). The committee reports do not specifically address the taxpayer's situation. A position contrary to the statute does not satisfy the realistic possibility standard.
D. Example 3.The facts are the same as in Example 2, except the committee reports indicate that Congress did not intend to apply the new statutory provision to the taxpayer's transaction (e.g., to a manufacturer of widgets). Thus, there is a conflict between the general language of the statute, which adversely affects the taxpayer's transaction, and a specific statement in the committee reports that transactions such as the taxpayer's are not adversely affected. A position consistent with either the statute or the committee reports satisfies the realistic possibility standard. However, a position consistent with the committee reports constitutes a disregard of a rule or regulation and, therefore, must be adequately disclosed in order to avoid an IRC section 6694(a) penalty.
E. Example 4. The instructions to an item on a tax form published by the Internal Revenue Service are incorrect and are clearly contrary to the regulations. Before the return is prepared, the Internal Revenue Service publishes an announcement acknowledging the error and providing the correct instruction. Under these facts, a position taken on a return which is consistent with the regulations satisfies the realistic possibility standard. On the other hand, a position taken on a return which is consistent with the incorrect instructions does not satisfy the realistic possibility standard. However, if the preparer relied on the incorrect instructions and was not aware of the announcement or the regulations, the reasonable cause and good faith exception may apply depending on all facts and circumstances. See Treas. Reg. 1.66942(d).
F. Example 5. A statute is silent as to whether a taxpayer may take a certain position on the taxpayer's 2003 Federal income tax return. Three private letter rulings issued to other taxpayers in 2000 and 2001 support the taxpayer's position. However, proposed regulations issued in 2002 are clearly contrary to the taxpayer's position. After the issuance of the proposed regulations, the earlier private letter rulings cease to be authorities and are not taken into account in determining whether the taxpayer's position satisfies the realistic possibility standard. See Treas. Reg.1.66942(b)(2) and Treas. Reg.1.66624(d)(3)(iii). The taxpayer's position may or may not satisfy the realistic possibility standard, depending on an analysis of all the relevant authorities.
G. Example 6. In the course of researching whether a particular position has a realistic possibility of being sustained on its merits, a preparer discovers that a taxpayer took the same position on a return several years ago and that the return was audited by the Service. The taxpayer tells the preparer that the examiner who conducted the examination was aware of the position and decided that the treatment on the return was correct.
Note:
The determination by the examiner is not authority for purposes of the realistic possibility standard. However, the preparer's reliance on the examiner's determination in the examination may qualify for the reasonable cause and good faith exception depending on all facts and circumstances. See Treas. Reg.1.66942(d). Also see Treas. Reg.1.66942(b)(4) and 1.66624(d)(3)(iv)(A) regarding affirmative statements in an examiner's report.
H. Example 7. In the course of researching whether an interpretation of a phrase incorporated in the IRC has a realistic possibility of being sustained on its merits, a preparer discovers that identical language in the taxing statute of another jurisdiction (e.g., a state or foreign country) has been authoritatively construed by a court of that jurisdiction in a manner which would be favorable to the taxpayer, if the same interpretation were applied to the phrase applicable to the taxpayer's situation.
Note:
The construction of the statute of the other jurisdiction is not authority for purposes of determining whether the position satisfies the realistic possibility standard. See Treas Reg.1.66942(b)(2) and Treas. Reg.1.66624(d)(3)(iii). However, as in the case of conclusions reached in treatises and legal periodicals, the authorities underlying the court's opinion, if relevant to the taxpayer's situation, may give a position favorable to the taxpayer a realistic possibility of being sustained on its merits. See Treas. Reg.1.66942(b)(2) and Treas. Reg.1.66624(d)(3)(iii).
I. Example 8. In the course of researching whether an interpretation of a statutory phrase has a realistic possibility of being sustained on its merits, a preparer discovers that identical language appearing in another place in the Internal Revenue Code has consistently been interpreted by the courts and by the Service in a manner which would be favorable to the taxpayer, if the same interpretation were applied to the phrase applicable to the taxpayer's situation.
Note:
No authority has interpreted the phrase applicable to the taxpayer's situation. The interpretations of the identical language are relevant in arriving at a well reasoned construction of the language at issue, but the context in which the language arises also must be taken into account in determining whether the realistic possibility standard is satisfied.
J. Example 9. A new statutory provision is silent on the tax treatment of an item under the provision. However, the committee reports explaining the provision direct the Treasury to issue regulations interpreting the provision in a specified way. No regulations have been issued at the time the preparer must recommend a position on the tax treatment of the item, and no other authorities exist. The position supported by the committee reports satisfies the realistic possibility standard.
K. IRC section 6694(a) examples are from Treas. Reg. 1.66942(b)(3).
20.1.6.3.3.2 (02-08-2008)
Understatement Due To Willful or Reckless Conduct
1. Note: IRC 6694 was amended by The Small Business and Work Opportunity Act of 2007 (SBWOA) which was enacted into law on May 25, 2007, for tax returns prepared after May 25, 2007. SBWOA extended the application of the income tax return preparer penalties to all tax return preparers, altered the standards of conduct, and increased applicable penalties. This IRM was written prior to the release of the related Regulations; therefore, this IRM does not include information on IRC section 6694 pertaining to returns filed after May 25, 2007.
2. A preparer is subject to penalty under IRC section 6694(b) if any part of any understatement of liability with respect to any return or claim for refund is due to a willful attempt by the preparer to understate the liability for tax, or to the preparer's reckless or intentional disregard of rules or regulations. See Treas. Reg. 1.66943(d) and IRM 20.1.6.3.6 for examples of the application of these standards.
3. Examples of IRC Section 6694(b) Penalty Application
A. Note: IRC 6694 was amended by The Small Business and Work Opportunity Act of 2007 (SBWOA) which was enacted into law on May 25, 2007, for tax returns prepared after May 25, 2007. SBWOA extended the application of the income tax return preparer penalties to all tax return preparers, altered the standards of conduct, and increased applicable penalties. This IRM was written prior to the release of the related Regulations; therefore, this IRM does not include information on IRC section 6694 pertaining to returns filed after May 25, 2007.
B. Example 1. A taxpayer provided a preparer with detailed check registers reflecting personal and business expenses. One of the expenses was for domestic help, and this expense was identified as personal on the check register. The preparer knowingly deducted the expenses of the taxpayer's domestic help as wages paid in the taxpayer's business. The preparer is subject to the penalty under IRC section 6694(b).
C. Example 2. A taxpayer provided a preparer with detailed check registers to compute the taxpayer's expenses. However, the preparer knowingly overstated the expenses on the return. After adjustments by the examiner, the tax liability increased significantly. Because the preparer disregarded information provided in the check registers, the preparer is subject to the penalty under IRC section 6694(b).
D. Example 3. A revenue ruling holds that certain expenses incurred in the purchase of a business must be capitalized. The Code is silent as to whether these expenses must be capitalized or may be deducted currently, but several cases from different courts hold that these particular expenses may be deducted currently. There is no other authority.
Note:
Under these facts, a position taken contrary to the revenue ruling on a return or claim for refund is not a reckless or intentional disregard of a rule, since the position contrary to the revenue ruling has a realistic possibility of being sustained on its merits. Therefore, the preparer will not be subject to a penalty under IRC section 6694(b) even though the position is not adequately disclosed.
E. Example 4. Final regulations provide that certain expenses incurred in the purchase of a business must be capitalized. One Tax Court case has expressly invalidated that portion of the regulations. Under these facts, a position contrary to the regulation will subject the preparer to an IRC section 6694(b) penalty even though the position may have a realistic possibility of being sustained on its merits. However, because the contrary position on these facts represents a good faith challenge to the validity of the regulations, the preparer will not be subject to an IRC section 6694(b) penalty if the position is adequately disclosed in the manner provided in Treas. Reg. 1.66943(e).
F. IRC section 6694(b) examples are from Treas. Reg. 1.66943(d).
Labels: Internal Revenue Manual on 694 penalties
