With the recent sweeping changes to federal tax law, individuals, closely held businesses and their owners, as well as larger national and multinational corporations, are seeking advice from tax professionals in order to position themselves in the most tax-efficient manner both for current transactions as well as prospective transactions.
A large part of the tax-planning process involves an analysis of statutory laws, Internal Revenue Service regulations, legislative history, IRS and judicial rulings and how they apply to specific transactions.
Tax planning also incorporates the risks of IRS challenge and potential litigation.
In the event of an IRS tax audit, the IRS will seek to obtain all information from the taxpayer about the taxpayer’s transactions. The IRS may even issue summonses to the taxpayer’s attorneys and accountants in order to obtain research memoranda, communications and notes.
The IRS does this so that it can better position itself during the audit or for litigation.
Naturally, the taxpayer wants to minimize the amount of information that the IRS can access. So how does a taxpayer proactively take steps to protect information from disclosure to the IRS?
Although the 1998 IRS Restructuring and Reform Act provides a privilege for confidential communications concerning tax advice between taxpayers and “federally authorized tax practitioners,” including enrolled agents and Certified Public Accountants, it does not provide for a work product privilege, does not apply in criminal tax investigations and does not apply in other proceedings.
However, taxpayers still can rely on a tax attorney’s privilege for attorney-client communications, a tax attorney’s work product immunity and the Kovel doctrine.
The privilege applies to certain confidential communications between a client and the client’s attorney relative to the attorney’s opinion on law, legal services or assistance in a legal proceeding. The privilege protects against the disclosure of those confidential communications to third parties.
The purpose of the privilege is to allow a free flow of information between a client and an attorney so that the attorney can evaluate all relevant information without the concern that the communication may someday be disclosed.
If a tax attorney was involved in the tax planning process relative to a transaction under investigation by the IRS, then the attorney-client privilege should generally apply to the communications between the taxpayer and the tax attorney. The privilege would limit the ability of the IRS to gain access to that confidential information.
WORK PRODUCT IMMUNITY
The work product doctrine protects from disclosure the materials prepared and information obtained by an attorney in anticipation of litigation.
A lawsuit doesn’t have to exist for the immunity to apply; there simply has to be more than a remote possibility of litigation. The doctrine is generally applicable in criminal litigation, grand jury investigations and with respect to IRS summonses.
For example, a corporate taxpayer is considering a reorganization or restructure that would have significant tax implications, including the creation of a large tax refund. The taxpayer is aware that the IRS may later scrutinize the transaction.
The taxpayer retains tax counsel to research and draft a memorandum that considers the possible result of litigation with the IRS. The taxpayer then evaluates the conclusions made in the memorandum to decide on whether to proceed with the reorganization.
In the event of IRS scrutiny, the work product doctrine may apply to prevent the IRS from obtaining the memorandum.
The Kovel doctrine derives from a tax case concerning whether the attorney-client privilege applies to agents of an attorney.
Although there is no accountant-client privilege under federal law, there is a way to bring an accountant-client communication under the umbrella of the attorney-client privilege.
If an attorney needs to use the services of an accountant in order to render the legal advice to the client, then the attorney-client privilege generally attaches to the communications made between the client and the accountant.
If the matter requires the assistance of an accountant, the attorney, not the client, should hire the accountant and the attorney should invoice the client for the services of the accountant.
The Kovel doctrine also can apply to other types of professionals whom the attorney feels necessary for the legal representation.
Because of the dynamic nature of the tax law, tax planning is extremely important.
Retaining tax counsel at the outset of a contemplated transaction is imperative in order to obtain professional advice as well as preserve the confidentiality of communications and work product.
Milan Slak, a member of Norris McLaughlin & Marcus PA of Allentown, focuses his practice on all areas of taxation, business law and estate and succession planning. He can be reached at 610-391-1800 or [email protected]