On April, 23, 2007, the Internal Revenue Service issued Notice 2007-39 (“the Notice”), which provides guidance to the IRS’s Office of Professional Responsibility (“OPR”) in exercising its authority to impose monetary penalties for practitioner misconduct. This authority is granted by Section 822 of the American Jobs Creation Act of 2004 (“AJCA”) and is codified in 31 U.S.C. § 330. The Notice specifies that the monetary penalties may be imposed only with respect to prohibited conduct that occurs after October 22, 2004, the date of enactment of the AJCA.NE

The monetary penalties supplement the statutory sanctions against practitioner misconduct already available to OPR, in the form of reprimand, public censure, suspension or disbarment. The Notice clarifies that the monetary penalties are not a “bargaining point” which a practitioner may offer to avoid these sanctions. Nevertheless, in appropriate cases, OPR may choose to impose monetary penalties in lieu of sanctions. Additionally, the Notice states that the monetary penalties may be imposed upon the individual whose misconduct is at issue as well as the firm or company, or other related entity, that employs or is associated with the individual --- provided that the employer, firm or entity knew, or reasonably should have known, of the conduct giving rise to the penalty.

Penalties Apply to In-house Tax Advisors

Before launching into a brief discussion of the penalties, it is important to note OPR’s position on the scope of its authority over in-house tax advisors. We understand that OPR interprets the AJCA as extending its jurisdiction to impose monetary penalties to tax counsel, tax directors and other in-house tax advisors who render written tax “opinions” to, or for the benefit of, their employer, regardless of whether these individuals actually practice before the IRS. This is different from OPR’s sanctions authority, which has historically been limited to those tax practitioners, whether independent or in-house, who practice before the IRS, for example by filing a Form 2848 to represent a taxpayer (including an employer) in a tax examination.

Measure of Monetary Penalties

Under the 31 U.S.C. § 330(b), the aggregate monetary penalties cannot exceed the gross income derived (or to be derived) from the prohibited conduct giving rise to the penalties. In the event that a larger engagement began on or before October 22, 2004, the “gross income derived (or to be derived)” will be calculated, on a pro rata basis, to exclude amounts attributable to conduct occurring on or before October 22, 2004.

OPR may impose monetary penalties for a single act of prohibited conduct or for a pattern of misconduct. The aggregate amount of the monetary penalty (or penalties) imposed by OPR for any prohibited conduct may not exceed the collective gross income derived by the practitioner and the employer, firm, or other entity in connection with such prohibited conduct. If a single act of prohibited conduct giving rise to a monetary penalty is an integral part of a larger engagement, the amount of the penalty will be limited by the gross income derived (or to be derived) from the larger engagement. In determining the amount of the monetary penalty (or penalties), OPR will consider amounts that the practitioner, employer, firm, or other entity could reasonably expect to realize, irrespective of whether the amounts have actually been received.

Factors OPR Will Consider

The Notice explains that, mitigating factors will be considered in determining the penalty and may include whether the practitioner, employer, firm, or other entity took prompt action to correct the noncompliance after the prohibited conduct was discovered; promptly ceased engaging in the prohibited conduct; attempted to rectify any harm caused by the prohibited conduct; or undertook measures to ensure that the prohibited conduct would not occur again in the future. OPR will not impose monetary penalties in cases of minor technical violations, when there is little or no injury to a client, the public, or tax administration, and there is little likelihood of repeated similar misconduct. However, the Notice does not define or give examples of what it means by a “minor technical violation” or any of these other mitigating circumstances. The Notice does, however, point out that the IRS may issue additional guidance regarding the application of monetary penalties, including, but not limited to, the factors OPR should consider when evaluating all the facts and circumstances of a particular case. The IRS has requested comments with regard to the factors to be considered when imposing a monetary penalty.

OPR has yet to publish any guidelines pertaining to the sanctions that it may impose under Circular 230. In fact, the considerations that underlie a decision by OPR to sanction a practitioner are somewhat of a mystery to the tax community. While the Notice clarifies certain issues arising under the new monetary penalty regime, here, as well, there is room for further clarification.

The new monetary penalty regime is a noteworthy addition to OPR’s arsenal of enforcement tools. It serves to remind tax professionals that the IRS and Congress are serious about cracking down on misconduct in the tax practice area, in the case of both private practitioners and practitioners employed in the corporate world. Developments in this area should be monitored closely.

This article is designed to give general information on the developments covered, not to serve as legal advice related to specific situations or as a legal opinion. Counsel should be consulted for legal advice.