What Counts as Tax Advice?

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What Counts As Tax Advice?
What Counts As Tax Advice?
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What if a CPA talks to you and tells you about a tax law? You have received tax advice, right?

What if a CPA sends you a letter or email saying the same thing he would have said to you in person, had he spoke to you in person? Probably still tax advice, no?

What if the CPA fills out a tax form that takes a certain tax position consistent with what he would have said to you in person, had he spoken to you in person? Is that tax advice?

The Bear v. United States, No. 19-1439 (Ct. Cl. 2020) case addresses this question in the context of a late filing penalty.

Facts & Procedural History

The facts in the case are unremarkable. I’ll go through them here as the facts are very common and, if you are reading this, they probably mirror the facts in your case too.

The taxpayer is a business litigation attorney. He hired a CPA to file his tax returns.

The CPA prepared the Form 4868, Application for Automatic Extension of Time
To File U.S. Individual Income Tax Return
, and provided a copy of the completed form to the taxpayer.

The CPA did not mail or e-File the Form 4868 with the IRS.

When the CPA filed the taxpayer’s tax return before the extended due date.

The IRS assessed a late filing penalty and the taxpayer paid the penalty.

The taxpayer filed a Form 843, Claim for Refund and Request for Abatement, seeking a refund for the amount of the penalty. He filed suit against the IRS after the IRS failed to timely act on his refund claim.

About the Late Filing Penalty

The late filing penalty can be substantial. It is five percent of the tax liability if the return is flied one month late and five percent for each additional month thereafter. The maximum penalty is 25 percent.

This is why it is almost always better to file a timely return, even if the return is not 100% correct and even if the tax is not being remitted with the tax return.

The IRS is can and does remove or abate late filing penalties. There are several ways that penalties can be abated by the IRS. The most common is that the taxpayer establishes reasonable cause.

We have covered reasonable cause at length in other articles. You can read one here about illness as a defense to penalties, drug addiction as a defense to penalties, and reliance on a CPA to avoid penalties.

Reliance on Tax Advice

One way to establish reasonable cause is to show that you, the taxpayer, relied on the advice of a tax professional. The Neonatology Assocs., P.A. v. Comm’r, 115 T.C. 43, 99-100 (2000), aff’d, 299 F.3d 221 (3d Cir. 2002) case is the leading case on point.

The Neonatology case involved welfare benefit plans that were sold to the taxpayer as a means of reducing the taxpayer’s income taxes. The appeals court provides this summary:

taxpayers paid artificially inflated premiums in a creative bookkeeping ploy conceived by their insurance specialists to exploit what they thought were loopholes in the tax laws.

Even though the case was complicated by the complex nature of welfare benefit plans, the tax law at issue was not complex:

this case does not involve novel questions of law but rather is concerned with the application of well-settled principles of taxation to determine whether certain expenditures made by close corporations are deductible as ordinary and necessary business expenses or taxable as constructive dividends. 

The court ended up not allowing the tax deductions at issue and upheld the penalties. With respect to the penalties, the court confirms that reliance on an advisor can be a viable defense in some cases:

While it is true that actual reliance on the tax advice of an independent, competent professional may negate a finding of negligence, see, e.g., United States v. Boyle, 469 U.S. 241, 250, 105 S.Ct. 687, 692, 83 L.Ed.2d 622 (1985), the reliance itself must be objectively reasonable in the sense that the taxpayer supplied the professional with all the necessary information to assess the tax matter and that the professional himself does not suffer from a conflict of interest or lack of expertise that the taxpayer knew of or should have known about. See Treas. Reg. § 1.6664-4(c); Ellwest Stereo Theatres, Inc. v. Comm’r, T.C. Memo. 1995-610, 70 T.C.M. (C.C.H.) 1655; see also Zfass v. Comm’r, 118 F.3d 184, 189 (4th Cir. 1997).

In upholding the penalties, the court focused on the too-good-to-be-true nature of the tax deductions and the higher education and sophistication of the taxpayers in the case.

The taxpayer in the Neonatology case did not explain what advice was provided. Given the nature of the transactions and that the penalty issue was decided on other grounds, the court did not consider whether any advice was actually provided to the taxpayer.

This leaves the question open as to what advice counts? The Bear case helps to answer this question.

Ministerial Assistance vs. Tax Advice

In Bear, the taxpayer argues that the CPAs belief that he could not file a Form 4868 without the taxpayer including the full payment was advice. The taxpayer reasoned that the CPA sending the completed Form 4868 to the taxpayer was also advice. The court did not agree.

The court noted that ministerial assistance is not substantive advice on tax law. According to the court, the act of filing or not filing the Form 4868 was ministerial assistance and not advice. This is based on the taxpayer admitting that there was no conversations between him and the CPA about the form:

The plaintiff and his CPA did not discuss the submission of the extension form: the plaintiff asked no questions, and the CPA provided no instructions. Had the plaintiff alleged such communication regarding whether payment had to accompany the request for additional time to file, such communication could have constituted legal advice.

This case should be compared to those like the Estate of Hake v. United States, No. 1:15-CV-1382 (M.D. Pa 2017) case. The Hake case had a late filing penalty assessed for a taxpayer who was advised by their tax attorney that the tax return due date was later than what the date actually was. The penalties were not upheld in that case as the taxpayers relied on advice from their tax attorney.

The Takeaway

Going back to the Bear case, the courts may have found reasonable cause had the taxpayer in Bear been advised by his CPA that he could not file the extension absent a payment. This could count as advice. Merely providing the form to the taxpayer was not tax advice.

The takeaway from this case is that one should talk to their CPA more. Maybe taxpayers should have their CPAs verbally describe the tax return, line by line, to the taxpayer. This conversation may count as tax advice. Tax advice is needed to establish reliance on tax advice, reliance on tax advice is needed to show reasonable cause, and reasonable cause is needed to abate a late-filing penalty.

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