The Issue of Due Diligence …

“An estimated $24.3 billion in refundable tax credit payments were issued improperly during Fiscal Year 2016,” said J. Russell George, Treasury Inspector General for Tax Administration (TIGTA).  “As such, it is imperative that the IRS effectively implement the PATH Act provisions that are intended to reduce such payments,” he added. This directive from TIGTA emphasizes combined with the IRS matching efforts to identify income sources prior to releasing refundable credits the focus the IRS will be taking regarding refundable tax credit processing for the future filing season. 

The due diligence requirements for the Earned Income Tax Credit has been a long-standing practice. However, last season saw the addition of a due diligence checklist for the Child Tax Credit, the Additional Child Tax Credit and the American Opportunity Tax Credit. According to the instructions for Form 8867, “Completing the form is not a substitute for actually performing the necessary due diligence and completing all required forms and schedules when preparing the return.” The renewed emphasis on the due diligence requirements should serve as a reminder of the three-fold enforcement actions the IRS is positioned to take regarding these credits.

The first enforcement is against the taxpayer that cannot justify their eligibility for these credits. This could result in taxpayers facing a large bill to repay the erroneous refunds, including interest and penalties. In some cases, they may even face criminal prosecution. Additionally, they will lose the ability to claim legitimate refundable credits on future returns.

Failure to meet the due diligence requirements for claiming the EIC, the CTC/ACTC or the AOTC could result in a $510 penalty for each failure. For example, if you are paid to prepare a return claiming the EIC, the CTC/ACTC, and the AOTC, and you fail to meet the due diligence requirements for all of these credits, you could be subject to a penalty of $1,530.

Additionally, the IRS can assess penalties against a firm that employs others to prepare tax returns if the employee does not meet due diligence requirements for the EITC, the CTC or the AOTC. But, only if one of the following applies:

  • Management participated in or, prior to the time the return was filed, knew of the failure to comply with the due diligence requirements; or
  • The firm failed to establish reasonable and appropriate procedures to ensure compliance with the due diligence requirements; or
  • The firm establishes appropriate compliance procedures but disregards those procedures through willfulness, recklessness, or gross indifference, including ignoring facts that would lead a person of reasonable prudence and competence to investigate or figure out the employee was not complying.

If you employ other preparers, here are some examples of how you can protect yourself from penalties for not meeting due diligence penalties when preparing returns with a claim of the EITC, the CTC, or the AOTC:

  • Review your current office procedures to make sure they address all appropriate due diligence requirements.
  • Review your procedures with your employees to make sure they clearly understand their responsibilities and your expectations of them.
  • Conduct annual due diligence training or instruct your staff to complete the online module that we offer in both English and Spanish.
  • Test your employee’s knowledge of due diligence and your procedures.
  • Perform recurring quality review checks on your employee’s work including credit computations, questions they asked clients, documents they reviewed, and the records kept.


Preparing for the upcoming season …

With Thanksgiving approaching, many of us are preparing for the upcoming tax season. In my business readings, I have included Blue Ocean Shift … the sequel to Blue Ocean Strategy. Too many tax prep firms focus on price and convenience, a dangerous strategy that creates a ‘red ocean’ of competition that weakens the profession and minimizes the value of the work we do.

I prefer a blue ocean strategy that sets me apart from the competition by providing value-added service and guidance to my clients, using technology that goes beyond the tax preparation software.I want to help my clients evaluate their audit risks and mitigate the risk with proper documentation and common sense restraint. I also want to help them mitigate the risk of inadvertent omissions on their returns.

As Enrolled Agents, we are the tax experts. I believe we should be specialists, rather than general practitioners. By doing this, we will set ourselves apart from the data entry specialists who rely on their computers to ‘get it right.’ This strategy will generate higher fees and greater client loyalty.

The Future World for Tax Preparers

Beginning in the mid-1980s the travel industry changed forever due to disintermediation between the consumer and the airline industry. (Generally, disintermediation is the process of removing the middleman or intermediary from future transactions) The number of local travel agencies plummeted during this period as online booking facilities abounded and commissions from the airlines dwindled. I believe the same phenomenon is emerging in the tax preparation industry.

Although the potential for gross simplification in the process is more of a political promise than an inevitable reality, a growing number of the younger generations are migrating to the online services to prepare their taxes. And for the routine tax filings, their risk is low. However, for the more complicated returns for those that are involved in the share economy (Uber, AirBnB and the like), the risk is higher and the opportunity for IRS interaction is enhanced.

My background in technology and my understanding of basic business principles, make me question the future of the data entry model of tax preparation where the computer does the heavy lifting and the only variable is the accuracy of the person doing the data entry. While it is difficult to accurately identify how many taxpayers use the self-service online services, it appears they are growing.

I believe the future for tax preparers lies in providing added value before, during and after the tax prep; specialization in a market niche; and professional credentialing combined with focused continuing education.

If the travel industry is any predictor, I believe we will see the number of preparers shrink from nearly a million to 10% to 15% of that number.

The issue of value pricing …

In most professional practices, the issue of value pricing often arises in a discussion with a new client or an existing client, when that client starts shopping a service. Ron Baker, founder of the VeraSage institure, describes the issue with the following example:

“We can’t measure value by the amount of time someone spends on something,” he says.

“The value of the polio vaccine isn’t determined by the amount of time it took Jonas Salk to invent it.”

Instead, he argues that the value of a service is determined by the customer, not the supplier. The same service can have a very different value, depending on the customer’s needs.

“If I’m in the desert and I haven’t had water for days, a bottle of water is worth a lot, because it’s going to save my life,” Baker argues.

“If I’m home washing the dog with the same quantity of water, it’s worth a lot less. But if my basement is flooded with water, now what’s water worth to me? Its value is negative, and I have to pay somebody to come and pump it out. In all three cases, we didn’t change the product, but the value went from almost infinite to negative, depending on the context I’m in.”

However, the issue is not simply a demand-side issue. As professionals, we must also decide whether the pricing the client will accept is acceptable to us. All too often, we as professionals accept the value the client offers, rather than how we value our services. The value of the time spent performing a task, is far less relevant than the value it provides to a client. By protecting our ‘rate card’ we establish the value of our services. If a potential client does not place the same value on our services, it is better to allow that client to go elsewhere. I am reminded of the following quote from Benjamin Franklin, “The bitterness of poor quality remains long after the sweetness of low price is forgotten”

In concert with this understanding of our valuation of our services, we must communicate the true value proposition we offer. What is our ‘Unique Value Proposition (UVP)?’ Perhaps the client does not understand the value of our credential. As an Enrolled Agent, I have the authority to represent my client throughout the maze of levels within the IRS. Others have limited or no authority. Perhaps, your UVP is your specialized expertise in the client’s field of service or area of business.

Perhaps your experience, your back-office support or your technology enhance your UVP and sets you apart from your competition. In my practice, I use the best analytics software I can find to streamline my process and enhance my evaluation of my client’s situation. Technology does not detract from the value of my services, but helps me to determine my strategy more quickly.

The bottom line is you must determine your value and direct your marketing efforts toward the segment of the potential clients that can benefit from and value your Unique Value Proposition.

Gary J. LaRoy, Enrolled Agent