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The IRS Has A New Weapon: Your Tax Pro

The IRS Has A New Weapon: Your Tax Pro

The new law, enacted in May as part of wide-ranging legislation that included funding for the Iraq war, reflects efforts by Congress to narrow the nation's tax gap, or the amount of taxes believed to go unpaid each year. IRS researchers have estimated the tax gap at about $290 billion. The basic idea for the new law came from Congress, and senior IRS officials were surprised by its enactment. An IRS spokesman in Washington declined to comment on the new law.

"It's politically unacceptable to put more agents on the street or increase the IRS's budget," says Cono Namorato, a former IRS official and now a Washington lawyer at Caplin & Drysdale. Thus, the new law represents "an attempt to deputize" more tax practitioners by "holding them to a higher standard."

Tax preparers have long faced possible penalties for signing questionable returns without specifically disclosing the tax positions in question. But the new law raises the standards considerably, and sharply boosts penalties to $1,000, or half the preparer's total fee, whichever is larger. Fines for preparers showing "willful or reckless conduct" are much higher still.

Tax preparers can sign returns with questionable tax positions if those positions are disclosed, typically using IRS Form 8275. But some clients may object to filing the form, fearing it could raise red flags at the IRS. "We will be using far more Form 8275 disclosures with returns, and I'm not sure how clients will react," says Claudia Hill, the owner of Tax Mam, a tax-services firm in Cupertino, Calif.

Many accountants claim the new law is unfair since it applies higher standards to return preparers than to taxpayers. This could put the two parties at odds.

Ms. Hill says she recently spent three hours with a new client who had asked her to review two years of returns he had prepared for himself. "There were three obvious issues he had taken" that could raise questions, Ms. Hill says. When she explained the new law, "he quickly figured out that I could not prepare his returns taking those aggressive positions without full disclosure," but that he could do so on his own.

Ms. Hill says she is now considering the client's request to engage her merely to "consult" on his returns, not to prepare them. "I have to figure out at what point advice I give about a return becomes 'return preparation,' " she says.

Congress made the law effective in May. But the IRS recently said the new standards typically will apply to returns filed starting next year, thus effectively exempting 2006 returns that have received filing extensions. Still, the new law generally is in effect for advice that preparers give today to clients for returns filed next year.

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