Regulation of Federal Income Tax Returns Preparers White Paper April 2004

Background:

With over half of the 1040 class of tax returns being completed by commercial preparers, the long-term viability of the income tax system rests to a great extent on the competency and ethical practices of these individuals. There is anecdotal evidence that many of the unenrolled commercial preparers who make up this group, as opposed to making a contribution to improving the accuracy of returns being filed, are instead responsible for some significant portion of noncompliance. Both the Taxpayer Advocate and a number of thoughtful white papers have discussed this problem as it relates specifically to the Earned Income Tax Credit.

At the same time, the list of penalties and restrictions in the Internal Revenue Code directed at all commercial preparers seems daunting. These many code sections have arisen gradually over time in response to specific compliance problems identified at the time or worse yet in response to revenue needs of the government (For a discussion of the many code sections see the 2003 Annual Report of the Taxpayer Advocate pages 275 to 278). They include penalties for disclosure of tax return information, failure to supply identification numbers, understatement of liability, providing copies of returns, substandard recordkeeping, lack of due diligence standards for EITC and many others. These penalties consist of both civil and criminal penalties, as well as general injunctive powers. While on paper commercial preparer penalties are both numerous and draconian, the Government Accounting Office (GAO) has called into question the IRS’s enforcement capability and commitment to collecting assessed penalties.

In addition to the litany of penalties, a significant number of commercial tax return preparers –CPAs, tax attorneys and Enrolled Agents specifically – are currently governed by the competency and ethical standards established under Circular 230. Many of these standards regarding competency and ethical behavior apply directly to the preparation of tax returns. While lawyers and CPAs are regulated by state-based authorities, Enrolled Agents are regulated directly by the Department of the Treasury. The rules governing EAs include standards of competency for enrollment (i.e., testing or work experience at the IRS), standards of conduct and continuing education.

The Senate Committee on Finance has included a provision in S882, the Tax Administration Good Government Act, requiring all commercial tax return preparers to register, demonstrate no conduct warranting disciplinary action under Circular 230, pass an initial examination testing technical competency and knowledge and undergo an annual renewal and refresher examination. While the outcome for this proposal in conference committee is yet to be decided, there has been indication from the participants that they may soften some or all of these requirements.

Issues:

How well will the program fit into the current statutory and regulatory framework?

Because the current regime regulating all individuals involved in the tax filing system, including practitioners (lawyers, CPAs, and Enrolled Agents), unenrolled commercial tax preparers, and return submitters (EROs) has evolved haphazardly over the years, Congress and the IRS need to take a holistic approach to the entire system. This review should include both the current penalty program and Circular 230. The objective should be to increase compliance at all levels of income and among all entities filing and paying federal level taxes by increasing the professionalism of all individuals operating commercially within the system. Under the leadership of the Taxpayer Advocate and the Director, Office of Professional Responsibility (OPR), the IRS needs to solicit input from the groups representing the current stakeholders of the tax filing and preparation system.

How will the new nomenclature and requirements of the new registration system affect practitioners’ interest in becoming enrolled?

At what level of additional burden will you drive a substantial number of unenrolled practitioners underground?

As currently drafted, to be compliant with the requirements of registration, unenrolled commercial tax return preparers would undergo a fairly expensive and time consuming process of initial and annual testing. It is unclear exactly what these registered commercial return preparers would be allowed to call themselves to the public, but because of the tough threshold and annual requirements that must be met before being allowed to solicit business, this nomenclature could reflect a fairly high level of professionalism and government approval. Many commercial preparers are likely to take the next step under such a regime and become fully enrolled. On the other hand, many unenrolled preparers are likely to “go underground” in order to avoid the cost and time of complying with the requirements.

If, however, the Congressional conferees substantially soften the requirements of the registration program and allow unenrolled commercial preparers to solicit business using a nomenclature that indicates an implied government seal of approval, then many individuals who, in the future would go through the time and cost of becoming enrolled, are likely to settle for the less stringent, and “sexier” alternative with greater marketing attractiveness.

With this in mind, it is important for policymakers to craft a system that is neither so burdensome that it will drive substantial numbers of commercial preparers underground, nor so easy as to discourage future individuals from taking the step of becoming fully enrolled. The new registrant should have every incentive to take the next step up the professional ladder to full enrollment.

How will the IRS administer a public relations campaign without further confusing the public?

As currently drafted, the proposal calls for IRS to introduce and maintain a public relations campaign focused on educating the public about this new classification of unenrolled tax return preparers - to the potential detriment of other tax professionals like attorneys, CPAs, and Enrolled Agents. Such a public relations campaign would likely confuse the public about who are qualified tax professionals, particularly with respect to the enrolled community and other licensed individuals under Circular 230 who have qualified for their profession based on a difficult competency examination – unlike the much less rigorous examination apparently envisioned by the legislation.

The proposal also requires the IRS to maintain a public list (in print and electronic media, including Internet-based) of “Federal income tax return preparers.” We have concerns that maintenance of this type of public list, while laudatory, is one of those types of initiatives that may be seen as competing with current IRS programs and initiatives – as well as potentially diminishing the status of the enrolled.

Does the IRS have the resources to establish such a program and to administer it over the long-term?

We believe strongly that any registration system developed must be fully enforced. There needs to be substantial discussion about the resources needed to effectively administer all individuals commercially practicing at every level of the tax return system. Policymakers do not want to “swamp” OPR with the sudden implementation of this new and costly program. The implications of introducing the proposed registration system on personnel, technology and level of competency at OPR are staggering and need to be thoroughly reviewed by Congress, the IRS and stakeholders. There is currently concern regarding the availability of IRS resources to conduct current enforcement procedures.

Recommended Changes to Current Legislation:

The effective date for the registration program should be moved to the 2006, or even 2007, tax filing season to allow regulators to consult stakeholders and be able to carefully design and implement the proposed program. To introduce such a wide-scale initiative without the proper deliberation and due diligence risks substantial harm to all concerned – taxpayers, practitioners and the IRS itself.

The legislation should instruct the IRS to create a task force to make recommendations to the Director, Office of Professional Responsibility on establishment of the program and to Congress on resources needed for implementation and administration and for a new statutory penalty regime governing all levels of practice before the IRS, i.e., practitioners, tax return preparers, and return submitters. Therefore, the legislative mandate should provide the IRS maximum flexibility on shaping the program and a sufficient amount of time to take into consideration the recommendations of the task force.

Either through the statute or the regulatory process, commercial preparers should:

  • be required to sit for an initial tax return preparation competency exam administered by a nongovernmental organization approved by the Director, Office of Professional Responsibility and that passage of such exam could be applied to becoming enrolled sometime in the future;
  • be subject to continuing education requirements focused on tax return preparation but with similar hour requirements as currently provided under Circular 230 for Enrolled Agents;
  • be referred to as “Unenrolled Return Preparer”

The legislation should provide that all fees collected from all individuals regulated by the Office of Professional Responsibility shall be placed in a separate account and dedicated to the administration of current Circular 230 practitioners, unenrolled return preparers and return submitters.

Conclusion

In closing, NAEA supports any efforts to safeguard the integrity of the tax system. We have historically supported the registration of commercial preparers and continue to do so, with the recommendations outlined above. We look forward to the opportunity to contribute to the dialogue regarding the introduction of the proposed registration system described in S882. We would be happy to provide additional information throughout the conference committee process or at any time.

August 2, 2004

© 2014 National Association of Enrolled Agents