Another panel at the 2016 IRS Representation Conference discussed the penalties levied against preparers who violate the ethics rules and fraud statutes. Topics included civil and criminal penalties and examples of recent disciplinary cases.
Civil Preparer Penalties
Agostino opened the panel by reminding attendees that the United States’s tax assessment system is voluntary. He continued by noting that tax preparers, along with CPAs and tax attorneys, who abrogate their ethical responsibility to that system in favor of helping clients evade tax—“the most unpatriotic thing I can think of”—are coming under closer scrutiny from the IRS, which “more and more is realizing that one bad preparer could be worse than 100 bad taxpayers.” Consequently, the penalties for such behavior can be severe.
At Agostino’s prompting, Geiger then began to lay out the civil penalties faced by unethical preparers. “It’s really important for us to do our due diligence,” Geiger said, both to uphold the system and to shield oneself from penalties. The foremost penalty comes from section 6694 of the Internal Revenue Code (IRC), which covers whether the preparer has substantial authority or reasonable basis for a position. Section 6694(b) covers conduct deemed reckless, intentional, or willful; such conduct has no statute of limitations.
Avoidance of the “laundry list of penalties,” Geiger said, requires due diligence and adherence to procedure. “We need to sign the returns, we need to furnish the taxpayers a copy of the returns, we need to retain a copy or a client list.”
Agostino noted, however, that many times such audits do result in “very substantial civil penalties for noncompliance.” Geiger agreed, citing a recent case where a preparer was essentially defrauding the government out of “principle.” According to Geiger, the preparer had stated, “I think that the government should be allowed to have only what people are willing to pay, and in that regard I’ll decide what that should be.” Ultimately, the preparer’s tax identification number (PTIN) and electronic filing identification number (EFIN) were revoked, but she set up new ones through her daughter and continued preparing returns. Overall, the government spent 480 hours investigating her, and her clients were hit with large assessments: “The people who had to pay the assessments, a lot of them were innocent people who really had no idea as to why she was beefing up expenses and she was increasing itemized deductions.” In another case, the preparer, while not given any criminal penalty, was required to inform all clients of the revocation of credentials and turn over a client list to the government.
Geiger also noted that civil and criminal penalties can be “far-reaching and intense.” To protect themselves, she said, preparers and taxpayers must review the return and all information in it for accuracy. For preparers, she said, “there is nothing to gain” in assisting taxpayers in defrauding the government; the truth will ultimately come out.
Agostino cited a case where, out of 3,000 returns, 543 had errors in excess of $10,000. Despite this approximately 80% “success rate,” the preparer received a “very substantial fine.” He concluded, “Don’t think that because you’re not doing the outrageous material things that [Geiger’s examples] did, that you’re safe.” A preparer’s signature on the return, he said, connotes a significant responsibility: “The government wants you to sign that return because you play an important part in the system.”
Agostino noted that tax preparers are coming under closer scrutiny from the IRS, which “more and more is realizing that one bad preparer could be worse than 100 bad taxpayers.”
Hawkins brought up another collateral consequence: penalties for section 6694(b) violations must be reported to the Office of Professional Responsibility (OPR). Field agents may also refer section 6694(a) penalties as well, which cover negligent errors. Such reports, she said, can establish “patterns of behavior,” and are kept in a database, giving the OPR a clearer view of the big picture. Agostino noted that a Freedom of Information Act request can illustrate the scope of such referrals.
Criminal Preparer Penalties
Kundra began the discussion of criminal penalties by advising preparers to know what their clients are getting them into. “You’re going to want to go with your gut,” she said, because the excuse that the preparer was just following the client’s directions does not fly with the IRS. She noted that occasionally, preparers’ PTINs will be stolen by scammers, and the original preparers may find themselves facing penalties for the scammers’ actions. Thorough recordkeeping can provide a strong defense in such cases.
The actual penalties can constitute monetary fines, imprisonment, and restitution (i.e., the preparer paying the taxpayer’s unpaid tax and penalties). Agostino added that criminal cases can put preparers out of business. Kundra then displayed criminal penalty statistics for the past three years. While the statistics appear to show a downward trend in investigations, prosecutions, and indictments, the incarceration rate was very high in 2014 and 2016 (86% and 72%, respectively), and Kundra expects it to increase in the future. Kundra attributed the higher incarceration rate to the IRS’s use of data mining to focus on cases more likely to succeed on prosecution. Hawkins noted that the Department of Justice (DOJ) and the IRS’s Criminal Investigation Division (CI) do have different criteria for what makes a case more winnable, but cases that CI flags for prosecution are also referred to the OPR and can be subject to disciplinary action even if the DOJ passes on them.
“The stats give you some comfort in there are fewer preparers going to jail,” Agostino added. “But there are more preparers being put out of business from the injunctions. There are more preparer fines ever being levied.” He also noted that state offices are also increasingly prosecuting cases that the IRS has declined.
Criminality, Kundra said, ultimately hinges upon willfulness—“that you knew what you were doing, that you knew it was going to end up causing an evasion or fraud.”
Sample Cases and Their Effects
Kundra then turned to the determination of whether a case is civil or criminal. Sometimes, she said, a civil audit can become criminal; the IRS may even conduct a sting, sending an agent to pose as a client to request an unethical or even fraudulent return. Criminality, she said, ultimately hinges upon willfulness. “The government has to demonstrate willfulness—that you knew what you were doing, that you knew it was going to end up causing an evasion or fraud.”
Kundra then cited a case where a New York attorney pled guilty for preparing fraudulent tax returns, adding false medical expenses, state and local taxes, and other deductions. She quoted the reaction of Caroline Ciraolo, head of the DOJ’s tax division: “His conviction sends a clear message: We will fully prosecute crooked tax preparers, whether they be lawyers, tax professionals, or temporary storefront operators.” In another case, two sisters in Detroit generated fake W-2s for clients and fabricated self-employment returns; they ultimately pled guilty to more than $3 million of fraud. Finally, in Kansas City, a preparer not only made false deductions on clients’ returns, but also filed a false bankruptcy petition, gave false statements during meetings with creditors, and made a false statement on an application for citizenship. In addition, Geiger brought up a case where the preparer bifurcated refunds, having a portion wired into his own account, but giving his clients fake returns that left them none the wiser.
Hawkins commented on the issue of clients giving false information. Computers have made generating fraudulent W-2 or 1099 forms much easier, impairing professionals’ ability to perform due diligence. “You really don’t have any easy way of asking the questions about that or finding those answers,” she said. Agostino then gave some colorful details about the fake W-2 cottage industry, including going prices and the fact that some preparers will advise clients where to obtain them. He also shared a story about a fake 1099 ring that was shut down after a customer complained to the IRS that the price for the fake forms was too high. He also advised practitioners to double-check their personal returns for errors, as the IRS considers poor personal filing on a practitioner’s part “one of the tells.”
Hawkins took over the remainder of the panel, providing more insight into the policies and procedures of the OPR. She noted that the OPR, being under the aegis of the Treasury Department, operates under the Treasury Regulations as opposed to the IRC. She discussed two points with respect to due diligence obligations and the information taxpayers provide. First, the ethical rules under Circular 230 “somewhat mirror [IRC section] 6694 in the sense that you shouldn’t be advising a position on a tax return or signing a tax return that contains a position that lacks a reasonable basis.” Furthermore, when taking a position that has a reasonable basis but not substantial authority, “you just have to advise the client of their penalty exposure and what they can do to avoid it, which essentially is make the disclosure on the tax return. But you’re not obligated under the ethics rules to force the client to make the disclosure.” Second, while a provision in the regulations allows practitioners to “rely on good faith and without verification on information that your client gives to you,” that does not excuse preparers from blindly accepting the client’s characterization of it. “We don’t have to audit our clients,” she noted. “But you’d better know your client well enough to spot inconsistencies, incorrect information, or incomplete information so you can make additional inquiries to expand the factual information.”
Hawkins concluded the panel on an optimistic note, saying that 75% of cases she saw referred to the OPR ended with no disciplinary action. The office, she said, is “very judicious” about applying the rules of ethical conduct.
The comments below represent the speakers’ own views and do not necessarily represent those of their partners, affiliates, or employers, nor do they represent official policy of the government or any government agency.