A CPA’s Signature And The Informal Claim Doctrine

 

I am looking at case where the CPA signed a return on behalf of a client.

Been there and done that.

There is a hard-and-fast rule when you do this.

Let’s go through it.

The Mattsons were working in Australia for the Raytheon Corporation.

In April, 2017 they timely filed their 2016 individual tax return, paying $21,190 in federal taxes.

COMMENT: This immediately strikes me as odd. I would have anticipated a foreign income exclusion. Maybe they were over the exclusion limit, meaning that some of their income was exposed to U.S. tax. Even so, I would then have expected a foreign tax credit, offsetting U.S. tax by taxes paid to Australia.

Turns out they had signed a closing agreement when they went to Australia. The agreement was with the IRS, and they waived their right to claim the foreign income exclusion.

Ahh, that answers my first question.

Why would they do this?

In return for agreeing not to claim the 911 exclusion, the government of Australia has entered into an agreement with the United States Government not to subject the income earned by the taxpayer to Australian taxes."

Yep, there are advantages to working with the big company. It also answers my second question.

Seems to me that we are done here. Taxpayers paid taxes on their Australian wages solely to the United States. In exchange they forwent the foreign income exclusion. Makes sense.

The Mattsons changed CPA firms. The new firm prepared an amended 2016 return for – you guessed it – the foreign income exclusion.

COMMENT: I presume the new firm did not know about the closing agreement.

A CPA at the firm signed the amended return on behalf of the Mattsons.

No problem, but she did not attach a power of attorney authorizing the CPA to sign the return.

Not good, but there is time to fix this.

The IRS held the amended return and sent a letter wanting to know why the Mattsons had taken a position contrary to the closing agreement.

Me too.

In May, 2019 the CPA firm requested an Appeals hearing.

OK.

In July, 2019 the IRS sent a letter that they were disallowing the refund.

The taxpayers filed suit in Court.

To me, the controversy was done with discovery of the closing agreement. There is a Don Quixote quality to this story once that fact came to light.

There is a requirement in the tax Code and a list of cases as long as my arm that taxpayers have to sign a return, especially a claim (that is, a return requesting a refund). A CPA can sign the return on behalf of a client, but the CPA is charged with attaching a copy of a power of attorney to the return.

Hold on, argued the CPA. We sent a power of attorney to the IRS in November, 2018.

This is new information.

And it introduces the “informal claim” doctrine to our discussion.

The idea is that the taxpayer can correct the defect in a claim. That is what “informal” means in this context – think of the first claim as a placeholder until it is perfected. The CPA firm had failed to initially attach a power of attorney, but it subsequently corrected this error in November, 2018.

Issue: the claim has to be perfected BEFORE the start of a lawsuit.

Fact One: the lawsuit was filed in July, 2019.

Fact Two: the power was sent to the IRS in November, 2018.

Reasoning: the dates work.

Question: did the taxpayer correct their claim in time?

I sign powers of attorney all the time. I doubt I go a week without filing at least one with the IRS. I like to explain to clients (unless they have been through the process before) what the limitations are to a standard tax power of attorney. I can call the IRS, request and/or agree to adjustments or stays, and so forth.

However, what our standard power does not do is allow me to sign the return. A client can give me that authority, true, but is has to be separately stated on the power. Our routine powers here at Galactic Command, for example, do not include the authority to sign a return on behalf of a client. In truth, unless there are exceptional circumstances, I do not want that authority. I don’t want to receive a client’s refund check, either.

I can almost visualize what happened.

The CPA signed the return. She knew that she needed a power, so she – or a staff accountant – generated one from their software. It was a default power, the one they – like we – use in almost all cases. No one paused to consider that the default power was not appropriate in this instance.

There was still time to fix this. The firm could revise the power to allow the CPA authority to sign, collect the appropriate signatures and record the power with the IRS.

But they had to do this before bringing suit.

Which they did not.

The informal claim doctrine did not apply, because the placeholder claim was not perfected before filing suit.

Our case this time was Mattson v U.S., 2021 PTC 110 (Fed Cl 2021).

Deducting Something You Did Not Pay For

What caught my eye was the amount of penalties at issue:

     Year                       Amount

     2002                       $  100,000

     2003                       $  105,000

     2004                       $1,822,000

     2005                       $1,785,000

     2006                       $1,355,000

The penalties total over $5.1 million. I had to look this case over, even though it weighs in at 123 pages.

It involves Martin Knapp, a CPA. He got his license in 1983.

He had worked at the IRS. He also taught accounting and taxation at Pepperdine and Los Angeles City College.

Not a bad resume, methinks.

He did something I never did: he specialized his practice. He focused on transportation workers, including airline pilots and railroad workers. He especially focused on mariners.

As of 2004 he employed 10 people.

Sounds successful to me.

He began his mariner practice around 1993. Two of his clients wound up in Tax Court, and it is there that our story begins.

The first client was Mr. Johnson, a deep-sea mariner. He would routinely work for four months and then take a two-month vacation.

The second was Mr. Westling, a tugboat captain in and around Alaska. He would work 30-day shifts on the tugboat.

Knapp amended Johnson’s return and prepared Mr. Westling’s return for 1996. He claimed a per diem for every day they were on the boat.

So what, right?

Here is the what: The per diem included a meal allowance, and their employers provided the meals.

I do not get it. How can someone get a deduction if that someone did not incur an expense in the first place?

The IRS flagged the returns, and both went to Tax Court.

Since they presented the same issue, the cases were consolidated.

In September, 2000 the Tax Court decided that neither could deduct meal expenses but they could deduct incidental expenses.

COMMENT: The incidental portion of a per diem is for tips and miscellaneous stuff, such as mouthwash. It is only a few bucks per day and nowhere near the amount allowed for meals. In short, there was a (very) minor victory and a very large defeat.

Mr Kapp did not represent in the Tax Court case, but he did read the decisions. He contacted the attorney who represented the IRS to request a face-to-face meeting. The attorney could not do this, as Kapp was an “interested” party. I could (hypothetically) have met with the attorney (as I had nothing to do with either Johnson or Westling), but Kapp was the CPA and therefore very much an interested party.

Kapp doubled down. He kept advising his clients that they could deduct meals even if meals were provided by their employer.

He tripled down. He created websites promoting his services to mariners and asserting that he could obtain tax refunds for them.

He quadrupled down. He wrote articles for Professional Mariner and The National Public Accountant. Here is an example:

The exciting news for mariners is that two U.S. Tax Court decisions last year settled the legal issue of allowing mariners to claim an almost unlimited amount of travel deductions while working away from home, without ever having to show the IRS any receipts, just like other transportation workers.”

Enter Examining Officer Tiffany Smith, who informed Kapp that he was the target of an IRS investigation for tax shelter promotion.

He sent her a 9-page letter detailing the relevant authority for the mariner deduction and arguing that the IRS does not oppose his position.

Does not oppose…?

Kapp wrote a letter he titled “Why is IRS Harassing Me for Twice Winning in U.S. Tax Court?”

This is going south ….

The investigation was transferred to George Campos, a revenue agent investigating tax promoters and abusive tax return preparers.

There is back and forth with Kapp and his attorney. In August, 2005 Campos and Kapp meet. Campos points out that there is no deduction for something one has not paid. Kapp asserts that “it does not matter if *** receive a meal or not, they’re still entitled to a deduction.”

Campos prepared an injunction.

Kapp’s attorney started to worry. He had an associate research the issue of mariners and meal deductions and memo the same. The result was pretty much the same as the IRS position, which was a bad place to be when you represent Kapp.

In early 2006 the Department of Justice sent Kapp a letter informing him that it was considering filing a lawsuit and providing him an opportunity to call and discuss the matter.

For all that is holy, Kapp, please STOP ….

At this point we are on page 55 of a 123-page court decision, and I am going to end it.

The IRS wanted him to stop. If he stops, he may yet walk away with all limbs still attached. Continue this quixotic quest, however, and he might lose it all.

The Court decided he was wrong and hardheaded. Not being without compassion, however, the Court reduced the penalties to $3,218,000.

There goes a lifetime of savings.

Oh, why, Kapp, why?

We Recently Lost An Employee

What I do for a living can be demanding.

I am thinking about it because we have lost another employee.

Mind you, there is always a good reason to leave: a larger firm, a smaller firm, someone wants to go private and get away from any firm, more predictable hours, a geographic move, … it is endless.

The auditors complain about the insane paper chase that has become their corner of the profession. They spend as much time completing checklists as actually doing any meaningful work. It truly takes an idiot to think that we can prevent the next Enron by checking a box on page 64 of a 98-page checklist.

Let me clue you in: by page 64 the auditor has zoned out.

The key to audit fraud is experience – the one thing the giant firms are not geared to provide. Their economics are based on 1 to 4-year accounting graduates. That is no country for old men. Or women.

Tax has fared no better.

It used to be that accountants would stagger year-ends for their business clients. Some would be June, some would be October. This helped to balance the workload and keep accountants from being crushed. Congress – reminding us that the truly useless become politicians – decided years ago that calendar year-ends were the way to go. They allowed a few exceptions, but the majority of closely-held businesses were herded to a calendar year-end.

BTW individuals also end their tax year on December.

So we have this insane crowding of work into two or so months. Granted, much is extended, meaning that the crowding occurs again when the extensions run out. There is no real reason for it, other than government whim and profligacy.

Why, no … gasp! We cannot possibly allow other-than-December year-ends because that would cause a one-time hit to the Treasury. Ignore the fact that there previously was a one-time boon to the Treasury when businesses went to December. The very pillars of society would fall!

Uh huh.

Congress continues its quest to have every economic transaction in American society reported to the government via a Form 1099 or its equivalent. Oh, and if you would be so considerate to do all this by January 31.

We tie-up at least three paraprofessionals for a good chunk of January with 1099s and payroll reporting. Let’s not go Boston University stupid and pretend this is not an indirect (but substantial) tax on business activity. A tax heaved on us by sociopaths who make $174,000 annually, live in one of the most expensive cities in the country but somehow become multimillionaires on a routine basis.

Uh huh.

Take an IRS that has sought for years to do more with less, meaning that more and more of what it does is automated. This returns us to all those 1099s the government wants, with its computer matching and automated notices.

I would be curious to know how many millions of man-hours are wasted every year by BS notices the IRS sprays out. Some of this used to be resolved internally before mailing a notice, as an IRS employee maybe … just maybe … actually looked at the file. Ah, how innocent we were then.

There are consequences to all this nonsense.

I had a conversation very recently with a CPA firm owner. We are similar in age and background. He was telling me how it is becoming almost impossible to hire, as there either is no one available or what is available is simply not hireable. Given our immediate needs, this was not good news.

Our conversation then expanded to the question of why a young person would pursue the career we ourselves chose years ago. There are so many more career paths now providing competitive income levels without depriving someone of 4 to 5 months of their life. Every year.

He did not want his kids to be accountants. They didn’t.

It is showing up in different ways. Accountancy, for example, remains a popular college major and graduation rates are strong. However, interest in pursuing a CPA credential is declining.

The CPA credential of course is closely associated with a CPA firm. When I was coming through there was a career point one could not pass if one did not have his/her CPA. One could make senior accountant, for example, but not manager without the certificate.

My CPA was not optimistic, arguing that our generation – his and mine – might be the last of its kind. 

I am hearing this opinion repeated by more and more practitioners. It is not uniform, mind you, but it is common.

I do not do gloom, but I also believe that the next generation of accountants will demand more life balance that we - the 50-and-60-year-old crowd – did when it was our turn.

Good for them.

What will it do to the giant CPA firms and their churn-and-burn business models? What will it do to the accounting governing bodies, who seem to represent the largest while seemingly having little interest in entrepreneurial and closely-held businesses the vast majority of CPAs – me included - represent? How about Congress? What if they passed a tax law in December and CPAs refused to work 24/7 for their incompetence?

I wish some of this had happened earlier in my career.

Oh Henry!

It is a classic tax case.

Let’s travel back to the 1950s.

Let us introduce Robert Lee Henry, both an attorney and a CPA.  He was a tax expert, but he did not restrict his practice solely to tax.

He was also an accomplished competitive horse rider. After he returned from military service, the Army discontinued its horse show team. In response, he organized the United States horse show civilian team.

He met the wealthy and influential, benefiting his practice considerably.

Then he had to give up riding. Heart issues, I believe.

But he was quite interested in continuing to meet the to-do’s and well-connected.

He bought a boat.

He traded it in for a bigger boat.

He bought a flag for the boat. It was red, white and blue and had the numbers “1040.”

People would ask. He would present his background as a tax expert. He was meeting and greeting.

His doctor told him to relax and take time off. Robert Lee called his son, and together they took the boat from New York to Florida. They then decided to spend the winter, as they were already there.

Robert Lee deducted 100% of the boat expenses.

QUESTION: Can Robert Lee deduct the expenses?

NERDY DETAIL: The tax law changed after this case was decided, so the decision today would be easier than it was back in the 1950s. Still, could he deduct the boat expenses in the 1950s?

The key issue was whether the boat expenses were “ordinary and necessary.” That standard is fundamental to tax law and has been around since the beginning. Just because a business activity pays for something does not mean that it is deductible. It has to strain through the “ordinary and necessary” colander.

In truth, this is not a difficult standard in most cases. It can however catch one in an oddball or perhaps (overly) aggressive situation.

Robert Lee was an accomplished rider, and he had developed a book of business because of his equestrian accomplishments. He monetized his equestrian contacts. He now saw an opportunity to meet the same crowd of folk by means of a boat.

Problem: Robert Lee did not use the boat to entertain or transport existing clients or prospective contacts.

And there is the hook. Had he used the boat to entertain, he could more easily show an immediate and proximate relationship between the boat, its expenses and his legal and accounting practice.

He instead had to argue that the boat was a promotional scheme, akin to advertising. It was not as concrete as saying that he schmoozed rich people in the Atlantic on his boat.

He had to run the “ordinary and necessary” gauntlet.

Let’s start.

He continued to have a sizeable equestrian clientele after he left competitive riding.

Good.

He was however unable to provide the Court a single example of a client who came to him because of the boat, at least until years later. Even then, there still wasn’t much in the way of fees.

Bad.

So what, argued Robert Lee. How is this different from buying a full-page ad in an upscale magazine?

Quite a bit, said the Court. You gave up riding for health reasons. There is no question that you derived tremendous personal enjoyment from riding. You have now substituted boating for riding. Enjoyment does not mean that there is no business deduction, but it does mean that the Court may look with a more skeptical eye. It would have been an easier decision for us if you had bought a full-page ad. There is no personal joy in advertising.

As a professional, I have to develop and cultivate many contacts – business, social, personal, political – retorted Robert Lee. One never knows who one will meet, and it takes money to meet money. That is my business reason.

Could not agree with you more, replied the Court. Problem is, that does not make every expenditure deductible. What you are doing is not ordinary. Let’s be frank, Robert Lee, the average attorney/CPA does not keep a yacht.

They would if they could, muttered Robert Lee.

Even if we agreed the expenses were “ordinary,” continued the Court, we have to address whether they are “necessary.” This test is heightened when expenses may have been incurred primarily for personal reasons. You did sail from New York to Florida, by the way. With your son. And you deducted 100% of it.

I am meeting rich people, countered Robert Lee.

Perhaps, answered the Court, but there must be a proximate relationship between the expense and the activity. What you are talking about is remote and incidental. It is difficult to clear the “necessary” hurdle with your “someday I’ll” argument.

Robert Lee shot back: my point should be self-evident to any professional person.

COMMENT: Folks, do not say this when you are trying to persuade a Court.

The Court decided that Robert Lee could not prove either “ordinary” or “necessary.”

The conclusion that the expenditures here involved were primarily related to petitioner’s pleasure and only incidentally related to his business seems inescapable.”

The Court denied his boat deductions.

Our case this time for the home-gamers and riders was Henry v Commissioner.

A CPA Draws A Fraud Penalty

I see that a CPA drew a fraud penalty.

There is something you don’t see every day.

The CPA is Curtis Ankerberg. He practices in Oregon, which means that I could not have met him. I however am certain that I have met his acolytes.

He graduated in 1994 and did the CPA firm route until 2005, when he went out on his own.

Good for him.

The IRS pulled his personal 2012, 2013 and 2014 returns.

Should be easy for a practicing CPA.

During those years he prepared 50 to over 70 individual returns for clients. It doesn’t sound like a lot, but those are just individual returns. It does not include business returns or any accounting he may also have done.

He maintained an office-in-home, which meant that the IRS examiner came to his house. The audit started off on a bad foot. The auditor added up his 1099s for one year and found that the sum exceeded what Ankerberg had reported as income. Needless to say, the auditor immediately recorded a write-up.

Comment: Folks, if you want to chum the waters for an IRA auditor, this is a good way to do so. I am – if anything – surprised that the IRS computers did not catch this before the auditor even showed up.

Emboldened, the auditor now presented a list of documents he wanted to review.

Our CPA said sure, but he never followed up. He was creative with his excuses, though:

·      He had cataract surgery coming up.

·      He was awaiting the outcome of a complaint he filed with the Treasury Inspector General for Tax Administration.

·      He lost his records.

·      The auditor was messing around with one of the years, as the CPA had already agreed he had underreported income.

·      He had not attached necessary forms to his tax returns because to attach them was a “red flag.”

·      He had bank statements but he could not turn them over because he could not see well.

Alrighty then.

That last one cost him and big.

If the IRS wants your bank statements, they will get your bank statements. You can play it nice and provide copies yourself, or you can stick it to the man and have the IRS subpoena them from the bank. The latter may give you a momentary rush of I-am-a-bad-dude, but you have hacked off an auditor.

What is the first reason that comes to mind if one refuses to provide bank statements?

Exactly.

The IRS agent poured over those bank statements like they were winning lottery tickets. Our CPA had again underreported income. In each year.

Can you feel the penalty coming? Oh, it is going to be a biggun.

What more can a disgruntled agent do?

The agent disallowed the following expenses:

·      Insurance

·      Taxes and licenses

·      Office expenses

·      Repairs and maintenance

·      Utilities

·      Interest

·      Vehicle expenses

·      Office in home

·      And others

This is not fatal. Just provide the documents.

Which Ankerberg did not do.

Our CPA is before the Tax Court explaining how he got into this mess. I imagine the conversation as follows:

“Your honor,” he said, “I had serious medical issues, and those issues constitute reasonable cause. I had cataract surgery, and before then I was really a mess. This auditor caught me at a bad time.”

“Really?” asked the Court. “We are curious then how you prepared all those tax returns for all those clients.”

“Braille,” replied our CPA.

“You continued to drive a car,” continued the Court.

“Self-driving,” explained our CPA. “It is a Google car.”

“Interesting,” noted the Court. “How about that 2014 return, the one after your cataract surgery?”

“Phantom blindness,” offered the CPA generously.

“Let us see. Too little income. Too many deductions. A tax professional who knew the tax ropes. Someone who never provided bank statements or other documentation requested by the auditor. What does this sound like? Let us think… let us think...”

“Aha! We remember now: they sound like badges of fraud.”

Bam!

BTW the fraud penalty is 75%.

Just provide the bank statements, Barney.

A CPA Goes Into Personal Audit

Folks, if you wind up before the Tax Court, please do not say the following:

… petitioner testified that allocating some of the expenses between his personal and business use required more time than he was willing to spend on the activity.”

Our protagonist this time is Ivan Levine, a retired CPA who was trying to get a financial service as well as a marketing business going. He worked from home. He used personal credit cards and bank accounts, as well as a family cellular plan. He also drove two vehicles – a Porsche 911 and a Chevrolet Suburban – for both personal and business reasons. All pretty standard stuff.

The IRS came down like a sack of bricks on his 2011 return. They challenged the following:

(1) Advertising

(2) Vehicle expenses

(3) Depreciation, including the vehicles

(4) Insurance (other than health)

(5) Professional fees

(6) Office expenses

(7) Supplies

(8) Utilities

(9) Cell phone

(10)       Office-in-home

Whoa! It seems to me that some of these expenses are straight-forward – advertising, for example. You show a check, hopefully an invoice and you are done. Same for professional fees, office expenses and supplies. How hard can it be?

It turns out that he was deducting the same expense in two categories. He was also confusing tax years – currently deducting payments made in the preceding year.

The office-in-home brings some strict requirements. One of them is that an office-in-home deduction cannot cause or increase an operating loss. If that happens, the offending deductions carryover to the subsequent year. It happens a lot.

It happened to Mr. Irvine. He had a carryover from 2010 to 2011, the year under audit. The IRS requested a copy of Form 8829 (that is, the office-in-home form) from 2010. They also requested documentation for the 2010 expenses.

COMMENT: Why would the IRS request a copy of a form? They have your complete tax return already, right? This occurs because the IRS machinery is awkward and cumbersome and it is easier for the revenue agent to get a copy from you.

Mr. Irvine refused to do either. The decision does not state why, but I suspect he thought the carryover was safe, as the IRS was auditing 2011 and not 2010. That is not so. Since the carryover is “live” in 2011, the IRS can lookback to the year the carryover was created. Dig in your heels and the IRS will disallow the carryover altogether.

The vehicles introduce a different tax technicality. There are certain expenses that Congress felt were too easily subject to abuse. For those, Congress required a certain level of documentation before allowing any deduction. Meals and entertainment are one of those, as are vehicle expenses.

Trust me on this, go into audit without backup for vehicle expenses and the IRS will just goose-egg you. You do not need to keep a meticulous log, but you need something. I have gotten the IRS to allow vehicle expenses when the taxpayer drives a repeating route; all we had to do was document one route. I have gotten the IRS to accept reconstructions from Outlook or Google calendar. The calendar itself is “contemporaneous,” a requirement for this type of deduction.

BTW the tricky thing about using Outlook this way is remembering to back-up Outlook at year-end. I am just saying.

You know Mr. Irvine did not do any of this.

Why?

Because it would have required “… more time than he was willing to spend on the activity.”

This from a CPA?

Being a CPA does not mean that one practices tax, or practices it extensively. I work tax exclusively, but down the hall is a CPA who has careered in auditing. He can exclaim about myriad issues surrounding financial statements, but do not ask him to do a tax return. There are also nouveau practice niches, such as forensic accountants or valuation specialists. One is still within the CPA tent, but likely far away from its tax corner.

Although a CPA, Mr. Irvine could have used a good tax practitioner. 

Issuing 1099s In Anger

Several years ago, I received an angry call from another CPA.

He had lost a couple of key partners, to which he responded with an almost Game-of-Thrones vindictiveness. He had been charged with issuing false Form 1099s to his former partners.

They dragged him into Court for this and other reasons.

I had looked into the 1099 matter. It is not every day a CPA is charged with issuing false tax forms.

Why would somebody do this: issue false 1099s?

Because chum in the water.

Let’s talk about the Petrunak case.

Petrunak was a pyrotechnician.

This guy made fireworks. He owned a company called Abyss Special FX, Inc. (Abyss), and he could do both indoor and outdoor fireworks displays.

This also meant that he was under regulation by the Bureau of Alcohol, Tobacco, Firearms and Explosives (ATF).

A couple of ATF agents conducted a mandatory inspection and found a number of violations. Petrunak challenged their findings and had his day in administrative court. I do not know what the details were, but the judge revoked Petrunak’s fireworks license.

So much for Abyss and his paycheck.

Petrunak reckoned he lost a lot of money – both as real-money losses and as money he would have made except for the ATF agents.

He had time to think about it. He thought about it for five years.

He had Abyss send each of them a Form 1099-MISC for $250,000.

Half a million. He figured that was about what they had cost him.

Abyss deducted that half million. As Abyss was an S corporation, there was a big loss passed-through to Petrunak to use on his individual return.

Needless to say, both ATF agents omitted that 1099 from his/her individual tax return.

One agent however got pulled for audit.

The IRS wanted taxes of over $100 grand. She spent a lot of time contesting and unraveling that mess.

Exactly what Petrunak wanted. Forms 1099 are chum in the water to the IRS.

Problem is, the IRS pursued Petrunak after the ATF agent’s audit. He admitted to filing those 1099s, but he was right in doing so and those two had lied – to a judge, unbelievable! – and an IRS person told him that he might be able to issue 1099s for his business costs. He estimated his costs to be half a million.

The IRS charged him with three counts of making false and fraudulent IRS forms.

He fought back, going to the Seventh Circuit Court of Appeals.

How did it turn out?

Petrunak is going to prison for 24 months.

His accounting was fantastical, but I get his anger.

Circling back, the accountant who called me was angry because I did not agree with him.

To be kind, let’s say his side of story was … creative.

But then, have a CPA play in a field with accounts receivable, deferred compensation, cash transfers, buyout agreements and whatnot and a talented – and motivated - practitioner can get creative.

He did.

Problem was: he picked a fight with tax CPAs. Two of them.

Bad call. 

It cost him a few bucks.

An Attorney, A CPA and Confidentiality

Do you have privacy protection if you tell me something as your CPA?

Your first thought might be yes, as your CPA might be the financial doppelganger to an attorney.

Then again, the answer might be no, as your CPA is not in fact an attorney – unless he/she is one of those rare birds that pairs-up a JD/CPA.

What got me thinking along these lines is the recent case US v Galloway.

Let’s travel to 2006. The IRS notifies Galloway that his 2003 return has been pulled for audit.

Audit starts.

In the middle of the audit Galloway’s CPA fires him. Why? Galloway did not pay his fees.

In 2008 Galloway gets sent to CID (Criminal Investigation Division), the part of the IRS that carries badges and guns.

As a heads-up: you NEVER want to deal with CID. It is one thing to argue with regular IRS, appeal penalties, stretch out a payment plan and so on. All that crowd wants is your money. CID investigates criminal conduct and they have a different goal: to put you in jail.

CID agents went to his business offices in Bakersfield, California. Upon their approach, a man in the office locked the door and called the police.

The CID agents also called the police and informed them there were two plain clothed and armed federal agents waiting for them to arrive.

The man stepped out of the building and provided them with the name of an attorney. The CID agents cleared out before the police arrived.

Nothing. Suspicious. There.

Since that visit went so well, CID next issued a summons for production of documents to the former CPA.

The CPA met with them, explained his relationship with Galloway and answered questions on how he prepared Galloway’s 2003 return. No great surprise: Galloway had forwarded QuickBooks information; the CPA asked a few questions, massaged a few numbers and produced a tax return. Happens in a thousand CPA offices every day.

There was a smidgeon of a problem, though.

Remember that the CPA had started the Galloway audit. As part of the audit, Galloway had provided him more paperwork, including additional and replacement QuickBooks runs. No big deal - usually.

What was unusual was that the new QuickBooks runs did not match-up to the earlier run the CPA used for the tax return.  

Galloway was charged with four counts of attempting to evade tax.

What to do?

Galloway sought to suppress all evidence obtained from his prior CPA. Why? Code Section 7609. The AICPA Code of Professional Conduct. Equitable authority. Applebee’s 2 for $20 menu.

You get it: kitchen sink. Galloway was throwing everything he had.

And this brings us to the Couch case from 1973. It was a Supreme Court case, so it is big-time precedent.

Couch owned a restaurant. At issue was unreported income. Cash. Pocket. Wink. You understand.

The IRS issued a subpoena to Couch’s accountant for books, records, bank statements, cancelled checks, deposit ticket copies, Sunday newspaper coupons and unexpired S&H green stamps.

Couch said: hold up. She had provided all that stuff to her accountant, so subpoenaing her accountant rather than her personally was nonetheless a violation of her Fifth Amendment right against self-incrimination.

I like her argument.

Ultimately – as Captain Picard would say – her argument was futile.

The Court was short and swift: Couch had no “legitimate expectation of privacy” upon providing information to a third-party with the goal of processing, straining and compressing that same information onto a government tax return.

Back to Galloway.

As you can see, he was taking a low-probability swing on a high-and-tight fastball.

He struck out. He could not make enough separation between his situation and Couch to avoid the precedent.

How do tax CPAs handle situations like Galloway in practice?

First of all: interaction with CID is rare. One can have a long career and never see the criminal side of the IRS.  

I have run into CID once or twice over 30+ years, most recently in connection with a fraudulent tax preparer in northern Kentucky. I also recently (enough) represented a client whose file was submitted by Exam to CID, but CID rejected the matter. The client was eye-rollingly negligent, but Exam hyperventilated (I thought then and now) and started seeing intent where only stupidity abounded.  

Anyway, here is what the CPA should recommend:

(1) Have the client hire an attorney

(2) Have the attorney hire the CPA

Under this arrangement, the CPA works for the attorney. He/she is protected under the attorney’s confidentiality privilege and cannot be compelled to testify unless the attorney releases him/her. The attorney will not – of course -  do any such thing.

This set-up is called a “Kovel,” by the way. Not surprisingly, it refers to a case by the same name.

What did Galloway’s accountant do wrong?

To be fair: nothing. Galloway was no longer a client. He was under no obligation to chase Galloway down.

Galloway really should have thought of that before stiffing the CPA for his fee.

Let’s however say Galloway was still a client. 

Folks, at the first hint or whiff of a criminal investigation I am (1) firing you or (2) you are providing me with a Kovel. Those are the only two options.

But it requires the accountant to recognize the danger signs.

Like a combined civil-criminal IRS examination, for example. Those are borderline unfair, as the IRS will pretend there is no criminal side to it. They introduce an unsettling miasma of entrapment, and they require the tax practitioner to realize that he/she is being played.

But that is not what happened with Galloway. CID went to his office, for goodness’ sake.

There was not a lot of subtlety there.