Material Adviser Penalty Rules Are Clarified

By Paul Bonner

Editor: Sally P. Schreiber, J.D.

The IRS issued final rules (T.D. 9764) for the Sec. 6708 penalty imposed on material advisers for failing to provide the IRS a list of advisees with respect to reportable transactions. The regulations adopt, with some modifications, proposed regulations issued in 2013 (REG-160873-04).

Sec. 6112 requires material advisers to maintain in an IRS-specified form and manner a list for any reportable transaction (defined in Sec. 6707A(c)), identifying each person advised with respect to the transaction, and to make the list available to the IRS upon its written request. For each day of failure to provide the list after the 20th business day following the date of the request, Sec. 6708(a) imposes a penalty of $10,000. The total penalty is unlimited by statute and is imposed in addition to any other applicable penalty; however, it will not be imposed for any day for which the failure is due to reasonable cause.

Key points covered by the proposed regulations included how the IRS may request the list and when the 20-business-day compliance period begins. Prop. Regs. Sec. 301.6708-1(a) provided that the period begins on the first business day after the date the IRS either (1) mails the request by certified or registered mail to the person required to maintain it; (2) hand-delivers the request directly to the person; or (3) leaves the request at the person's last and usual place of abode or usual place of business.

This last option troubled one commenter, who hypothesized that "the list request may be left with a child or another person who fails to deliver it to the material advisor or that it may be left on a door step and lost or destroyed before being discovered by the material advisor." In response, the final regulations do not allow leaving the request at the adviser's place of abode and specify that it must be left with an individual at least 18 years old. The final regulations also clarify that the penalty will not be imposed for the day on which the material adviser complies.

Another key point of the proposed regulations was an extension of the 20-day period the IRS may grant in its discretion upon a showing of good cause, i.e., if, prior to the expiration of the 20-day period, the material adviser establishes that he or she cannot reasonably meet that deadline despite diligent efforts to maintain the materials constituting a list and to make it available in the time and manner requested. Requirements under Regs. Sec. 301.6708-1(c)(3) for making an extension request include that the material adviser must state that to the best of its knowledge, all information and records relating to the list under that person's possession, custody, or control have been maintained according to policies and procedures consistent with Secs. 6112 and 6001 (general recordkeeping requirements).

The regulations give as an example of a situation where granting a 10-day extension would be appropriate for a large firm that is a material adviser and has policies for its professionals to notify the firm's compliance officer of reportable transactions and provide the documentation required under Sec. 6112 to that officer. Upon a request from the IRS, however, the firm discovers that a professional who is no longer with the firm failed to follow the firm's policies with respect to a reportable transaction. The example states an extension would be granted in this scenario.

A commenter pointed out this example does not cover a situation where a firm member failed to internally report a reportable transaction in contravention of firm policy and the firm therefore did not know it was a material adviser. In response, the final regulations add a second example also granting a 10-day extension in such a scenario.

The final regulations also modify the rules regarding the statement required in an extension request under Regs. Sec. 301.6708-1(c)(3). The final rules allow material advisers to make the required statements in order to request an extension even if, after receiving a list request, they discover a failure to comply with their list maintenance procedures, as long as, to the best of their knowledge as of the date of the list request, all information and records relating to the list had been maintained in accordance with procedures and policies consistent with Secs. 6001 and 6112.

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