Writers Seek Delay in Implementation of Circular 230 Rules

Dear Gentlemen:

This summarizes our thoughts and comments on the Final Regulations that were published on December 20, 2004 in revising Circular 230.¹ Our comments are directed from the perspective of the tax adviser and law or accounting firm rendering tax advises to owners of privately-held businesses. This would include the rendering of tax advises on regular and routine income tax matters affecting business operations or investment opportunities, to advises concerning estate planning goals and objectives, including business succession matters and the minimization of projected Federal and state wealth transfer taxes. In our view, tax practitioners falling within this category of rendering tax advices are not the intended objects of the rule-making. The rules should be designed, therefore, to permit such practitioners to continue to communicate with their clients in writing without fear of sanction or fine in handling "routine" matters.

We recognize that several professional organizations, as well as individual practitioners, have recently submitted detailed comments, including specific recommendations for further revisions, to the Regulations scheduled to take effect on June 20, 2005.² Given the amount of comments that have been submitted, several organizations have asked for a suspension of the current effective date of June 20, 2005 until the Treasury and the Internal Revenue Service have taken adequate time to weigh the various comments and recommendations and make any necessary revisions. The suggestion to defer the effective date will avoid law and accounting firms from having to revise their internal procedures and practices in submitting written advice to clients and others in order to accommodate subsequent amendments or modifications. We agree with such suggestion.

For reasons discussed below, we ask that further review be given to revising the rules presently contained in §§ 10.35 (Requirements for covered opinions), 10.36 (Procedures to ensure compliance) and 10.37 (Requirements for other written advice) in order to avoid the additional costs and burdens such rules will impose on tax practitioners and their firms.³ The costs of such added compliance will invariably be charged to clients. Once owners of small businesses learn of the time and cost associated with having their advisors comply when issuing written communications on tax matters, the perception will be that the tax profession is subject to excessive regulation and that the deflection of such added compliance costs to clients constitutes an indirect form of over- regulation of small business in general. Faced with such additional costs and hurdles, many clients may simply prefer to engage the services of tax professionals who side-step the rules either by providing no advice in writing or by ignoring the rules all together. Many smaller professional service organizations faced with this dilemma may give limited attention to the requirements for covered opinions.

The Final Regulations on "covered opinions" and "other written advice", if left unchanged, will predictably: (i) discourage the rendering of written advice to clients on tax matters; (ii) benefit those professionals willing to flaunt non-compliance with the prescribed norms; and (iii) significantly increase the costs of advising clients on tax matters. Furthermore, the independent burden placed on persons in charge of tax practices under § 10.36 to ensure all members of the firm conform with Circular 230's rules on covered opinions places too much stress on the internal management of law and accounting firms, particularly organizations with multiple offices. The rule-making is in need of revision to ensure that only offensive conduct is subject to sanction and fines without overburdening the tax professional community to comply with broad and vague standards.⁴ Instead, the limitations on the manner in which written advice on Federal tax issues must be rendered should be narrowly drawn and clearly identifiable. The thrust of the rule- making should be directed towards rendering written advice on reportable or listed transactions, marketed opinions and opinions for which a client may be desirous of obtaining penalty protection. While these matters are addressed by the Final Regulations, the "opt-out" methodology casts far too wide a net and mandates the entire tax profession conform to detailed rules of uncertain reach and application in advising clients on regular and routine matters.

Before making our comments and specific recommendations on how to revise the Final Regulations, a few observations should be made on the erosion of professional standards in tax practice caused by the abundance of tax products, including abusive tax shelters.

In starting, we note that the Treasury and the Internal Revenue Service continue to receive the highest level of support from nearly all professional organizations, including the organized bar, as well as from individual tax professionals and academicians, to step-up efforts to penalize, fine and sanction tax practitioners and professional service organizations who knowingly or recklessly issue grossly erroneous or overly aggressive written advice to clients. The effort to crack down on maverick tax practitioners, and the organizations in which they are employed, must continue unabated in order to restore confidence in our tax system. Obviously, such efforts have concentrated on those persons involved with the promotion and sale of abusive tax shelters or "tax products".⁵ In many if not most instances such abusive tax shelters are devoid of any business purpose or economic substance.⁶ Tax practitioners involved in such promotions, some of whom are regarded as being at the highest level of the professional community, know in advance that the promoted transaction is suspect and may be unable to survive judicial scrutiny. The only purpose for their promotion and sale is tax avoidance. The opinions that the tax practitioners ultimately issue are intended solely for penalty protection.

This exploitation of our tax system has fueled the common perception that the present system suffers greatly as a result of being overly complex, often unfair and is allocated insufficient funds and resources by Congress to compel greater levels of compliance. Despite this negative perception, a substantial majority of tax professionals and their firms have purposely rejected the idea of venturing into the world of "tax products". Such professionals have followed the developments concerning abusive tax shelters reflected in the press, government pronouncements and case decisions. The view from the sidelines is that the Internal Revenue Service and the Department of Justice often appear to be fighting an uphill battle against the avalanche of tax product promotion as well as efforts designed to thwart the government's efforts to audit and collect the resulting proposed deficiencies in tax, penalties and interest.⁷

The revisions to Circular 230 are designed to hold tax practitioners and their organizations strictly accountable for violating rigorous standards of practice before the IRS, including when issuing written communications to clients. Despite the need for promulgating regulations on certain types of written advice, it is clear that such rule-making will not, by itself, offer a real solution to the abusive tax shelter problem. It is only a part, albeit significant, of the effort required.⁸ What is far more critical to combat abusive tax shelters is for Congress to provide additional funds to the Service and Chief Counsel's Office to significantly increase the tax shelter audit and litigation activity. Without such additional funding, efforts to bring the abusive tax products industry to a grinding halt may yield less than even mediocre results.⁹ As an adjunct to such increased audit and litigation activity, in appropriate instances the Department of Justice should proceed with criminal prosecutions.¹⁰ This would reinforce the notion that the administrators of our tax laws have zero tolerance for tax practitioners who engage in flagrant and willful misconduct.

In addition to increased levels of funding, Congress must enact laws which can more effectively police the tax shelter industry. On this last front we note, with much approval, the set of anti-tax shelter provisions which were enacted by Congress last Fall in the American Jobs Creation Act of 2004 ("AJCA").¹¹ The prospective effective dates to the legislation will not assist the Service and Chief Counsel's Office in attacking outstanding abusive tax shelters under investigation. The recent amendments will, however, provide real obstacles to taxpayers and their advisors who persist in exalting form over substance by engaging in transactions having no business purpose or economic substance simply to avoid or evade substantial tax liabilities.

A highlight of the AJCA is that for actions taken after October 22, 2004, the Service, acting through the Office of Professional Responsibility, has been granted the authority to impose monetary fines and enhanced sanctions against a taxpayer representative who is incompetent, disreputable, violates IRS practice rules, i.e., Circular 230, or with intent to defraud, willfully and knowingly misleads or threatens a person being represented or to be represented.¹² This statutory authority to impose monetary fines provides muscle to the government's efforts to promote high standards of professionalism under Circular 230.

Now on to our thoughts on the Final Regulations to Circular 230.

It is recognized generally that various major law and accounting firms have profited from promoting and advising clients and other taxpayers to invest in abusive tax shelters or tax products. The tax advisor's role in such activity may be prominent from the inception, such as where the tax advisor devises the strategy or product, or at some later stage of the promotion. Invariably lawyers and tax advisors are hired by the promoter and/or the taxpayer to issue a written opinion for the purpose of "blessing" the particular strategy or product. While not all such strategies are abusive, it is clear that most may be described as such.

In many instances the tax opinion is issued by the tax professional after the investment in the product has been made and the underlying transaction effectuated. Where the strategy is marketed and sold to multiple taxpayers, the tax opinion takes on a canned appearance and is rendered primarily for offering the taxpayer-investor penalty protection in case the transaction is later challenged by the Internal Revenue Service. The authors of such "after-the-fact" opinions frequently may ignore the taxpayer's specific business purpose for making the investment or fail to inquire whether the taxpayer will realize a profit from the transaction independent of the perceived tax savings.¹³ Instead, such opinions may disingenuously assume that a non-tax business purpose and economic substance are always present or that the issuer is not being paid to make a due diligence inquiry into such matters.

The participation of various tax professionals and firms in the promotion and sale of tax products, including the issuance of many such "eyes closed" opinions, was inspired to reap the benefits of receiving huge fees from taxpayers eager to evade the hand of the federal fisc. The recent growth and size of the tax shelter industry carried on the shoulders of tax professionals has understandably caused you, on behalf of the Internal Revenue Service and the Department of the Treasury to conclude that the tax profession is incapable of regulating itself.¹⁴ Perhaps it is the sheer economic size and power of the tandem of promoter-tax-advisor-client organized from among large corporations or wealthy clients, Big Four accounting firms and major law firms, that convinced the Service and the Treasury that the profession was incapable of compelling the "big boys" to conform.

Imposing fines and penalties on flagrant misconduct by the Service, as enacted by AJCA, is a good idea.¹⁵ Setting professional standards on written advice on transactions having a significant purpose of tax avoidance where the taxpayer seeking the opinion wishes to rely on such written advice for penalty protection is also a good idea. What we disagree with the Final Regulations to Circular 230, however, is the method prescribed for identifying what is and what is not flagrant misconduct worthy of professional and monetary sanctions.

In our view the rule-making in its present configuration will have the undesirable effect of penalizing an overwhelming large segment of the professional community comprised of individuals and firms that neither have been nor are reasonably expected to become involved in the active promotion of tax products. While the amount of tax revenues connected with abusive tax shelters may suggest that the tax profession as a whole needs to be taken out to the woodshed, the entire profession can not be blamed.

The Final Regulations should attempt to achieve its specific objectives without over-defining the targeted activity which is to be sanctioned and fined. In its present form, the Regulations suffer from an inability to make this necessary segregation. It attempts to do so through the use of artificial and awkward concepts which permit tax advisors to "opt-out" of issuing more likely than not written opinions on Federal tax issues provided the appropriate disclaimer is prominently disclosed, i.e., the "banner rules".¹⁶ Clients will be bombarded with the constant warnings that the written communications can not be relied upon for penalty protection in large font at the beginning of each subject correspondence, including e-mails and fax transmissions. Alternatively, the client may review each written correspondence containing a statement that his tax adviser will be later issuing a full written opinion.¹⁷ Failure to place such banners on each correspondence with the appropriate legend will subject the issuer to sanctions.

The opt-out system is unavailable, of course, with respect to "principal purpose" (of tax avoidance or evasion) strategies involving one or more Federal tax issues. The inability to opt-out for principal purpose issues will burden the tax advisor to speculate and guess, at his own peril, whether an opt-out approach is even available. How is the principal purpose to be determined? By examining the client's personal objectives? By taking the amount of tax savings into account? By looking at the amount of time required to solve the tax benefits portion of a particular transaction relative to the other benefits to be derived? Not only will such determinations be time-consuming, but the potential exposure to the tax advisor, his firm, and the senior tax partner in charge of the firm's practice in guessing incorrectly on what is not a principal purpose transaction is enormous.

The principal purpose rule should be eliminated. It serves no real purpose other than to possibly intimidate the tax advisor (as well as the person in charge of the firm's tax practice) to assume everything is capable of being viewed by the Service, with aid of hindsight, as having the requisite principal purpose. Since banners won't work for principal purpose opt-outs, the choice the tax practitioner in such instances faces is either to issue a written opinion on each material issue, the cost of which the client may not wish to absorb, or simply not provide any written communication on the subject to the client. The present rule on principal purpose transactions will not enhance the standard of professional conduct: it will reduce it.¹⁸ Furthermore, the principal purpose rule may have the unintended effect of subverting the attorney-client relationship since it will discourage effective and efficient means of communicating with clients. The same perception will undoubtedly be shared by the tax accounting profession. In short, the principal purpose rule does not foster the goals intended by the rule-making.

Even assuming the "principal purpose" standard is withdrawn, use of a "significant purpose" (of tax avoidance or evasion) standard under the present "opt-out" standard also does not adequately and clearly separate conduct which should be sanctioned under Circular 230 from that which is clearly proper or appropriate. While perhaps overly simplistic, it is conceded that everything that a tax advisor does in rendering tax advice has as a significant purpose the avoidance of tax. The Internal Revenue Code contains rules describing thousands (if not more) of significant purposes for achieving tax avoidance. The competent tax advisor is charged with the responsibility of interpreting the Code and then advise clients on how to avoid bad things, if possible, or alternatively, to qualify for good things, if possible. All of this is to avoid or minimize taxes.¹⁹

The rule-making should not discourage to any extent, the flow of real and meaningful communications between an attorney or tax advisor and his client in analyzing the tax law with a view towards minimizing taxes. Written communications are direct, efficient and aid in the entire advisory process. Putting offensive banners on each written correspondence to remind the client that reliance on such advice for penalty protection is unavailable will undermine not only the tax professional-client relationship, but confidence in the tax system as a whole. It will foster competing negative inferences as to the client's objectives in receiving tax advice, i.e., that the tax advisor is being paid to somehow unfairly game the system to the client's advantage or that the client is trying to trick the advisor into providing erroneous advice that the client can still rely on to avoid penalties.

Therefore, the "opt-out" system under the Final Regulations should be eliminated and replaced with an "opt-in approach". Subject to special exceptions for marketed opinions and listed and reportable transactions, a tax advisor should generally have the ability to "opt-in" and specifically provide a penalty protection type written opinion to a client that carries a banner that it is intended for such purpose.²⁰ Corresponding changes should be made to the regulations under Section 6664 which would provide that a client may not rely upon a written opinion that does not conform to the "opt-in" approach, i.e., that the opinion must specifically provide that it is intended to provide the taxpayer with a good faith belief that the desired tax treatment is correct. We would further welcome under an opt-in system a rule in Circular 230 that the written communication for which the client's reliance for penalty protection is intended must be issued before the tax return or required statement necessary to report the transaction has been filed. For estate planners, the "filing" of the transaction requirement, outside of strategies implicating the filing (or support the non-filing) of a gift tax return, would have to be met either prior to or within a certain time period after the execution of the operative document(s). Again, such conforming amendments should also be made to the regulations under Section 6664.

Under the "opt-in" system, limited scope opinions should be permitted provided that prominent disclosure is made with respect to such written communication and provided the opinion is not a marketed opinion and the transaction is not a reportable or listed transaction.²¹

The benefit of the opt-in standard is that routine tax advice will be able to go on as usual without fear that sanctions or fines may later be imposed. It further removes the nearly impossible obligation on the part of principal authority tax partners from having to establish a workable system of checks and balances, as well as the timely imposition of "banners" on written correspondence, for each engagement of the department or firm. Standards and procedures for reviewing opt-in opinions can far more easily be implemented by principal tax partners and their firms than the present "opt-out" approach.

The opt-in system, however, should not apply with respect to marketed opinions. The present rules in Circular 230 for marketed opinions are appropriate provided that the manner in which the "banners" are required to be prominently disclosed looks professional and tasteful. Again, the cautionary disclosure should be made in bold print (but same size font as the correspondence) on the first and last page. The definition of what is a marketed opinion should be narrowed. It should focus on information specifically designed to promote and sell a particular tax strategy. Thus, for example, marketed opinions should not include professional articles and outlines that are prepared by tax advisors and their firms, even if distributed to clients and others. When such articles and outlines are used, however, as part of a package of materials designed to promote and sell a tax product, then the appropriate banners must be placed on the face of the published article or outline. Another example would be a tax lawyer e-mailing an accountant on the impact of a new case, Code section or regulation that could help one or more of his clients. Standing alone, we do not view this type of correspondence as a "marketed opinion".

As to listed or reportable transactions, the Final Regulations should also adopt the "opt-in" approach but not allow the issuance of a limited scope opinion. Where a tax advisor elects to opt-in on a reportable or listed transaction, all material Federal tax issues must be addressed and resolved on a more likely than not basis or contain a statement that a more likely than not conclusion can not be reached on one or more issues. Moreover, the Final Regulations should consider the adoption of a rule which affirmatively requires a tax practitioner to inform a client prior to the closing of a transaction that the particular transaction may (or is) a listed or reportable transaction and that the client must be informed in writing as to the substantive tax and compliance issues implicated by such status.

We finally note that the current version of § 10.37 (Requirements for other written advice) is vague and difficult to apply.²² While setting forth standards similar to those contained in § 10.35(c), it is regrettable that the Service wants to imposed standards on all written advice. As mentioned, this rule will strain existing and well-established norms of the attorney- client relationship as well as the tax practitioner-client relationship. It will unduly interfere with providing regular and routine advice to clients.

Conclusion

Despite the good intentions and purposes of the Internal Revenue Service and Treasury in issuing Final Regulations to Circular 230, if such provisions remain in their present form there will be a swift and adverse impact on the time honored notions of the attorney-client relationship. It will also have a corresponding adverse effect on the tax practitioner-client relationship.²³ What is needed are targeted and specific limitations on written communications and advises on listed and reportable transactions as well as marketed opinions. Moreover, written opinions intended to provide penalty protection must carry the appropriate banner or else can not be relied upon by clients for any transaction having a significant purpose of tax avoidance.

² In particular, we agree with many of the comments and recommendations explained in depth in the Report of the New York State Bar Association Tax Section on Recommendations for Improving the Circular 230 Regulations which Report was reprinted in 107 Tax Notes 91 (Apr. 4, 2005).

³ While our comments are primarily directed to revising §§ 10.35-10.37, we are not critical of the "best practices" rule in § 10.33. While "aspirational" standards for purposes of practicing before the Internal Revenue Service, such practices may still be considered by plaintiffs' lawyers as evidencing the required minimum standard of care for malpractice purposes. We question whether this consequence was intended in the rule-making.

⁴ See Circular 230, § 10.52 (requiring "willful" or "reckless" disregard of the rules or "gross incompetence").

⁵ The goals of such tax products varies depending on the particular taxpayer's objectives and existing or anticipated tax attributes. Tax products are designed to produce different types of matching or offsetting tax attributes to produce tax avoidance outcomes including : (i) the deferral or permanent avoidance of gain; (ii) the conversion of corporate level capital gain or interest into dividends in order to accommodate a dividends received deduction; (iii) the conversion for individual taxpayers of dividends, interest or ordinary income into capital gain; (iv) the creation or duplication of ordinary or capital losses; (v) the creation of deductions for items that would otherwise not be deductible such as the payment of principal or the distribution of a dividend; (vi) the ability to allocate income to tax-indifferent or tax-exempt entities while facilitating the allocation of losses or other deductions to U.S. taxpayers without jeopardizing a U.S. taxpayer's capital or equity position in the transaction; (vii) the ability to exchange low basis for high basis assets by use of a partnership structure; and (viii) the ability to structure hybrid debt, i.e., a debt obligation which is treated as debt for U.S. income tax purposes but not for regulatory or GAAP purposes. See. Eustice, "Abusive Corporate Tax Shelters: Old "Brine" in New Bottles," 55 Tax L. Rev. 135 (2002); Weisbach, "Ten Truths About Tax Shelters," 55 Tax L. Rev. 215 (2002); Schler, "Ten More Truths About Tax Shelters: The Problem, Possible Solutions, and a Reply to Professor Weisbach," 55 Tax L. Rev. 325 (2002).

While the anti-tax shelter provisions contained in Internal Revenue Code focus on the avoidance or evasion of income taxes, the scope of Circular 230 should extend to improper advice, whether written or oral, given by tax practitioners with respect to any tax imposed under the Code, including transfer taxes. See, e.g., "Treasury, IRS Crack Down on Abusive Split-Dollar Arrangements," 96 Tax Notes 1181 (Aug. 26, 2002).

⁶ See, e.g., Long Term Capital Holdings v. U.S., 330 F. Supp 2d 122 (D. Conn. 2004); IES Industries, Inc. v. U.S., 253 F.3d 350, 353 (8th Cir. 2001); Rice's Toyota World, Inc. v. Comm'r, 752 F.2d 89, 91 (4th Cir. 1985); ASA Investerings Partnership v. Comm'r, 201 F.3d 505, 513 (D.C. Cir.), cert. denied, 531 US 871 (2000); Boca Investerings Partnership v. U.S., 314 F.3d 625, 631 (D.C. Cir. 2003); Gilman v. Comm'r, 933 F.2d 143 (2nd Cir. 1991). But see TIFD III-E Inc. v. U.S., 342 F. Supp. 2d 94 (DC Conn., 2004); Coltec Industries, Inc. v. U.S., 62 Fed. Cl. 716 (Fed. Cl. Ct., 2004); Black & Decker Corp. v. U.S., 340 F. Supp. 2d 621 (DC Md., 2004); Compaq Computer Corp. and Subsidiaries v. Comm'r, 277 F.3d 778 (5th Cir. 2001), rev'g 113 T.C. 214 (1999). See also Donald L. Korb, Chief Counsel for the Internal Revenue Service, Remarks At The 2005 University of Southern California Tax Institute, "The Economic Substance Doctrine In The Current Tax Shelter Environment", Los Angeles, CA on January 25, 2005, reproduced in 2005 Westlaw 155515; McMahon, Jr. "Economic Substance, Purposive Activity, and Corporate Tax Shelters," 94 Tax Notes 1017 (2/25/02); Shaviro, "Economic Substance, Corporate Tax Shelters, and the Compaq Case," 88 Tax Notes 221 (July 10, 2000).

⁷ See, e.g., Alan Murray, Inflated Profits in Corporate Books Is Half the Story, Wall St. J., July 2, 2002, at A4 ("No matter how much money Congress pours into the SEC, or how strong an accounting oversight board it creates, corporations will always have the resources and ability to outwit regulators . . . as long as they have the incentive."), cited in "V. Governmental Attempts to Stem the Rising Tide of Corporate Tax Shelters," 117 Harv. L. Rev. 2249 (2004), fn 2. See also Peckron, "Watchdogs That Failed to Bark: Standards of Tax Review After Enron," 5 Fla. Tax Rev. 853 (2002).

⁸ See Lavoie, "Subverting the Rule of Law: The Judiciary's Role in Fostering Unethical Behavior" 75 U. Colo. L. Rev. 115 (2004); "Deputizing the Gunslingers: Co-opting the Tax Bar into Dissuading Corporate Tax Shelters," 21 Va. Tax Rev. 43 (2001); Infanti, "Eyes Wide Shut: Surveying Erosion in the Professionalism of the Tax Bar," 22 Va. Tax Rev. 589, 594 (2003).

⁹ An increased percentage of audits, in general, will obviously foster greater compliance and reduce the amount of unreported tax revenues that the government is losing each year.

¹⁰ See, e.g., U.S. v. Schiff, 379 F.3d 621 (9th Cir. 2004)

¹¹ P.L. 108-357, 10/22/04. Under AJCA, new (26 U.S.C.) § 6707A imposes a monetary fine on taxpayers who fail to properly disclosure information with respect to a reportable or listed transaction as required by the regulations. Treas. Reg. § 1.6011- 4. Notice 2005-11, 2005-7 IRB 493. AJCA amends § 6111(a) by adopting the term "material advisor", as per § 6111(b)(1), as the person required to file a disclosure statement with respect to a reportable transaction and maintain and turn over an investor list if requested. Notice 2005-12, 2005-7 IRB 494. Enhanced penalties are imposed on material advisors who fail to comply. § 6708. See § 6707A(c) (defining reportable and listed transactions). Failure by the taxpayer to disclose a listed transaction with a return or statement for any tax year results, under AJCA, in the tolling of the statute of limitations under § 6501(a) with respect to the subject transaction until one year after the earlier of: (i) the date on which the taxpayer provides the required information to the Service; or (ii) the date that a material advisor responds to a request by the Service relating to that transaction with respect to that taxpayer in the manner prescribed under § 6112. § 6501(c)(10). See Rev. Proc. 2005-26, 2005-17 I.R.B. 965.

New § 6662A imposes an accuracy-related penalty of 20% of the allocable understatement with respect to a reportable transaction. The penalty increases to 30% of the associated understatement where the taxpayer failed to adequately disclose the reportable or listed transaction. AJCA revises § 6664(c), pertaining to the reasonable cause defense to the imposition of an accuracy-related (or fraud) penalty, by preventing a taxpayer from meeting the "more likely than not belief" requirement from relying on the advise given by a "disqualified tax advisor" or with respect to a "disqualified opinion". In a notable retreat of the recent legislation acknowledging a tax practitioner-client privilege, the AJCA amends § 7525 to remove from the privilege any written communication issued: (i) in connection with the promotion of the direct or indirect participation of the person in any tax shelter, as per § 6662(d)(2)(C)(ii)("significant purpose" of "avoidance or evasion") which (ii) is between a federally authorized tax practitioner and (a) any person, (b) any director, officer, employee, agent, or representative of the person, or (c) any other person holding a capital or profits interest in the person.

¹² AJCA, supra, note 8, § 822(a). The legislative history to the bill permits the penalties to be imposed on the employer of the tax representative if the entity knew or reasonably should have known of the violative conduct.

¹³ After-the-fact opinions may purposely be issued by law firms, for example, to protect against an aggrieved investor in a later malpractice action. The self-serving thought on the part of the firm issuing the penalty protection opinion is that if the client already made the investment and effectuated the transaction, the law firm's opinion was not the cause of the client's injury.

¹⁴ As to internal firm self-regulation, see Circular 230, § 10.36 (Procedures to ensure compliance; practitioners having the principal oversight function for a service organization issuing advice on Federal tax issues).

¹⁵ Standards for when and the extent to which fines against individuals and firms will be imposed needs to be addressed by appropriate guidance. The Service should set procedures in place that restrict an overzealous agent or IRS representative from alleging tax practitioner misconduct in order to extract an unfair concession during any stage of a tax controversy. In reviewing agency decisions, application may be made to federal district court to ensure that the agency's action was not "arbitrary and capricious," or violated due process safeguards. See, e.g., O'Keeffe's v. U.S. Consumers Product Safety Com'm, 92 F.3d 940, 942 (9th Cir. 1996).

¹⁶ Circular 230, §§ 10.35(e)(1)(prominent disclosure of relationship between promoter and practitioner); 10.35(e)(2)(prominent disclosure of status and limits on use of marketed opinions); 10.35(e)(3)(prominent disclosure of limited scope opinions); and 10.35(e)(4)(prominent disclosure of opinions that fail to reach a more likely than not conclusion).

¹⁷ Circular 230, § 10.35(b)(2)(ii)(A).

¹⁸ It is noted that under 26 U.S.C. § 6662(d)(2)(C)(ii) a tax shelter is defined by whether the plan, scheme, partnership, etc., has as a significant purpose the avoidance or evasion of tax.

¹⁹ The often cited quote from Judge Learned Hand in Helvering v. Gregory, 69 F2d 809, 810 (2d Cir. 1934), aff'd sub nom. Gregory v. Helvering, 293 US 465 (1935), is appropriate:

²¹ The required banner for limited scope opinions should be in bold print in the same size font as the correspondence and appear in the first footnote on the first page of the correspondence and at the end of the correspondence just above the signature line for the tax advisor. If no footnote is used, then the required banner should be set forth in bold print in the first paragraph of the letter in introducing the subject matter of the correspondence.

²² We completely endorse the views on this subject taken by the New York State Bar Association Tax Section, supra, note 2.

²³ See, in general, Restatement (Third) of the Law Governing Lawyers, American Law Institute (2000), § 16. As set forth in the "Comment" a lawyer's relationship a client is fiduciary relationship to which the lawyer must adhere to the highest standards of care, including being impressed with a duty of loyalty, confidentiality, competence and diligence. 26 U.S.C. § 7525. See also PCAOB Release No. 2004-015, "Proposed Ethics and Independence Rules Concerning Independence, Tax Services and Contingent Fees".