As a proactive tax planner, you know that tax planning involves so much more than checking the compliance boxes. A big part of the value you offer is your ability to assess the client’s whole financial situation—past, present, and future. Whether you are filing an amended tax return to claim a missed deduction for a new client or forecasting five years into the future to maximize a client’s tax savings, actual tax planning can really wow a client when they realize how much they are able to save.
This is the basis for value pricing. Newer tax planners are often nervous to begin asking for higher prices based on the value they provide—perhaps because they are underestimating that value. Tax planners offer a high-level of expertise, saving clients time and providing peace of mind. After all, most clients would be starting at square one in trying to figure out a tax strategy. Having a trained professional on your side is a game changer and well worth the investment—if the tax savings alone weren’t enough.
If you want to adopt value pricing, there are considerations to keep in mind when it comes to compliance with Circular 230, which defines the ethical boundaries and duties for tax professionals. In today’s blog, we’ll cover contingent fees—a topic that is essential to understand in order to stay within bounds of the law.
What Are Contingent Fees?
The reason contingent fees deserve special attention is that most types of contingent fees are against the law. So what counts as a contingent fee? These fees are based in some way on the outcome of a tax return. This can take several different forms:
- A fee that is based on a percentage of a taxpayer’s refund or a percentage of the taxes saved
- A fee that is based wholly or partly on whether a tax position is sustained (or avoids challenge) by the IRS or the courts
- A fee arrangement where the tax planner reimburses the taxpayer (fully or partially) for some or all of the fee if the IRS challenges or invalidates a position
The most typical version of a contingent fee might look something like this: The tax planner proposes that the client pays 18% of the tax savings from their return. This type of arrangement is not allowed. Similarly, you cannot set up an engagement where the fee depends on whether certain tax deductions are upheld by the IRS or where you promise to refund a certain amount if the IRS challenges a claim made on that tax return. That last part is especially important to emphasize: You are not legally allowed to guarantee a certain result from the tax return “or get your money back.” You can agree in advance to continue work with your client in the event of an audit, but you cannot guarantee that an audit will not happen.
One other important note: Contingent fees have been the topic of some confusion recently because of the “One, Big Beautiful Bill” Act (OBBBA). OBBBA went through many iterations before reaching its final form, and at one point early on, the bill included language that basically barred the IRS from regulating contingent fees. However, this provision was removed before the bill was finalized. This means that all the previous rules surrounding contingent fees remain intact.
Contingent Fees vs. Value Pricing
For those who are uncertain about value pricing, a common objection is that it sounds too much like a contingent fee. Is that the case? With value pricing, you look at factors like the complexity of the plan, the time that’s going to be required to create the plan, and the rapport that you have with the client. Then based on those factors—and this is key—you propose a price before working on the tax plan. So the value-based plan is certainly not contingent on the taxes saved or the stance taken by the IRS, although you will definitely be focused on maximizing savings and formulating strong tax positions that are unlikely to be challenged. This is completely unlike a contingent fee, which is not completely calculable until after the tax return has been filed.
The matter of fact is that proactive tax planners will not want to charge a contingent fee. The goal is to be paid upfront for your work. You want to be in a position where your level of expertise and the trust you’ve built with the client allows you to determine a fee in advance. As we often say at the Institute, there has to be a synergy in the value exchange: It has to be a good deal for me and a good deal for you.
When Are Contingent Fees Allowed?
There are select circumstances when a contingent fee is allowed, as in the event of:
1. An exam or challenge to either:
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- An original tax return, or
- An amended tax return or refund claim filed within 120 days of the notice of examination
2. A claim for refund for statutory penalties and interest, or
3. Judicial proceedings arising under the Internal Revenue Code
This means that certain events must occur before contingent fees are on the table. If your client is facing an IRS exam or ends up going to tax court, you are permitted to charge a contingent fee if you choose to work with them throughout that process. You can also charge a contingent fee if your client objects to penalties and interest imposed for missing a filing or payment deadline and they want your help filing a claim for a refund. If you find yourself in any of these scenarios, be sure to thoroughly review the rules under Circular 230 before deciding whether a contingent fee makes sense in your case.
Contingent Fees in Real Life
Let’s look at an example to better understand contingent fees. Hugo did two separate engagements where he charged a fee of 18% of the savings realized. The first one was penalty abatement, using the “First Time Abate” program as basis to waive penalties for a late payment. The second one was a tax planning engagement for a small business owner. Is a contingent fee allowed based on the details of either engagement?
The first engagement would qualify under the “claim for refund for statutory penalties and interest” rule. Because Hugo is filing a refund claim for his client, a contingent fee is allowed.
In the second engagement, the contingent fee is prohibited. When we charge for tax planning, we cannot do a percentage of the savings realized. Since no IRS audit, court case, or penalty abatement is involved, there is no legally-permitted basis for charging a contingent fee.
Summary
Understanding the boundaries around contingent fees is key to running an ethical tax practice. In addition to largely being off limits, contingent fees are not a best practice for a proactive tax planner. Even if your client’s circumstances do allow for a results-based fee, you will still want to weigh whether this is the best choice for either you or the client. One of the reasons contingent fees are prohibited is to protect tax professionals’ concern for objectivity and accuracy. If our fees were tied to specific outcomes or tax savings, unscrupulous tax planners might be tempted to misrepresent things to earn a higher fee for themselves. For you, as a tax planner who seeks to provide actual value to your client, value-based pricing helps you to avoid this issue entirely and to instead rely on the value you can demonstrate to your client year after year.
To stay up-to-date on ethical considerations for your tax practice and the most current applications, sign up to be a Certified Tax Planner today!
