QUESTION: Every email and letter that I receive from an accountant,
lawyer or financial planner includes a cop-out disclaimer about
penalties. I thought that getting advice from a tax pro and relying on
that advice would protect me from potential tax penalties. What's the
deal?

REPLY: Once upon a time, a taxpayer could avoid many kinds of
penalties by showing an IRS agent that the taxpayer had (1) sought
advice from a tax advisor, (2) had followed that advice and (3) could
prove it. Some tax people and taxpayers referred to this as "penalty
insurance".

But over time, some of the more aggressive taxpayers and promoters of
marginal tax theories made a mockery of this process. A half page
opinion would be issued to a taxpayer who was investing in a costly
and complex tax deal or tax shelter investment. Close behind were
opinions that simply failed to inform the taxpayer about a variety of
tax code sections, IRS regulations, revenue rulings and court cases
that could cast doubt on the validity of the proposed transaction.

Meanwhile, as further background, the tax code has given the IRS the
authority to regulate tax professionals who seek to represent
taxpayers in disputes before the IRS. Lawyers, CPAs, enrolled
actuaries and enrolled agents are subject to these regulations. The
related regulations have been compiled into a document called
"Circular 230". Except for the rules relating to tax shelter opinions,
these regulations have not been a substantial burden on tax advisors.

But in 2004, the Congress passed some sweeping new rules that were due
in large part by the many flagrant tax deals that caused a number of
large corporations to self-destruct. Part of the blame was laid at the
feet of the tax professionals who gave the corporations legal cover
through their opinions. The 2004 law extended the authority of the IRS
to regulate the issuance of tax opinions by tax professionals.

Early in 2005, the IRS released an expanded and revised set of
regulations in Circular 230 which have caused the flurry of tax
disclaimer opinions by all kinds of tax professionals.

Due to the revised IRS regulations of tax preparers, tax payers can no
longer avoid negligence and understatement penalties by claiming they
relied on the advice of a tax professional -- UNLESS such advice is in
writing and includes an exhaustive review and discussion of all
pertinent tax code sections, IRS regulations and rulings and
applicable court decisions. The time required to comply with these
rules makes them cost prohibitive for routine tax advice. And the
intentional ambiguity of the new regulations leave tax professionals
in a position where they have to presume that the new rules apply to
advice on even routine tax matters.

If construed aggressively by the IRS, these rules could apply to
financial planners, insurance agents and stock brokers as well as to
tax preparers, tax lawyers and public accountants who are not tax
specialists. The regulations could also be applied to lawyers who are
not tax specialists but who give advice that has tax implications --
such as divorce law or asset protection law. Appraisers who certify
to the value of various assets for the purpose of valuing an estate or
making charitable deductions or allocating the cost elements of the
purchase or sale of a business could also be affected by these
regulations.

However, the time required to prepare an opinion that appears to meet
the expansive rules in Circular 230 will be comparable to the time
reqired for a lawyer to issue a well reasoned legal opinion. A number
of lawyers have indicated that they won't consider writing a simple
covered opinion for less than $30,000. And a lot of accountants have
indicated to me that they won't issue a covered opinion for any amount
if only because such an opinion requires a legal judgment as to the
prospect of prevailing in the event of a dispute with the IRS.

The alternative provided in the IRS regulations is for tax advisors to
issue limited opinions which expressly do not protect the taxpayer
from potential penalties because of a disclaimer that must be included
in the limited opinion. The following is the type of limited opinion
that you often see in my comments on this list.

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The comments in this memorandum are not intended to constitute an
opinion regarding any specific tax issues because additional tax
issues may exist that could affect the tax treatment of the tax issues
addressed in this memo. This memorandum does not consider or reach a
conclusion with respect to those additional issues and was not written
and cannot be used for the purpose of avoiding penalties under code
section 6662(d). For further details see
http://www.offshorepress.com/vkjcpa/disclosurerules.htm
---------------------------------------------------------

The reference to further details is to an extensive article I wrote a
few months after the IRS imposed their new rules.

Vern