Scott E. Vincent
Vincent & Fontg LLC
Kansas City

The IRS has issued new rules in connection with its ongoing campaign against tax shelters that have broad application, including requirements for new disclosures by lawyers providing advice with tax implications. These new rules probably require disclosures for issues as broad as organizational planning (e.g. S corporation versus LLC advice), estate planning, and for litigation lawyers, the structure and tax implications of a settlement.

Background

Practice before the IRS by attorneys, accountants and other professionals is generally governed by a set of regulations referred to as "Circular 230." The IRS recently finalized updates to Circular 230 that now impose strict standards on professionals who give tax shelter opinions. Although Treasury and the IRS had promised to publish these final regulations shortly after proposed regulations were released in December 2003, the Circular 230 changes were delayed due to practitioners' concerns about the scope of the rules.

Shelter Opinions

The Circular 230 standards apply to "covered opinions," defined as written advice (including e-mails) on a tax issue involving:

1. Abusive ("listed") tax shelter transactions identified by the IRS;

2. An entity or arrangement created for the principal purpose of avoiding or evading taxes; or

3. An entity or arrangement that has a principal purpose of avoiding or evading tax, if the opinion is a reliance, marketed or confidential opinion, or includes contractual protection. (Note: A reliance opinion is one concluding that there is a greater than 50 percent chance that the recommended tax treatment will be upheld; a marketed opinion is one that will be used to promote, market or recommend a tax shelter arrangement.)

Practitioners who issue tax shelter opinions must use reasonable efforts to identify all relevant facts, discuss the applicable law, evaluate the significant tax issues, and give an opinion on "significant" tax issues that could jeopardize the transaction's tax benefits. The IRS also requires tax supervisors to ensure their firm's compliance with the shelter opinion rules.

The regulations also require practitioners to inform investors of any referral or compensation arrangement with a transaction's promoter and to disclose that their opinion may not protect the client from penalties. The final regulations apply to opinions issued after June 20, 2005.

Practitioners' Concerns

Practitioners have complained that this tax shelter opinion definition is too broad and will have unintended application to normal practitioner-client relationships. The final regulations attempted to address these concerns by excluding: preliminary advice; opinions on qualified pension plans or for SEC documents; and opinions indicating that the opinion cannot be used to avoid penalties. Other than these specific "carve-outs," this new language still has broad apparent application, and many practitioners are attempting to craft disclosures to confirm that their opinions cannot be used to avoid penalties in an effort to fit the exclusions.

Disclosures

As noted, many firms are now adding disclosures to emails, letters and other written advice in an effort to meet Circular 230 exclusions and, thereby, avoid the significant tax shelter disclosure requirements. The idea for this article, in fact, came from a colleague whose firm has added an extensive disclosure to its emails. A recent CCH article (2005 TAXDAY, June 17, 2005) noted that "to avoid the reach of the new rules, firms are developing disclaimers to include with every outside communication sent by the firm."

CCH notes that Treasury counsel has objected to this "legending" approach, saying that adding a disclaimer to every communication defeats the purpose of the rules, which is to ensure that clients are well-informed. However, I am not sure firms that regularly issue written advice with material tax implications can pursue any other approach.

Best Practices

The standards for application of Circular 230 are important to note as well. Treasury and the IRS expect tax advisors to provide the "highest quality" representation by complying with "best practices." The IRS acknowledges in the new regulations that best practices are "aspirational" and that practitioners will not be disciplined for lapses in best practices. Despite this concession, the IRS rejected a request by the American Institute of Certified Public Accountants to change this standard to "high quality" representation. As a result, practitioners will likely be held to a best practices standard in connection with Circular 230 compliance.

Non-Tax Shelter Advice

The final Circular 230 regulations also impose minimum standards for non-tax shelter advice. Practitioners may not rely on unreasonable factual assumptions, representations, statements or findings they knew or should have known were incorrect or incomplete. Treasury and the IRS also issued proposed regulations on bond opinions that should be carefully consulted by bond counsel.

Conclusion

Practitioners are still reacting to the Circular 230 changes, and the IRS is still determining how the new standards will be enforced through its Office of Professional Responsibility. Until these issues mature, attorneys and their firms should strongly consider additional disclosures in connection with any written advice that has material tax implications. I suggest that each firm should determine the appropriate disclosures necessary for its practice (a simple computer search will turn up a variety of examples).