May 5, 2018

The Government’s Ability to Recoup Tax Preparation Fees

Houston Tax Attorney Blog

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Tax preparers can grow their businesses in a short period of time by filing fraudulent tax returns.  As word spreads about the size of the refunds these preparers are able to secure for their clients, the preparers pick up new clients and increase the amount of fees they earn.  These noncompliant tax return preparers are a priority for the IRS.  While the IRS has a number of remedies for dealing with noncompliant tax preparers, there are open questions as to how broad these remedies are.  The recent United States v. Stinson, No. 17-11412 (11th Cir. 2018) case involves one such question, namely, what amount of the tax preparer’s fees can be recouped by the government.

The Government’s Disgorgement Remedy

The government has a number of remedies for dealing with noncompliant tax return preparers, including civil penalties and injunctions.  The government can also ask the court for an order for the tax preparer to disgorge profits received for preparing fraudulent returns.

Disgorgement is an equitable remedy intended to prevent unjust enrichment.  Disgorgement is not specifically mentioned in the Code.  It is authorized by Sec. 7402, which provides a general rule that the courts can:

to make and issue in civil actions, writs and orders of injunction, and of ne exeat republica, orders appointing receivers, and such other orders and processes, and to render such judgments and decrees as may be necessary or appropriate for the enforcement of the internal revenue laws.

The courts have read this language as authorizing disgorgement of profits.

It is not clear whether the term “profits” is narrow and means income less expenses, as one would think, or if it is broder and means gross receipts not reduced by corresponding expenses.  A close reading of the court cases on point does not shed much light on this issue.

United States v. Mesadieu

In United States v. Mesadieu, 180 F.Supp.3d 1113 (M.D. Fla. 2016), the government asked the court to disgorge all of the tax preparer’s gross receipts. The government presented the court with a sample of 3,600 tax returns filed by the tax preparer.  The tax preparer had prepared 13,000 tax returns during this period.

The court noted that its powers are limited to disgorging the amount the tax preparer profited from his wrongdoing.  It also noted that any amount in excess of the profit would be an impermissible penalty.  The court then seemed to accept that gross receipts is the starting point for this analysis.

The court did not order monies be disgorged given the lack of evidence as to the amount of fraudulent vs. non-fraudulent returns, so it did not have to expressly address what the term “profits” means.

United States v. Stinson

In Stinson, the government asked the court to disgorge $1.6 million in fees the tax preparer had charged for filing fraudulent returns.  The trial and appeals courts used the same “ill-gotten gains” and “profits” language in their opinions as was cited by the district court in the Mesadieu case.

The trial and appeals courts in Stinson agreed with a portion of the IRS’s calculations, allowing a $1.5 million award based on the total fees the tax preparer received for filing fraudulent returns.  The trial and appeals courts concluded that this amount represented the tax preparer’s ill-gotten gains.

As in Mesadieu, the courts in Stinson did not explain how “total fees” squares with the terms “profit” and “ill-gotten gains.”

Gross Receipts vs. Net Profits

There is an open question as to whether a court order disgorging an amount in excess of the profits a tax preparer collected is actually a penalty.

One can easily imagine a scenario where a tax practice is not very profitable and a disgorgement order based on total fees charged or even collected would leave the tax preparer with significant losses.  This is particularly true for tax practices that have high employee or rent expenses.  The amount in excess of the tax preparer’s profits would seem to be penalty given these facts.

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