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Tax Practice and Administration: Sanctions, Agreements, and Disclosures

Tax Practice and Administration: Sanctions, Agreements, and Disclosures. Chapter 13. Tax Penalties. Voluntary Compliance vs. Revenue Production. Penalties. (Civil). Penalties. Characterized by statute as “addition to tax;” as such, are not deductible Imposed when statutes are violated

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Tax Practice and Administration: Sanctions, Agreements, and Disclosures

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  1. Tax Practice and Administration:Sanctions, Agreements, and Disclosures Chapter 13

  2. Tax Penalties Voluntary Compliance vs. Revenue Production

  3. Penalties (Civil)

  4. Penalties • Characterized by statute as “addition to tax;” as such, are not deductible • Imposed when statutes are violated • Without reasonable cause • As a result of • Negligence, or • Intentional disregard, or • Willful disobedience, or • Fraud

  5. But, first …… Preparer Penalties

  6. Preparer Penalties • An Income Tax Return Preparer (affectionately - ITRP) is defined in IRC §7701: • > Any person who prepares, • Or employs one or more people to prepare, • > All or a substantial part of a return, • Or claim for income tax refund, • > for compensation

  7. Return Preparer Definition (cont’d) • “Substantial portion of return” – obviously a relative term, but • Regulations help to define: • If entry on return > $2,000, or • > $100,000, and • > 20 % of • gross income (AGI of individual) shown on return, then • the item is not substantial Reg. §301.7701-15(b)(2)

  8. Preparer Penalties (cont’d) • IRTP includes • Tax advisers • Planners • Software designers • Consultants even though they may only review the return, or give TP sufficient advice to complete return or claim for refund

  9. Preparer Penalties (cont’d) • Definition includes – anyone who provides a taxpayer with “sufficient information and advice so that the completion of the return or claim for refund is largely a mechanical matter.” • §301.7701-15(a)(1)

  10. Preparer Penalties (Civil)

  11. §6695 Disclosure Penalties ITRP’s Beware $50 each occurrence (return) • On employer and/or ITRP if TP is not given complete copy of return upon presentation for signature • On employee ITRP if he/she fails to sign return • On employer, if TIN of preparer or employer, or both, not on return

  12. §6695 Disclosure Penalties (cont’d) • On employer and/or ITRP if he/she does not retain a copy of each return prepared • On employer of ITRP for each failure to • Retain • and for each item omitted - for each ITRP employed for year beginning July 1 of each year: (1) Name, - (2) TIN – (3) Place of work

  13. §6695 Disclosure Penalties (cont’d) Maximum §6695 disclosure penalty - $25,000

  14. §6694 Conduct Penalties • Endorsing or negotiating a refund check - $500 [§6695(F)]

  15. §6694 Conduct Penalties (cont’d) • Understatement due to unrealistic position - $250 [§6694(a)] • No realistic possibility that position will be sustained on merits • Waived if position disclosed on return • Also applies if TP provided info appears incomplete or inadequate, and preparer fails to make adequate inquiry

  16. §6694 Conduct Penalties (cont’d) Realistic Possibility – reasonable and well-informed analysis by person knowledgeable in tax law would conclude there is a one-in-three likelihood the position would be upheld on its merits

  17. §6694 Conduct Penalties (cont’d) • Willful understatement - $1,000 [§6694(b)] • Willfully understates, or • Recklessly or intentionally disregards IRS rules and regulations

  18. §6694 Conduct Penalties (cont’d) • Organizing abusive tax shelters • Organizing • Participates in a sale • Furnishes a statement regarding an expected tax benefit that the person knows or has reason to know is either false or fraudulent, or a gross valuation understatement

  19. §6694 Conduct Penalties (cont’d) • Aiding and Abetting Understatement - $1,000 ($10,000 for corporations) [§6701(a)] • Aids, assists, procures, advises, in the prep or presentation of any return or claim, knowing it will be used in any material matter and will result in understatement of another person’s tax liability.

  20. Preparer Penalties (Criminal)

  21. Criminal Conduct Penalty • Aiding or Assisting in Prep of False Return, a felony– up to $100,000 ($500,000 for corporations) + up to 3 years imprisonment - §7206 • (Criminal equivalent to civil §6701 Aiding and Abetting penalty)

  22. Criminal Conduct Penalty (cont’d) • For willfully aiding or assisting in the prep of a return or other document that is false as to any material matter • Preparer may include any person that supplies false info used in the prep of a return

  23. Criminal and Civil Conduct Penalty • Disclosure or Use of Info by Return Preparer – civil - $250, $10,000 max per year - §6713 - for disclosure or use of tax return info for other than preparing the tax return • Criminal misdemeanor – up to $1,000 + imprisonment if knowingly or recklessly so uses - §7216

  24. Civil / Criminal Penalties • Remember, if convicted of a criminal act and subjected to a criminal penalty, may and probably will also be subject to the civil equivalent

  25. Action to Enjoin • IRS may seek injunction against ITRP to prohibit him/her from practicing as ITRP (§7407) • Preparer must have: • Violated preparer penalty or criminal provision of IRC • Misrepresented his/her eligibility to practice before the IRS • Guaranteed payment of any tax refund or credit • Engaged in other fraudulent or deceptive conduct

  26. Action to Enjoin (cont’d) • IRS may also obtain an injunctions against a person guilty of promoting abusive tax shelters, or of aiding and abetting an understatement of tax liability, to prohibit him/her from engaging in such conduct or activities (§7408)

  27. Taxpayer Penalties (Civil)

  28. Failure to File Penalty - §6651 • Civil– 5% per month or fraction, maximum 25%. • Reasonable cause applies • Burden of proof on TP • Criminal – 15% per mo. or fraction- max of 75%

  29. “Reasonable Cause” • No statutory definition • Courts – “whether an ordinary, intelligent person would act in the same manner as did the taxpayer in similar circumstances” • The following “need not apply” • Lack of funds to pay tax • Records lost or destroyed • TP incarcerated • Etc.

  30. Failure to Pay Penalty - §6651 • .5% per month until IRS Notice and Demand if paid w/in 10 days (21 days if tax >$100,000); if not paid, becomes 1% per month. Max – 25% • Reasonable cause applies • This penalty reduces the Failure to File penalty by the same amount, so that there is no more than a 5% penalty for any given month

  31. Accuracy Related Penalty - §6662 20% of the portion of a deficiency attributable to one or more of • Negligence or disregard of statute or regulations • Negligence = failure to make a reasonable attempt to comply with the provisions of the IRC • Disregard = careless, reckless, or intentional disregard of the elements of the tax law

  32. Accuracy Related Penalty - §6662 (cont’d) • Negligence defense • good faith effort to comply • Full disclosure on return of non-frivolous position – attach Form 8275 (or 8275-R, position contrary to regs) to return

  33. §6662 Penalty (cont’d) • Substantial understatement of income of greater of: • Deficiency of 10% or more of proper tax liability, or • $5000 ($10,000 for corp. other than S Corp or PHC) • Defense • Full disclosure – Form 8275 or 8275-R • Substantial authority (cont’d)

  34. §6662 Penalty (cont’d) • Substantial Authority includes (Regulation §1.6662-4(d)(3)(iii): • Code • Court decisions • Press releases, notices • Etc. – see Reg. • NOT professional opinions or legal periodicals, secondary authorities • Regs§1.6662-4(d)(3)(iii)

  35. §6662 Penalty (cont’d) • Substantial valuation overstatement – • 200% or more, resulting in • deficiency of over $5000 ($10,000 for C corporations) • Penalty is 40% if overstatement is 400% or more • Substantial overstatement of pension liability

  36. §6662 Penalty (cont’d) • Substantial understatement of E & G tax valuation • 50% or less than actual value • Penalty is 40% if stated value is 25% or less of actual value

  37. CivilFraud Penalty - §6663 Standard of proof – “Clear and convincing evidence” • Penalty is 75% of the portion of the underpayment attributable to fraud • Burden of proof is on government • Criminal fraud penalty may also apply

  38. §6663 Civil Fraud Penalty (cont’d) Fraud – not defined by statute Courts’ definition – Actual, intentional wrongdoingWith intent of specific purpose to evade a tax believed to be owingWillfulness is a crucial element Willfulness is present when TP’s actions “constitute a voluntary, intentional violation of a known legal duty.” SCt, 97 429 U.S. 10

  39. §6663 Civil Fraud Penalty (cont’d) Standard of Proof Required • Criminal – “beyond a shadow of any reasonable doubt” • Civil – “clear and convincing evidence” If convicted of criminal fraud, cannot contest civil fraud – collateral estoppel

  40. §6663 Civil Fraud Penalty (cont’d) • Civil Fraud Penalty (CFP) negates/supercedes • Failure to file • Failure to pay • Accuracy related

  41. Failure to Make Estimated Tax Payments - §6654 • Is similar to interest, and rate varies • Individuals – computed on the difference between the actual payment and the least of: • 90% of the tax on the current year’s return • 100% of the tax on the prior year’s return • 90% of the tax on annualized income up to the month the installment is due

  42. Failure to Make Estimated Tax Payments - §6654 (cont’d) • Corporations – computed on the difference between the actual amount paid and • 100% of tax shown on return • Or if no return filed, amount due

  43. Estimated Tax Penalty - §6654 (cont’d) • Is not applicable if underwithheld < $1000

  44. Failure to Make Deposits and Overstatement of Deposits - §6656 • Rate varies from 2% to 15% depending on when failure is corrected. • Is a reasonable cause penalty • Assessed on employer • But remember the §6672 Trust Fund Recovery Penalty

  45. Filing a Frivolous Return Penalty - §6702 • $500 per return • Usually filed to assert • Fifth Amendment rights violated • TP objects to use for defense or other uses • Or other frivolous argument • Applies when • Return does not contain sufficient info for tax computation and assessment • Otherwise takes a frivolous position • Return indicates info insufficient for proper assessment

  46. Reliance on Advice of IRS - §6404(f) • Don’t –unless • In writing, • In response to specific request, and • Based on sufficient and accurate information

  47. Taxpayer Penalties (Criminal) Standard of proof – Beyond a shadow of any reasonable doubt

  48. §§7201 and 7202 Criminal Taxpayer Penalties • Willful attempt to evade or defeat tax (tax evasion) (§7201) – felony, fine up to $100,000 ($500,000 corporations), up to 5 years imprisonment • Willful failure to collect, account for, and remit (§7202)– felony, up to $10,000, 5 years

  49. Criminal Taxpayer Penalty • Willful failure to file, supply info, or pay tax or estimated tax (§7203) – misdemeanor, up to $25,000 ($100,000 for corps), 1 year (5 years felony for returns relative to cash received by a business

  50. §7206 Criminal Taxpayer Penalty • Willful making, subscribing to, or aiding or assisting in making a return or document, verified by declaration under penalty of perjury, but not believed to be true and correct in every material matter (§7206) – felony, up to $100,000 ($500,000 for corps), three years

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