2017 Office of Professional Responsibility Subgroup Report

INTRODUCTION/EXECUTIVE SUMMARY


The IRSAC Office of Professional Responsibility (OPR) Subgroup consists of a diverse group of tax practitioners, including professionals with credentials as certified public accountants, lawyers, an appraiser, and an enrolled agent, who work in private practice (in firms of varying sizes) and as a law professor. This year the OPR Subgroup addressed three issues: (1) the need for express statutory authority to confirm the Treasury Department’s ability to establish, enforce, and require minimum standards of competence for all tax practitioners, including tax return preparers, (2) educating practitioners about their responsibilities under the Internal Revenue Code’s penalty provisions and the Treasury Department’s practice standards contained in Circular 230, and (3) applying one set of standards to all appraisers and appraisals, equally applicable to both taxpayers and the IRS.


Historically, the OPR Subgroup has enjoyed a solid working relationship with the Office of Professional Responsibility, and this year was no exception.  Indeed, OPR personnel were helpful and cooperative in the subgroup’s working sessions, contributing data, and offering insight for the framework of this report.


The OPR Subgroup’s recommendations on the following three topics are set forth in this report:


1. The Need for Express Statutory Authority to Confirm the Treasury Department’s Ability to Establish, Enforce, and Require Minimum Standards of Competence for All Tax Practitioners, including Tax Return Preparers


Several recent court cases have impaired the ability of the Treasury Department to establish and enforce standards of competence for tax return preparers and other tax practitioners. These cases render the Treasury Department unable to protect the taxpaying public and the tax system from incompetent and disreputable tax practitioners rendering tax advice as well as advising on, preparing, and filing tax returns. Regrettably, taken to their logical conclusions, these cases prevent the Treasury Department from establishing and enforcing any standards of competence whatsoever on tax practitioners unless and until the IRS selects a taxpayer’s tax return for audit (which occurs at a rate of less than one percent for individual returns).


The IRSAC firmly believes that all tax practitioners should be subject to the minimum standards of competency currently required of licensed and credentialed tax practitioners (including lawyers, accountants, and enrolled agents). To this end, the IRSAC recommends that the Commissioner request Congress to enact legislation expressly authorizing the Treasury Department under 31 U.S.C. § 330 to establish, enforce, and require minimum standards of competence for all tax practitioners, including tax return preparers.


2. Educating Practitioners and Preparers about Their Responsibilities under the Internal Revenue Code’s Penalty Provisions and the Treasury Department’s Practice Standards Contained in Circular 230


A sound tax system requires that all tax practitioners participate in continuing education to maintain essential expertise, currency, and skills. The IRS provides extensive educational resources for tax practitioners. However, the IRSAC believes that many tax return preparers do not know about them. To this end, the IRSAC recommends a technical change in the Preparer Tax Identification Number (PTIN) renewal process that will reach out proactively to help make these resources better known. It is especially important to help the non-credentialed tax return preparers, who may not be aware of the IRS’s email alerts, newsletters, webinars and tutorials.


3. Generally Accepted Appraisal Standards in IRS Valuations

Valuation issues are pervasive in the tax law, including in the context of charitable contributions, distributions and exchanges of property, and gift and estate taxes. While differences of opinion about specific valuations are inevitable, the IRS could reduce cost and controversy by considering the adoption of the principles of uniform appraisal standards that are already followed by the appraisal profession and that, in certain circumstances (particularly in the context of charitable contributions), are already required of taxpayers when submitting valuations for federal tax purposes.


The IRSAC believes that the appraisal standards that taxpayers must follow when submitting valuations for charitable contributions, known as the Uniform Standards of Professional Appraisal Practice (USPAP), provide a generally accepted standard of care that, where appropriate, should be followed in other valuation contexts and by taxpayers and the IRS alike. Specifically, to improve the credibility, efficiency, and cost effectiveness of IRS valuations, the IRSAC recommends that the IRS evaluate whether and where it should follow the principles of the USPAP.


ISSUE ONE:   THE NEED FOR EXPRESS STATUTORY AUTHORITY TO CONFIRM THE TREASURY DEPARTMENT’S ABILITY TO ESTABLISH, ENFORCE, AND REQUIRE MINIMUM STANDARDS OF COMPETENCE FOR ALL TAX PRACTITIONERS, INCLUDING TAX RETURN PREPARERS


Executive Summary


Taxpayers, tax practitioners, and the Internal Revenue Service all benefit from enforceable minimum standards of conduct for tax practitioners. First and foremost, it is in the public interest and the interest of taxpayers particularly to safeguard the integrity of tax return preparation, tax advice and planning, tax representation generally, and the tax controversy process. The even-handed enforcement of minimum standards also benefits ethical practitioners who otherwise might find themselves disadvantaged by a seeming “race to the bottom” by unregulated practitioners. Recently, several courts have circumscribed the authority of the Treasury Department to establish, enforce, and require minimum standards of competence on tax return preparation and other pre-filing tax services, as well as on post-filing tax services prior to the audit stage.


To ameliorate the threat posed by these court decisions to competent tax advice and return preparation, to tax administration, and to the integrity of the tax profession, the IRSAC believes that Congress should extend to the Treasury Department express authority to establish, enforce, and require minimum standards of competence for the full range of tax practice, from tax advice and planning all the way through tax litigation.


Background


In 1884, Congress empowered the Treasury Department to “prescribe rules and regulations governing the recognition of agents, attorneys, or other persons representing claimants before his Department.”  Under the same statute, Congress authorized the Treasury to require these individuals to demonstrate competency  and, furthermore, to “suspend and disbar from further practice before his Department” any individual “shown to be incompetent, disreputable, or who refuses to comply with said rules and regulations.”  Under this authority, in 1886, the Treasury promulgated regulations published as Department Circular 13.  In 1921, the Treasury collected Circular 13 and subsequent administrative pronouncements  and republished them as Treasury Circular 230, which the Treasury has updated and amended periodically but never renumbered.  In 1982, Congress recodified the underlying 1884 statute “without substantive change” as 31 U.S.C. § 330, reauthorizing the Treasury Department to “regulate the practice of representatives of persons before the Department.” 


Both before and after the 1982 recodification of the statutory grant, the Treasury Department exercised its express authority over attorneys, certified public accountants, enrolled agents, and other credentialed tax practitioners advising and representing taxpayers before the Internal Revenue Service.  That is, until now.


Discussion


Beginning in 2014, court decisions have chipped away at the Treasury Department’s longstanding authority to “regulate the practice of representatives of persons before the Department”  by narrowly construing the terms “practice” and “representative” in 31 U.S.C. § 330. In so doing, these courts have vitiated Treasury’s oversight of tax practitioners, thereby hampering Treasury’s ability to establish and enforce standards of competence that both protect taxpayers and ethical tax practitioners and safeguard tax administration.


In Loving v. IRS,  the D.C. Circuit held that the Treasury Department has no authority under 31 U.S.C. § 330 to oversee tax return preparers because preparing a tax return does not amount to “practice” or “representation” of taxpayers before the Internal Revenue Service.  Rather, according to the court, “practice” and “representation” as contemplated by the statute materializes only after a taxpayer’s “return is selected for audit or the taxpayer appeals the IRS’s proposed liability adjustments.”  Later the same year, in Ridgely v. Lew,  the same court invalidated the Treasury Department’s restrictions on contingent fees as applied to “ordinary” refund claims, that is, amended tax returns filed before an examination of the original return. As with Loving, Ridgely construed tax “practice” and taxpayer “representation” in the narrowest possible sense to omit all forms of pre-filing tax practice and, indeed, even some forms of post-filing practice.


The damage done by these cases is already being felt. In March 2017, a U.S. District Court in Nevada invoked Loving  to hold that the Treasury Department could do nothing to stop a disbarred lawyer from preparing federal tax returns. In Sexton v. Hawkins, the former lawyer had pled guilty to four counts of mail fraud and one count of money laundering, after which the Treasury suspended him from practicing before the IRS under its undisputed authority in Circular 230, §§ 10.50-52.  In holding that the Treasury was powerless to oversee the conduct of this disbarred felon, the court reasoned that tax return preparation fell outside the ambit of 31 U.S.C. § 330 and, incredibly, that Treasury lacked the authority to regulate the conduct of suspended practitioners previously authorized to practice before the IRS.

 
Taxpayers, ethical practitioners, tax administrators, legislators and policymakers, and the public at large should be very concerned that a disbarred felon preparing tax returns can run amok with no oversight, no required or enforceable minimum standards of competency, and no threat of discipline for misconduct.


As of September 1, 2017, there were 722,262 persons holding valid Preparer Tax Identification Numbers (PTINs), which are required of persons filing tax returns on behalf of other taxpayers.  Of those individuals, 370,582 (more than half of all PTIN holders) have no requirement to follow the competency standards promulgated by the Treasury Department and are not subject to discipline by any licensing bodies for professional misconduct.  Meanwhile, the other 351,680 practitioners (less than half the total number of PTINs) are formally authorized to practice before the IRS and are therefore subject to the practice standards and disciplinary sanctions contained in Circular 230. 


Fortunately, a growing number of elected officials has recognized the pressing need to pull all tax practitioners under the umbrella of the Treasury Department for purposes of establishing, enforcing, and requiring minimum standards of competency. Beginning in 2015, members of Congress have introduced bills designed to clarify and expand the scope of 31 U.S.C. § 330. Generally, these efforts have sought to expressly affirm the Treasury’s authority to oversee paid tax return preparers and to sanction preparers for incompetency and other misconduct.  One of the latest efforts responds directly to the Loving, Ridgely, and Sexton decisions. The Tax Return Preparer Accountability Act of 2017 would authorize the Treasury to prescribe regulations overseeing “any tax return preparers who are not regulated by the Secretary under section 330,” and to further impose a $1,000 penalty for every “federal tax return, document, or other submission” prepared by a preparer who is either not in compliance with Circular 230 or “suspended or disbarred from acting as a tax return preparer under such regulations.”


Most important, the Trump Administration has endorsed affirming the power of the Treasury Department to establish, enforce, and require minimum standards of competency for paid tax return preparers. The President’s budget for fiscal year 2018 recognizes that “[p]aid tax return preparers have an important role in tax administration because they assist taxpayers in complying with their obligations under the tax laws.”  Thus, “[t]o promote high quality services from paid tax return preparers,” the President’s proposal would “explicitly provide” that Congress empower the Treasury with “the authority to regulate all paid tax return preparers.” 


While the IRSAC commends these and other legislative efforts to provide the Treasury Department express statutory authority to “regulate all paid tax return preparers,”  the court cases discussed above—particularly the combination of Loving and Ridgely—necessitate a broader authorization that grants the Treasury Department the power to regulate all tax practitioners and not just tax return preparers.

Recommendation


As the IRSAC has done in each of the last three years, we recommend that the Commissioner ask Congress to enact legislation expressly authorizing the Treasury Department under 31 U.S.C. § 330 to establish, enforce, and require minimum standards of competence for all tax practitioners, including tax return preparers. Such legislation should define (or at least contemplate) tax “practice” and taxpayer “representation” as encompassing both pre-filing and post-filing professional tax services. In so doing, the IRSAC lends its voice to the chorus of supporters from across the professional and political spectrum who recognize the dire need for federal oversight of tax practitioners, particularly those who are currently unlicensed and subject to no threat of discipline for misconduct detrimental to taxpayers, ethical tax practitioners, and effective tax administration.


ISSUE   TWO:   EDUCATING PRACTITIONERS AND PREPARERS ABOUT THEIR RESPONSIBILITIES UNDER THE INTERNAL REVENUE CODE’S PENALTY PROVISIONS AND THE TREASURY DEPARTMENT’S PRACTICE STANDARDS CONTAINED IN CIRCULAR 230


Executive Summary


A sound tax system requires that all tax practitioners participate in continuing education to maintain essential expertise, currency and skills. The IRS provides extensive educational resources for tax practitioners. However, the IRSAC believes that many tax return preparers do not know about them. To this end, the IRSAC recommends a technical change in the Preparer Tax Identification Number (PTIN) renewal process that will reach out proactively to help make these resources better known. It is especially important to help the non-credentialed tax return preparers, who may not be aware of the IRS’s email alerts, newsletters, webinars, and tutorials.


Background


The term “tax practitioner” includes all lawyers, accountants, enrolled agents, appraisers, tax return preparers (whether or not credentialed or certificated), and others who assist taxpayers in complying with, and planning to take account of, the Internal Revenue Code. Of these, the IRS estimates that there are over 718,000 PTIN holders, who assist approximately 60 percent of all taxpayers who do not prepare their own tax returns.


Treasury Department Circular No. 230 (Rev. 6-2014) contains regulations governing practice before the Internal Revenue Service under 31 U.S.C. § 330.  In particular, Subpart B—Duties and Restrictions Relating to Practice Before the Internal Revenue Service applies to all credentialed individuals recognized as attorneys, certified public accountants, enrolled agents, enrolled actuaries, and enrolled retirement plan agents. It is encouraging that in addition to these credentialed individuals, there also are 54,484 non-credentialed tax practitioners who have volunteered to be subject to Circular 230 (as participants in the IRS’s Annual Filing Season Program).   They have also volunteered to obtain 18 hours of continuing education, including a six-hour federal tax law refresher course. These non-credentialed individual tax return professionals, who have voluntarily agreed to maintain minimum competency standards for return preparation, exceed the number of IRS enrolled agents, who are credentialed, regulated by the IRS, and subject to Treasury Circular 230. Many of the tax practitioners who are subject to Circular 230 are well aware of their obligations.


However, the same cannot be said for non-credentialed tax return preparers, who are not subject to Circular 230. Many non-credentialed tax return preparers do not know that they may be subject to penalties, and this is another important component of the education that the IRSAC wishes to make more accessible. The Internal Revenue Code contains several assessable penalties that may be imposed on tax return preparers with respect to the preparation of tax returns for their clients. 


Among the more common penalties assessed against tax return preparers are:

  • Understatement of a taxpayer’s liability due to unreasonable tax return positions—§ 6694(a)
  • Understatement of a taxpayer’s liability due to willful or reckless conduct— § 6694(b)
  • Failure to furnish a copy of a tax return to a taxpayer—§ 6695(a)
  • Failure to sign a return—§ 6695(b)
  • Failure to retain a copy of a tax return—§ 6695(d)
  • Negotiation of a taxpayer’s refund check—§ 6695(f)
  • Failure to exercise due diligence in determining a taxpayer’s eligibility for child care credit; American Opportunity Tax Credit; and earned income credit—§ 6695(g)
  • Disclosure of return information by tax return preparers—§ 6713 and § 7216
  • Aiding or abetting in tax liability understatement—§ 6701
  • Frivolous tax return preparation—§ 6702

Recommendations


The IRSAC recommends that the Commissioner institute a nationwide program to provide greater outreach to educate all paid tax professionals including non-credentialed tax return preparers about the Internal Revenue Code, Circular 230, and the many IRS educational resources that are available.  The IRSAC believes greater educational outreach will increase participation and engagement among the tax practitioner community, promote more effective tax administration, and enhance competency and due diligence among tax return preparers.


The IRSAC recommends the following four specific steps: 


1. The IRS should develop a process by which the renewal process for a PTIN auto subscribes the individual to “E-news for Tax Professionals.” This is the weekly email update from the IRS that provides information on the week’s happenings, tax tips, tax return preparation updates and e-file news. Auto-subscribing (with an opt-out feature) will assist those who are unfamiliar with IRS tax pro resources.

e-News for Tax Professionals screen capture

 
2. The IRS should develop a means of routing the PTIN process so that during the final steps of the online PTIN renewal, once all information has been successfully submitted, the final screen of the PTIN renewal process moves to the portion of the IRS website that shows: “Your Responsibilities as a Tax Professional.” This is on the Basic Tools for Tax Pros web page.

Your Responsibilities as a Tax Professional screen image

 
3. The IRS should reposition the sequence of information for tax professionals in order of importance to the PTIN holders. Our recommendations are shown in detail below.

Your Responsibilities as a Tax Professional

Headings (in revised order) Notes
Summary of Practitioner Duties under Circular 230 Link to (new) “Summary of Practitioner Duties under Circular 230 (Subpart B)” (as shown below)
Summary of Preparer Penalties under Title 26 Change the name from “Preparer Penalties,” and move this up to 2nd on the list. Link to https://www.irs.gov/tax-professionals/summary-of-preparer-penalties-under-title-26
Office of Professional Responsibility This link should include Treasury Dept. Circular 230 and Standards of Practice for Tax Professionals
Practice before the IRS – Pub 947 Add this to the list and link to https://www.irs.gov/pub/irs-pdf/p947.pdf
Return Preparer Office Enrolled Agent Program Add reference to AFSP?
How to Report Suspected Tax Fraud Activity
 
 
Section 7216 Information Center
 
 

Section 7216 Information Center


4. The IRS should provide a short summary of Circular 230 in the effort to encourage and assist ALL practitioners to read and understand Circular 230. The text below is based upon the Summary of Preparer Penalties under Title 26. It is helpful and can easily be accessed from the section of the IRS website that is entitled, “Your Responsibilities as a Tax Professional.” We recommend that this additional summary be posted there and possibly in other areas of the IRS website.


Summary of Practitioner Duties under Circular 230 (Subpart B)


See the text of Circular 230 to fully understand these provisions; do not rely on this summary.


§ 10.20 Information to be furnished—Locate and furnish information requested by an IRS official, including information regarding violations of Circular 230.
§ 10.21 Knowledge of client’s omission—Advice clients of any failure they make to comply with the law and the consequences of such noncompliance.
§ 10.22 Diligence as to accuracy—Exercise due diligence as to the accuracy of information in returns and other submissions to the IRS; may rely on other competent professionals.
§ 10.23 Prompt disposition of pending matters—Do not unreasonably delay the completion of matters pending before the Service.
§ 10.24 Assistance from or to disbarred or suspended persons and former Internal Revenue Service employees—Avoid dealing disbarred or suspended practitioners or former IRS employees whose activities are prohibited by law.
§ 10.25 Practice by former government employees, their partners and their associates—Former government employees and their firms may be barred from participating in various matters on which they worked while in the government.
§ 10.26 Notaries—Do not notarize documents in a matter if you are also acting as the taxpayer’s representative.
§ 10.27 Fees—Do not charge unconscionable or, in most cases, contingent fees.
§ 10.28 Return of client’s records—On request, promptly return your client’s records to the client, generally, even if you have a pending fee dispute.
§ 10.29 Conflicting interests—Avoid conflicts of interest, such as when the interests of one client adversely affect the interests of another client.
§ 10.30 Solicitation—Do not make illegal, false, fraudulent, misleading, deceptive or coercive public or private statements regarding a matter pending before the Service.
§ 10.31 Negotiation of taxpayer checks—a tax return preparer must not negotiate or endorse government checks issued to the client.
§ 10.32 Practice of Law—Nothing in Circular 230 authorizes a non-attorney to practice law.
§ 10.33 Best practices for tax advisors—Provide high quality advice by adhering to the best practices; communicate clearly, establish the truth of facts and reasonableness of representations, advise clients of pertinent consequences, and deal fairly and with integrity.
§ 10.34 Standards with respect to tax returns and documents, affidavits and other papers—Act with good faith and integrity.  For example, don’t sign a return or other document or advise your client to take a position that lacks a reasonable basis, takes an unreasonable position, willfully attempts to understate tax liability, or exposes the client (or yourself) to penalties under Title 26.
§ 10.35 Competence—Practitioners must possess the appropriate level of knowledge, skill, thoroughness, and preparation in respect of the matters for which they are retained.
§ 10.36 Procedures to ensure compliance—The principal tax practitioner in a firm must assure that procedures are in place to assure compliance with Circular 230, and especially §10.35, by all firm tax personnel.
§ 10.37 Requirements for written advice—Do not make unreasonable factual or legal assumptions, unreasonably rely on representations made, fail to take into account all relevant facts and circumstances or rely on the unlikelihood of audit.


Conclusion


Currently, the IRS is providing email campaigns, tax professional newsletters, webinars, and information, worksheets, and short tutorials in many different areas of the IRS website. However, a person must subscribe to these resources or go online and search them out. The IRSAC believes that these educational materials would be more widely used if they were provided directly to PTIN holders at the time of their renewal.


ISSUE THREE: GENERALLY ACCEPTED APPRAISAL STANDARDS IN IRS VALUATIONS


Executive Summary


Valuation issues are pervasive in the tax law, including in the context of charitable contributions, distributions and exchanges of property, and gift and estate taxes. While differences of opinion about specific valuations are inevitable, the IRS could reduce cost and controversy by considering the adoption of the principles of uniform appraisal standards that are already followed by the appraisal profession and that, in certain circumstances (particularly in the context of charitable contributions), are already required of taxpayers when submitting valuations for federal tax purposes.


The IRSAC believes that the appraisal standards that taxpayers must follow when submitting valuations for charitable contributions, known as the Uniform Standards of Professional Appraisal Practice (USPAP), provide a generally accepted standard of care that, where appropriate, should be followed in other valuation contexts and by taxpayers and the IRS alike.  Specifically, to improve the credibility, efficiency, and cost effectiveness of IRS valuations, the IRSAC recommends that the IRS evaluate whether and where it should follow the principles of the USPAP.


Background


Appraisal Standards


The definition of “qualified appraisal” in section 170(f)(11)(E)(i) of the Internal Revenue Code (relating to charitable contributions) includes a requirement that for an appraisal to be considered “qualified,” it must be conducted in accordance with regulations and other guidance and with “generally accepted appraisal standards.”  To explain these standards, the IRS has issued regulations providing that an appraisal “consistent with substance and principles of the Uniform Standards of Professional Appraisal Practice (‘USPAP’), as developed by the Appraisal Standards Board of The Appraisal Foundation” will be treated as conducted in accordance with generally accepted appraisal standards.


USPAP was written three decades ago by a consortium of professional appraisal societies.  In 1989, Congress authorized the Appraisal Standards Board to promulgate these standards for real property appraisers in federally related transactions.  As a result, compliance with USPAP is now required for real property appraisers.  According to the Appraisal Subcommittee of the Federal Financial Institutions Examination Council (FFIEC):


USPAP contains the recognized standards of practice for real estate, personal property and business appraisal. Title XI requires that real estate appraisals used in conjunction with federally related transactions are performed in accordance with USPAP. State certified and licensed real property appraisers are currently required to adhere to USPAP by their respective State appraiser regulatory agencies. Many appraisers are also bound to comply with USPAP through affiliations with professional appraisal organizations.

USPAP contains a series of competence, conflict of interest, and due diligence standards for appraisers analogous to those in Circular 230 pertaining to tax practitioners.  It also requires appraisers to use recognized methods and techniques to develop independent, impartial, and objective opinions of value that are supported by evidence and logic.

USPAP is regularly updated by the Appraisal Standards Board and encompasses real property, appraisal review, mass appraisal, personal property, and business appraisals. The standards have been widely adopted by professional appraisal societies and, according to business valuation expert Shannon Pratt and Tax Court Judge David Laro, “USPAP makes good appraisal sense, is widely respected, and is frequently referred to by courts and regulatory agencies.” 


One of the most significant references to USPAP in the U.S. Tax Court occurred in Kohler v. Commissioner, T.C. Memo. 2006-152. The dispute in this case involved two divergent opinions of fair market value for Kohler company stock owned by the estate. The taxpayer and IRS appraisals differed by about $100 million. In accepting the taxpayer appraisal, the court wrote that the IRS appraiser’s report also was not submitted in accordance with the Uniform Standards of Professional Appraisal Practice (USPAP) . . . [and] . . . did not provide the customary USPAP certification, which assures readers that the appraiser has no bias regarding the parties, no other persons besides those listed provided professional assistance, and that the conclusions in the report were developed in conformity with USPAP.” The court’s explanation for why the IRS appraiser’s report was disregarded detailed a number of concerns, and twice the court mentioned the failure to conform to USPAP standards.


Kohler has been widely cited to underline potential legal consequences of failure to comply with appraisal standards. For example, in a 2008 article in The CPA Journal, Martin J. Lieberman and David Anderson state:


In addition to the authority bestowed by federal law and IRS implementation guidance, the USPAP business valuation standards have been recognized in federal courts, and increasingly in state courts as well, as prerequisite to the qualification of a business valuation report.

Taxpayers


The appraisals that taxpayers submit to the IRS for charitable contribution purposes must be “conducted by a qualified appraiser in accordance with generally accepted appraisal standards.”  To enforce this requirement, IRS has issued guidance to its employee examiners and appraisers for reviewing taxpayer appraisals that refers directly to compliance with USPAP.


One example is the 2012 IRS Conservation Easement Audit Techniques Guide, which states:


Examiners and IRS appraisers must consider whether the appraisal is consistent with the substance and principles of USPAP and, if not, whether the appraisal satisfies the generally accepted appraisal standard requirement.

Another example is found in Internal Revenue Manual (I.R.M.): Part 20, Penalty and Interest, Exhibit 20.1.12-2, IRC 6695A - Job Aid (IRC Sections 6695A, 6700 & 6701 Valuation Penalty Job Aid), which encourages IRS auditors to ask:


Does the appraisal comply with the USPAP (Uniform Standards of Professional Appraisal Practice) standards?

If no, describe the most significant errors or omissions in the appraisal.

This advice for IRS reviewers and auditors suggests that it may be difficult for a taxpayer’s appraisal (even if not for charitable contribution) to withstand IRS scrutiny if it does not comply with USPAP. It also confirms that the IRS looks to USPAP as the gold standard.


Appraisers


Compliance with USPAP is required for state-licensed and state-certified real property appraisers, and the obligation of real property appraisers to comply with USPAP is enforced by state regulators who are monitored by the Appraisal Subcommittee of FFIEC. Some business appraisers (depending upon their professional designation) and most personal property appraisers are also obliged to comply with USPAP as a condition of their accreditation or certification. In addition, appraisers may well be negatively reviewed by the IRS and in Tax Court if they do not comply with USPAP.  Further, if an appraiser makes a substantial or gross understatement or overstatement, the appraiser may be subject to penalties under section 6695A or discipline by the Office of Professional Responsibility.


IRS Valuation Guidelines in the Internal Revenue Manual 


The IRSAC understands that most IRS staff appraisers (including engineers, business valuators, and art appraisers) are familiar with and generally comply with USPAP. The Valuation Guidelines in the Internal Revenue Manual (IRM), for example, generally mirror USPAP with some language repeated verbatim.  (See Appendix for one example.) Nevertheless, the IRM Valuation Guidelines contain no express reference to USPAP and no requirement to comply with generally accepted appraisal standards.


In addition, the IRM is not kept up to date with changes in appraisal standards. Thus, by January 2018, there will have been six editions of USPAP since the IRM Valuation Guidelines were last revised. (Some discrepancies are shown in the Appendix.) The procedure for updating the IRM Valuation Guidelines may be more cumbersome since the IRS National Valuation Policy Council (VPC) has been disbanded and replaced by a council of all field specialists. 


IRS Third-Party Experts


IRM guidelines for Gathering Information from Third Parties in valuation cases do not consider whether the proposed expert needs to follow the principles of USPAP when evaluating the competency of potential outside contractors.


Art Advisory Panel


The Art Advisory Panel, which was formed in 1968, is described in the IRM as “nationally prominent art museum directors, curators, scholars, art dealers, auction representatives, and appraisers.”  The most recent annual report (2016) lists 2 curators, 2 scholars, and 13 art dealers whose collective role is to help “the IRS review and evaluate the acceptability of tangible personal property appraisals taxpayers submit to support the fair market value claimed on the wide range of works of art involved in income, estate, and gift tax returns.” 

The process outlined in the IRM is, as follows:


The Panel members, after reviewing photographs or color transparencies, along with relevant documentation provided by the taxpayers and research by the staff appraisers, make recommendations on the acceptability of the claimed values. If unacceptable, the Panelists make alternate value recommendations. Such recommendations are advisory only; however, after review by AAS [the Art Appraisal Services unit in the IRS Office of Appeals], these recommendations become the position of the Service.

As the table below shows, in the recent past Art Appraisal Services has overwhelmingly adopted the recommendations of the Art Advisory Panel.

Fiscal
Year
Percent of Art Advisory Panel Recommendations Adopted by IRS
2016 70.0%
2015 74.0%
2014 90.0%
2013 95.0%
2012 96.5%
2011 93.0%

The Art Advisory Panel was created to serve a unique valuation role and to provide “insider” expertise with respect to the art market. It was not created to follow widely recognized appraisal standards. At the same time, we understand that the AAS appraisers and examiners are familiar with and follow widely recognized appraisal standards and impose them on AAP recommendations.


Recommendations


1. Consider Whether Following USPAP Guidelines Would be Beneficial


USPAP is a longstanding and carefully developed set of appraisal standards familiar to the appraisal community that has been adopted by the IRS and other federal agencies in various contexts. To align IRS appraisal procedures and standards with those required of taxpayers, and to ensure that the IRS remains up-to-date with respect to industrywide appraisal standards, we recommend that the IRS examine all of its appraisal procedures to determine whether they meet the standards reflected in USPAP.


Furthermore, to the extent existing IRS procedures do not meet the standards reflected in USPAP, we recommend that the IRS consider modifying its procedures so that those procedures equal or exceed the standards and principles contained in USPAP. Finally, where IRS appraisal procedures do not currently comply with USPAP standards, and the IRS decides not to bring them in compliance with USPAP after conducting the recommended evaluation described above, we recommend that the IRS announce where and why its appraisal practices and procedures deviate from USPAP.


2. The IRS Should Consider Whether Compliance with USPAP Would Be Helpful in Identifying Expert Witnesses


To be consistent and to help avoid unnecessary challenges, the IRS should consider whether outside valuation experts comply with USPAP.


3. Art Advisory Panel


For the past two years, the IRSAC has delved into the development and reporting of valuation opinions by the Art Advisory Panel (AAP). To advance this process, we have identified the following questions and suggestions.


Questions


1. Do the Art Advisory Panel recommendations constitute appraisals? If so, should generally accepted appraisal standards apply?
2. While AAP panelists’ knowledge of private sales is no doubt helpful in valuing works of art, we believe greater transparency into the panel’s work would be beneficial.
3. Does the high acceptance rate of AAP evaluations by Art Appraisal Services indicate that the process is working well and that the AAP recommendations are well-supported determinations of value? Alternatively, does the high acceptance rate of AAP recommendations by the IRS indicate that the AAP—which, again, does not necessarily follow industry-recognized appraisal standards in making determinations of value—exerts too much influence over IRS valuations of artwork?
4. Is the need that prompted the establishment of the Art Advisory Panel half a century ago—i.e., providing unique knowledge of the art market and of current art valuation—still relevant and helpful to IRS administration today?
5. Given today’s communications technology, is it still necessary to wait for a biannual meeting to seek input from experts?


Suggestion


The IRSAC suggests that it would be beneficial to consider restructuring and revising the operating procedures for the Art Advisory Panel. For example, rather than waiting for biannual AAP meetings, should the process be streamlined to allow IRS staff art appraisers within AAS to consult directly with individual panel members, as needed, on questions related to a panelist’s particular area of expertise?  Seeking expert opinion about, for example, a particular condition issue or marketability question is common practice in the appraisal profession and permitted by USPAP as long as any significant appraisal assistance is disclosed.


The streamlined process could lead to resource savings. While Art Advisory Panel members serve without compensation, the current biannual meeting process for gathering their opinions involves administrative costs, including: preparing, compiling, redacting, and shipping materials for hundreds of items to panel members; travel, per diem and lodging expenses for panel meetings; staff time and expenses to attend and report on panel meetings; and staff time to prepare the annual panel report. Regular, less formal communications (such as conference calls and emails) and continuous availability of materials to panel members could conceivably reduce these costs significantly.


Conclusion


The IRSAC’s recommendations, questions, and suggestions relate to the use of “generally accepted appraisal standards” and are intended to help improve the credibility, efficiency, and cost effectiveness of IRS valuations. By setting minimum standards of acceptability by reviewers, staff appraisers, and contractors, the IRS could help streamline a process that is complicated and expensive for everyone.
 

Appendix


The example below demonstrates how closely one portion of the IRS Real Property Valuation Guidelines mirrors the corresponding section of USPAP.  This is also true for IRM Tangible Personal Property 4.48.3.4.3 (07-01-2006), Business Valuation (4.48.4.4.3 (07-01-2006), and Intangible Property 4.48.5.4.3 (07-01-2006) and the corresponding USPAP Standards Rule 8 (Personal Property) and USPAP Standards Rule 10 (Business Appraisal).

IRM “Statement”  USPAP “Certification”
Each written valuation report should contain a signed statement that is similar in content to the following

To the best of my knowledge and belief:

Each written real property appraisal report must contain a signed certification that is similar in content to the following form:


I certify that, to the best of my knowledge and belief:

The statements of fact contained in this report are true and correct.  the statements of fact contained in this report are true and correct.
The reported analyses, opinions and conclusions are limited only by the reported assumptions and limiting conditions. The reported analyses, opinions and conclusions are limited only by the reported assumptions and limiting conditions.
and are my personal, impartial, and unbiased professional analyses, opinions, and conclusions.
I have no present or prospective interest in the property that is the subject of this report, and I have no personal interest with respect to the parties involved. I have no (or the specified) present or prospective interest in the property that is the subject of this report and no (or the specified) personal interest with respect to the parties involved.
I have performed no (or the specified) services, as an appraiser or in any other capacity, regarding the property that is the subject of this report within the three-year period immediately preceding acceptance of this assignment.
I have no bias with respect to the subject of this report or to the parties involved with this assignment. I have no bias with respect to the property that is the subject of this report or to the parties involved with this assignment.
My engagement in this assignment was not contingent upon developing or reporting predetermined results.
I have (or have not) made a personal inspection of the property that is the subject of this report. I have (or have not) made a personal inspection of the property that is the subject of this report. (If more than one person signs this certification, the certification must clearly specify which individuals did and which individuals did not make a personal inspection of the appraised property.)
My compensation is not contingent on an action or event resulting from the analyses, opinions or conclusions in, or the use of, this report. My compensation for completing this assignment is not contingent upon the development or reporting of a predetermined value or direction in value that favors the cause of the client, the amount of the value opinion, the attainment of a stipulated result, or the occurrence of a subsequent event directly related to the intended use of this appraisal.
My analyses, opinions and conclusions were developed, and this report has been prepared, in conformity with the applicable Internal Revenue Service Valuation Guidelines. My analyses, opinions, and conclusions were developed, and this report has been prepared, in conformity with the Uniform Standards of Professional Appraisal Practice.