Question

What are some court cases where individual tax payer relies on tax preparer, but gets understatement and negligence penalties form the irs? Is the tax payer subject to these penalties although they were not responsible for the mistakes on the 1040?

Answer 1

The above problem can be understood by the following case law:

Whitsett, T.C. Memo. 2017-100, the Tax Court addressed how a taxpayer can show such reliance. In that case, the IRS determined Carolyn Whitsett was liable for an accuracy-related penalty because she reported income in the wrong year, but the Tax Court rejected the IRS's claim because it found that she had reasonably relied on her tax preparer's advice in determining which year to include the income.

FACTS:

After Whitsetts and her husband separated in 1998, all the shares of Immucor stock were transferred to her, based on the terms of their divorce settlement.

Whittemore needed additional time to prepare Whitsett's 2011 return and prepared an extension request, which he provided to her. The extension request showed an estimated balance due of $154,776. The extension request was filed, and the IRS processed it as of April 11, 2012. Whitsett sent a check for the balance due to the IRS in May 2012. The IRS applied this payment to her account for 2011.Although Whitsett had completed a 2011 tax organizer for Whittemore and submitted it along with all the requested documents to him, Whittemore did not file her 2011 tax return by the extended due date, Oct. 15, 2012, and, in fact, never filed her 2011 return. The IRS has no record of ever receiving that return. He completed the 2011 tax return during February 2013, and Whitsett paid the 2011 balance due of $5,393 on March 4, 2013.Unaware that her 2011 return had not been filed, Whitsett retained Whittemore to prepare her 2012 return, which also was extended.

On Dec. 9, 2013, Whitsett received an IRS notice CP80 stating her 2011 account had a credit of $165,562 but that no 2011 return had been filed. She promptly sent the IRS a letter expressing her understanding that Whittemore had filed her 2011 return electronically.

At this point, realizing that something had gone seriously wrong, Whitsett sought new assistance and hired a tax lawyer to represent her. The lawyer prepared and filed a correct 2011 return that did not include the proceeds from the Immucor sale and requested a refund of $174,359, which was designated to be applied to Whitsett's 2012 liability.

In addition, Whitsett filed a petition in Tax Court challenging the IRS's deficiency determination.

The IRS is likely to assess a negligence penalty if:

• tax return didn’t include income from an information statement, like Form 1099-MISC.
• One didn’t make a reasonable attempt to confirm whether he/she was entitled to claim a deduction, credit, or exclusion return – one that a reasonable person would think was “too good to be true” under the circumstances.
• One isu nder audit and don’t have records to support tax return items.

AVOIDING PENALTIES:

The Tax Court has created a three-prong test to determine whether a taxpayer relied in good faith on the advice of a tax professional. The three elements the taxpayer must show are:

(1) The adviser was a competent professional who had sufficient expertise to justify reliance

(2) the taxpayer provided necessary and accurate information to the adviser

(3) the taxpayer actually relied in good faith on the adviser's judgment

CONCLUSION:

As the above case law shows, a taxpayer can establish the reasonable-cause and good-faith requirement if he or she reasonably relied on the advice of a tax adviser to file the return. Thus, when a client is facing accuracy-related penalties, practitioners should consider whether the facts in the client's case support relief from the penalties on this basis.

ANOTHER CASE LAW:

As demonstrated by the Cosentino case, the Tax Court and the IRS disagree about the application of this general rule in certain circumstances where the IRS claims the tax or penalty is due to the transaction giving rise to the tax or penalty rather than by a mistake on the part of the adviser.