On September 14, in a stunning development governing the federal regulation of tax practitioners engaged in the "practice of tax" under 31 U.S.C. §3130, the Service,  proposed revoking the covered opinion standards in Circular 230 and also served up a package of proposed regulations on ethical standards concerning practice before the IRS.

There were some indications from Treasury officials and the IRS National Office, earlier this year that some changes on the covered opinion rules and Circular 230 were "in the winds". IRS Chief Counsel William J. Wilkins said at a conference in May that when he was in private practice, he was disappointed with the "rather inflexible" covered opinion approach of Circular 230, Section 10.35. The Treasury and IRS now concede that the negative aspects of the covered opinion rules require a major shift in the direction of reform and a simpler, more favorable environment for practitioners in advising clients on federal tax matters. After years of experience with these rules, the government and practitioners agree that the covered opinion rules are often burdensome and provide only minimal taxpayer protection. Overall, the benefit is insufficient to justify the additional costs associated with practitioner compliance with the covered opinion rules. After careful consideration, including consideration of the public's experience with and comments on these rules, Treasury and the IRS have concluded that the written advice standards should be revised. . For purposes of Section 10.36, "principal" management will be interpreted by OPR in a manner consistent with its meaning under Treas. Reg. Section 1.6694-2(a)(2) and Notice 2007-39.  

The proposed regulations attempt to achieve a more favorable environment for tax advisors and their clients while still maintaining proper standards that require the practitioner to act ethically and competently. The goal obviously is to strike a new balance in satisfying both objectives. The Treasury announced that the elimination of the covered opinion rules would, at a minimum, save tax practitioners $5,333,200. This burden reduction comes from the elimination of the provisions requiring practitioners to make certain disclosures in the covered opinion. How was that amount determined?

The proposed regulations streamline the existing rules for written tax advice by removing current Section 10.35 and applying one standard for all written tax advice under proposed Section 10.37. Proposed Section 10.37 provides that the practitioner must base all written advice on reasonable factual and legal assumptions, exercise reasonable reliance, and consider all relevant facts that the practitioner knows or should know. The proposed removal of the covered opinion rules in current Section 10.35 will eliminate the requirement that practitioners fully describe the relevant facts (including the factual and legal assumptions relied upon) and the application of the law to the facts in the written advice itself, and the use of Circular 230 disclaimers in documents and transmissions, including e-mails.

Other provisions, including Sections 10.31, 10.36, and 10.82, are also addressed in the proposed rule-making. In addition, a general competence standard is being proposed in new § 10.35. The proposed regulations also clarify that the Office of Professional Responsibility has exclusive responsibility for matters related to practitioner discipline, including disciplinary proceedings and sanctions.

The proposed rules expand the requirements for written advice, withdraw proposals for practice standards regarding state and local bond opinions, add a general competency requirement, and increase the ability of the IRS Office of Professional Responsibility to seek expedited suspensions. See REG-138367-06. Written comments on the proposed rulemaking may be received before November 16, 2012 and a hearing is scheduled for December 7, 2012.

The scope of these regulations is limited to practice before the IRS. These regulations do not alter or supplant other ethical standards applicable to practitioners.

Proposed Section 10.35 provides that a practitioner must exercise competence when engaged in practice before the IRS. Although a practitioner can be sanctioned for incompetent conduct under Section 10.51, no provision of Circular 230 specifically requires a practitioner to exercise competence when engaged in practice before the IRS. Section 10.35 is to be revised to make clear that a practitioner must possess the necessary competence when engaged in practice before the IRS. Proposed Section 10.35 specifies that competent practice requires the knowledge, skill, thoroughness, and preparation necessary for the matter for which the practitioner is engaged.

Revised Section 10.37 (as does current Section 10.35) permits practitioners in issuing written advice to rely on advice rendered by other tax professionals if such reliance is reasonable and done in good faith. However, it precludes reliance on tax advice of other tax professionals when the practitioner knows the other individual is incompetent or has a conflict of interest. Tax practitioners giving written advice they will no longer be required to include all relevant facts and the following legal conclusions based on those facts; rather, the IRS intends for advisers to consider the facts of each situation in determining the scope of the engagement. So, "short form" opinions are back provided there is adequate information and analytical work product contained in the practitioner’s files. Still, some tax practitioners especially in certain complex tax matters will set forth the facts in detail, conduct a due diligence review of the facts, including projections and will set forth a detailed analysis of the law in issuing an opinion.

Under proposed Section 10.37(c)(2), the IRS will continue to apply a heightened standard of review to determine whether a practitioner has satisfied the written advice standards when the practitioner knows or has reason to know that the written advice will be used in promoting, marketing, or recommending an investment plan or arrangement a significant purpose of which is the avoidance or evasion of any tax imposed by the Internal Revenue Code. Overall, the determination of whether a practitioner has failed to comply with the requirements of proposed § 10.37 will be based on all facts and circumstances, not on whether each requirement is addressed in the written advice.

The government further conceded that the over use of disclaimers, including the omnipresent appearance of disclaimers on e-mails, were not longer necessary under the proposed rules. As tax practitioners are fully aware, after Circular 230 was revised in 2004 (T.D. 9165) in response to a direction from Congress announced in the American Jobs Creation Act of 2004 to issue rules governing the issuance of written communications containing tax advice. In response, many professional firms and tax practitioners used disclaimers of responsibility for penalty protection on almost all written communications to taxpayers, warning them that they cannot rely on the contained advice.

Karen Hawkins, the Director of the Office of Professional Responsibility, was quoted in the tax press recently that former Section 10.35, the covered opinion rules, had "outlived its usefulness" given that practitioners were "mindlessly" using the jurat on their e-mail, among other things. "It reached a point where it had no meaning whatsoever," she said. Now, the written communication rules do not have a disclaimer that’s going to protect the practitioner.

On disclaimers, proposed Section 10.37 does not include the disclosure provisions in the current covered opinion rules, Treasury and the IRS expect that these amendments, if adopted, will eliminate the use of a Circular 230 disclaimer in e-mail and other writings.

In place of the proposed of the covered opinion rules under Section 10.35, the IRS proposed a new competence standard for all practitioners that requires each individual practicing before the Service to have "the knowledge, skill, thoroughness, and preparation necessary for the matter for which the practitioner is engaged."

Karen Hawkins, who is the Director of the Office of Professional Responsibility, was recently quoted as commenting that "the proposed Section 10.35 -- something that is "long overdue" -- is a statement of competence, …… I am constantly stunned at the number of people who haven't a clue what they are doing," she said. Section 10.35 now contains a general expectation that the practitioner is competent, she said. It's "something that needed to get into the circular," she added.

The procedures to ensure compliance have produced great successes in encouraging firms to self-regulate, without the excessive burden often associated with a rigid one-size-fits-all approach. Treasury and the IRS expanded Section 10.36 in June 2011 to require firms to have procedures in place to ensure Circular 230 compliance with respect to a firm's tax return preparation practice. Under Section 10.36 of the proposed regulations, the requirement for procedures to ensure compliance are expanded to include all provisions of Circular 230

The proposed Section 10.36, therefore, a practitioner with principal authority for overseeing a firm's federal tax practice must establish procedures to ensure compliance with all provisions of Circular 230, not just tax advice and tax return preparation.

At the same time the new proposed regulations were issued, the Service withdrew its proposed rules in section 10.39 regarding standards of practice for state or local bond opinions. See REG-150824-04. In the future, assuming the proposed regulations are issued in final form, will be governed under the general standard set forth in revised Section 10.37.

Expedited Suspension Rules Changes

Under the expedited suspension rules of section 10.82, the proposed regulations expands the list of violations subject to accelerated suspension procedures to include failures to comply with a practitioner's personal tax return filing obligations that demonstrate a pattern of willful disreputable conduct. The accelerated suspension rules do not cover tax nonpayments by practitioners. The two exceptions under section 10.82, which would allow OPR to use that expedited process in the absence of previously adjudicated instances in which there have been foundational findings of a practitioner's lack of fitness, are when the practitioner has failed to file an annual federal tax return for four of the last five years or has failed to submit employment tax return filings for five out of the last seven quarters.

Current Section 10.82(f)(2) provides that a suspension under the expedited procedures is effective until the suspension is lifted by the IRS, an Administrative Law Judge, or the Secretary of the Treasury. Circular 230 does not otherwise provide guidance with respect to the length of suspension or the time period in which the practitioner is permitted to apply for reinstatement. Section 10.81, however, currently provides that a disbarred practitioner (or disqualified appraiser) may apply for reinstatement after five years following the practitioner's disbarment or disqualification. Proposed Section 10.81 makes these rules consistent and applies the same five-year time period for both disbarred and suspended practitioners.

Treasury and IRS are also proposing several non-substantive changes to the terms of Section 10.82 that will help practitioners distinguish between the expedited suspension procedures of Section10.82 and otherwise generally applicable procedures for sanctions instituted under Section 10.60. For example, to begin an expedited suspension under the proposed regulations, the IRS would issue a "show cause order" instead of a "complaint" and the practitioner would submit a "response" instead of an "answer." The terms "complaint" and "answer" are currently used to describe the documents used in both expedited suspensions under Section 10.82 and regular proceedings under Section 10.60. These revisions do not generally change current expedited suspension procedures, or the contents of what must be included in the underlying documents, but are proposed to make Section 10.82 more understandable.

Proposed Section 10.82(g) clarifies that practitioners subject to an expedited proceeding may demand a complaint under Section 10.60, and that the demand must specifically reference the suspension action under Section 10.82. Current Section 10.82(g) provides that the IRS has 30 days to issue a complaint after receiving the practitioner's demand for a complaint. In some cases, extra time may be necessary to provide the practitioner and Administrative Law Judge with the most current information regarding the practitioner's fitness to practice before the IRS. Treasury and the IRS have determined that 45 days will provide the IRS with sufficient time to ensure the complaint complies with the requirements in Section 10.62. Accordingly, proposed Section 10.82(g) provides that the IRS has 45 days to issue a complaint after receiving a demand for a complaint from a practitioner suspended under the expedited procedures.

Exclusive Authority Vested in the Office of Professional Responsibility

The proposed rule seeks to amend Section 10.1 by explicitly stating that OPR has "exclusive responsibility for matters related to practitioner discipline, including disciplinary proceedings and sanctions."

Future Developments

Tax professionals are encouraged to continue to follow the proposed rule-making as well as the comments that will be filed and published by the Service during the comment period.