The AICPA called on Congress and the IRS and Treasury Department to reform civil tax penalties, which it said have strayed from their intended purpose of promoting voluntary compliance with tax laws.
A report and cover letter signed by Alan Einhorn, chair of the AICPA’s Tax Executive Committee, were submitted Friday to leaders of congressional tax-writing committees, IRS Commissioner Doug Shulman, IRS Chief Counsel William J. Wilkins and Acting Assistant Treasury Secretary for Tax Policy Michael Mundaca. The report was developed by an AICPA Penalty Reform Task Force and approved by the Tax Executive Committee.
As the nation approaches the 20th anniversary of enactment of the Improved Penalty Administration and Compliance Tax Act, included in PL 101-239, civil penalties again need an overhaul, the report said. While the core purpose of civil penalties is promoting voluntary compliance, the report says penalties have increasingly been diverted toward raising revenue and driving tax policy. And while the government’s interest in combating abusive tax shelters is understandable, it has increasingly relied on an ad hoc approach to creating new penalties. As a result, some penalties are unclear about what behavior they prohibit and disproportionate in their severity, the report said. For example, the IRS recently acknowledged that the IRC § 6707A penalty of $100,000 for individuals and $200,000 for other taxpaying entities for failing to disclose listed transactions has in some cases far exceeded the tax benefit realized, the report noted. (As part of that acknowledgment, the Service suspended collection enforcement of the penalty in certain cases through Sept. 30.)
The report also identified what it said were other faults in civil penalties or their administration:
- Penalties that are overbroad or deter remedial and other good conduct and punish innocent conduct. For example, a taxpayer must report a reportable transaction potentially subject to the section 6707A penalty to the Office of Tax Shelter Analysis. If a taxpayer makes a “mere footfault,” inadvertently or out of a misunderstanding, of first disclosing it on a tax return but not with the Office of Tax Shelter Analysis, the taxpayer is punished as though he or she never reported the transaction, the report said.
- A trend toward strict liability. This refers to penalties that don’t allow a “reasonable cause … in good faith” exception (section 6664(c)). One provision lacking such an exception is section 6662(d) for “tax shelters,” even though, the report said, the term “tax shelter” has not been clearly defined.
- A lack of basic procedural due process for some penalties or procedural hurdles such as the inability of partners to raise partner-level defenses in partnership proceedings under provisions of the Tax Equity and Fiscal Responsibility Act of 1982.
- Standards inconsistent with the role of tax professionals. Although a penalized tax shelter transaction is defined as one with a “significant purpose” of tax avoidance, “preparers are not in the best position to know the taxpayer’s purpose for entering into a particular transaction, let alone assess whether such a purpose is significant,” the report said.
The report proposes greater coordination and oversight of penalty administration, better internal training and guidance and more education for taxpayers and tax professionals.
The AICPA will provide more specific recommendations in a follow-up letter, Einhorn wrote.