Tuesday, February 10, 2009:

From: Alvin Brown, esq. retired from Office of IRS Chief Counsel
New fines for federal income tax preparers (Requested by Robert Alan Jones, esq.

What "reckless" means in 6694(b) [ The fine may be $5,000. per year. ]

Section 6694(b) WILLFUL OR RECKLESS CONDUCT. --If any part of any understatement of liability with respect to any return, or claim for refund, is due --6694(b)(1) to a willful attempt in any manner to understate the liability for tax by a person who is an income tax return preparer with respect to such return or claim, or 6694(b)(2) to any reckless or intentional disregard of rules or regulations by any such person, then such person will be subject to, in our view, a new excessive fine or penalty.

There are regulations that define "reckless" -§1.6662-3(b)(2) Disregard of rules or regulations. --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. A disregard is "intentional" if the taxpayer knows of the rule or regulation that is disregarded. Nevertheless, a taxpayer who takes a position (other than with respect to a reportable transaction, as defined in §1.6011-4(b) or §1.6011-4T(b), as applicable) contrary to a revenue ruling or notice has not disregarded the ruling or notice if the contrary position has a realistic possibility of being sustained on its merits.

The plain flush language of these regulations say that a person is "reckless" (and therefore subject to the $5,000 6694(b) penalty) if the return preparer does not follow defined rules and REGULATIONS. The "rules" would include IRS published positions.But what about the "realistic possibility" defense?"The Small Business and Work Opportunity Tax Act of 2007 (P.L. 110-28) changed the “realistic possibility” of success" standard in Code Sec. 6694(a) to a "more-likely-than-not" standard for nonabusive undisclosed items.Rev. Rul. 78-344, 1978-2 CB 334 is illustrative of how the IRS administers the "realistic possibility" standard under section 694. You will find that this standard requires that you follow all of the Code, regulations, case law, etc.

But the standard is less than the "substantial authority" standard. Since both standards are subjective, I do not see how one can avoid the 6694(b) $5,000 penalty if the return preparer does not precisely follow all published regulations that support all deductions, expenses and credits.Rev. Rul. 78-344 follows:Section 6694.--Understatement of Taxpayer's Liability by Income Tax Return Preparer26 CFR 1.6694-1: Understatement of taxpayer's liability by income tax return preparer.- An income tax return preparer who, following instructions from a taxpayer without consulting the regulations, excludes certain items from the gross income reported on the taxpayer's return that are required by the regulations to be included is subject to the panalty imposed by section 6694(a) of the Code for negligent or intentional disregard of rules and regulations.

[Text]Advice has been requested whether, under the circumstances described below, an income tax return preparer is subject to the penalty imposed by section 6694(a) of the Internal Revenue Code of 1954 for negligent or intentional disregard of rules and regulations.A, a tax return preparer, was engaged by B, a taxpayer, to prepare B's federal income tax return. B had certain items of income which B did not believe were properly includible in gross income, and instructed A not to include the items in gross income as reported on the tax return. Although the income tax regulations provide for the inclusion of these items in gross income, A did not bother to consult the regulations, but chose instead to follow B's insructions on the assumption that B was probably correct. A's failure to include these items in B's gross income resulted in an understatement of B's income tax liability.

Section 6694(a) of the Code imposes a penalty on an income tax return preparer who understates a taxpayer's liability by negligent or intentional disregard of rules and regulations. Section 1.6694-1(a)(3) of the Income Tax Regulations provides that the term "rules or regulations" includes the provisions of the Internal Revenue Code and the Treasury regulations issued under the Code.Section 1.6694-1(a)(4) of the regulations provides that an income tax return preparer who fails to follow an income tax regulation is not considered to have negligently or intentionally disregarded the rules and regulations if the preparer in good faith and with reasonable basis takes the position that the regulation does not accurately reflect the Code. This section further provides that, for purposes of section 1.6694-1(a) the view of the taxpayer concerning a rule or regulation is not material.

In this case, not withstanding that B instructed A not to include the items in gross income because of the belief that they were not properly includible, A did not in good faith and with reasonable basis take the position that these items of income were not includible in B's gross income.Accordingly, A is subject to the penalty under section 6694(a) of the Code for understating B's income tax liability due to negligent or intentional disregard of the regulations.

IRS SANCTIONS IMPOSED AND UPHELD AGAINST WINNERS

IRS SANCTIONS IMPOSED AND UPHELD AGAINST WINNERS

One would think that when the Taxpayers win a case or prevail in a settlement of their defense claims against the Internal Revenue Service any sanctions handed out by the court would be against the IRS. Not necessarily so as Mr. and Mrs. Robert Gillespie, a couple in their early eighties, and their counsel Robert Alan Jones discovered recently.

Mr. and Mrs. Gillespie who have operated small businesses for years in Wabash, IN, but are now retired, ran afoul of the IRS in the late nineties when they invested in an asset protection and business trust arrangement. The Gillespies failed to appeal the IRS rejection of the program to the United States Tax Court and all of their legitimate business and personal deductions as well as the business trust benefits were disallowed. This resulted in a tax bill multiplied many times over until it reached some $498,000.

When the IRS attempted to collect this bogus amount which the Gillespies were and are totally unable to pay, they retained Mr. Jones a former federal prosecutor, and nationally known tax defense counsel to represent them. Mr. Jones secured what is known as a "Collection Due Process" hearing for them pursuant to Internal Revenue Code§ 6330. Unfortunately, the IRS settlement officer did not give them a hearing, instead labeling their representative’s written letter request for information necessary to prepare for the hearing as the hearing itself. She then issued a "notice of determination" upholding the IRS’ bogus bill.

Of course the Gillespies through their counsel Mr. Jones, following the law petitioned the Tax Court for appellate review of the settlement officer’s negative determination. At this point the local office of the IRS Office of Chief Counsel, and IRS Appeals reviewed the entire proceedings in depth and agreed with Mr. Jones that the actual liability was vastly overstated. The IRS agreed to settle the $498,000 bill for less than $44,000 including penalties: the actual amount owed.

Unfortunately for the Gillespies and Mr. Robert Alan Jones the case did not end there. The case was called for trial, or settlement. On its first scheduled calendar call, (Gillespie v. Commissioner of Internal Revenue, Case no. 3405-05L, et al.) the Tax Court mindful of the settlement that had already been reached, ordered the Gillespies and Mr. Jones to show cause why they should not be sanctioned. The reason: for filing a frivolous petition to delay the collection of taxes previously determined by the IRS to be valid.

After a short hearing and later briefing by parties on both sides, the Tax Court imposed sanctions on Mr. Gillespie, and "excess costs" sanctions on Mr. Jones attributable to the delay in the proceedings caused by the filing of the "frivolous petition" in Tax Court. (See T.C. Memo. 2007-202.) Of course the only way to reduce the $498,000 bill by 90% was to file a petition in Tax Court and settle the matter within the system. The sanctions are for many thousands of dollars and may teach taxpayers and their attorneys that the price of trying and winning is more prohibitive than accepting the original injustice.

The Tax Court decision was appealed to the United States Circuit Court of Appeals for the Seventh Circuit in Chicago, Illinois. To no ones surprise the Circuit Court in an unpublished opinion (292 Fed.Appx. 517, 2008 WL 4218808) upheld the Tax Court’s ruling while ignoring the fact that the Gillespies had never been given a hearing of any kind although it is a specific requirement of the statute.

Mr. Jones is currently contemplating filing a petition for certiorari in the United States Supreme Court. However, it appears that the law as handed down by the Court, is not on the side of the taxpayer if he wins below, but is on the side of the government, win or lose. For all practitioners and their counsel this is a chilling and sad state of affairs.

The (IRS) Empire Strikes Back

Much as in the fashion of "Star Wars" the Evil Empire: the Internal Revenue Service has petutlantly struck back at Thomas Seidel and his counsel Robert Alan Jones because they were fortunate enough to have pinned the IRS ears back before a United States District Court jury last month on January 8. (See Case no.
5:07-cv-04128 U.S.D.C. NDCA Jan. 8, 2009.)

Mr. Seidel, as reported in our previous blog, overturned a $1,000,000 penalty assessment against him based upon misrepresentation by the IRS, and the deliberate conduct of revenue officers in ignoring the law. You would think that after hounding the Seidel family for twelve years with liens and levies against both him and his wife even the IRS would honor the jury verdict and release the liens against the Seidels' family home, and Mrs. Seidel's closely held corporation and its real estate.

But of course not; according to the Assistant U.S. Attorney who attempted and failed to gain a judgment against Mr. Seidel, the United States may decide to appeal. This of course may take two or three years. It makes no difference to the government that the Seidels currently have no debt to the IRS and that is the "law of the case." Further, it does not seem to matter that the Seidels may lose their home because the final date to pay off their mortgage was November 1, 2008, and the landlord has held off until now to see if Mr. Seidel would prevail in court, which he has.

So the beat goes on, but you can bet your last dollar if you have one that if the government had prevailed, it would not have waited two or three years of an appeal period before the Seidels' home was sold at auction. "Fair and balanced," not exactly, but we have hope that the judge who has been extremely fair at the trial stage will, after 60 days when the time for filing a notice of appeal has expired, irrespective of any appeal, order the IRS to release the liens.

Your comments and suggestions are appreciated.