Tax preparers avert regulatory overreach

This question is of more than casual interest to the government. If everyone paid what they should be paying under current law, we would pretty much add the same revenue as if the so-called Bush tax cuts were eliminated for all taxpayers.

Lots of people don’t pay what they should be paying. Some of this is because people think everyone is cheating and they don’t want to be left at the dock. Some is no doubt because the tax laws are just incomprehensible.

More than 80 million individual tax returns are now prepared by paid return preparers. So the need for both competence and honesty by these preparers is pretty high, if we think it’s a good idea for people to actually comply with existing laws.

For that reason, in 2011 IRS rolled out a new program that regulated “commercial” tax-return preparers. The IRS has always regulated CPAs, attorneys and enrolled agents. But a larger group of preparers, maybe 700,000, do not fall into one of those categories, making them exempt from regulation.

So if you need some extra money this spring, and think you know a thing or two about preparing tax returns, you could just start preparing returns for hire from your kitchen table. After all, it’s a free country.

Well, not so free, said the IRS. The agency said that it could regulate return preparers, and that it could charge a fee to take a competency exam, an annual fee to register with the IRS, and require 15 annual hours of continuing education.

The IRS policy is based on good intentions — we should all want people to pay what they legally owe. An old proverb says, “Hell is paved with good intentions.” And three return preparers petitioned a District Court in Washington, D.C., seeking relief from the IRS’ regulation hell.

There is an old federal law that says the IRS may regulate “practice” before the IRS. The old law says practice means “advise and assist persons in presenting their cases.” Only CPAs, attorneys and enrolled agents can handle IRS disputes, that is, “present a case.”

Simply preparing a tax return does not involve presenting a case. There is no dispute, yet, that would require someone to present their case. The IRS said, “So what, why would Congress want people to be competent to present a case but not care if they were competent to prepare a return?”

The District Court said, maybe Congress just wanted closer regulatory control over people who were handling the higher-level task of representation in an examination of the return. The court said the real issue is whether the intent of the law is clear.

If the law clearly does not permit regulation of return preparation, the issue is over. It does not matter that regulation may be a good policy — “we mean well” is not an excuse for regulatory overreach.

The District Court said the IRS cannot regulate return preparation for three reasons. First, the old federal law that defined “practice” to be the hook for regulation simply does not include return preparation alone.

Second, the tax law has at least 10 penalties that apply to return preparers. If the new regulatory scheme were upheld, IRS would have many new penalties that it could apply with considerably more discretion.

Third, the tax law also allows the government to seek an injunction in District Court to prevent an abusive preparer from continuing to engage in inappropriate behavior, which could include preventing that person from preparing future tax returns.

The new regulatory scheme would allow IRS to use its regulatory authority alone, without the necessity of judicial review, to stop someone from preparing future tax returns. This would render the current legal remedies obsolete.

So, for now, IRS’ regulation of return preparation is over. The District Court raised the possibility of a “hook” in current law that might justify regulation, but dismissed it because the IRS had not raised that issue.

I actually think it is a good idea to regulate return preparers, but the District Court action is a neat example of how our system of checks and balances works.

James R. Hamill is the director of Tax Practice at Reynolds, Hix & Co. in Albuquerque. He can be reached at jimhamill@rhcocpa.com.