Can taxpayers claim ‘reliance on expert advice’ to qualify for an exception to an accuracy-related penalty?
Taxpayer Says: A contribution deduction claimed for medical practice stock donated to an academic-affiliated institution was based on an expert appraisal and advice from tax advisors, and the penalty should not apply.
Internal Revenue Service Says: Taxpayers failed to act in good faith and did not make a good faith investigation of the value of the donated stock. The charitable contribution deduction was overstated, and the penalty should be assessed.
From Internal Revenue Code Section 6662(h): A taxpayer may be liable for a 40% accuracy-related penalty on the portion of an underpayment of tax attributable to a gross valuation misstatement.
From Internal Revenue Code Section 6662(h)(2)(A): There is a gross valuation misstatement if the value of property as claimed on a tax return is 400 percent or more of the amount determined to be the correct value.
From Internal Revenue Code Section 6662(e)(2): No valuation misstatement penalty is imposed unless the portion of the underpayment attributable to the valuation misstatement exceeds $5,000.
From Internal Revenue Code Section 6664(c)(1): The increased penalty under section 6662(h) will not apply to any portion of an underpayment if the taxpayer establishes that there was reasonable cause for such portion and that the taxpayer acted in good faith.
From Internal Revenue Code Section 6664(c)(2): The exception under section 6664(c)(1) can apply to a section 170 deduction (editorial note: charitable contributions) only if (1) the claimed value of the property was based on a “qualified appraisal” made by a “qualified appraiser”, and (2) the taxpayer made a good faith investigation of the value of the contributed property.
THE CAUSE OF THE DISPUTE
As a general rule, assuming your advisor has knowledge and experience, you can rely on professional advice when preparing your tax return without fear of incurring a penalty even if you don’t investigate the tax law yourself. The advice you receive must be objectively reasonable and based on all pertinent facts and circumstances and the law as it relates to those facts and circumstances.
However, merely consulting an advisor is not conclusive evidence for meeting the ‘good faith’ exception to a penalty. For instance, if you claim a deduction that a reasonable and prudent person would consider ‘too good to be true under the circumstances’, you’re not reasonably relying in good faith on the advice.
In this case, the taxpayers, a group of medical doctors, relied on, among others, an appraiser, the attorney of the medical practice and advice from a certified public accountant who was also the chief executive officer of and a stockholder in the medical practice. Taxpayers believe this reliance meets the good faith exception to the 40% accuracy penalty.
The IRS contends the doctors did not consult with any attorney or accountant who was truly independent and not involved with the planned donation of the stock. In addition, the IRS says the doctors were sophisticated enough to realize the valuation was ‘too good to be true’. The IRS believes both actions indicate lack of a good faith investigation as to the value of the donated stock as well as not acting in good faith.
WHAT WOULD YOU DECIDE?
Make your selection, then see “The Court’s Decision” below for a full explanation
THE COURT’S DECISION
HL Carpenter, an experienced investor and a CPA, specializes in reader friendly articles on taxes and investing for individuals and small businesses, and publishes two newsletters: Taxing Lessons and Top Drawer Ink. Visit TaxingLessons.com and HLCarpenter.com.
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