Internal Revenue Code (IRC) section 7216 and its lengthy regulations govern when a tax return preparer may disclose or use a taxpayer’s tax return information without first obtaining the taxpayer’s consent. Because it is a federal crime to violate section 7216 and its regulations, CPAs should familiarize themselves with these provisions. This column discusses when tax return preparers are permitted to disclose or use tax return information without first obtaining the taxpayer’s consent. A future column will discuss the requirements for obtaining consent when it is necessary.
The Statutory and Regulatory Scheme
IRC section 7216 and its regulations are set up as a blanket prohibition on a preparer’s disclosure or use of a taxpayer’s return information without the taxpayer’s prior consent. Treasury Regulations section 301.7216-2, however, provides for numerous exceptions to this rule. For disclosures or uses not permitted thereunder, IRC section 7216 makes it a crime for a tax return preparer to knowingly or recklessly—
- disclose any information furnished to the tax return preparer in connection with preparing a client’s tax return, or
- use tax return information other than to prepare or assist in preparing a client’s tax return.
Civil monetary penalties may be imposed under IRC section 6713. Willful unauthorized disclosure of tax return information may also subject a preparer to discipline under Treasury Department Circular 230 or subject a CPA to discipline by the AICPA.
Who is a tax return preparer?
Section 7216 broadly defines a tax return preparer as any person who is engaged in the business of preparing or assisting in preparing tax returns, who is employed by such person, or who provides auxiliary services in connection with the preparation of tax returns, such as an e-file provider [Treasury Regulations section 301.7216-1(b)(2)].
What constitutes tax return information?
Tax return information is “any information, including, but not limited to, a taxpayer’s name, address, or identifying number, that is furnished in any form or manner for, or in connection with, the preparation of a tax return” [Treasury Regulations section 301.7216-1(b)(3)]. Tax return information includes—
- information that the taxpayer furnishes to a tax return preparer,
- information furnished to the tax return preparer by a third party, and
- information that the tax return preparer derives from tax return information.
What constitutes disclosure and use of tax return information?
The definitions of disclosure or use are very broad. Disclosure of tax return information is “the act of making tax return information known to any person in any manner whatever” [Treasury Regulations section 301.7216-1(b)(4)]. For example, a tax return preparer discloses tax return information when she provides client tax documents to another person in her firm.
Use of tax return information is “any circumstance in which a tax return preparer refers to, or relies upon, tax return information as the basis to take or permit an action” [Treasury Regulations section 301.7216-1(b)(5)]. A tax return preparer uses tax return information when she makes any recommendation or offers services to a taxpayer client based on the client’s tax return information. For example, a tax return preparer would be using tax return information if, during the preparation of a client’s tax return, the preparer determines that the client is eligible to make a contribution to an IRA and discusses this option with the client.
Treasury Regulations section 301.7216-2 contains an extensive list of disclosures and uses of tax return information that a tax return preparer may make without the taxpayer’s prior consent. IRC section 7216 itself specifically states that the regulations will govern. Disclosure is permitted in the following cases:
- To others in a return preparer’s firm who will assist in the preparation of a tax return
- If a tax return preparer provides software to a taxpayer for use in preparing or filing the taxpayer’s tax return to address changes in IRS forms, changes in e-file specifications, or new administrative, regulatory, or legislative guidance, and to test and ensure the software’s technical capability [Treasury Regulations section 301.7216-2(c)].
Narrow disclosure is also permitted to a tax return preparer who is outside the first tax return preparer’s firm, but who lives within the United States, and who will prepare or assist in preparing tax returns. This disclosure is not permitted, however, if the second return preparer will make substantive determinations that affect a taxpayer’s tax liability. A substantive determination involves “an analysis, interpretation, or application of the law.” Basically, this means that disclosure is permitted to an outside service that simply fills out and files tax returns, such as an e-file provider [Treasury Regulations section 301.7216-2(d)].
The regulations are stringent regarding the sharing of information with tax return preparers outside of the United States. A tax return preparer may not send any tax return information outside the United States without the client’s prior consent—period. Conversely, a U.S. tax return preparer may use or disclose tax return information gained from a tax return preparer outside the United States only if the taxpayer initially furnished the information to the non-U.S. tax return preparer, the U.S. tax return preparer is a member of a U.S. branch of the non-U.S. tax return preparer’s firm, and the disclosure or use is made to assist in the preparation of tax returns [Treasury Regulations section 301.7216-2(c)(3)].
Disclosures and uses may also be made of information concerning certain related taxpayers—such as family members, trusts and estates (and their beneficiaries and fiduciaries), partnerships and partners, and corporations and shareholders—but only if the first taxpayer’s tax interest in the information is not adverse to the second taxpayer’s tax interest in that information, and the first taxpayer has not expressly prohibited the disclosure or use. (It is unclear how the first taxpayer would know about the potential disclosure in order to prohibit it, since the regulations do not require the preparer to discuss this issue with the taxpayer.) Information disclosed to the second taxpayer may only be in the form in which it appeared on the first taxpayer’s return [Treasury Regulations section 301.7216-2(e)].
A corporate fiduciary, such as a trust company, that prepares a tax return for a client to whom it also renders fiduciary, investment, custodial, or management services may, unless the taxpayer directs otherwise, do the following:
- Disclose or use tax return information in the ordinary course of rendering those other services
- Make the information available to the taxpayer’s attorney, accountant, or investment adviser. [Treasury Regulations section 301-7216-2(i)]. Again, it is not clear how a taxpayer would know to direct otherwise.
The regulations are strict about a tax return preparer’s disclosure or use of tax return information for marketing purposes. A tax return preparer may use and maintain a list of client contact information for limited marketing purposes, but there are various requirements for and limitations on this use. The main restriction is that the list may be used only to provide tax return advice or offer additional tax return preparation services to the client, and not to offer other services or products [Treasury Regulations section 301.7216-2(n)].
In addition, a tax return preparer may maintain a statistical compilation of tax return information related to internal management or in support of his tax return preparation business, or for bona fide research or public policy discussions. This statistical compilation may also be used in marketing and advertising so long as it—
- is anonymous,
- does not disclose aggregate data from fewer than 10 taxpayers, and
- is not false or misleading.
A tax return preparer cannot, however, use any statistical compilations that identify dollar amounts or percentages relating to dollar amounts, such as amounts of refunds obtained for clients [Treasury Regulations section 301.7216-2(o)].
The following disclosures and uses are also permissible without a taxpayer’s consent:
- Disclosure pursuant to other provisions of the IRC, or to an officer or employee of the IRS
- Disclosure pursuant to a court order, subpoena, or similar requirement, or to report the commission of a crime
- Disclosure to contractors in connection with the programming, maintenance, or procurement of equipment used in return preparation
- Disclosure to an attorney in order to obtain legal advice, or in connection with Treasury investigations or court proceedings
- Disclosure to an individual taxpayer’s fiduciary, such as the executor of the taxpayer’s estate
- Disclosure or use in an audit under the law of any state or local tax authority
- Disclosure or use, if necessary, for a tax return preparer to collect payment for tax preparation services
- Disclosure or use to conduct quality, peer, or conflict reviews, but disclosure is permitted only to the reviewer and the preparer [Treasury Regulations sections 301.7216-2(a), (d), (f), (g), (j), (l), (p), and (q)].
Significantly, certain disclosures or uses are permitted only by CPAs or attorneys—not by other kinds of preparers. Consistent with applicable legal and ethical responsibilities, CPAs may use taxpayers’ information, and may disclose it to another employee or member of their firm, in order to provide other accounting services to the taxpayer. For example, a CPA may do the following:
- Use a taxpayer’s tax return information in connection with preparing books and records, working papers, or accounting statements for the taxpayer
- Within the normal course of rendering accounting services, make the taxpayer’s tax return information available to third parties, including stockholders, management, suppliers, or lenders, unless the taxpayer directs otherwise [Treasury Regulations section 301.7216(h)(1)].
Once more, it is unclear how the taxpayer would know to direct otherwise, since the regulation does not require the CPA to give the taxpayer warning of these disclosures and uses.
Finally, a CPA, consistent with applicable legal and ethical considerations, may also take taxpayer information into account, and act upon it, in performing accounting services for another client, but only if—
- the tax return information is or may be relevant to the subject matter of the accounting services for the other client, and
- consideration of the tax return information is necessary for the proper performance of the accounting services for the other client [Treasury Regulations section 301-7216-2(h)(2)].
The AICPA Confidential Client Information Rule
CPAs must not only be familiar with IRC section 7216 and its regulations, but also with the AICPA’s Code of Professional Conduct section 1.700.001, the “Confidential Client Information Rule,” which differs from section 7216 in some respects. It is significant that Treasury Regulations section 301.7216-2(h) uses the term “consistent with applicable legal and ethical responsibilities” in connection with disclosures that may be made only by CPAs or attorneys—recognizing that these professionals may face additional ethical requirements.
As with section 7216, the basis of the AICPA’s rule is that a CPA must obtain client consent before disclosing the client’s tax return information to third parties. This rule, however, applies to any information obtained from a client that is not available to the public, as opposed to information that is furnished in connection with tax return information under IRC section 7216, thus potentially covering a broader category of information.
Like the Treasury Regulations, the AICPA’s rule addresses the use of third-party service providers, such as e-file providers, but it is more stringent. AICPA Rule Interpretation 1.700.040 presumes that confidentiality under the rule is threatened whenever a CPA uses a third-party service provider. Consequently, a CPA should either enter into a contract with the third-party service provider specifically to maintain the confidentiality of the covered taxpayer information, or obtain consent from the client before disclosing tax return information to the provider.
In contrast to the Treasury Regulations’ authorization of a tax return preparer’s production of a statistical compilation of data, AICPA Rule Interpretation 1.700.060 takes the position that, if a CPA complies with a request from a third party that may result in the disclosure of the client’s information to others, even without the client being specifically identified by name, confidentiality is threatened. If the client information is considered confidential, a CPA would be in violation of the AICPA’s rule for disclosing or using information in this way unless the client specifically consents, preferably in writing.
Rules to Live By
Although IRC section 7216 and Treasury Regulations section 301.7216-2 are complex, tax return preparers must become familiar with these provisions, and CPAs must be familiar with the Confidential Client Information Rule, since violations can be prosecuted as a federal crime, result in fines, and result in disciplinary measures under Circular 230 or the AICPA Code of Professional Conduct.