March 2008

IRS PROVIDES INTERIM GUIDANCE ON “MORE LIKELY THAN NOT” COMPLIANCE CONCERNS

On December 31, 2007, the Internal Revenue Service (IRS) issued several notices providing interim guidance to tax return preparers on achieving compliance with Section 6694 provisions as amended.

BACKGROUND
In May 2007, Congress passed the Small Business and Work Opportunity Tax Act of 2007, portions of which amended Section 6694 regarding the preparation of federal tax returns. The changes required tax professionals to advise their clients whether all tax positions on the client’s federal tax returns meet a confidence level of “more likely than not” (MLTN).

Essentially, taxpayers must have a reasonable belief that a tax position will “more likely than not” be found to be the correct position (i.e., greater than a 50 percent likelihood) upon examination by taxing authorities. The definition of federal tax returns includes income, gift, estate, trust, employment, excise, and exempt organization tax returns.

Positions taken on federal tax returns that do not have a MLTN level of confidence must at least have a “reasonable basis” level of confidence and must be disclosed on the taxpayer’s tax return. A reasonable basis level of confidence generally means that the tax position has at least a 20 to 25 percent likelihood of being sustained upon examination by taxing authorities.

In addition to these changes, the Department of the Treasury has also proposed changes to Circular 230, which governs the practice of “tax” before the IRS. According to these changes, a tax professional cannot advise a client to take a position on a tax return unless it meets the MLTN standard, or the position meets the reasonable basis standard and is properly disclosed on the client’s tax return.

In June 2007, the IRS granted transitional relief for the changes to the Section 6694 preparer penalty provisions under Notice 2007-54.

HIGHLIGHTS OF INTERIM GUIDANCE
Notice 2008-11: Clarification of Notice 2007-54 Transitional Period
Notice 2008-11 clarifies that the transitional relief provided under Notice 2007-54, which was granted with respect to the May 2007 Section 6694 changes, applies to:

• any timely filed original or amended return or claim for refund (other than a 2007 employment or excise tax return) filed on or before December 31, 2007;
• any timely filed original or amended employment or excise tax return filed on or before January 31, 2008; and
• any advice provided on or before December 31, 2007 by a nonsigning preparer.

Notice 2008-12: Guidance on Preparer Signature Requirement
Notice 2008-12 provides interim guidance regarding the tax return preparer signature requirement with respect to the May 2007 Section 6694 changes. This guidance removes the preparer penalty under Section 6695(b) related to non-income tax returns or refund claims filed during 2008.

Notice 2008-13: Guidance on MLTN Preparer Penalty
Notice 2008-13 provides interim guidance allowing signing tax return preparers to comply with the “reasonable basis” level of confidence under Section 6694 when the preparer does not have a reasonable belief that the position is MLTN to be sustained as long as the preparer meets at least one of the following requirements:

• The position is disclosed according to Section 1.6662-4(f) on a properly completed Form 8275 or 8275-R, as appropriate.
• The tax return includes a disclosure of the position according to Section 1.6662-4(f).
• Substantial authority exists to support the position, and the preparer:
• advises the taxpayer of the difference between the Section 6662 taxpayer penalty standards and the Section 6694 preparer penalty standards; and
• documents that the taxpayer was advised of the difference between these two standards..
• The position falls under the Section 6662(d)(2)(C) definition of a “tax shelter”, the Section 6662 taxpayer penalty applies, and the preparer:
• advises the taxpayer of difference between the applicable Section 6662(d)(2)(C) penalty standards and those applicable under Section 6694, and
• documents that the taxpayer was advised of the difference between these two standards.

Moreover, Notice 2008-13 reaffirms the Section 1.6694-1(e) rule stating that preparers may rely in good faith on taxpayer-furnished information, and provides that preparers may also rely in the same manner on information provided by other preparers, advisors, or third parties. However, preparers “may not ignore the implications of information furnished” or “actually known” and “must make reasonable inquiries if the information ... appears to be incorrect or incomplete.”
At Cherry, Bekaert & Holland, we will continue to provide all clients with tax services of the highest quality. Please do not hesitate to contact us with any questions concerning this matter.

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