R2-5 Flashcards
Shore, a paid tax return preparer, was given three partnership Schedule K-1 forms by client Fuller. Fuller is a limited partner in each of the partnerships. The K-1s disclosed small pass-through losses allocated to Fuller. Fuller had passive income in excess of these losses from other partnerships.According to the AICPAStatements on Standards for Tax Services, assuming that no at-risk limitations apply, what is Shore’s professional responsibility regarding the reporting of these partnership losses on Fuller’s federal income tax return?
a.
To request the complete partnership returns of the partnership entities unlessShore has reason to believe that the information is incorrect.
b.
To accept the information without further inquiry unless Shore has reason to believe that the information is incorrect.
c.
To verify the client’s basis by examining client’s records from the initial investment to the present.
d.
To verify the initial investment in each partnership entity unless Shore has reason to believe that the information is incorrect.
Choice “b” is correct. Without obtaining verification, a tax preparer may in good faith rely on information furnished by a taxpayer or third parties when preparing a tax return. The tax preparer should, however, make reasonable inquiries if the information appears to be incomplete, incorrect, or inconsistent.
Choices “c”, “d”, and “a” are incorrect, per the above rule.
While preparing a client’s individual federal tax return, the CPA noticed that there was an error in the previous year’s tax return that was prepared by another CPA. The CPA has which of the following responsibilities to this client?
a.
Inform the client and the previous CPA in writing, and leave it to their discretion whether a correction should be made.
b.
Notify the IRS if the error could be considered fraudulent or could involve other taxpayers.
c.
Inform the client and recommend corrective action.
d.
Discuss the matter verbally with the former CPA and suggest that corrective action be taken for the client.
Choice “c” is correct. When an AICPA member becomes aware of an error in a previously filed return, he should promptly notify the taxpayer.
Choice “a” is incorrect, per the above explanation.
Choice “d” is incorrect, per the above explanation.
Choice “b” is incorrect. A tax preparer is not required to notify the IRS and may not notify any taxing authority without the client’s permission.
In evaluating the hierarchy of authority in tax law, which of the following carries the greatest authoritative value for tax planning of transactions?
a.
IRS regulations.
b.
Internal Revenue Code.
c.
IRS agents’ reports.
d.
Tax court decisions.
Choice “b” is correct. According to the IRS’s website under Tax Code, Regulations and Official Guidance, the “federal tax law begins with the Internal Revenue Code (IRC), [which was] enacted by Congress in Title 26 of the United States Code (26 U.S.C.).” The IRC holds the most authoritative value.
Choice “a” is incorrect. According to the IRS’s website under Tax Code, Regulations and Official Guidance, the IRS regulations or “Treasury regulations (26 C.F.R.)—commonly referred to as Federal tax regulations—pick up where the Internal Revenue Code (IRC) leaves off by providing the official interpretation of the IRS by the U.S. Department of Treasury.” Regulations give directions on how to apply the law outlined in the Internal Revenue Code. Regulations have the second most force and effect, second only to the IRC.
Choice “d” is incorrect. Tax court decisions interpret the Internal Revenue Code. They do not have the authority of the IRC.
Choice “c” is incorrect. The reports of IRS agents are used to report on specific taxpayer situations. IRS agents’ reports apply the Internal Revenue Code, IRS regulations, and other forms of authoritative literature, but they do not hold the value that the IRC, the IRS regulations, or even tax court decisions have.
Wilma A. Guess, a CPA and a member of the AICPA, is preparing a federal tax return for her client, William H. Bates, one of the wealthiest businessmen in the town of Poughkeepsie, New York. Because of his extremely busy schedule, Bates keeps very few records for his various business operations. Guess has been preparing Bates’ returns for the past 15 years. According to the AICPA’s Statements on Standards for Tax Services, which of the following statements is correct for this situation?
a.
Guess may use estimates provided by Bates due to the fact that she has been preparing returns for Bates for more than 10 years.
b.
Guess may not use estimates provided by Bates in any situation.
c.
Guess may use estimates provided by Bates if it is not practical for Bates to obtain exact data.
d.
Guess may use estimates provided by Bates only if the use of the estimates is disclosed on the return by checking the “Estimates Have Been Used in the Preparation of this Return” box at the bottom of the return.
Choice “c” is correct. Guess may use estimates provided by Bates if it is not practical for Bates to obtain exact data.
Choice “b” is incorrect. The preparer (Guess) may use estimates provided by the taxpayer (Bates) if it is not practical for the taxpayer to obtain exact data. However, the preparer must determine that the estimates are reasonable based on the facts and circumstances.
Choice “d” is incorrect. It is normally not necessary to disclose the use of estimates. Disclosure of estimates should be made in unusual circumstances, such as when records have been destroyed. However, there is no “Estimates Have Been Used in the Preparation of this Return” box.
Choice “a” is incorrect. Guess may use estimates provided by Bates if it is not practical for Bates to obtain exact data. The number of years that Guess has been preparing Bates’ returns is not relevant.
Arthur Younger, a CPA and a member of the AICPA, is preparing a federal tax return for his client, Albert Capon, a reputed member of an organized crime family near Chicago. Capon is very reluctant to provide any information to Younger to answer questions that are posed on the return.
According to the AICPA’s Statements on Standards for Tax Services, which of the following statements is correct for this situation?
a.
Not all questions on a return are of equal importance. However, Younger must make a reasonable effort to answer all questions.
b.
Younger should make an effort to extract from Capon the information needed to answer the questions, and, if he cannot obtain the information, he can just “forget” to answer the questions.
c.
With his responsibility as an advocate for Capon, Younger should answer only those questions that are advantageous or neutral to Capon and should omit those questions that might not be advantageous.
d.
If Younger cannot obtain the information to answer the questions, he can answer them as he thinks they should be answered given his knowledge of the facts of the situation.
Choice “a” is correct. Not all questions on a return are of equal importance. However, Younger must make a reasonable effort to answer all questions because an answer to a question might impact the determination of taxable income or loss and tax liability and the failure to answer a question might result in an incomplete return or a penalty. Reasonable grounds for failure to answer a question are that (1) the answer is not easily obtainable and insignificant, (2) there is uncertainty regarding the meaning of the question, or (3) the answer is voluminous and a statement to that effect is included on the return.
Choice “b” is incorrect. Younger should make a reasonable effort to obtain from Capon the information needed to answer the questions. If he cannot obtain the information, he cannot just “forget” to answer the questions.
Choice “d” is incorrect. If Younger cannot obtain the information to answer the questions, he cannot just answer them as he thinks they should be answered given his knowledge of the facts of the situation, especially if he has to sign a preparer’s declaration that the return is true, complete, and correct.
Choice “c” is incorrect. When recommending a tax return position, a preparer has both the right and the responsibility to be an advocate for the taxpayer with respect to that position. However, he should not omit an answer merely because it might prove disadvantageous to Capon.
A member would be in violation of the Standards for Tax Services if the member recommends a return position under which of the following circumstances?
a.
It does not meet the realistic possibility standard but is not frivolous and is disclosed on the return.
b.
It might result in penalties and the member advises the taxpayer and discusses avoiding such penalties through disclosing the position.
c.
It meets the realistic possibility standard based on the well-reasoned opinion of the taxpayer’s attorney.
d.
It does not meet the realistic possibility standard but the member feels the return has a minimal likelihood for examination by the IRS.
Choice “d” is correct. In general, a tax preparer should only recommend a tax return position if the tax preparer has a good faith belief that the position has a realistic possibility of being sustained administratively or judicially on its merits if challenged. However, if a tax return position does not meet the “realistic possibility standard,” the taxpayer may still take the position and the tax preparer may still prepare and sign the return provided the position is adequately disclosed on the tax return and the position is not frivolous. The tax preparer should advise the client that it might be possible to avoid certain penalties if the tax return position is disclosed on the return. However, a tax preparer may not advise a client to take a position due to the fact that they are unlikely to be audited (playing the audit lottery). Therefore, the return position in “d” cannot be taken since the tax preparer is relying upon the unlikelihood of being audited.
Choice “a” is incorrect. In general, a tax preparer should only recommend a tax return position if the tax preparer has a good faith belief that the position has a realistic possibility of being sustained administratively or judicially on its merits if challenged. However, if a tax return position does not meet the “realistic possibility standard,” the taxpayer may still take the position and the tax preparer may still prepare and sign the return provided the position is adequately disclosed on the tax return and the position is not frivolous. The tax preparer should advise the client that it might be possible to avoid certain penalties if the tax return position is disclosed on the return. The return position taken in choice “a” falls within this guidance.
Choice “b” is incorrect. In general, a tax preparer should only recommend a tax return position if the tax preparer has a good faith belief that the position has a realistic possibility of being sustained administratively or judicially on its merits if challenged. However, if a tax return position does not meet the “realistic possibility standard,” the taxpayer may still take the position and the tax preparer may still prepare and sign the return provided the position is adequately disclosed on the tax return and the position is not frivolous. The tax preparer should advise the client that it might be possible to avoid certain penalties if the tax return position is disclosed on the return. The return position taken in choice “b” falls within this guidance.
Choice “c” is incorrect. In general, a tax preparer should only recommend a tax return position if the tax preparer has a good faith belief that the position has a realistic possibility of being sustained administratively or judicially on its merits if challenged. The return position taken in “c” falls within this guidance.
Ivan von Hindenberg, CPA and a member of the AICPA, has been preparing federal tax returns for one of his clients for many years. Two years ago, he took a position on a return and that position was settled in an appeals conference. He is now considering a different position on the current return. According to the AICPA’s Statements on Standards for Tax Services, which of the following statements is correct for this situation?
a.
Ivan cannot take a different position on the current return under any circumstances. He is bound by the earlier determination.
b.
Ivan cannot take a different position on the current return because the IRS is bound to be consistent in their positions and so is he.
c.
Ivan can take a different position if he files Form 1040 NP within two years of the date of the previous return or the date the tax was paid, whichever is earlier.
d.
If the determination on the prior return was caused by lack of or insufficiency of supporting data, Ivan can take a different position on the current return if he has better supporting data for the new return.
Choice “d” is correct. If the determination on the prior return was caused by lack of supporting data, Ivan can take a different position on the current return if he has better supporting data for the new return.
Choice “c” is incorrect. There is no such thing as a Form 1040 NP and there is no necessity to file it within a certain timeframe.
Choice “b” is incorrect. Although the IRS is normally consistent with respect to a particular position, they are not bound to be so. Similarly, a taxpayer (or a preparer acting for the taxpayer) is not bound to follow the treatment of an item as consented to in a previous administrative proceeding.
Choice “a” is incorrect. Ivan can take a different position under certain circumstances. He is not necessarily bound by the earlier determination. There should be sufficient justification for the different position.
According to the AICPA Statements on Standards for Tax Services, which of the following factors should a CPA consider in choosing whether to provide oral or written advice to a client?
a.
The tax sophistication of the client.
b.
The likelihood that current tax litigation will impact the advice.
c.
Whether the client will seek a second opinion.
d.
The client’s business acumen.
Choice “a” is correct. In determining whether to provide advice in writing, the tax preparer should consider, among other factors, the sophistication of the tax client.
Choice “c” is incorrect. Whether the client will seek a second opinion should not impact giving verbal or written advice.
Choice “b” is incorrect. Verbal or written advice should not be determined by tax legislation.
Choice “d” is incorrect. The client’s business acumen should not be considered when deciding to give them verbal as opposed to written advice.
A CPA assists a taxpayer in tax planning regarding a transaction that meets the definition of a tax shelter as defined in the Internal Revenue Code. Under the AICPA Statements on Standards for Tax Services, the CPA should inform the taxpayer of the penalty risks unless the transaction, at the minimum, meets which of the following standards for being sustained if challenged?
a.
More likely than not.
b.
Realistic possibility.
c.
Not frivolous.
d.
Substantial authority.
Choice “a” is correct. The CPA should inform the taxpayer of the penalty risks with respect to the tax effects (tax return position) of a transaction unless the transaction, at the minimum, meets the more-likely-than-not standard.
Choices “c”, “b”, and “d” are incorrect.
Reason: “Not frivolous,” “realistic possibility,” and “substantial authority” are lesser standards than the more-likely-than-not standard. So, if the transaction meets only one of these lesser standards, the CPA must inform the taxpayer of the penalty risks with respect to the tax effects (tax return position) of a transaction.
A CPA prepares income tax returns for a client. After the client signs and mails the returns, the CPA discovers an error. According to Treasury Circular 230, the CPA must:
a.
Promptly resign from the engagement and cooperate with the successor accountant.
b.
Document the error in the workpapers.
c.
Prepare an amended return within 30 days of the discovery of the error.
d.
Promptly advise the client of the error.
Choice “d” is correct. When a CPA discovers an error in a previously filed return, the CPA must promptly notify the client of the error.
Choice “b” is incorrect. Documentation is not sufficient. The client must be notified of the error.
Choice “c” is incorrect. The CPA cannot prepare an amended return without the client’s permission. Furthermore, the CPA is expressly prohibited from notifying the taxing authority of the error without permission of the client, except when required by law.
Choice “a” is incorrect. When a CPA discovers an error in a previously filed return, the CPA must promptly notify the client of the error. If the client does not cooperate with correcting the error, the CPA may then consider whether to continue the professional relationship with the client.
Starr, CPA, prepared and signed Cox’s Year 1 federal income tax return. Cox informed Starr that Cox had paid doctors’ bills of $20,000 although Cox actually had paid only $7,000 in doctors’ bills during Year 1. Based on Cox’s representations, Starr computed the medical expense deduction that resulted in an understatement of tax liability. Starr had no reason to doubt the accuracy of Cox’s figures and Starr did not ask Cox to submit documentation of the expenses claimed. Cox orally assured Starr that sufficient evidence of the expenses existed. In connection with the preparation of Cox’s Year 1 return, Starr is:
a.
Not liable to the IRS for any penalty or interest.
b.
Liable to the IRS for negligently preparing the return.
c.
Liable to Cox for interest on the underpayment of tax.
d.
Not liable to the IRS for any penalty, but is liable to the IRS for interest on the underpayment of tax.
Choice “a” is correct. A CPA is entitled to rely on the client’s representations that adequate documentation exists to support the expenses that the client claims. As long as the CPA asks the client whether the client has documentation, the CPA will not be liable for either a penalty or interest because of the client’s misrepresentation.
Kopel was engaged to prepare Raff’s Year 4 federal income tax return. During the tax preparation interview, Raff told Kopel that he paid $3,000 in property taxes in Year 4. Actually, Raff’s property taxes amounted to only $600. Based on Raff’s word, Kopel deducted the $3,000 on Raff’s return, resulting in an understatement of Raff’s tax liability. Kopel had no reason to believe that the information was incorrect. Kopel did not request underlying documentation and was reasonably satisfied by Raff’s representation that Raff had adequate records to support the deduction. Which of the following statements is correct?
a.
To avoid the preparer penalty for willful understatement of tax liability, Kopel was obligated to examine the underlying documentation for the deduction.
b.
To avoid the preparer penalty for willful understatement of tax liability, Kopel would be required to obtain Raff’s representation in writing.
c.
Kopel is not subject to the preparer penalty for willful understatement of tax liability because Kopel was justified in relying on Raff’s representation.
d.
Kopel is not subject to the preparer penalty for willful understatement of tax liability because the deduction that was claimed was more than 25% of the actual amount that should have been deducted.
Choice “c” is correct. In preparing or signing a return, a CPA may in good faith rely without verification upon information furnished by the client or by third parties.
Choice “a” is incorrect. A tax preparer need not examine all underlying documents to assure that the client is properly representing expenses.
Choice “b” is incorrect. A tax preparer need not obtain a client’s representation regarding deductions in writing.
Choice “d” is incorrect. A tax preparer’s liability for misrepresentations does not depend on the percentage difference between actual expenses and claimed expenses, but rather on whether the preparer willfully misrepresented the deduction.
Which of the following statements is correct with respect to the AICPA’s Statements on Standards for Tax Services (SSTS)?
a.
In general, a preparer should recommend a tax return position only if the preparer has a good faith belief that the position has a realistic possibility of being sustained on its merits.
b.
SSTS apply only to tax returns that are being prepared for external clients and not to those that are being prepared for employers.
c.
A tax return position is (1) a position reflected on a tax return on which a preparer has specifically advised a taxpayer and (2) a position about which a preparer has concluded whether the position is appropriate.
d.
SSTS apply only to federal income tax returns and not to state and local tax returns.
Choice “a” is correct. In general, a preparer should recommend a tax return position only if the preparer has a good faith belief that the position has a realistic possibility of being sustained administratively or judicially on its merits.
Choice “c” is incorrect. A tax return position is (1) a position reflected on a tax return on which a preparer has specifically advised a taxpayer or (2) a position about which a preparer has concluded whether the position is appropriate. A tax return position is either of the two.
Choice “d” is incorrect. SSTS apply to all types of tax returns, not just to federal income tax returns.
Choice “b” is incorrect. SSTS apply to tax returns that are being prepared for clients, employer, or any other third party recipient of tax services.
A tax preparer has advised a company to take a position on its tax return. The tax preparer believes that there is a 75% possibility that the position will be sustained if audited by the IRS. If the position is not sustained, an accuracy-related penalty and a late-payment penalty would apply. What is the tax preparer’s responsibility regarding disclosure of the penalty to the company?
a.
The tax preparer is responsible for disclosing both penalties to the company.
b.
The tax preparer has no responsibility for disclosing any potential penalties to the company, because the position will probably be sustained on audit.
c.
The tax preparer is responsible for disclosing only the accuracy-related penalty to the company.
d.
The tax preparer is responsible for disclosing only the late-payment penalty to the company.
Choice “a” is correct. This position passes the realistic probability standard. Given the facts, the position meets the more-likely-than-not standard; that is, a greater than 50% likelihood that the position, if it is challenged, will be upheld on the position’s merits. Therefore, it is proper for the tax preparer to recommend the position to the client. However, the tax preparer is required to inform the client of all possible penalties that the IRS could collect if the IRS disallows the position and, if upon subsequent appeal by the taxpayer the courts conclude that the taxpayer has not met the more-likely-than-not standard.
Choices “c”, “d”, and “b” are incorrect based on the above explanation.
Lawson, a CPA, discovers material noncompliance with a specific Internal Revenue Code (IRC) requirement in the prior-year return of a new client. Which of the following actions should Lawson take?
a.
Discuss the requirements of the IRC with the client and recommend that client amend the return.
b.
Contact the prior CPA and discuss the client’s exposure.
c.
Contact the IRS and discuss courses of action.
d.
Wait for the statute of limitations to expire.
Choice “a” is correct. The CPA should notify the client concerning the noncompliance and recommend the proper course of action.
Choice “d” is incorrect. The CPA is required to notify and discuss the situation with the client.
Choice “c” is incorrect. The CPA must discuss the situation with the client and is barred from contacting the IRS without the client’s permission.
Choice “b” is incorrect, based on the above explanation.
