As news headlines proclaim stories of tax fraud, taxpayers may wonder how they can trust that their tax preparer is abiding by ethical practices. Fortunately, the Treasury Department provides a resource that regulates practice before the IRS for certified public accountants (CPAs), attorneys, and enrolled agents. Known as Circular 230, this publication contains the guidance needed for responsible and well-trained tax professionals to ensure they are making decisions in step with current tax law.
For instance, how do you determine if a tax planner is charging a reasonable fee? Taxpayers will first want to understand the difference between reactive tax work and proactive tax planning. Reactive tax professionals mainly focus on getting your tax return in by the deadline and identifying easy targets for reducing tax liability. They often charge an hourly rate but may also be juggling a higher volume of clients and therefore may pay less attention to your return. On the other hand, proactive tax planners are more likely to charge a value-based fee, which allows them to be more selective about their clientele and dedicate more attention to every tax return. Proactive tax planners are aware of the steps that should be taken months before a tax deadline to maximize tax savings, as well as the shortcuts to quick savings that are available under current tax law.
Taxpayers should also be aware that under Circular 230 tax professionals are prohibited from charging “unconscionable fees.” A reliable guideline is that a fee should represent a fair exchange of value. For example, if a tax planner estimates that their work will save you $20,000 per year for the next couple of years, would it be fair for them to charge a $100,000 fee? Surely not! However, if the tax savings could be expected to come in at $20,000 per year for at least three years, a tax preparer is within their rights to charge a fee that corresponds to the provided value of $60,000 or more in savings.
Another example of an unconscionable fee is if a tax preparer were to take the fee but not do any of the work. However, taxpayers should not make the mistake of engaging a tax planner, paying the fee, and then failing to provide the information needed to create a tax plan within the necessary timeframe. Because of the engagement, the tax planner loses a slot on their calendar and has to turn away other potential clients—this arguably means there is still an opportunity cost, and depending on the terms of the engagement letter, the taxpayer may not be able to reclaim that fee.
Circular 230 also stipulates that contingent fees are not allowed except under one of these circumstances:
- The examination of or challenge to an original tax return or an amended return or claim for refund
- A claim for penalty or interest relief
- A judicial proceeding arising under the Internal Revenue Code (IRC)
A contingent fee exists when the fee is based on a specific outcome, such as:
- The IRS approving (or failing to challenge) a position taken on a tax return,
- A certain amount of refund money received or taxes saved, or
- Another specific result achieved on a tax return
One example would be if the IRS denies a refund claim, and the tax planner’s contract says that if this happens the client receives some or all of their money back. Because the tax planner’s fee depends on the outcome of the claim, this would be considered a contingent fee.
However, as with most tax laws, there may be exceptions to this restriction. In the case of Ridgely v. Lew, the tax court allowed an accountant to charge a contingent fee on an ordinary refund claim on the grounds that this was not considered “practice before the IRS,” since the taxpayer proactively filed the claim after determining they had overpaid on taxes. This goes to show that depending on the details of the situation, an experienced tax professional can sometimes identify a valuable exception to the rule for their clients.
To receive ethical and knowledgeable guidance on your next tax return, reach out to a Certified Tax Planner today.