Transparency and compliance in light of the new schedule UTP.

• Author: Bakale, Anthony S.
• Position: Uncertain tax position statement

In April 2010, the IRS issued a draft of Schedule UTP, Uncertain Tax Position Statement, with Announcement 2010-30. This represents an important development in the longstanding and ongoing battle between taxpayers and the federal and state taxing authorities for access to tax accrual workpapers and other tax-related information.

Background and Basic Framework

Prior to the implementation of Financial Accounting Standards Board (FASB) Interpretation No. 48 (FIN 48), Accounting for Uncertainty in Income Taxes, uncertain tax positions (UTPs) were accounted for as contingent liabilities under Statement of Financial Accounting Standards (FAS) No. 5, Accounting for Contingencies. FAS 5 requires that a liability be recognized when it is both probable and estimable, taking into account the likelihood of the taxing authority gaining knowledge of all relevant facts.

Issued in July 2006, FIN 48 supplemented FAS No. 109, Accounting for Income Taxes, and broadened FAS 5 with respect to income taxes. FIN 48, located at Topic 740 in the new codification of GAAP, establishes the proper accounting for UTPs, including recognition and measurement of their financial statement effects.

The accounting for all material positions taken (or expected to be taken) on any income tax return is now governed by FIN 48. FIN 48 is generally effective for years beginning after December 15, 2006 (calendar year 2007 for calendar-year taxpayers), but the effective date for private companies was deferred until years beginning after December 15,2008.

It has long been thought that the magnitude of the issues an entity believes it has, and then discloses as part of its financial statements, would lead to questions from the IRS as to precisely what a company's financial statement UTPs represent, as well as requests for the entity's tax accrual workpapers. Although the implementation of FIN 48 was meant to address investors' desires for more disclosure of financial data, this regulatory requirement has led the IRS to request tax information that is arguably privileged under the work-product doctrine. The work-product privilege, codified in Rule 26(b)(3) of the Federal Rules of Civil Procedure, states in part that a document is protected from disclosure if it is prepared "in anticipation of litigation."

The IRS and state taxing authorities have historically held steadfast to the position that tax accrual workpapers are not protected under the work-product doctrine because they are created primarily for financial reporting purposes rather than the prospect of litigation. Nonetheless, and as discussed below, the IRS has historically exercised a policy of restraint.

IRS Position on Tax Accrual Workpapers and Privilege Protections

In Announcement 2002-63, the IRS announced that it may request tax accrual workpapers in the course of examining any return filed on or after July 1, 2002, that claims any tax benefit arising out of a listed transaction, as defined by Regs. Sec. 1.6011-4(b)(2). The announcement highlighted the holding in Arthur Young & Co., 465 U.S. 805 (1984), stating that because tax accrual workpapers are not generated in connection with seeking legal or tax advice but are developed to evaluate a taxpayer's deferred or...