Ethics: Best practices and client boundaries

Tax professionals, including CPAs and enrolled agents, must adhere to a strict code of ethics outlined in Circular 230. Violating these rules can lead to significant penalties, ranging from fines to suspension or disbarment from practice. It is crucial for tax pros to understand these ethical standards and apply them diligently to protect themselves and their clients.

Here’s what you need to know to get a refresher on ethics.

Adhering to Circular 230

Circular 230 defines the duties and restrictions for individuals who, for compensation, prepare or assist in preparing tax returns or claims for a refund. These rules cover various aspects of professional conduct and are enforced by the IRS Office of Professional Responsibility (OPR).

Due diligence requirements

A core principle of Circular 230 is due diligence, which requires practitioners to exercise care and accuracy when preparing returns and other documents submitted to the IRS. This includes making reasonable inquiries to ensure the information provided by a client is accurate.

For example, when a client claims dependents for benefits such as the Child Tax Credit, American Opportunity Credit, Head of Household status, or the Earned Income Tax Credit, the preparer must have documentation or proof, such as residency verification, to support the claim. Failure to do so can result in a penalty of $635 per instance.

Frivolous arguments and unreasonable positions

Tax professionals should never take frivolous positions on a tax return or other submission. A frivolous argument is one that is based on positions known to be contrary to law, such as the claim that taxes are unconstitutional. Submitting a return with a frivolous position can result in a $5,000 penalty.

Similarly, a preparer can be penalized for an understatement of liability due to an unreasonable position, which is a position that lacks substantial authority. This penalty can be the greater of $1,000 or 50% of the preparer’s income from the return. If the conduct is willful or reckless, the penalty increases to the greater of $5,000 or 75% of the preparer’s income from the return.

Prohibited financial practices

Two financial practices are strictly prohibited for tax preparers:

1. Negotiating refund checks: Practitioners are not allowed to negotiate or directly deposit a client’s federal refund check. Violations can lead to a $635 fine per occurrence.
2. Contingency fees: Charging fees contingent on the outcome of a tax return is generally prohibited, except for limited situations such as audits or judicial proceedings. An example of a prohibited contingency fee would be basing a preparer’s fee on a percentage of the refund generated.

Proper handling of client documents

Tax professionals are responsible for the proper handling of client documents. They must do the following:

• Provide a copy of the return: A copy of the completed tax return must be given to the client before or at the time they sign Form 8879, IRS e-file Signature Authorization. Failure to do so can result in a $60 penalty per instance, up to a maximum of $31,500.
• Return client records: A practitioner must return all client records necessary for the client to comply with their federal tax obligations, even if there is a fee dispute.

Conflicts of interest and representation

A practitioner cannot represent a client if doing so would create a conflict of interest. This occurs when the representation of one client would be directly adverse to another, or when there is a significant risk that the representation of one or more clients would be materially limited by the practitioner’s responsibilities to others. In some cases, representation may still be possible if the practitioner obtains a written waiver from all affected clients within 30 days of identifying the conflict.

Confidentiality and disclosures

The information a tax preparer receives from a client is confidential and can only be used for the purpose of preparing the tax return. Unauthorized disclosure of this information, such as using a client’s story for marketing without their permission, can result in penalties of $250 per disclosure. More egregious offenses, including recklessly or knowingly disclosing information, can lead to criminal charges, including fines and imprisonment.

Consequences for practitioners

The OPR can pursue several actions against a practitioner who violates Circular 230, including the following:

• Censure: A public reprimand.
• Suspension: A short-term ban on practicing before the IRS.
• Disbarment: A long-term or permanent ban on practicing before the IRS.

These disciplinary actions can be imposed in addition to civil or criminal penalties. The penalties for practitioners are often stricter than those for taxpayers, so it is critical to prioritize ethical conduct over client pressure. When faced with an ethical dilemma, a tax professional should trust their judgment and, if necessary, decline to represent a client who insists on an unethical or illegal course of action.

FAQs

Q: What is Circular 230 and who enforces it?

A: Circular 230 outlines the duties and restrictions for individuals who prepare tax returns or claims for refund for compensation, and it is enforced by the IRS Office of Professional Responsibility (OPR).

Q: What are the due diligence requirements for tax preparers?

A: Due diligence requires preparers to exercise care and accuracy when preparing submissions and includes making reasonable inquiries to ensure a client’s information is accurate and supported by documentation.

Q: What is a “frivolous argument” and what is the associated penalty?

A: A frivolous argument is one based on positions known to be contrary to law, such as claiming that taxes are unconstitutional, and submitting a return with one can result in a $5,000 penalty.

Q: What two financial practices are strictly prohibited for tax preparers?

A: Tax preparers are prohibited from negotiating or directly depositing a client’s federal refund check and generally prohibited from charging contingency fees, except for limited situations like audits.

Q: What are the consequences the OPR can pursue against a practitioner who violates Circular 230?

A: The OPR can impose several disciplinary actions, including censure (a public reprimand), suspension (a short-term ban), or disbarment (a long-term or permanent ban) from practicing before the IRS.