What does the IRS Require of You and your Firm under Circular 230 for 1031 Exchanges? (Part 2 of 3)

Inside this newsletter issue:

* Circular 230: Why have standards of practice?

* What are some sections of Circular 230 that impact the role of a tax advisor in 1031 Exchanges?

* Disclaimers regarding Circular 230: Are these Effective?

*Is oral tax advice subject to Circular 230?

* What are the specific responsibilities of tax advisors rendering written tax advice?

* What type of sanctions does the IRS impose for non-compliance?

Circular 230: Why have standards of practice? Circular 230 establishes minimum standards of conduct for professional advisors and their firms providing tax advice to taxpayers. The standards of practice have been revised recently by the IRS for three purposes: (1) to encourage compliance with the Tax Rules and Regulations; (2) to provide clear standards on how and under what circumstances tax advice is provided to taxpayers; (3) to provide sanctions for professionals and firms who practice before the IRS.

What are some sections of Circular 230 that impact the role of a tax advisor in 1031 Exchanges?

* Section 10.35 of Circular 230 provides that any written advice, where a significant or principal reason for entering into the transaction is the reduction or avoidance of income taxes, the written advice must be in the form of a covered tax opinion.

* Section 10.37 of Circular 230 is the provision that deals with providing written tax advice to a client, regarding any Federal Tax Issue. As such the written advice cannot be based on unreasonable factual or legal assumptions, unreasonable representations, statements, findings or agreements of the taxpayer or or any other person.

Disclaimers regarding Circular 230. Many firms use disclaimers to avoid Circular 230 written tax opinion requirements,stating that their advice cannot be used to avoid tax penalties.The use the the disclaimer eliminates the "reasonable cause exception" for civil tax penalties for your client.

Further, two questions arise with the use of these "blanket disclaimers". (1) Can such a disclaimer be effective to stop a malpractice claim? (2) Can a blanket disclaimer of all correspondence under Sections 10.35 or 10.37 be effective for purposes of avoiding responsibility under Circular 230?

Given that a significant, if not principal, reason for entering into a Section 1031 exchange is the reduction or avoidance of income taxes, it is likely that the use of a disclaimer will NOT be effective under Circular 230. The use of a disclaimer will render the tax opinion ineffective, and does not protect the advisor or the firm from penalties, suspensions, nor disbarment. An advisor, who provides written advice that does not qualify under Section 10.35 as a covered tax opinion, is still subject to the requirements of Section 10.37.

Is oral tax advice subject to Circular 230? Yes, while oral tax advice is not subject to Section 10.35, oral tax advice is covered under Section 10.34 (See Part 1 of this newsletter) where the advice was used in preparation of a tax return. Section 1031's are reported on income tax returns via Form 8824. Therefore if you gave oral advice concerning a Section 1031, your advice would be subject to Section 10.34. Further, the factual parameters and legal conclusions of an oral opinion would be difficult to prove and difficult for the taxapyer to establish that the taxpayer reasonably relied upon it to avoid Civil tax penalties.

What are the specific responsibilities of tax advisors rendering written tax advice? Under Section 10.37, each professional tax advisor must comply with seven specific duties in rendering written tax advice: (1) Do not make unreasonable legal assumptions, including the level of confidence of the opinion; (2) Do not make unreasonable factual assumptions; (3) Do not unreasonably rely on representations or statements of the taxpayer; (4) Consider all relevant facts; and (5) Apply the law to the facts; (6) Reach a conclusion regarding the law and facts; and(7) Do not take into account that the taxpayer may not be selected for audit, the issue will not be raised under audit or that the issue will be settled. The determination of the scope of the penalty for failure to comply with Section 10.37 will be based on a heightened scrutiny because of the practitioner's knowledge of the client's circumstances.

What type of sanctions does the IRS impose for non-compliance? Professional and monetary sanctions can be imposed on professional advisors for failure to comply with the minimum standards of conduct. These sanctions include suspension, disbarment, and monetary penalties.

The professionals at Strategic Property Exchanges, LLC can help you and your clients. Pursuant to Circular 230, you can delegate the tax opinion responsibility to a Section 1031 Tax Specialist. Strategic Property Exchanges LLC can provide to each client a covered tax opinion, which is written by our full time practicing tax attorney, who is Board Certified as a Federal Tax Specialist, to provide civil tax penalty protection for your clients and Circular 230 protection for you and your firm. Let us help your next Section 1031 be less taxing on you, your firm and your client!

Stephen L. Robison, J.D., LL.M.





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More than just commercial property can be exchanged in a 1031 process. To learn more about the other items, read our page on What can be exchanged?