The following Case Study and related questions will be due each week, beginning March 10, 2021, as indicated on the due dates shown below. Each assignment must be uploaded to Canvas before the start of class on the due date to be considered gradable. Each group of questions below relies upon the facts stated, unless the facts are later changed as described in later sections. To receive credit for your work cut and paste the questions below into your submitted homework and type your response below each question.
CASE STUDY – Providing Tax Consulting Services to a Married Couple:
Initial Facts: Assume it is still September 1, 2020. Jim and Jane were married last year, in November of 2019. On the advice of their current CPA, to maximize a tax refund, they would like to file a joint tax return on or before October 15, 2020. They have made an appointment to see you for a second opinion on their filing status for 2019, as well as their filing status going forward.
Jim is a real estate broker and operates his business through an S-corporation. Jane has a bachelor’s degree in accounting and works as an auditor for the County of Los Angeles. Jim’s corporation’s profit and loss statement shows a profit of $40,120 for 2019. Jane’s salary in 2019 was $75,000.
A closer look at Jim’s corporation’s Profit and Loss reveals gross income of $201,340, and the following expenses, among other smaller expenses:
a) Travel: $25,891
b) Auto: $15,193
c) Meals (@50%): $18,892
d) Promotional Expenses: $10,440
e) Insurance: $80,388
The Profit and Loss also reflects that Jim did not pay himself a salary from his corporation in 2019.
Additionally, prior to your meeting, Jim informed you over the phone that he has a large tax liability from tax year 2010. Jim also informed you that his 2010 tax return was filed with an extension on or about Oct. 15, 2011, when the tax liability shown on his federal tax return was approximately $40,000. Since then, with interest and penalties for non-payment, the amount due has more than doubled to $100,000.
While he paid the 2010 State tax in full in 2011, he did not have sufficient funds in 2011 to pay the IRS. The funds that would have gone toward the payment of federal taxes were instead used to pay his living expenses in 2010 and 2011, since the real estate market slowed substantially in 2010 to 2011 and his sales commissions almost vanished. Interestingly, the IRS has not bothered him about his 2010 tax liability, but a tax lien was filed against him.
Jim also informed you over the phone that he has not disclosed his tax liability to Jane, nor has
she ever seen his corporation’s Profit and Loss; and, she is in no way involved with his business. From the call, you summarized Jim objectives for your meeting as follows. He would like you to:
a) advise both of them on whether filing a joint return is a good idea and if there are any risks to Jane in doing so, mainly because she’s an auditor that works for the County;
b) advise them as to whether they can continue to file single because, Jim says, the IRS is not aware of their marriage and, to his knowledge, does not track County marriage records;
c) advise them on the downside and/or benefit of filing married filing separate tax returns;
d) gently break the news to Jane that Jim has a pre-marital tax debt;
e) explain to both of them how you can protect Jane from Jim’s pre-marital debt;
f) explain how you can help Jim settle his 2010 tax debt for “pennies on the dollar,” as he has heard advertised on AM talk radio commercials for the past ten years, or look at other alternatives to resolve his debt with the IRS;
g) explain whether he had to take a salary in 2019 from his S-corp and whether he can do so retroactively;
h) explain whether he should take a salary in 2020 and beyond and at what level per month.
Case Study Continued – Due March 24, 2021:
Assume your meeting with Jim is expected to last 2 hours. Please answer all of the following questions.
a) Should you charge for the meeting? If yes, state why; If not, state why not.
b) How much should you charge for the meeting assuming your CPA hourly rate is $300 per hour? Do you charge at your full rate, or discount it to encourage the client to come in?
c) Do you think a prospective client like Jim will pay $600 for the initial meeting? Why would a client pay for a consultation; Why wouldn’t a client pay for a consultation? Do doctor’s charge for consultations? Why don’t doctors provide free consultations like CPAs or lawyers?
d) Assume you have been in practice 15 years and are doing really well, you don’t usually work after 6 pm and are closed on the weekends. What do you say if Jim asks whether you provide a free or complimentary initial consultation?
e) What do you say if Jim and Jane request an appointment on a weekday at 7 pm because Jane gets off work at 6 pm? What do you say if they want an appointment on a Saturday at 10 am?
f) What if you don’t want to provide 2 hours of free consultation but Jim says that the tax accountant and tax lawyers he hears advertising on the radio are offering free consultations, hoping you would agree to that too? How would you break the news to him that you don’t give away your time for free, and how can you try to prevent that from being a “deal killer”?
g) Alternatively, how much time are you willing to give for free during the first meeting, if any?
h) Assuming you are willing to meet for free for 30 minutes, what will you discuss during that free 30 minute initial meeting?
i) What do you do if during the last 5 minutes of the 30 minute meeting Jim asks whether they should file a joint return in order to get a refund of Jane’s $15,000 of tax withheld from her salary?
Assume the pandemic is over. Further assume Jim is a successful real estate executive and cannot meet at your office during your work hours as that would cost him too much in lost potential real estate deals. He has asked you to make time to meet him and Jane in Jim’s office for 2 hours between 11 am and 1 pm on a weekday next week.
j) What do you do? Do you book the appointment? Why or why not?
k) Assuming you are willing to drive 1 hour each way to get to and from Jim’s office, are you willing to charge for your travel time? If so, at what rate? Do you think most clients would be agreeable with paying you your hourly rate for travel time?
l) Should you send your engagement agreement by e-mail in advance? Should you ask for a retainer fee in advance of the meeting? If so, for how many hours?
m) State some reasons why you shouldn’t agree to meet Jim in his office for the initial meeting.
Case Study Continued – Due March 31, 2021 (see questions below):
Assume Jim agreed to pay half of your normal hourly rate for the first meeting, if the first 30 minutes is free. So at the end of the 2 hour meeting he would owe you $225. Assume you thoroughly discussed the pros and cons of the tax filing options, how to minimize tax problems for 2019 and beyond with his corporate tax return, and how Jim might be able to solve his 2010 tax problem.
How much should you quote for:
1) Preparation of the 2019 tax returns (personal and corporate)?
2) Preparation of 2020 and future tax returns ?
3) Solving his 2010 tax problem for “pennies on the dollar,” and how would you structure the fees:
i) hourly, with an up-front amount; and, if so, how much up front? Or,
ii) flat fee, and if so, how much up front and how much over time assuming the case will take 24 months to complete? Or,
iii) a flat fee expressed as a percentage of the reduction of the tax liability [note: a percentage fee is only permitted under IRS regulations (as reprinted in IRS Circular 230) when there is a known tax liability. Such a fee is not permitted if a tax return has not yet been filed and you are filing the tax return or consulting about a tax return to be filed; also see California Board of Accountancy’s official pronouncement on contingent fees: http://www.dca.ca.gov/cba/consumers/commission_fees.pdf
The actual California CPA Society Rule of Professional Conduct is reprinted below:
Rule 302: A member in public practice shall not:
1. Perform for a contingent fee any professional services for, or receive such a fee from, a client for whom the member or the member’s firm performs:
A. An audit or review of a financial statement; or
B. A compilation of a financial statement when the member expects or reasonably should expect that a third party will use the financial statement and the member’s compilation report does not disclose a lack of independence; or
C. An examination of prospective financial information; or
D. Any other attest engagement when the member expects or reasonably should expect that a third party will use the related attestation report; or
E. Any other services requiring independence.
2. Prepare an original tax return for a contingent fee for any client.
3. Prepare an amended tax return, claim for tax refund, or perform other similar tax services for a contingent fee for any client.
4. Perform an engagement as a testifying expert for a contingent fee.
The prohibition in (1) above applies during the period in which the member or the member’s firm is engaged to perform any of the services listed under (1) above and the period covered by any historical financial statements involved in any such listed services.
Except as stated in the next paragraph, a contingent fee is a fee established for the performance of any service pursuant to an arrangement in which no fee will be charged unless a specific finding or result is attained, or in which the amount of the fee is otherwise dependent upon the finding or result of such service.
Solely for purposes of this rule, fees are not regarded as being contingent if fixed by courts or governmental entities acting in a judicial or regulatory capacity, or in tax matters if determined based upon the results of judicial proceedings or the findings of governmental agencies acting in a judicial or regulatory capacity or there is a reasonable
expectation of substantive review by a taxing authority.
A member’s fees may vary depending, for example, on the complexity of services rendered.
The applicable portion of Circular 230 is reprinted below:
§ 10.27 Fees.
(a) In general. A practitioner may not charge an unconscionable fee in connection with any matter before the Internal Revenue Service.
(b) Contingent fees —
(1) Except as provided in paragraphs (b)(2), (3), and (4) of this section, a practitioner may not charge a contingent fee for services rendered in connection with any matter before the Internal Revenue Service.
(2) A practitioner may charge a contingent fee for services rendered in connection with the Service’s examination of, or challenge to —
(i) An original tax return; or
(ii) 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 receiving a written notice of the examination of, or a written challenge to the original tax return.
(3) A practitioner may charge a contingent fee 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 Internal Revenue Service.
(4) A practitioner may charge a contingent fee for services rendered in connection with any judicial proceeding arising under the Internal Revenue Code.
(c) Definitions. For purposes of this section — (1) Contingent fee is any fee that is based, in whole or in part, on whether or not a position taken on a tax return or other filing avoids challenge by the Internal Revenue Service or is sustained either by the Internal Revenue Service or in litigation. A contingent fee includes a fee that is based on a percentage of the refund reported on a return, that is based on a percentage of the taxes saved, or that otherwise depends on the specific result attained. A contingent fee also includes any fee arrangement in which the practitioner will reimburse the client for all or a portion of the client’s fee in the event that a position taken on a tax return or other filing is challenged by the Internal Revenue Service or is not sustained, whether pursuant to an indemnity agreement, a guarantee, rescission rights, or any other arrangement with a similar effect.
4) Should you prepare a written engagement agreement? If so, in your own words, write some key terms you would include in such an agreement. Hint: you can find sample CPA engagement agreements online.
5) Would you limit the scope of the work? Why? If so, write some language in your own words you would include in your engagement agreement which limits the scope of your work.
Case Study Continued – Due April 7, 2021:
Assume you quoted a very reasonable fee and payment arrangement in exchange for likely settling the IRS’s $100,000 tax debt for $5,000 to $10,000 in a lump sum settlement payment.
Assume you also gently informed Jane of Jim’s tax problem and she took it well and was eager to help him resolve his problem by providing him with up to $10,000 from her savings to settle his debt.
Assume you also provided great advice on how to minimize the chance of an audit on Jim’s 2019 corporate tax return, and how to set a salary so as to avoid audit issues with the IRS in the future with respect to his corporate tax return.
Assume you felt you bonded with them like you never bonded before with any other prospective clients, and that Jane was eager to get started, but Jim said: “thank you so much; here is the $225
we owe you for your time; you’ve given us a lot to think about and we need time to absorb it, and look at our options about what you advised; we will be back in touch early next week with our decision.” Two weeks pass. You try to follow up by e-mail and leave voice mail messages, but you are being ignored by Jim.
1) What could have gone wrong? Did you do something wrong from a tactical or strategic point of view? What was it, if anything?
2) What could you have done differently to potentially avoid this result?
3) Did you provide a valuable service at the meeting? If so, how can we measure the value?
4) Do you feel like you provided way more value than the $225 you collected? Why, specifically?
5) Do you measure the value you provided based on your time invested and your hourly rate, or based on the likely result you can achieve for the client?
6) Can you, and should you, measure the value you can provide based on the client’s perception of the value of your work you will provide?
7) In this case, which specific problems identified by Jim would provide the highest value to him if you performed those tasks or solved those problems?
8) How valuable, measured in low, medium or high, is your ability to deliver the bad news to Jane of Jim’s $100,000 pre-marital tax liability?
9) How valuable is your ability to manage her reaction so that she deals with it well and the relationship is not materially affected in a bad way?
10) What could have been the result if Jane was informed of Jim’s tax problem by a CPA that did not have the same level of people skills, compassion and empathy that you exhibited to achieve the positive outcome with Jane? Could the marriage have been in trouble?
11) How much would Jim “pay” today to avoid a breakdown of the marriage? Is it fair for you to measure your services value that way? Is it ethical?
12) If it doesn’t seem right to put a dollar value on that, should we at least explore with Jim the possibility that severe turmoil can be caused in the marriage? Should we consider outside help of a marriage and family therapist? If so, why?
13) Do you think you and Jim could have come to an agreement on fees before you informed Jane of the tax issues (and provided the huge value of helping them maintain favorable marital relations)? If so, what will you do next time you have to agree upon fees and there is a lot of value you can deliver to a client’s situation?
Case Study Continued (for April 14, 2021)
Fast forward 3 years into the future. After not hearing from Jim since he paid you the $225, you are served with a lawsuit by Jane. Jane’s suit claims that Jim and Jane relied on your advice and as a result, she is liable to the IRS for Jim’s tax liabilities from 2019 through 2021; that Jim’s corporation was audited for the 2019, 2020 and 2021 tax years and that the IRS disallowed approximately $140,000 in corporate expenses each year, resulting in $150,000 in tax for all three years, $30,000 in interest on the tax and $112,500 in civil (non-criminal) fraud penalties.
Jane further alleges in her suit that while normally in tax malpractice cases CPAs are not liable for a client’s taxes (just interest and penalties that could have been avoided if there was no malpractice), in this particular case, if you had followed Board and/or IRS ethics/practice rules, she would not be liable for the tax (only Jim would be), and that as a result of your falling below the standard of care in your profession, she has been damaged in the amount of the tax, the interest and the penalties and seeks nearly $300,000 in monetary damages.
Also, she claims she was damaged another $100,000 when the IRS grabbed $100,000 out of her savings account to pay for Jim’s 2010 tax liability and that she spent $25,000 on a tax lawyer trying to get it back, but has not been successful in doing so. She claims that the IRS learned about her account because you advised them to file a joint return and the joint return disclosed the existence of interest being paid to her from Wells Fargo Bank, where she kept her life savings of $100,000.
Fortunately you pay $2,500 per year in malpractice insurance and your insurance company hired a lawyer to defend you. Fortunately, your coverage amount is $1,000,000, so even if it costs a lot in legal fees to defend you, there’s still enough insurance coverage to cover Jane’s $425,000 claim ($300,000 in tax, plus $100,000 in the amount levied from her bank account, plus $25,000 attorney’s fees Jane spent).
After your attorney speaks with Jane’s lawyer about the case, it turns out that Jane divorced Jim because of his tax liability; that she could not get over the fact that he never disclosed his tax problem until after the marriage; that his secrecy over his corporate tax return created a worry for her that she might be fired from her job if it was ever discovered that he took improper
deductions; and that his reckless spending of corporate funds on “business” travel and
entertainment amounted to “financial infidelity.” Jane was furious at you for not alerting her to the possibility that the IRS could grab her money for Jim’s pre-marital tax debts, for advising them to file a joint return, and for not alerting her to the fact that Jim clearly had bogus and unsupportable deductions in his profit and loss statement.
Your lawyer, anxious to build your defense, asks you for your notes from the meeting, e-mails, etc. You review your e-mails and can only find an e-mail from your assistant confirming the meeting with Jim and Jane in 2019, and nothing else. You conduct a search of your computer files for any document related to Jim or Jane but cannot find anything. You remember taking notes during the meeting about what they told you and what you recommended, but you can’t recall if you scanned the notes. You inform your attorney that although you took notes during the
meeting, you likely discarded the notes after you realized they were not going to become your clients. Your attorney asks if you had an engagement agreement and whether you received any payment. Your billing records reflect you received $150 for the consultation, but you did not have an engagement agreement because they never became “real” clients, and only came in for an initial consultation.
Due April 21, 2021:
1) What could you have done differently before the initial consultation to reduce the risk of this type of law suit?
2) Did you fall below a CPA’s standard of care and if so, how? In other words, did you commit malpractice? See articles:
3) Are you, as a CPA, supposed to be a good record keeper, and if so, what should you have kept from the meeting? How should you have stored it for later easy retrieval?
4) Should you have prepared an engagement agreement for an initial consultation? If so, what would it have said or covered?
5) Should you have followed up the meeting with an e-mail or letter to one or both of them, and if so, what should have been discussed in that letter?
6) What else do you think your lawyer will advise you to do next time so you do not fall victim to this kind of situation?
7) Should you have charged more to make sure all the follow-up tasks needed to protect yourself are compensated? If so, how many more hours should you have asked for up-front? And, would that be at a discounted rate or your normal hourly rate?
8) How much do you think your insurance company will pay the law firm to defend you?
9) How much do you think it will cost for you to hire lawyer to defend you if you did not have insurance?
10) How much do you think your defense lawyer will recommend the insurance company pay to settle the claim in order to minimize the attorney’s fees in preparing for and going to trial?
11) Assume you didn’t have insurance, and your lawyer says the issues are complex and a jury will not be able to grasp what really happened; that Jane’s lawyer will make you look really bad on the witness stand for not having kept your notes, having no e-mails, having no engagement
letter, violating one or more Board and/or IRS ethics rules; that Jane is a sympathetic witness and the jury will feel bad about her $100,000 bank levy, her $300,000 tax bill, and potentially hold you responsible. How much are you willing to pay now to make this go away, assuming you had just inherited $500,000?
12) What office procedures would you put in place now for the screening of prospective clients over the phone knowing what could happen?
13) What procedures would you put in place now before meeting prospective clients knowing what could happen?
14) In the future, would you still meet with both a husband and wife knowing one of them caused the tax problem and the other is innocent?
15) If you would meet with both, what would you explain to them about your ethical requirements and IRS rules about representing two parties at the same time?
16) What, if any, written disclaimers/waivers would you ask for and receive before proceeding to represent or counsel both husband and wife?
17) If the two prospective clients are current or potential business partners, would your ethical obligations and written disclaimers/waivers be any different that for a married couple?
CASE STUDY — IRS AUDIT (see question below for April 28, 2021 assignment)
It is the summer of 2021. Assume there has been no lawsuit as described above. Assume Jim, after not having come back to you to prepare the tax returns, makes and appointment for you to represent his S-corporation in an audit. You are going through a slow period and can use the extra money to cover your expenses.
Jim comes in alone and says he wants to protect his wife from his problems as much as possible, but for the tax years under audit, 2019 and 2020, he filed a joint return with Jane and is concerned that Jane will be liable, along with him, if there is a balance due. Jim thinks there is the possibility of a large balance due as a result of the audit.
Jim appears to be very nervous, his mustache area is perspiring, and appears very flush. He then states, “I think I did something really stupid.”
Estimate that you will incur about 40 hours of billable time on this audit from start to finish, that you will have 3 to 4 meetings with the auditor before the auditor presents his findings and asks you to ask your client for an agreement to the additional tax, interest and penalties, if applicable.[cont’d.]
Due April 28, 2021:
1) Do you take the case?
2) If so, what conditions do you place on who you represent and who you don’t represent?
3) What effect will there be on Jane if the corporate audit turns out poorly, and why?
4) How much will you charge up front to take the case?
5) How will you collect the remainder if Jim might be slow to pay?
6) If Jim fails to pay your second bill, how much time do you give him to find another CPA before you inform Jim and the IRS that you no longer represent Jim?
7) What if the IRS auditor says, “I will need a power of attorney from Jim and a power of attorney from Jane appointing you as their representative so that I can discuss changes that may be made to their personal return as a result of the corporation’s audit”? Do you provide the IRS with a power of attorney signed by Jane appointing you? If not, why not? Is there an alternate form that allows the IRS to talk to you about Jane’s tax matters?
8) Is there anything you can do to minimize the chance that Jane will sue you if the corporation’s audit turns out poorly? If so, what can you do?
9) What do you say to Jim right after he says he did something stupid?
10) What other type of professional should you recommend that Jim hire? And, at what stage should that professional be hired?
CASE STUDY – IRS APPEALS & TAX COURT (see below for May 5, 2021 assignment)
Assume that the IRS disallowed $300,000 of expenses from three years of Jim’s corporate income tax returns and that because the corporation was an S-corporation, the additional taxable income was flowed through to Jim and Jane’s personal tax returns (form 1040), which had been filed jointly for all three years.
Jim calls and wants to come in to discuss his options in dealing with the following situation: he received a letter from the IRS auditor asking for consent to be assessed about $100,000 in additional tax, $20,000 in penalties, and $15,000 in interest on the tax and penalties. The letter states he has 30 days to request an appeal and file a Protest stating clearing why he disagrees with the auditor’s determination and what evidence he has shown to support his corporate deductions.
He would like you to represent him and Jane as to their jointly filed form 1040.
The IRS disallowed the following approximate expenses, for the reasons stated below, over a 3 year period:
a) Travel: $ 75,000 — insufficient proof to show business purpose of travel
b) Auto: $ 50,000 – insufficient proof of business use of auto
c) Meals @50%): $ 60,000 – insufficient proof of business entertainment expenses
d) Promotional Expenses: $ 30,000 — business gifts
e) Insurance: $250,000 – unreasonable/excessive captive insurance paid
Due May 5, 2021:
1) Explain what documentation Jim would need to provide to you to support that these deductions should be allowed.[note: the following questions will require you review my 2 page handout (e-mailed to you and/or handed out on the first day of class). Also do some Google searches to find the answers]
2) What if the 30 days has passed, and the IRS Issues a Notice of Deficiency. How much time do Jim and Jane have to avoid assessment of the tax and have the IRS auditor’s finding re- determined?
3) What steps do Jim and Jane need to take now to avoid assessment of the tax until a re- determination can be made?
4) Where (what website) do you find the forms necessary to complete to avoid the assessment of the tax until there is a re-determination of the auditor’s findings?
5) What will happen during the time Jim and Jane file papers for a re-determination of the auditor’s findings and the time the final tax assessment is entered into the IRS computer and a balance due letter is mailed?
IRS COLLECTIONS (for May 12, 2021 — for Bonus Points ONLY – not required if you don’t have time)
Assume the first balance due letter has arrived, one for Jim and one for Jane. Jim has made an appointment to discuss his balance due and ways in which it can be negotiated to a lower amount based on his inability to pay the full amount. Assume the balance due for several years of tax returns audited is a $400,000 balance due for both Jim and Jane. Jane is not able to attend the meeting due to her job, but Jim indicates that he speaks for both of them and that she wants to be represented as well. Jim indicates that he is prepared to pay your retainer in order to get the ball rolling today with the processing of the paperwork and submission of the paperwork to the IRS.
Jim indicates that it is imperative that you process the papers quickly and assist him in resolving this problem as fast as humanly possible because the situation has caused a great deal of marital stiff. In fact, the situation is so bad that Jane is having him sleep on the couch until the matter is resolved. He asks whether you think the IRS can get back to you with the acceptance of an offer of settlement within a few months and if anything can be done to speed up the situation.
Assume they have 2 kids, ages 7 and 12, and the following income and expenses: Jim’s monthly net business income: $6,000
Jane’s gross monthly salary: $6,000
Mortgage, Utilities, Property Taxes, Insurance: $3,700 Food, Clothing, Personal Care: $2,300
Medical Expenses: $ 250
Auto Payments: $1,000
Transportation Expenses: $ 750
Income Taxes: $3,000
Assume Jim and Jane own a home worth $600,000, with a mortgage balance due to $475,000.