Circular 230 case processing and the application of monetary penalties.

• Author: Preusch, Nicholas
• Position: Regulations Governing Practice Before the Internal Revenue Service

One of the biggest issues practitioners have with the IRS Office of Professional Responsibility (OPR) is a lack of information on what constitutes a violation of Trea-sury Circular 230, Regulations Governing Practice Before the Internal Revenue Service (31 C.F.R. Part 10), and how OPR applies sanctions for such violations. Case law does not provide much guidance on practitioner conduct, as most cases concern tax practitioners who failed to file or pay their taxes on time.

The following is intended to help clarify this subject by using examples from OPR issues and cases. While the facts are hypothetical, the analysis is drawn from actual cases.

Example I: A medium-size tax firm with only CPAs and employees taking the CPA exam generates approximately $800,000 a year in gross receipts from tax preparation and has net income of about $10,000 a year. For the past 10 years, this firm's sole method of advertising has been hiring a local firm that runs the same local television ad each year. The advertisement states, "Our licensed attorneys and CPAs will guarantee the largest refund you can get."The ad is also posted on YouTube. However, the firm does not, in fact, employ any attorneys. The firm's owner reviews and approves the advertisement.

During the regular course of business at OPR, an OPR attorney finds the ad on YouTube. Solely because of the ad, the attorney decides to open a case on the firm. Depending on the outcome of the case, the firm, its owner, and tax managers could be liable for as much as $4 million in monetary sanctions.

This article is intended to walk practitioners through determining whether the hypothetical in Example 1 warrants sanctions under Circular 230, and, if so, why and to whom the sanctions apply.

Receiving the Case

OPR can either self-generate referrals or receive them from other branches of the IRS or from outside the IRS.' In Example 1, the case originated with an OPR attorney viewing YouTube. OPR has also used sources such as the Better Business Bureau, Ripoff Report, and company webpages to generate potential cases. A case such as this could also be brought to OPR's attention from a disgruntled employee of the firm or by a taxpayer who feels cheated by the firm. No matter the source, OPR will investigate each referral made to its office.

OPR's First Determinations and Section 10.20 Letter

In Example 1, after OPR has found the ad and deemed it may be false or misleading, OPR will then send a Section 10.20 letter. Under this section of Circular 230, OPR has the right to request information from any person or firm that falls under its jurisdiction. (2) Failure to provide any information requested under this section is a violation and is subject to discipline under Circular 230. (3)

In a typical Section 10.20 letter sent to a firm, OPR will always ask two questions. The first relates to jurisdiction, and the second is related to Circular 230, Section 10.36(b). It will also ask questions relating to the specific misconduct OPR is investigating.

OPR will first ask for an organizational chart to determine who has responsibility in the firm and over whom in the firm OPR has jurisdiction. Second, OPR will ask for a copy of the firm's procedures to ensure compliance with Circular 230. Section 10.36(b) of Circular 230 requires any practitioner with principal authority of overseeing a firm's tax practice to take reasonable steps to ensure the firm complies with Circular 230. In Example 1, OPR would probably also ask who is responsible for the advertisements, who created them, and what percentage of the firm's clients were retained based on them.

Following Up With OPR

If the firm does not respond to OPR's requests in the Section 10.20 letter, it or its principal members could be reprimanded, censured, suspended, or disbarred, depending on the egregiousness of its refusal to respond. Assuming the firm responds, OPR will then analyze the information the firm provided. Assume the firm in Example 1 provides the following information:

1. The firm has three levels of employees. It is headed by a CPA, and under the head of the firm are four CPAs in managerial roles. Everyone below manager is an entry-level employee currently taking the CPA exam.

2. The firm mails a tax organizer to its clients each tax season. The tax returns are then prepared from the information provided by the clients. The firm does not check the information for accuracy but only relies on the clients' information. The firm then reviews the tax returns at three levels for any typos or other errors before final approval.

3. An outside advertising firm puts together the ads each year. In a recent customer survey, 80% of the clients said they came to the firm because of the ad, and the other 20% of the clients came because of word of mouth.

Violations of Circular 230

Based on these facts, OPR will look at violations of Circular 230, Sections 10.22, 10.30(d), and 10.36(b). To fully grasp these violations and whether OPR will pursue them, it is best to look at each violation independently to determine why there is a violation and to whom it relates.

Circular 230, Section 10.22

Under Circular 230, Section 10.22, practitioners must exercise due diligence when preparing tax returns. Practitioners can rely on another person or firm if the practitioner uses reasonable care in evaluating the person...