Section 6694(b) penalty easy to apply by IRS

The $5,000 penalty will apply under §6694(b)and §1.6694-3(c) for "reckless" disregard of the relevant authority.

The term "reckless" is also used in section 6662(c) in connection with the definition of "negligence." Section 1.6694-3(c) does not clearly define the term "reckless." Note that section 6662(c) uses the term "careless" along with the word "reckless" is a way that equalizes the two terms.

6662(c) NEGLIGENCE. --

For purposes of this section, the term "negligence" includes any failure to make a reasonable attempt to comply with the provisions of this title, and the term "disregard" includes any careless, reckless, or intentional disregard.

§1.6662-3(b)(2) of the regulations states that the term "disregard" includes any careless, reckless or intentional disregard of rules or regulations. The term "rules or regulations" includes the provisions of the Internal Revenue Code, temporary or final Treasury regulations issued under the Code, and revenue rulings or notices (other than notices of proposed rulemaking) issued by the Internal Revenue Service and published in the Internal Revenue Bulletin. A disregard of rules or regulations is "careless" if the taxpayer does not exercise reasonable diligence to determine the correctness of a return position that is contrary to the rule or regulation. A disregard is "reckless" if the taxpayer makes little or no effort to determine whether a rule or regulation exists, under circumstances which demonstrate a substantial deviation from the standard of conduct that a reasonable person would observe.

As I read these rules, if a return preparer is careless in research of an authoritative position, that person is careless or reckless and subject to the $5,000 penalty if the return preparer not not find a relevant IRS "rule" (which could be a position in the Internal Revenue Manual.

If the return preparer is "careless" or "reckless" by missing a position that should have been disclosed by a "reasonable person," the "reasonable basis" standard of 6694(a) DOES NOT APPLY. When dealing with 6694(b) the key issue is a very low threshold of conduct. Any missed technical authority can be viewed as "careless" or "reckless." Another way to make this point is that 6694(b) trumps 6694(a), an obvious point. But the point of this blog is that it will be easier for the IRS to apply the $5,000 penalty than the $1,000 penalty because it is easier for the IRS to find a return preparer is careless or releckess than challange the reasonabl basis standard used under 6694(a) for disclosed posiitons.

It will be easier for an IRS examiner to go after the $5,000 penalty under section 6694(b) than the $1,000 penalty under 6694(a) because "careless" and "reckless" is a low threshold. The proposed regulations cannot resolve this problem. The 6694(b) statute uses the word "reckless" and only a change to the statute can cure this statutory loophole for the IRS that makes it easier to trigger the 6694(b) penalty over the 6694(a) penalty. When dealing with 6694(a), one can cite any relevant authority are then argue they have met the "reasonable basis" standard. This is not the case with 6694(b) where one can miss some authority and be viewed as "careless" or "reckless" by missing some authority.

For example, one circuit court case in your circuit might be more relevant than a case in another circuit. A reasonable person would have been able to find the more relevant case. In this situation the return preparer can easily be accused of being reckless or careless under 6694(b) but also meet the 6694(a) reasonable basis standard. I do not believe the drafters of the proposed regulations have addressed this conflict nuance between the two subsections of 6694.

The other important point is that the 6694(b) statute requires FULL RESEARCH AND ANALYSIS OF THE RELEVANT AUTHORITY in order to avoid being accused of being careless or reckless. Any incomplete disclosure of the relevant auhority can easily be challanged as careless or reckless using the "reasonable person" standard.

How does one determine what a "reaonable person" would do? It is a facts and circumstnaces test. This is a subjecttive test rather than an objective test in measuring whether the conduct of the return preparer has been careless or reckless.

This issue is likely to be a nightmare for the return preparer industry because of inherent "careless" or "reckless" conduct ambiguties in all disclosed positions.

If anyone wants to challange the above, open up a discussion on this issue in the reply to this blog or e-mail me at ab@irstaxattorney.com.