76 J. Kan. Bar Assn. 8, 24 (2007). The Circular File: Dealing with the 2005 Amendments to Treasury Department Circular 230 Without Contracting Disclaimermania.

• Author: By Casey R. Law

Kansas Bar Journals

Volume 76.

76 J. Kan. Bar Assn. 8, 24 (2007).

The Circular File: Dealing with the 2005 Amendments to Treasury Department Circular 230 Without Contracting Disclaimermania

Kansas Bar JournalVolume 76, September 200776 J. Kan. Bar Ass'n 8, 24 (2007)The Circular File: Dealing with the 2005 Amendments to Treasury Department Circular 230 Without Contracting DisclaimermaniaBy Casey R. LawI. Introduction

Lawyers who are computer-literate receive a lot of e-communications from other lawyers, often accompanied by one or more form disclaimers, designed (for example) to maintain the attorney-client privilege or to satisfy the Fair Debt Collection Practices Act. Many attorneys have seen (and been puzzled by) a new form disclaimer, which could (cynically) be translated into nonlawyerese: "Even though you have requested and paid for professional tax advice, it will be useless to you if the IRS decides to penalize you for relying on it."

What could so possess attorneys to undermine their clients' morale and their own reputations and perhaps livelihoods? In 2005, revisions were made to the regulations governing practice before the Internal Revenue Service (IRS), which appear in Treasury Department Circular No. 230.1 Careful lawyers are (a) trying not to violate these complicated new rules, while simultaneously (b) trying not to allow their law practices to become paralyzed by Circular 230 analysis and anxiety - or overburdened by gratuitous (and likely gratis) legal work.

So much dissatisfaction with the 2005 Circular 230 amendments has been expressed that many thought the Treasury Department would act quickly to fix the perceived problems, but so far little has been done, at least officially. Thus it seems that attorneys for some time to come will have to live with Circular 230 as it stands.

The average lawyer in Kansas needs to know something about these seemingly abstruse regulations because (a) lawyers who are not tax specialists could nonetheless easily find that they are governed by Circular 230, (b) exactly how tax-related communications are affected by the Circular's rules is not facially apparent, and (c) the penalties for violating the new rules can be harsh (censure, suspension, or disbarment by the IRS, leaving aside malpractice suits and state court discipline).2

This article will state the purposes of the recent amendments; describe who is an IRS "practitioner" governed by the Circular; summarize the general rules on tax return preparation and advice; analyze what written advice is, or is not, required to conform to the imposing new rules on "covered opinions"; briefly discuss what violations of the rules could lead to IRS discipline; note the special rules that govern supervising tax practitioners in professional firms; and attempt to suggest how average Kansas attorneys can avoid violating Circular 230 without undue labor, expense, and trauma.

2. The "Covered Opinion" Requirements: What the Fuss is About

   The focus of the 2005 revisions is the "covered opinion," i.e. written advice concerning tax reduction or avoidance strategies that the IRS thinks are prone to abuse. Circular 230 (more precisely, its § 10.35(c), which contains numerous subparts) sets out in daunting detail what must be included in any "covered opinion," and the burdensome investigation, research, and analysis a practitioner must perform in formulating such an opinion.

   Instead of addressing how to draft a "covered opinion" that satisfies Circular 230, this article advises nontax specialist lawyers how to avoid drafting a "covered opinion" unwittingly (and improperly). For nontax specialists, the bad news is that using a form disclaimer is not necessarily enough to satisfy Circular 230; the good news is that (a) Circular 230's intimidating new requirements pertain to advice involving "significant federal tax issues," and (b) a tax issue is "significant" only if the IRS has a reasonable basis for challenging the taxpayer's position.3 In practice, this means (in this author's opinion) that run-of-the-mill legal advice that is consistent with the IRS' settled position will largely be unaffected by the new rules.

   Purposes of the recent amendments

   The recent amendments to Circular 230 seem to have two main purposes:

   1. To make it harder for taxpayers to claim reliance on professional advice as a defense against tax penalties and thus to deter abusive tax avoidance strategies. To that end, the amendments make it more burdensome for tax professionals to provide written opinions that clients can use in attempting to avoid monetary penalties when their daring attempts to save tax are disallowed.

   2. To discourage professionals from actively promoting aggressive tax avoidance strategies, particularly to persons who are not their existing clients.

   The amendments as adopted are, however, much more complex and detailed, and far less immediately clear, than this summary of their purposes would suggest.

   Who is a "practitioner" before the IRS and, therefore, covered by Circular 230?

   Circular 230 in its terms covers only "practitioners," i.e. attorneys, certified public accountants, enrolled agents, and enrolled actuaries that engage in practice before the IRS. (Circular 230 provides specific definitions of these practitioner categories.)4 "Practice before the IRS" covers "all matters connected with a presentation to the Internal Revenue Service or any of its officers or employees relating to a taxpayer's rights, privileges, or liabilities under laws or regulations administered by the Internal Revenue Service," e.g., "preparing and filing documents, corresponding and communicating with the Internal Revenue Service, and representing a client at conferences, hearings, and meetings."5 Thus, making a single telephone call to the IRS on behalf of a client, or helping a client prepare a tax return, could be enough to make a lawyer a "practitioner" and therefore subject to Circular 230's rules.

   § 10.34 - Tax return preparation and positions; "Realistic possibility" and "not frivolous" standards

   Though not included in the recent amendments, § 10.34, governing "standards for advising with respect to tax return positions and for preparing or signing returns," is pertinent to their intent. Not limited to written advice, § 10.34 states that a practitioner may not advise a client to take a position on a tax return unless (a) the practitioner determines that the position "satisfies the realistic possibility standard" or (b) (1) the position is "not frivolous," and (2) the practitioner advises the client about the possibility of avoiding accuracy-related penalties through making adequate disclosure of the position to the IRS.6 Note that, with respect to tax return-related matters, complying with § 10.34 is necessary, but not sufficient, to satisfy other Circular 230 requirements, e.g., those of § 10.35.

   The "realistic possibility" standard is satisfied if a reasonable, well-informed practitioner would conclude that the position being discussed or advocated has at least approximately(!) a one in three chance of success on the merits.7 However, "[t]he possibility that a tax return will not be audited, that an issue will not be raised on audit, or that an issue will be settled may not be taken into account."8 The practitioner may not even consider these practical possibilities in deciding how to advise the client.

   In addition, "[a] practitioner advising a client to take a position on a tax return, or preparing or signing a tax return as a preparer, must inform the client of the penalties reasonably likely to apply to the client with respect to the position advised, prepared, or reported."9 Under § 10.34(c), "[a] practitioner ... generally may rely in good faith without verification upon information furnished by the client."10 This rule is not, however, generally applicable to "covered opinions," as to which skepticism about information furnished by clients is encouraged.

   § 10.35 - "Requirements for covered opinions"

   This section, the one imposing new requirements upon "covered opinions," is the occasion of the disclaimer epidemic. Luckily, much tax advice does not constitute a "covered opinion."

   Only "written advice" included

   First, since no opinion is a "covered opinion" unless it constitutes "written advice," oral advice is not governed by these requirements.11

   Written advice that is exempt from "covered opinion" rules

   Some written advice...