More Valuable Than Money

"A good reputation is more valuable than money." Publilius Syrus

This week, in a memorandum decision, Lehrer v. Commissioner, the Tax Court dealt with the question of whether taxpayers could be relieved of penalties for substantial understatements of income tax because they had reasonable cause for, and acted in good faith with respect to, the understatements. The taxpayers argued that they reasonably relied on their tax preparer and therefore the accuracy-related penalties under IRC Section 6662 did not apply.

The Tax Court opinion noted that:

Reasonable cause has been found when a taxpayer selects a competent tax adviser, supplies the adviser with all relevant information, and consistent with ordinary business care and prudence, relies on the adviser's professional judgment as to the taxpayer’s tax obligations. . . . To establish reasonable cause, the taxpayer must prove by a preponderance of the evidence that: (1) The adviser was a competent professional who had sufficient expertise to justify the taxpayer's reliance on him or her, (2) the taxpayer provided necessary and accurate information to the adviser, and (3) the taxpayer relied in good faith on the adviser's judgment.

(Citations omitted.)

The Tax Court rejected the taxpayers' reasonable cause argument on two bases.

First, it found that:

[The taxpayers] hired [the return preparer] after a relative's recommendation and a few telephone conversations in which [the preparer] cited some Code provisions. [The taxpayers] introduced no evidence regarding [the preparer's] credentials or his experience in preparing tax returns. [The preparer] was not called as a witness at trial. In short, [the taxpayers] failed to introduce any credible evidence that [the preparer] was a competent tax adviser with sufficient expertise to justify their reliance.

Second, the Court also concluded that the taxpayers failed to demonstrate that they relied in good faith on the tax preparer's advice:

We find that [the taxpayers] failed to perform the due diligence that a reasonably prudent person would perform before hiring an income tax return preparer. [They] did little to investigate [the preparer's] qualifications before hiring him. [They] did not determine whether [the preparer] was a CPA or had relevant education and experience.

* * * * *

We cannot excuse a taxpayer who makes little or no effort to discern whether the person the taxpayer has chosen to prepare a return is competent to give tax advice.

Of course, there are taxpayers who are more discerning. Today, the United States Senate Permanent Subcommittee on Investigations issued a staff report entitled Tax Haven Abuses: The Enablers, The Tools and Secrecy. The report has gained a fair amount of public attention. See the NYT article, Tax Cheats Called Out of Control, and the WaPo article, Tax Shelters Saved Billionaires A Bundle.

In one case, a major law firm, Byran Cave, received fees of $1.3 Million. Lawyers from that firm:

[P]rovided tax opinions with respect to the strategy for [Haim] Saban [the client] and helped draft the factual representations on which the opinion was based, as well as transactional documents to help implement the strategy. The legal opinions prepared by Bryan Cave were based on extensive factual representation statements signed by various persons, including Mr. Saban. However, according to Mr. Saban, he did not read these statements before signing them. Further, after having now read some of the representations, Mr. Saban told the Subcommittee he could not have attested to the facts if he had read them at the time and that some of the representations were completely inaccurate. . . .[T]he attorney for Bryan Cave was not aware of the nature of [certain critically important] underlying transactions . . . .

All too neat. All too perfect.

The client relies on the reputation of the law firm to avoid the imposition of penalties. For $1.3 Million, he can presumably present a facially better case than the Lehrers.

The law firm, in turn, invokes the Sargent Schultz defense.

Willful blindness all around.