Tax ethical challenges when representing taxpayers

Editor: Arthur Auerbach, CPA, CGMA

CPAs who practice in public accounting provide myriad services, such as external auditing, tax compliance, and tax representation. To promote ethical behavior in the accounting profession, CPAs must follow the AICPA Code of Professional Conduct. Further, CPAs who perform tax services must follow the AICPA Statements on Standards for Tax Services (SSTSs). Revised SSTSs, reorganizing the previous standards and adding new standards to keep pace with the evolving CPA profession, became effective Jan. 1, 2024.

In Plascencia, “Understanding the Updated Tax Ethical Standards,” 54–11 The Tax Adviser 34 (November 2023), the author of this column provided a general overview of the revised SSTSs, using practical sample cases. This column takes a deeper dive into tax ethical standards in representation services and focuses on ethical standards that govern representing clients before the IRS, also using sample practical scenarios.

Applicable professional standards

This column focuses on tax ethical standards — both the SSTSs and Treasury regulations. CPAs who represent taxpayers before the IRS are considered “practitioners” and must also comply with the professional standards in Treasury Circular 230, Regulations Governing Practice Before the Internal Revenue Service (31 C.F.R. Part 10).

The SSTSs are organized as follows:

1. SSTS No. 1, General Standards for Members Providing Tax Services.
2. SSTS No. 2, Standards for Members Providing Tax Compliance Services, Including Tax Return Positions.
3. SSTS No. 3, Standards for Members Providing Tax Consulting Services.
4. SSTS No. 4, Standards for Members Providing Tax Representation Services.

The tax practice standards in Circular 230 are organized as follows:

1. Subpart A, Rules Governing Authority to Practice.
2. Subpart B, Duties and Restrictions Relating to Practice Before the Internal Revenue Service.
3. Subpart C, Sanctions for Violation of the Regulations.
4. Subpart D, Rules Applicable to Disciplinary Proceedings.
5. Subpart E, General Provisions.

Tax representation basics

Tax representation is a niche service. CPAs should “obtain technical competence” by attending relevant continuing professional education (CPE) seminars on the topic or becoming involved in a technical tax committee with a state CPA society (SSTS No. 4, ¶4.1.3). The CPA should “comply with applicable professional [standards] and regulatory obligations in connection with representing a taxpayer,” such as following Circular 230 in representation before the IRS (SSTS No. 4, ¶4.1.4 ). The CPA should “act with integrity and professionalism” when dealing with the IRS or other taxing authority (SSTS No. 4, ¶4.1.5).

A CPA representing taxpayers is subject to the “Confidential Client Information Rule” (AICPA Code of Professional Conduct, ET §1.700.001) when the tax authority requests information from the CPA or from the taxpayer (SSTS No. 4, ¶4.1.6). If the CPA “becomes aware [that the client’s conduct] may be fraudulent or criminal,” the CPA should consider withdrawing from the engagement and advise the client to seek legal consultation (SSTS No. 4, ¶4.1.7). At the conclusion of a tax examination, the CPA is required to review the tax authority’s findings with the client and discuss the consequences (SSTS No. 4, ¶4.1.8).

Practical illustrations

In the following sample cases, the commentary applies the revised SSTSs and Circular 230 standards to address the CPA’s professional responsibilities. The focus of these cases is to address the relevant professional ethical standards related to representing clients before the IRS. Specific technical areas and tax representation strategies are not addressed in this column.

Ethical challenges in IRS exams

The IRS can examine a taxpayer’s federal tax return for a variety of reasons that are beyond the taxpayer’s control. Taxpayers can represent themselves; however, best practices dictate that the taxpayer should hire a qualified professional, such as a CPA, to represent them before the IRS. A CPA should exercise due diligence and professional care when assisting clients in IRS exams. The following two cases illustrate possible ethical challenges that a CPA can encounter by representing a taxpayer in IRS examinations:

Case 1. Knowledge of an error during IRS exam proceedings: ABC Corp. is a closely held business taxed as a corporation. The IRS is examining ABC Corp.’s tax returns for tax years 2024 and 2025. The issues under examination include myriad business deductions claimed, gross income reported, dividends to shareholders, and loans to shareholders. The IRS is about to close the examination and issue a revenue agent report proposing an assessment. The CPA representing ABC Corp. in the examination discovered that a deduction claimed in its 2024 and 2025 corporate tax returns is unsupported by tax law and should not be deductible. The IRS examiner did not discover the invalid deduction.

In this case, the CPA becomes aware of a tax position taken on a return prepared by another party that is not supported by substantial authority of tax law. The CPA is responsible for promptly informing the client of the error’s potential consequences and recommending corrective action (SSTS No. 1, ¶1.2.6). Circular 230 provides similar guidance to inform the taxpayer of the error and promptly advise of the consequences under the tax laws and regulations (Circular 230, §10.21). The CPA “is not allowed to inform [the IRS] of an error without the taxpayer’s permission” (SSTS No. 1, ¶1.2.8). If the CPA reasonably believes the client’s actions may be criminal or fraudulent in nature, the CPA should consider withdrawing from the engagement. The CPA should also consider recommending that the client seek independent legal consultation (SSTS No. 4, ¶4.1.7).

Case 2. Conflicts of interest in IRS exams: The IRS is conducting an examination of a married couple’s, J and K’s, tax returns for tax years 2022 and 2023. J and K have been married since 2015 and have filed jointly for all tax years. Additionally, J and K are equal partners of J&K Partnership. The IRS is also examining J&K Partnership for tax years 2022 and 2023. J and K would like to hire the same CPA to represent the partnership and both spouses.

This case addresses potential conflicting interests in tax representation of related parties. A CPA should consider all options and factors when deciding to proceed with a tax representation engagement that involves related parties. Circular 230 generally restricts the representation of clients when conflicting interests are present. However, the practitioner may represent a client if “(1) the practitioner reasonably believes that [they can] provide competent and diligent representation to each affected client; (2) the representation is not prohibited by law; and (3) each affected client waives the conflict of interest and gives informed consent” in writing (Circular 230, §10.29).

CPAs can effectively represent all affected related parties in the IRS examination. CPAs should advise the clients of the potential conflicts and request that all affected related parties sign appropriate consent forms and waiver of conflict–of–interest documents (SSTS No. 4, ¶4.1.10, and Circular 230, §10.29(b)).

Ethical challenges in IRS collections

For clients who have a tax balance due, CPAs usually assist the client in requesting an installment arrangement. However, the preferred option for most clients is an offer in compromise (OIC). An OIC is an agreement with the IRS that allows a taxpayer to pay less than the actual amount owed, which usually includes penalties and interest. Not all taxpayers qualify for an OIC. A CPA should exercise due diligence and professional care when assisting clients in OICs. The following two cases illustrate possible ethical challenges that a CPA can encounter by representing a taxpayer in IRS collections.

Case 3. Knowledge of an error in the course of IRS collection proceedings: A client hires a CPA to assist in submitting an OIC. The prior returns were prepared by another tax return preparer, and the CPA discovers that the prior returns contain personal expenses that were treated as business expenses and that certain business expenses are overstated, such as business mileage. The client provided information required for completing Form 433–B (OIC), Collection Information Statement for Businesses. The CPA suspects that business expenses may be overstated on Form 433–B (OIC) and possibly contain personal expenses.

In this case, the CPA becomes aware that the business deductions are not accurate and may contain nondeductible personal expenses. Similar to Case 1, the CPA is responsible for promptly informing the client of the error’s consequences and recommending corrective action (SSTS No. 1, ¶1.2.6). Circular 230 provides similar guidance to inform the taxpayer of the error and advise of the consequences (Circular 230, §10.21). The CPA is subject to confidentiality rules regarding the client’s information and cannot inform the IRS of an error without the taxpayer’s permission (SSTS No. 1, ¶1.2.8). If the CPA believes the client’s actions may be criminal or fraudulent in nature, the CPA should consider withdrawing from the engagement (SSTS No. 4, ¶4.1.7).

Case 4. Knowledge of an error during the course of IRS collection proceedings: A client hires a CPA to assist in submitting an OIC. During the initial interview, the CPA collects basic financial information to assess whether the client is a good candidate for an OIC. Based on an initial assessment, the CPA determines that the client is not a good candidate for an OIC. The CPA communicates this to the client, but the client still wants to proceed with submitting the OIC. The client informs the CPA of the countless advertisements on television and radio promising to settle IRS debt for pennies on the dollar.

When representing taxpayers, the practitioner should exercise due diligence in performance of duties. The CPA needs to assess the accuracy and correctness of the information being submitted to the IRS (Circular 230, §10.22). The CPA should inform the client of other options when the preferred option is not available. If the CPA believes the client’s actions may be criminal or fraudulent in nature, the CPA should consider withdrawing from the engagement (SSTS No. 4, ¶4.1.7).

Other practical considerations

Whether they focus on tax representation services or are a member of a full–service CPA firm, a CPA must comply with professional ethical standards related to representing taxpayers. The following cases illustrate other general practical considerations in providing representation services to clients.

Case 5. Client with unfiled tax returns: A self–employed carpenter has not filed tax returns for multiple years. The carpenter does not recall the last time they filed tax returns. The carpenter is seeking a CPA to assist in determining which tax years are required to be filed to be in compliance and in preparing the required tax returns. The carpenter did not keep good books and records for prior years; however, the carpenter does have reasonable estimates for most operating expenses and costs of goods sold.

Sometimes other services overlap during a tax representation engagement. In this case, the CPA will also be involved in tax compliance (SSTS No. 2). As a result, the CPA will need to refer to other SSTSs related to tax–compliance services. Circular 230 also governs tax preparation services (Circular 230, §10.8). The CPA is responsible for informing the client of missing tax returns (SSTS No. 1, §1.2.6). The CPA is required to inform clients of the consequences of errors, such as penalties. Circular 230 provides similar guidance when the practitioner becomes aware of an error (Circular 230, §10.21).

The CPA should be aware of the responsibilities related to the client’s lack of good recordkeeping. Generally, the CPA may use reasonable estimates if they exercise professional judgment (SSTS No. 2, ¶¶2.4.2 and 2.4.3). CPAs can rely on estimates but should make inquiries regarding the information provided by the taxpayer or third parties if it “appears to be incorrect, incomplete, or inconsistent” with other facts (SSTS No. 2, ¶2.3.2). The CPA should also take “reasonable steps” to ensure that the client responds with the information required to prepare an accurate tax return (SSTS No. 2, ¶2.2.2). Further, the CPA should not sign a tax return unless the CPA “has a good–faith belief that the tax return position has at least a realistic possibility of being sustained administratively or judicially on its merits if challenged” (SSTS No. 2, ¶2.1.6).

Case 6. CPA new to representation services: Mentee CPA has worked for a local full–service CPA firm for several years before deciding to start their own CPA practice specializing in representing clients before the IRS and other tax authorities. Mentee CPA contacts Mentor CPA for guidance on getting started and providing effective tax representation. Mentee CPA is interested in learning about acceptable methods for advertising and an appropriate fee structure to use.

Mentor CPA should advise Mentee CPA to obtain proper training in tax representation by attending continuing education seminars and being involved in state CPA society technical committees (SSTS No. 4, ¶4.1.3). Mentor CPA should also advise Mentee CPA of the current rules regarding fee structures. CPAs can charge a reasonable fee for services performed. Contingent fees are restricted in tax preparation but can be charged in the following situations: (1) in connection with the IRS’s examination of, or challenge to, an original tax return; (2) in connection with the IRS’s examination of, or challenge to, an amended return or claim for refund or credit, where the amended return or claim for refund or credit was filed within 120 days of the taxpayer’s receiving a written notice of the examination of, or a written challenge to, the original tax return; (3) for services rendered in connection with a claim for credit or refund filed solely in connection with the determination of statutory interest or penalties assessed by the IRS; and (4) for services rendered in connection with any judicial proceeding arising under the Code (Circular 230, §10.27).

Mentor CPA should also inform Mentee CPA that false, fraudulent, deceptive, or misleading advertising is not allowed (Circular 230, §10.30). Mentee CPA should be reminded to comply with the professional standards related to services performed, such as the SSTSs for tax services. Mentor CPA should provide best practices in tax representation services, such as using engagement letters; maintaining a log for each case; responding promptly to the IRS or other tax authority; obtaining proper authorizations from clients, such as power–of–attorney declarations; and determining if there is a conflict of interest (SSTS No. 4, ¶4.1.9).

Mentee CPA should also be familiar with the tools that CPAs use, such as tax preparation software and tax research libraries. These tools make engagements more efficient and effective. Most CPA firms cannot operate without them. Mentee CPA should understand the applicable standards related to reliance on tools for tax engagements (SSTS No. 1, ¶1.4.1). CPAs are still required to “exercise appropriate professional judgment and professional care when relying on a tool” (SSTS No. 1, ¶1.4.3). The CPA must consider the source of a tool “when determining the appropriate level of reliance on that tool” (SSTS No. 1, ¶1.4.6). The CPA is still “responsible for the completed work product” and “should take reasonable steps to determine that the tools used are appropriate for the intended purpose” (SSTS No. 1, ¶1.4.7).

Key takeaways from these examples

The sample cases illustrate how to apply the revised SSTSs and Circular 230 in tax representation services. Above all, the CPA should provide all tax services with due professional care in performance of their duties. CPAs new to representation services and seasoned CPAs alike should continue to enhance their skill set by attending CPE seminars and participating in state CPA technical tax committees. When a CPA discovers an error, they must inform the client of the consequences of the error and advise on corrective action. Additionally, the CPA should consider withdrawing in cases where the CPA suspects fraudulent or criminal behavior. The CPA should protect the client’s confidential information even if the CPA decides to withdraw. If related parties are involved in an engagement, the CPA should address conflicting interests. CPAs may charge a reasonable fee; however, there are restrictions in contingent fee arrangements. CPAs may advertise in a manner that is not false, fraudulent, misleading, or deceptive.

These sample cases focused on ethical challenges related to IRS exams, IRS collections, and other practical considerations. Tax representation services extend beyond IRS exams and collections and can include assistance in judicial proceedings and penalty abatement requests. Also, tax representation includes representing clients before local taxing authorities. The CPA must perform all services with due professional care and exercise sound professional judgment.