Colorado Lawyers Beware: the Irs Wants You!
| Publication year | 1995 |
| Pages | 595 |
| Citation | Vol. 24 No. 3 Pg. 595 |
1995, March, Pg. 595. Colorado Lawyers Beware: The IRS Wants You!
In an effort to meet this challenge, the CBA Tax Section encouraged that this article be placed in the "Tax Tips" column during this 1995 tax filing season to solicit compliance and address some of the common issues that can arise during an audit of an attorney's filed tax return.(fn1) In addition, the Tax Section has prepared a package of information to assist attorneys in meeting their tax filing responsibilities [available from Julie Petersen at the CBA, (303) 860-1115 or (800) 332-6736].
Based in large part on the success of an attorney examination effort in San Diego, California, the Examination Division of the Internal Revenue Service ("IRS" or "Service") has implemented a nationwide "attorney examination project." The purpose of this project is threefold: (1) to determine whether the attorney noncompliance perception is accurate; (2) to increase voluntary compliance; and (3) to create guidelines to ensure efficient audits of attorneys.
Recently, the attorney examination project has been implemented in the Denver District Office of the IRS. An examination group has been assigned to determine, obtain and assist in compliance by members of the Colorado bar.(fn2) Preliminary results indicate that as many as 6 percent of the attorneys licensed to practice by the Colorado Supreme Court may not have filed federal income tax returns for one or more years. As a group, compliance was greatest among attorneys within the twenty-five largest Colorado law firms, and weakest among sole practitioners and those in practice with one or two other lawyers.
In most audits of attorneys, the Service's first step is to determine the type of legal work performed by the lawyer and his or her fee arrangements. The IRS often asks for detailed records of time and direct case costs.(fn3) In addition, the IRS will independently search income records through currency and banking retrieval systems and search information returns filed with the IRS.(fn4)
Time is the basic standard for setting most fee arrangements. However, IRS examination agents commonly review the terms of the attorney's alternative billing arrangements, the most common being specific retainer, annual retainer and contingent fee.
In a typical specific retainer arrangement, the attorney and the client agree on the fee for a particular case, which may be payable before the attorney begins to work. Under the Colorado Rules of Professional Conduct, this advance payment should be kept separate from the lawyer's business and personal property in one or more trust accounts.(fn5) The attorney then transfers part or all of the money, as it is earned, from the trust account to the general account. If the attorney is on a cash basis of accounting and has free access to the funds, the Service's position is that the retainer is taxable upon receipt.(fn6) In contrast, the Tax Court has held that an attorney is not taxable on amounts paid as a retainer and deposited in a trust account until such fees are earned and such deferral is appropriate in light of the ethical obligations imposed on the lawyer.(fn7)
Another alternative fee arrangement is an annual retainer, which generally involves a fixed fee for a lawyer's service over a specified period of time, usually a year. Again, the Service treats the retainer payment as income at the time it is received, provided that the attorney has free use of the funds.(fn8)
In most contingent fee cases, an attorney will deposit the total settlement into his or her trust account pursuant to...
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