"More likely than not": a comparison of FIN 48 and the tax penalty standard.

• Author: Mauldin, Tiffany

Efforts intended to strengthen objectivity and transparency with respect to tax planning, compliance, and conflict resolution have converged around the use of a "more likely than not" standard. A spectrum of consequences may now depend upon whether a position taken, or expected to be taken, in a tax return is more likely than not to be sustained.

That said, the definition and significance of more likely than not (MLTN) is not identical across the contexts in which it is applied. Accordingly, it is important to consider each context carefully both to ensure consistency where appropriate and understand potential divergences that may exist.

Evolution of "More Likely Than Not"

In June 2006, the Financial Accounting Standards Board (FASB) released FASB Interpretation No. 48 Accounting for Uncertainty in Income Taxes (FIN 48 of the Interpretation). Under the Interpretation, enterprises are required to assess an income tax position to determine whether the benefit of the position can be recognized in U.S. GAAP financial statements. The benefit recognition threshold requires that the position be more likely than not to be sustained based upon its technical merit under applicable tax laws. This threshold or standard is defined as a likelihood of more than 50 percent. A position meeting the MLTN standard must then be measured to determine the amount that is recorded in the financial statements. The application of FIN 48 requires an assumption that the taxing authority will be aware of all relevant information and perform an appropriate examination of the position.

While FIN 48's MTLN standard has received considerable attention, it is but one of a growing number of uses of a MTLN standard by various standard setters, regulatory authorities, and policy makers.

The U.S. Department of Treasury Circular 230 regulations govern the practice of CPAs, lawyers, enrolled agents, and enrolled actuaries (practitioners) before the Internal Revenue Service. In various specified circumstances, Circular 230 requires that a MLTN standard be met for written tax advice to be relied upon by a taxpayer for penalty protection. (1) The scope of this rule includes transactions having a significant tax planning purpose.

Another MLTN usage was adopted by the Public Company Accounting Oversight Board (PCAOB) in Rule 3522, released in June 2006. Pursuant to Rule 3522, a registered public accounting firm is prohibited from providing service to an audit client that involves marketing, planning, of opining in the favor of an "aggressive tax position." The PCAOB rule defines an aggressive tax position as a position "that was initially recommended, directly or indirectly, by the registered public accounting firm and a significant purpose of which is tax avoidance, unless the proposed tax treatment is at least more likely than not to be allowable under applicable tax laws." A violation of this rule results in the impairment of independence by the audit firm.

Most recently, a MLTN standard was made broadly applicable to tax return preparers (including advisers who are considered non-signing preparers) in revisions to section 6694 of the Internal Revenue Code. Under the Small Business and Work Opportunity Tax Act of 2007, section 6694 was revised to increase the preparer standard for tax return positions. A position that is not adequately disclosed must generally meet a MLTN standard for the preparer to avoid penalty. The standard applies not only to an outside preparer signing the return, but...