Scope and size of tax preparer penalties increase.

• Author: Schuth, Michael R.

The Small Business and Work Opportunity Tax Act of 2007, enacted in May, increases penalties on preparers and raises the standard of nondisclosure positions from "realistic possibility of success" to "more likely than not." The legislation also extends the reach of these penalties beyond "income tax return preparers" to all tax return preparers. Therefore, the penalties will now apply to preparers of non-income-based tax returns.

Under prior law, Sec. 7701(a)(36) defined an income tax preparer as any person who prepares, or employs other people to prepare, all or a significant part of an income tax return or refund claim for compensation. Preparer penalties did not apply to a person preparing a non-income-tax return, including an estate, gift, excise, or employment tax return. Prior Sec. 6694 stated that the preparation of an income tax return for which there is an understatement of tax related to an undisclosed position, for which there is not a realistic possibility of being sustained on its merits or is a frivolous position, resulted in a first-tier penalty of $250 if the preparer knew or reasonably should have known of the position. The preparation of a return for which the preparer engaged in willful or reckless conduct would result in a return penalty of $1,000.

Revised Sec. 7701(a) (36) defines a tax return preparer as any person who prepares, or employs other people to prepare, any return of tax imposed under the Code or refund claim for tax. Also, the new law raises the standard for undisclosed return positions. This standard requires that the preparer have a reasonable belief that the treatment of a tax position was more likely than not the proper treatment. Also, the first-tier penalty is increased to the greater of $1,000 or 50% of the income derived or to be derived by the tax return preparer from the preparation of the return for which the penalty is being assessed. Further, the penalty for which a preparer engages in willful or reckless conduct also is increased to the greater of $5,000 or 50% of the income derived to the preparer from the tax return. Therefore, the application of these preparer penalties now applies to non-income-tax returns, such as estate, gift, excise, and employment tax returns, and the returns of exempt organizations.

The IRS issued Notice 2007-54 shortly after the law was enacted to...