Tax Opinion Policies and Procedures

IV. Levels of Assurance

Tax opinions predict how a court would rule in deciding the issue or issues opined upon, assuming the deciding court agreed with the facts as recounted in the letter. Stated differently, tax opinions predict the likelihood of a position being sustained on its merits if challenged by the Service. Opinions can be, and are, issued at varying levels of assurance. Although there are no formal rules or definitive guidance, tax opinion letters typically give assurance at one of five levels, generally expressed in percentage terms (notwithstanding how difficult it is to quantify particular outcomes). These are:

Reasonable basis,

Substantial authority,

More likely than not,

Should, and

Will.

The level of assurance, or confidence level, expressed in a tax opinion with respect to a position usually is determined by the purpose of the tax opinion, though it need not be. For example, guidance issued by the SEC in connection with Regulation S-K is quite specific regarding the level or levels of assurance at which tax opinions may or may not be issued; tax opinions issued in connection with corporation acquisitions, opining that the requirements of section 368 are met, typically are issued at a will level of assurance; and so on. A tax opinion provided for penalty protection opines at a reasonable basis, substantial authority, or more likely than not level of assurance depending on the requirements of the underlying penalty.

A. Reasonable Basis

Reasonable basis has been variously quantified: by some, as low as 20%; by others, as falling between 20 and 30%. Like substantial authority and more likely than not, reasonable basis has its source in, and derives its relevance from, the Code and regulations governing penalties. According to Regulation section 1.6662-3(b)(3):

The reasonable basis standard is not satisfied by a return position that is merely arguable or that is merely a colorable claim. If a return position is reasonably based on one or more of the authorities set forth in § 1.6662-4(d)(3)(iii) (taking into account the relevance and persuasiveness of the authorities, and subsequent developments), the return position will generally satisfy the reasonable basis standard even though it may not satisfy the substantial authority standard as defined in § 1.6662-4(d)(2).

A position having a reasonable basis avoids a negligence penalty. A return position having a reasonable basis also avoids a penalty for substantial understatement of income tax if the relevant facts are adequately disclosed on a return or a statement attached to a return and the tax return position is not attributable to a tax shelter. Thus, reasonable basis tax opinions provided to clients relate primarily to the avoidance of negligence and substantial understatement penalties.

A standard similar to the substantial understatement penalty applies to the preparer penalty under section 6694(a). Except in the case of tax shelters or reportable transactions, section 6694(a) penalties are not imposed if the relevant facts are disclosed on the taxpayer’s return and the position has a reasonable basis. Reasonable basis for this purpose has the same meaning as it does for the taxpayer penalties discussed above. Thus, tax opinions at a reasonable basis level of assurance may be written for other tax professionals who are concerned about their clients’ tax return positions. As discussed below, section 10.34 of Circular 230 adopts a similar standard though it is doubtful that a formal tax opinion would be rendered for Circular 230 purposes.

B. Substantial Authority

According to the regulations, substantial authority is more stringent than reasonable basis and less stringent than more likely than not (the latter meaning a greater than 50% likelihood of success). Oddly, most commentators nonetheless peg substantial authority at a 40% likelihood of success (meaning that return positions with a less than 40% likelihood of success would not meet the substantial authority standard) despite the vast expanse between reasonable basis—20% at the low end—and more likely than not—51%.

Substantial authority is particularly difficult to quantify in percentage terms. Unlike reasonable basis and other accuracy standards applicable to tax penalties, the regulations defining substantial authority do not focus at all on the merits of a tax return position or the likelihood that a taxpayer would prevail were a particular position challenged by the Service. Rather, the regulations focus only on the strength, or relative strength, of authorities supporting a position.

There is substantial authority for the tax treatment of an item only if the weight of the authorities supporting the treatment is substantial in relation to the weight of authorities supporting contrary treatment. All authorities relevant to the tax treatment of an item, including the authorities contrary to the treatment, are taken into account in determining whether substantial authority exists. The weight of authorities is determined in light of the pertinent facts and circumstances in the manner prescribed by [Regulation section 1.6662-4(d)(3)(ii)].

The regulations provide considerable guidance on how to conduct the weighing process, including a list of authorities that can be taken into account. Because the substantial authority standard can be satisfied at less than 50% certainty, substantial authority for more than one position is possible.

Tax opinions at the substantial authority level of assurance are typically provided for purposes of penalty avoidance. For the taxpayer, if an item is not attributable to a tax shelter, no penalty for substantial understatement of income tax can be imposed if there is or was substantial authority for the treatment on the tax return. A similar rule prevents the imposition of a preparer penalty under section 6694(a). The analysis required to establish substantial authority generally requires professional expertise. Indeed, the regulations describe the standard as “an objective standard involving an analysis of law and application of the law to relevant facts,” a difficult, if not impossible, task for someone without tax training. Moreover, a lay person can hardly be expected to appreciate “[t]he weight accorded an authority[, which] depends on its relevance and persuasiveness, and the type of document providing the authority” or to create a “well-reasoned construction of the applicable statutory provision” in the absence of certain types of authority.

C. More Likely Than Not

More likely than not is the only level of assurance that is defined in the regulations in terms of numeric probability: “the standard that is met when there is a greater than 50-percent likelihood of the position being upheld.” Consequently, there is no disagreement that more likely than not means greater than 50%.

More likely than not opinions are provided in several contexts. With respect to penalties, more likely than not opinions can play a role with respect to at least three separate penalties. First, satisfying the reasonable cause and good faith exception to a substantial understatement penalty attributable to a tax shelter item requires, inter alia, that a corporate taxpayer have reasonably believed, at the time its return was filed, that the tax treatment of the item at issue was more likely than not the proper treatment. Good faith reliance on an unambiguous more likely than not opinion by a professional tax adviser can satisfy this belief requirement. Second, the penalty for an understatement with respect to a reportable transaction is subject to its own unique reasonable cause requirements, which include, inter alia, that the taxpayer have reasonably believed that the treatment of the relevant item was more likely than not the proper treatment. In characterizing the types of tax opinions that cannot be relied upon to establish a taxpayer’s reasonable belief, the Code implies that tax opinions that are not excluded by certain regulatory requirements can be taken into account for this purpose. Third, a preparer penalty cannot be imposed with respect to a tax shelter or reportable transaction if it is reasonable to believe that the position at issue would more likely than not be sustained on its merits. According to the regulations, determining whether it is reasonable to believe that a position would more likely than not be sustained on its merits can take into consideration advice furnished by another advisor.

More likely than not is the standard or threshold that must be used by CPAs preparing financial statements to assess all material positions taken in an enterprise’s income tax return. While tax opinions are not a requirement for corporations to meet the applicable threshold, companies routinely engage outside tax counsel or advisers to prepare tax opinions on significant positions to determine whether such positions meet the more likely than not standard.

D. Should

The should standard is not quantified or defined in either the Code or regulations because this standard plays no role in the Code’s penalty provisions. Not surprisingly, then, commentators disagree on its meaning, pegging should as low as a 60% probability of success and as high as 80%. Regardless, should implies a relatively high degree of confidence in the item or matter opined upon, while also recognizing the existence of some risk that the opinion could be wrong.

Because should opinions are not written with any particular legal standard in mind, there is no specific list of circumstances in which opinions reflecting this standard are the norm. Certainly, clients seeking comfort or reassurance appreciate an opinion at the strongest level that counsel can or is willing to provide. If an opinion is written for purposes of satisfying a contractual condition, the contract specifies the level of opinion required; this could and often is, but need not be, the should standard. Moreover, because there is no situation in which an opinion at a will level is required, should opinions are more common than will opinions.

E. Will

The highest level of assurance is the will standard, which generally reflects a 95 to 100% likelihood of success. A will opinion is considered a “clean” or “unqualified” opinion of near certainty; “a ‘will’ opinion is consistent with the conclusion that there is no material risk of being wrong.” Will opinions theoretically should be easy to give because there are no worrisome legal issues.

Will opinions typically are issued in transactions for which the market expects such opinions. These include, for example, reorganization acquisitions of public companies and issuance of certain types of financial instruments.

F. No Tax Opinions at Realistic Possibility of Success Level

Commentators sometimes include “realistic possibility of success” in cataloging or listing levels of assurance. As described below, lawyers generally satisfy their ethical obligations if advice meets or exceeds this standard. Because statutory and regulatory standards applicable to both lawyers (as tax advisers) and taxpayers no longer refer to this standard, however, lawyers are strongly advised to follow the higher standard applicable with respect to preparer penalties.

The realistic possibility of success standard continues to apply to CPAs, but only when the applicable taxing authority has no written standards or if those standards are lower than American Institute of CPAs (AICPA) standards. With respect to federal tax advice, the applicable taxing authority is the Service, as to which higher standards apply. Thus, CPAs do not satisfy ethical obligations with respect to federal tax advice by advising at the realistic possibility level and may or may not satisfy ethical obligations with respect to state tax advice by advising at that level.

V. Ethical and Related Considerations

When drafting a tax opinion, tax professionals must be mindful of professional and other standards from at least three sources: (1) statutory penalties, (2) ethical principles, and (3) Circular 230. The first two prohibit written advice that does not meet a prescribed level of assurance; the third does not. Ethical guidance applicable to CPAs and lawyers (but only with respect to tax shelter opinions) and Circular 230 each prescribe procedural rules as well. While not a professional requirement, malpractice considerations are also often taken into account.

A. Statutory Penalties

Tax professionals may be subject to the preparer penalty provisions of the Code when they render tax opinions. These penalties apply only if a professional is considered a “tax return preparer,” but a tax return preparer, for this purpose, can be either a signing preparer or a nonsigning preparer. Thus, an individual who only provides a tax opinion and does not see a taxpayer’s return or claim for refund nonetheless can be held liable if the issue(s) addressed in the tax opinion constitute a substantial portion of a return or refund claim. However, an individual can be considered a tax return preparer only if the advice is “with respect to events that have occurred at the time the advice is rendered,” making the timing of a tax opinion relevant, if not decisive, in subjecting its author to a penalty.

The basic preparer penalty provision, section 6694(a), contains three standards:

1. More likely than not. For positions with respect to a tax shelter or reportable transaction, a penalty may be imposed “unless it is reasonable to believe that the position would more likely than not be sustained on its merits.”
2. Substantial authority. For all other advice, if a position is not specifically disclosed on the taxpayer’s return, a penalty may be imposed unless there is or was substantial authority for the position.
3. Reasonable basis. If a position is not with respect to a tax shelter or a reportable transaction but also is not supported by substantial authority, a penalty may be imposed unless there is a reasonable basis for the position and it is adequately disclosed.

The meaning of each standard has been discussed and should therefore be familiar. Under section 6694(a), a tax return preparer’s failure to satisfy the relevant standard may result in the imposition of a preparer penalty if the individual knew or reasonably should have known that the advice fell short. As a consequence, from a practical standpoint, a tax opinion should comply with the relevant standard in order to avoid a penalty under section 6694.

B. Ethical Rules

1. Rules Applicable to Lawyers

a. ABA Formal Opinion 85-352. According to ABA Formal Opinion 85-352, a lawyer is prohibited from advising tax return positions that fall short of a “realistic possibility of success” standard. This standard is generally thought to govern any tax advice given to a client to the extent that tax return positions are or will be involved (e.g., advice given in the course of structuring a transaction that ultimately will involve a tax return position or positions). Notably, Opinion 85-352 permits the rendering of advice that a lawyer believes will not prevail if challenged by the Service, so long as there is a “realistic possibility” of succeeding based on the lawyer’s good faith assessment of the law.

[A] lawyer may advise reporting a position on a return even where the lawyer believes the position probably will not prevail, there is no ‘substantial authority’ in support of the position, and there will be no disclosure of the position in the return. However, the position to be asserted must be one which the lawyer in good faith believes is warranted in existing law or can be supported by a good faith argument for an extension, modification or reversal of existing law. This requires that there is some realistic possibility of success if the matter is litigated. In addition, in his role as advisor, the lawyer should refer to potential penalties and other legal consequences should the client take the position advised.

Given the subjective nature of the rule—the lawyer’s own good faith beliefs being at issue—it is surprising that the realistic possibility of success standard has been quantified. The standard is universally understood as a one-in-three (or one-third) or greater likelihood of being sustained on the merits. The reasons for adopting this particular numerical standard have been eloquently explained by others. For present purposes, it is enough to note that at one time, all professional standards—lawyers’, accountants’, and Circular 230—and statutory penalties were uniform at this level, but since Opinion 85-352 was issued, all professional standards and statutory penalties, with the exception of those specifically applicable to lawyers as set forth in Opinion 85-352, have been elevated above the realistic possibility of success. Given the higher standards in the preparer penalty provisions of the Code and taxpayers’ (i.e., clients’) accuracy standards, it would be unusual, and perhaps irresponsible, for a lawyer—without more—to render tax advice at a mere realistic possibility of success level.

b. ABA Formal Opinion 346. ABA Formal Opinion 346 provides specific guidance of a procedural nature to lawyers drafting tax opinions in the context of tax shelter investments. Typically provided to promoters, these tax opinions are meant to be relied upon by offerees in determining whether to invest. While the types of transactions envisioned by Opinion 346 are no longer popular, many of the principles stated in the Opinion are useful (as suggestions or best practices), but not required, with respect to any tax opinion. These include:

1. The lawyer should establish the terms of the relationship at the time she is engaged, including making clear that the lawyer requires full disclosure from the client of the structure and intended operations of the venture and complete access to all relevant information.
2. The lawyer should make inquiry as to the relevant facts and, consistent with guidelines established in ABA Formal Opinion 335, be satisfied that the material facts are accurately and completely stated in the offering materials. If any alleged facts are incomplete, suspect, or inconsistent, the lawyer should make further inquiry.
3. A tax opinion should relate the law to the actual facts to the extent ascertainable. The assumption of facts that are not currently ascertainable is proper so long as such factual assumptions are clearly identified and are reasonable and complete.
4. A lawyer rendering a tax opinion should make reasonable inquiries to ascertain that a good faith effort has been made to comply with laws other than tax laws.
5. The lawyer should satisfy herself that she or another competent professional has considered all material tax issues. The tax opinion should address each material tax issue as to which a reasonable possibility of challenge by the Service exists.
6. If possible, the tax opinion should state the lawyer’s opinion of the probable outcome on the merits of each material tax issue. If that is not possible, the tax opinion should so state and provide the reasons for this conclusion.
7. A tax opinion should provide an overall evaluation of the extent to which the tax benefits, in the aggregate, are likely to be realized.
8. The lawyer should assure that the offerees will not be misled by mischaracterizations, in offering materials or promotion efforts, of the extent of the tax opinion.

Transactions to which Opinion 346 applies are rare today. Thus, Opinion 346 is relevant today only with respect to transactions that meet its definition of a tax shelter and as a general, though nonbinding, guide to what might be considered best practices in drafting tax opinions.

c. Model Rules. As lawyers, tax attorneys are subject to rules of professional conduct adopted in the states in which they are admitted or practice. All states’ codes or rules are based on the ABA Model Rules of Professional Conduct. However, the ABA has amended its Model Rules from time to time, and states have adopted their own variations. Thus, lawyers are cautioned to consult the relevant states’ rules rather than the Model Rules. With that caveat, the following Model Rules are particularly relevant in the context of tax opinions.

Rule 1.1—Competence. Competent representation requires the legal knowledge, skill, thoroughness and preparation reasonably necessary to the representation. Thus, a tax opinion should be given only by a lawyer who possesses the requisite knowledge and skill and who treats the engagement with the thoroughness called for by the tax opinion process. Moreover, other partners in a law firm, including (in particular) other lawyers with managerial authority, must make reasonable efforts to assure that those involved in the opinion process are competent to so engage.

Rule 2.3—Evaluation for Use by Third Persons. A lawyer may render advice for use by someone other than the client (e.g., a tax shelter opinion) if the lawyer reasonably believes that evaluating a matter for the benefit of a third party or parties is compatible with other aspects of the lawyer’s relationship with the client. If the lawyer knows or reasonably should know that the evaluation is likely to affect her client’s interests materially and adversely, however, she may not provide the evaluation unless the client gives informed consent. According to the Comments, when a question about a client’s legal situation arises at the instance of the client’s financial auditor, the lawyer’s response may be made in accordance with procedures recognized by the legal profession, such as the so-called “treaty” entered into between the ABA and AICPA.

Rule 3.1—Meritorious Claims & Contentions. This rule is the basis for the ethical standard stated in Opinion 85-352. A lawyer may not assert or refute an issue “unless there is a basis in law and fact for doing so that is not frivolous, which includes a good faith argument for an extension, modification or reversal of existing law.”

Rule 5.1—Responsibilities of a Partner or Supervisory Lawyer. Lawyers are responsible for other lawyers’ violations of the rules of professional conduct if they order or, with knowledge of specific conduct, ratify the conduct involved. In a law firm, partners or others with managerial or supervisory authority over another lawyer are responsible for violations, as well, if they know about the conduct at a time when the consequences can be avoided or mitigated but fail to take reasonable action. While this rule is somewhat extreme in concept, it should be borne in mind by partners and others who review opinion letters or otherwise oversee the practice of an attorney who drafts a tax opinion.

2. Rules Applicable to CPAs

AICPA professional guidelines apply identical standards to tax return preparation and tax planning advice. For this purpose, tax planning refers to oral or written recommendations or expressions of opinion in prospective or completed transactions on either a return position or a specific tax plan developed by the accountant, taxpayer, or a third party. An AICPA member must comply, in the first instance, with the standards imposed by the relevant taxing authority. In the case of a federal tax issue, the substantial authority standard (i.e., the preparer penalty standard set forth in section 6694 and section 10.34(a) of Circular 230) governs. If the applicable taxing authority has no written standards or written standards that are lower than the realistic possibility of success standard, the applicable standard is realistic possibility of success—not surprisingly defined as an “approximately a one-in-three (33 percent) likelihood that the position will be upheld on its merits if it is challenged.”

AICPA Interpretation No. 1-2 provides procedural guidelines for issuing opinions. Unlike Opinion 346, which applies (to lawyers) only in the context of tax shelter opinions, the AICPA rules apply (to CPAs) rendering any type of opinion that reflects the results of tax planning. Thus, a CPA should do all of the following:

1. establish the relevant background facts,
2. consider the reasonableness of assumptions and representations,
3. consider applicable regulations and standards regarding reliance on information and advice received from a third party,
4. apply the relevant authorities to the facts,
5. consider the business purpose and economic substance of the transaction if they are relevant to the tax consequences of the transaction (relying on a representation that there is a business purpose or economic substance being insufficient as a general matter),
6. consider whether the issue involves a listed transaction or reportable transaction,
7. consider other regulations and standards applicable to written tax advice promulgated by the applicable taxing authority, and
8. arrive at a conclusion supported by the authorities.

(Similar, though not identical, guidelines apply to CPAs in reviewing opinions that were given to a client by other tax professionals.)

These guidelines are strikingly similar to those in Opinion 346 and to the Circular 230 opinion standards that are described in the following Part, which were replaced in 2014. It is interesting, therefore, that AICPA standards are now substantially stricter than those required of lawyers and of all tax professionals by Circular 230.

C. Circular 230

Readers of a certain age will recall the Circular 230 standards for written advice, which were replaced in 2014. Circular 230 no longer includes minimum standards for rendering tax opinions, although it does prescribe procedural rules that are similar to those in AICPA Interpretation 1-2. The Circular 230 rules emphasize reasonableness. Thus, a practitioner who renders any type of written advice, including a tax opinion, must:

1. base the written advice on reasonable factual or legal assumptions, including assumptions as to future events,
2. reasonably consider all relevant facts and circumstances that the practitioner knows or reasonably should know,
3. use reasonable efforts to identify and ascertain the facts relevant to the written advice on each federal tax matter,
4. not rely on representations, statements, findings or agreements (including projections, financial forecasts, or appraisals) of the taxpayer or any other person if reliance on them would be unreasonable,
5. relate applicable law and authorities to facts, and
6. not take into account, in evaluating a federal tax issue, the possibility that a tax return will not be audited or that an issue will not be raised on audit.

Circular 230, therefore, permits written advice regardless of whether the practitioner concludes that a particular issue will be resolved in the taxpayer’s favor and regardless of the practitioner’s confidence level with respect to resolution of any particular issue.

Other provisions of Circular 230, which may be relevant in the context of written tax advice, include the following:

§ 10.22—Diligence as to accuracy. A practitioner must exercise due diligence, inter alia, in preparing or assisting in the preparation of any papers relating to Service matters and in determining the correctness of written representations made by the practitioner to clients in the context of Service matters. For this purpose, a practitioner is presumed to exercise due diligence in relying on the work product of another person if the practitioner “used reasonable care in engaging, supervising, training, and evaluating the person, taking proper account of the nature of the relationship between the practitioner and the person.”

§ 10.35—Competence. The competence standard in Circular 230 is almost identical to the standard in the Model Rules. Unlike the Model Rules, however, Circular 230 applies to all individuals subject to Circular 230, not just attorneys. Notably, the Preamble to the 2014 Circular 230 amendments states:

Although not binding on the IRS, Treasury and the IRS believe that the comments to Rule 1.1 of the Model Rules of Professional Conduct, State Bar opinions addressing the competence standard, and the American Institute of Certified Public Accountant’s competency standard are generally informative on the standard of competency expected of practitioners under Circular 230.

Thus, practitioners should make themselves aware of, and comfortable with, the competence standards of the legal and accounting professions, to assure they have the requisite level of expertise to render a particular tax opinion.

§ 10.33—Best practices for tax advisors. By its terms, section 10.33 of Circular 230 is not binding. The best practices contained therein, however, purport to ensure “the highest quality representation concerning Federal tax issues” and therefore should be taken into account in the process of drafting and reviewing tax opinions. These include the following:

1. “Communicating clearly with the client regarding the terms of engagement.” Specifically relevant to tax opinions, a tax advisor should determine the client’s expected purpose for, and use of, the advice that will be rendered, and should have a clear understanding with the client regarding the form and scope of the written advice.
2. “Establishing the facts, determining which facts are relevant, evaluating the reasonableness of any assumptions or representations, relating the applicable law (including potentially applicable judicial doctrines) to the relevant facts, and arriving at a conclusion supported by the law and the facts.”
3. “Advising the client regarding the import of the conclusions reached.” For example, a tax advisor should advise a client whether she would avoid accuracy-related penalties if she acts in reliance on the advice.

Notwithstanding the existence of mandatory provisions in Circular 230 pertaining to tax advice, the Service (through its Office of Professional Responsibility) is unlikely to enforce any of them. In at least two cases, courts have limited the Service’s authority to regulate tax practitioners to situations in which they engage in “practice” before the Service, referring to “practice during an investigation, adversarial hearing, or other adjudicative proceeding.” Unless a practitioner is “‘presenting’ a ‘case,’” in “traditional adversarial proceedings,” the Service has no authority to regulate and therefore to enforce.

In Loving v. I.R.S., several tax return preparers who previously had not been subject to Circular 230 (because they were not attorneys, CPAs, or enrolled agents) challenged the validity of the Circular 230 amendments adopted in 2011 under which they were required to qualify and enroll as registered tax return preparers under Circular 230 and under which their return preparation undertakings were subject to the substantive (and enforceable) requirements of Circular 230. In a unanimous opinion, the Court of Appeals for the D.C. Circuit ruled that the Service’s statutory authority to “regulate the practice of representatives before the Department of the Treasury” did not encompass authority to regulate tax return preparers because, inter alia, return preparers are not “representatives” and return preparation does not constitute “practice.” Tax return preparers, therefore, do not practice before the Service when they assist in the preparation of another person’s tax return.

Soon after the Loving decision, a CPA who charged contingent fees for preparing and filing refund claims challenged (in the federal district court for the District of Columbia) the validity of section 10.27 of Circular 230, which prohibits contingent fee arrangements in these circumstances. The court, in Ridgely v. Lew, ruled that, under Loving, the Service had no authority to regulate the preparation of ordinary refund claims preceding commencement of adversarial proceedings because these services do not constitute the practice of representatives before the Service.

As a consequence of the Loving and Ridgley decisions, any provision in Circular 230 regulating acts that do not relate directly to acting as an agent on behalf of a taxpayer in making a case before the Service is suspect in terms of the Service’s authority to regulate, even if the actor is a person (attorney, CPA, or enrolled agent) who otherwise is or could be subject to regulation under Circular 230. Thus, in preparing and privately providing a tax opinion to a client, a practitioner arguably need not comply with Circular 230. Nonetheless, it is difficult and probably reckless to ignore standards that constitute best practices, at least conceptually, and that are largely consistent with ethical principles applicable to attorneys and CPAs.

VI. Survey, Results, and Analysis

A. The Survey

In 2021, the Board of Regents of ACTC constituted a Task Force on Tax Opinion Procedures, which circulated a questionnaire to its more than 500 members regarding their firms’ tax opinion procedures. The questions and a tabulation of responses are reproduced in the Appendix to this Article.

Compared to the number of surveys circulated, the response rate was low. Only 76 individuals responded, and not all respondents answered every question. Moreover, responses to the survey describe practices only among firms that are represented in ACTC and thus are not necessarily representative of practices followed by tax lawyers and firms generally. While the survey asked for the size of each respondent’s firm, it did not ask whether a respondent practices in a law firm or accounting firm. As a consequence, the survey results do not lend themselves to a systematic review or global conclusions. However, the survey provides an excellent starting point for firms that are developing policies and procedures and for those that are reviewing policies and procedures already in place by identifying possible best practices and providing a glimpse into the substance and structure of other firms’ policies.

B. Responses and Analysis

The survey consisted of 12 substantive questions, most of which pertain to policies or procedures for reviewing tax opinions that have already been drafted. The survey touched only lightly upon (1) policies or rules for drafting tax opinion letters (e.g., format, reliance on client representations or representations by third parties) and (2) maintenance or use (within the firm) of tax opinions that have already been issued (e.g., as templates with respect to format, as a means to assure consistency of positions among tax opinions rendered by the same firm).

1. Tax Opinion Review Policies and Procedures in General

Almost all respondents’ firms have a formal opinion review policy for the issuance of tax opinions. Firms that have such policies are evenly split, however, on whether those policies are in writing or are merely a matter of institutional lore or practice. Although one might expect that more formalized procedures would exist in large firms as opposed to small ones, there was no correlation among the responses between the size of respondents’ firms and the existence of opinion review policies in writing.

One can only speculate why a firm would choose to, or choose not to, memorialize its review procedures in writing. A good reason to refrain from establishing a written policy is the risk, if a firm does not meticulously comply with its written procedures as to a particular tax opinion letter, that such failure could be held against the firm in malpractice litigation. On the other hand, maintaining and following a written policy could deter malpractice actions in the first instance or help in their defense. Written policies must be regularly reviewed and updated to account for changes in the law, professional standards, or the contexts in which clients seek tax opinions, taking time and attention away from billable matters. Unwritten policies can be easily modified or altered on an ongoing basis.

Among responding firms that have a tax opinion review policy (written or not), almost 70% apply their policies only to formal tax opinions and not to other written advice. With respect to the other 30%, the range of advice to which review policies apply is broad, from all written communications to only opinions that are provided in specific contexts (e.g., securities offerings, in connection with large transactions).

One respondent recounted a firm review policy that is available whenever the author of tax advice considers review appropriate. On one hand, this approach appears judicious and eminently reasonable, making the process available to anyone who thinks review by colleagues would be wise. On the other hand, however, placing the decision to seek review solely in the hands of the author leaves open the possibility that written advice, which perhaps should be reviewed, will not be.

2. Identity of Reviewers

Thirty percent of respondents’ firms have a tax opinion review committee while 70% do not. Descriptive responses suggest that some firms maintain a standing committee (e.g., all equity partners, or a chair and four members, etc.), but most firms constitute a review committee each time a need arises. Only two respondents reported that nontax professionals are part of the tax opinion review committee. At one firm, a member of the ethics committee participates. Another firm requires participation by an attorney or attorneys from another (i.e., other than tax) department.

More than 73% of respondents’ firms require at least two partners to approve a tax opinion. Most textual responses reflect a flat two-partner rule, but in some firms more than two partners can be called upon.

Seventy-eight percent of firms require that all reviewing and approving partners be tax partners. Only 22% permit partners practicing in other areas to participate. This is not surprising given the often complicated tax principles at issue and the difficult technical analysis that is usually involved. Having a member of the ethics committee involved, however, as one respondent reported, is probably a good idea from both professional ethics and malpractice points of view.

Somewhat surprisingly, less than 20% of respondents’ firms permit nonpartners to participate in the review and approval of tax opinions. This may, and probably does, exclude professionals who have greater knowledge or expertise on a particular subject than partner reviewers and is particularly surprising given the increase in counsel positions at large law firms. If the purpose of a review is to assure that the legal analysis is correct and the conclusions are sound, including the experts in the process would seem to be advisable regardless of equity status within a firm.

3. Procedural Requirements for Approval

Eighty-two percent of respondents’ firms do not differentiate among types of opinions in terms of procedural requirements for approval. In these firms, the process is the same no matter the context in which a tax opinion is rendered or the purpose of the opinion. The remaining 18% of firms have different requirements based on the type of opinion. Most explanations provided by respondents in the latter group focused on the number of partners required for approval, certain types of opinions (e.g., “sticky” issues, complex opinions, opinions in connection with securities offerings) requiring review and approval by more than the usual two partners.

Ninety-six percent of respondents reported that their firms have the same approval procedures for all levels of tax opinions. The remaining four percent reported having different approval requirements based on the level of opinion (e.g., will, should, or more likely than not).

4. Tax Opinion Drafting Policies and Procedures

Forty-five percent of respondents reported that their firms have created one or more standard forms for opinions or portions of opinions that can be standardized. Fifty-five percent of respondents’ firms do not maintain any standardized forms or templates. Only a few respondents provided examples of types of opinions for which standardization has worked well. Some, but very little, overlap existed among responses, except with respect to tax-free reorganizations (section 368), as to which five respondents reported that their firms maintain standardized forms. Other responses included opinions rendered in the following contexts: entity classification (e.g., partnerships, REITs, REMICs, S corporations) (three respondents), financing (three), capital markets (two), commercial finance (two), small business stock (section 1202) (two), spinoffs (two), audit requests (one), penalty abatement (one), private placement memorandum opinions (one), public finance (section 103) (one), and SEC mergers and acquisitions (one). Several respondents reported that their firms maintained standard forms or templates for portions of tax opinions (e.g., “standard caveats and disclaimers,” “language regarding scope, reliance on other parties, etc.”).

Only one question in the survey pertained to training or educating professionals with respect to the preparation of tax opinions. That question appears to contemplate instruction on professional ethics issues and regulatory requirements rather than how-to guides for conceptualizing and drafting an opinion letter. Indeed, many respondents who reported that their firms do provide training referred, in comments, specifically to Circular 230 training or to regularly scheduled continuing education programs. Thus, it appears that few firms formally train tax professionals in programs that are specific to tax opinions.

Sixty-six percent of respondents reported that their firms provide training while 34% reported that their firms do not. A handful of respondents who reported that their firms provide training described such training as a written policy; informal, general, or “on the job by partners”; or as mentoring “when issues come up”; suggesting that far less than 66% of respondents’ firms actually hold training sessions on either tax opinions specifically or ethical issues in tax practice (including Circular 230) more generally.

Based on the survey and comments provided by respondents, it appears that firms are not formally teaching tax professionals how to prepare tax opinions. Matters such as fact gathering are both procedural and ethical and are not necessarily intuitive. For example: How does one assure that all of the pertinent facts have been ascertained? To what degree can or should statements or representations made by others be relied upon? Professionals must also appreciate the meaning of the various levels of assurance commonly used in tax opinions and be familiar with the analysis or thought process that goes into determining at what level the firm is willing to opine. Professionals should also be conversant in the impact of opinions on their clients (e.g., as penalty defense, privilege issues). Thus, it is quite surprising that for many tax professionals, tax opinion skills are picked up on the job.

5. Retention Policies

Only one question in the survey pertained to the maintenance of tax opinions after they are issued. Surprisingly, only 35% of respondents reported that their firms have a policy relating to the cataloging and retention of tax opinions. Sixty-five percent of respondents’ firms do not. Thus, it appears that professionals in most firms have no formal means of accessing tax opinions previously rendered by their firms. This is remarkable, given the technological ease of creating and maintaining a searchable database.

No questions in the survey concerned the use of opinions by others in a firm after the fact. Coupled with the low percentage of firms that appear to index or maintain centralized files containing tax opinions, it appears that most tax professionals may be reinventing the proverbial wheel when opinions are requested on issues as to which the firm has already opined. Moreover, other than by making informal inquiries, professionals in such firms have no means of learning whether their firms have ever opined on the same or a similar issue and risk preparing opinions that contradict prior opinions rendered by the same firm.

Most respondents whose firms do have a policy relating to the cataloging and retention of tax opinions described their firms’ retention policies as relatively informal. Thus, while these firms retain copies of prior opinions, they are not necessarily in one place (e.g., “maintain all correspondence on our server indefinitely,” “informal circulation of ‘FYI’ copies”). No respondent reported that opinions are indexed or cataloged in any meaningful way.

6. What Respondents Asked For

At the end of the survey, respondents were informed that ACTC would like to provide ideas for firms to consider as they adopt or update tax opinion review policies and were asked to provide ideas for what ACTC should include as part of this process.

Several respondents are interested in having a sense of other firms’ policies and what constitutes best practices in this area. The survey results described in this Article address the former and may provide a further impetus to explore what should be best practices as a general matter. Perhaps relatedly, several respondents are interested in seeing sample templates or checklists utilized by other firms and understanding the benefits, if any, of the use of standardized language.

Several respondents suggest a need for regular training for professionals drafting opinions and for those serving on review committees. Indeed, the survey results reflect meager opinion training by respondents’ firms.

Respondents who practice as solo practitioners or as the only tax partner in a firm seek ideas on how to obtain appropriate review of their tax opinions. Another respondent suggested that appropriate review may be difficult even in firms with multiple tax partners when the drafting partner is particularly specialized and other tax partners might not be as qualified.

Finally, one respondent sought guidance on how other firms decide whether (and when) they will (or will not) issue tax opinions. For example, do firms make these decisions based on the type of transaction, the purpose of an opinion, or the firm’s relationship with the requesting client, etc.?

VII. Recommendations

The ACTC survey can serve as a point of departure for discussions within the profession and within firms regarding best practices for preparing and reviewing tax opinions. To that end, this Article makes several modest suggestions to firms for improving their opinion policies and procedures. The Article also proposes areas for further exploration should ACTC wish to conduct a more extensive or comprehensive survey or study.

A. Recommendations to Firms

1. Firms should periodically review their tax opinion policies and practices. The survey shows that most firms at which respondents practice have some sort of review policy for issuing tax opinions. The responses reflect a range of approaches. While firms should not change their own practices merely to conform to procedures adopted by others, many of the responses should cause firms to consider whether and how to improve their own rules. Taking stock from time to time is healthy. Moreover, ethical, statutory, and regulatory standards change over time, as do firms’ practices and cultures, suggesting that opinion policies should be reviewed and revised on a regular basis.

Regarding the question of whether and why firms should have firm-wide guidelines for the issuance and review of tax opinions, Professor Susan Saab Fortney stated the following with respect to procedures for issuing legal opinions generally:

These procedures provide quality control and reduce the firm’s liability exposure for opinion letters. By taking steps to avoid improvidently rendered opinions, law firms may be able to avoid state disciplinary and regulatory actions, as well as civil and criminal liability. For example, by implementing good faith internal procedures for rendering opinion letters, a firm may be able to defend against a finding of scienter under the federal securities laws. In addition to providing some assurance against claims, internal review procedures assist firms in developing uniform approaches to opinion matters, educate attorneys on relevant developments, and provide a pool of experienced and knowledgeable attorneys with whom difficult or novel issues may be discussed. Internal peer review procedures for opinion letters may also insulate the attorney handling the transaction against pressure from clients to give broad opinions and may shield the attorney from unreasonable demands from attorneys on the other side of the transaction.

2. Firms should decide whether tax opinion review policies should conform to review policies applicable to other types of opinions. A survey conducted by the ABA Section of Business Law in 2010, which generated 252 responses, reported that almost all responding firms had opinion policies or procedures of some sort. More than three-quarters of respondents, for example, had established “procedures for issuing opinion letters” and for distributing and making “available materials and resources prepared by others . . . regarding opinion letters and opinion practice.” In contrast, responses to the ACTC survey on tax opinions paint quite a different picture. One wonders whether the same firms maintain separate procedures for different departments within the firm or types of opinions (tax vs. nontax). While there may be good reasons for any such differences, firms should consider whether differences are intentional and whether all professional practices should conform to the same policies.

3. Firms should train tax professionals on best practices for conceptualizing, drafting, and reviewing a tax opinion letter. The survey suggests that a majority of firms do not provide training specifically related to the issuance of tax opinions, including education relating to applicable ethical, statutory, and regulatory (e.g., Circular 230) standards. Even among firms for which respondents reported the existence of training, many firms educate only informally (e.g., “on the job,” mentoring) or include opinion practice standards within training applicable to tax practice generally.

Firms should provide formal training programs pertaining solely to the process of, and ethical considerations in, drafting tax opinions. Opinion writing is a skill. As an example, omission or misstatement of a crucial fact (even inadvertently) can diminish the value of an opinion to the client. Disclaimers are often necessary for ethical or liability purposes. Every professional involved in the opinion process should be proficient in firm rules and policies as well as the applicable ethical, statutory, and regulatory standards, and should understand the expectations of the firm in terms of form and format. Moreover, training programs confirm that all participants are trained equally and ensure consistency among professionals and across offices.

4. Firms should maintain and make available indexed or searchable databases or files of previously issued tax opinions. The survey suggests that most firms do not have policies relating to the cataloging or retention of tax opinions. Maintaining an indexed or searchable database or file would provide numerous benefits, including ensuring consistency among positions proffered by the firm. In large firms or tax departments, such files could be the only means by which a current tax opinion writer can learn who in the firm has dealt with a similar issue or issues.

5. Firms should consider using standard language for parts of tax opinion letters. The survey showed a split among firms on the use of standardized language. Just under one-half of respondents’ firms use standard forms or language while just over one-half do not. If there is a disagreement among tax professionals on this point, firms nonetheless should consider whether and the extent to which standardized language could be beneficial. Standard language is preferable to modeling (or copying) language from a prior opinion because an earlier opinion might have been drafted to accommodate particular or peculiar facts, which might not be obvious to the current opinion drafter. Of course, neither the legal analysis reflected in a tax opinion nor the opinions themselves can ever be standardized because they relate to specific taxpayers and unique facts.

6. Firms should decide what constitutes a tax opinion for purposes of their review policies. The survey reflects a wide variety of practices with respect to the types of written advice that require review under a firm’s opinion review policy. Articulating clearly the breadth of a policy both sets expectations and avoids the issuance of advice without review when the substance or format of advice should have merited review by others.

7. Firms should consider whether to formally require tax opinion preparers to consult with another tax professional or professionals prior to delivering a tax opinion for review. The survey did not ask whether firms require opinion preparers to consult with colleagues prior to drafting. One’s partners, for example, could identify nonobvious issues or concerns and could assist in the legal analysis and process of determining the level of assurance at which an opinion will be issued. A colleague within one’s own practice area also is more likely to see that a transaction raises special concerns or requires special procedures. When a firm’s review committee consists of professionals from outside of the firm’s tax practice, knowing that another tax professional or professionals have been consulted can provide comfort or confidence in the opinion rendered.

Relatedly, firms might discuss the point in time for initiating the opinion review process. Should review begin after an opinion letter is complete or should reviewers become involved at an earlier point? Does the answer to this question depend on the type of transaction or the difficulty or novelty of the issue(s) presented?

8. Firms should consider and define the role of reviewers. The survey suggests that most firms require review of tax opinions by at least two tax partners. Only a minority of firms require nontax professionals to participate in the process. When nontax professionals participate, what role do they play? Are they expected to familiarize themselves with complex tax principles or is there some other reason for their presence? Indeed, what is the role of tax professionals in the review process? Do they have the ability to stop the issuance of an opinion or require the inclusion of particular language, or is their role merely advisory?

9. Firms should consider including nonpartners in the opinion review process. Only 20% of respondents’ firms permit nonpartners to participate in the opinion review and approval process. This is quite surprising in light of the growth of nonequity partnerships and counsel positions. Indeed, if a counsel attorney is an expert in an area in which no partner shares a similar level of expertise, it is illogical to exclude that individual from the process. Of course, counsel attorneys might be consulted during the drafting process or prior to review, but their views and opinions might not be taken into account at all if the drafting professional takes a different view. If a purpose of the review process is to ensure the accuracy of the issue(s) opined upon, it makes no sense to exclude experts.

B. Recommendations for Further Study

The ACTC survey provides useful information and a starting point for firms that are developing tax opinion policies and procedures and for those reviewing policies and procedures already in place. Should ACTC wish to conduct a broader survey, this Article suggests the following areas of inquiry.

1. Add questions concerning fact-finding processes. As previously discussed, professionals rendering tax opinions are (or may be) subject to statutory, regulatory, and ethical rules requiring a degree of diligence in identifying and ascertaining relevant facts and outlining the circumstances under which a professional can (and by negative inference, cannot) rely on factual representations by others. Thus, a future study should inquire specifically into the process or processes under which facts are gathered and the degree of reliance on clients’ statements that is permitted by firms.

2. Tease out differences, if any, between law firms and accounting firms. The survey did not distinguish between law firms and accounting firms and therefore offers no insights into differing practices, if any, between the two. If there are differences, it may be the case that best practices are not the same across professional designations. It is also possible that common practices in one of the professions, which are not common in the other, could work well in either setting. It would be interesting to understand whether and how the practice of rendering tax opinions in accounting firms differs from that in law firms and what each type of firm could learn from the other.

3. Tease out differences, if any, between small and large firms. Some of the comments submitted by respondents practicing in small firms suggested that certain of their practices (e.g., including nontax partners as members of opinion review committees) are followed out of necessity. It would be helpful, therefore, to clarify best practices where there are few, if any, tax professionals in a firm other than the drafting professional, and best practices when there are many tax practitioners in a firm. Indeed, some policies, such as requiring the maintenance and cataloging of tax opinions, are much more important in large firms, where some or many tax professionals could easily be unaware of the transactions in which others are or have been engaged.

4. Circulate surveys broadly and expend effort to obtain responses. While an excellent first step, the ACTC survey was circulated only to members of ACTC. The response rate was low. As a consequence, whether the results reflect firm or tax practices more generally remains unclear. A future study should circulate surveys to a wider selection of firms and there should be follow-up efforts to obtain responses.

VIII. Conclusion

The survey results reflect that more than a few firms are actively engaging in the practices recommended in this Article. Most respondents’ firms have an opinion review policy in some form. Most firms require review by a least two partners, who in most cases are tax partners. Comments submitted by respondents reflect interest in hearing about other firms’ procedures in order to make better decisions about their own firms’ policies. Many respondents are interested in training (or more training) programs.

The most troubling revelation is the lack of policies within firms for maintaining archives of tax opinions that firms have already issued. Maintaining an indexed or searchable database or file of such opinions is technologically easy and should become standard practice.

The survey also reveals a range of approaches to opinion policies and procedures. This Article and the survey, together, should encourage further discussion within firms and across firms regarding best practices in the area.

Appendix

Survey Reponses

Three of nine respondents indicated that their firms do not have a formal opinion review policy but went on to answer questions pertaining to their firms’ review policies, suggesting that these three individuals interpreted this question as contemplating a formal, versus an informal (or perhaps unwritten), review policy. As a consequence, these respondents are reported here as yeses for purposes of the first part of question 1 and noes for purposes of the second part.

^{* One respondent did not answer this question.} 

If broader, to what written communications does the policy apply? 

Examples of responses: any written tax advice, informal tax opinions, advice in large transactions/advice “having a potentially important effect,” all legal opinions rendered by the firm 

If so, how is the tax opinion review committee staffed?

Examples of responses: senior tax partners, senior attorneys, one firm committee that reviews all opinions (including tax opinions), partners with tax LL.M. degrees, tax partner not involved in the engagement, head of tax group/national tax group, managing shareholder and senior tax counsel, two other members with expertise, specified number (two, three, five partners)

Examples of responses: greater review/higher standard of review for opinions with higher level of confidence, public transactions with SEC reporting, “sticky” issue, complex opinion

If so, please describe your policy.

Examples of responses: opinions stored in a data bank or accounting departments, both digital and hard copies kept, firm maintains a directory of opinion letters, all legal opinions in common binder, cataloged within document management system

If your firm has created standard forms of tax opinion, can you provide examples of the types of opinions where standardization has worked well?

Of the responses, there were no common themes. Examples included: tax-free reorganizations; penalty abatement and litigation; commercial and public finance; repetitive types of offerings (capital markets); entity classification; audit requests; general language such as burden of proof

12. ACTC would like to provide ideas for firms to consider as they adopt or update their formal “Tax Opinion Review Policy.” Please provide any ideas that you think we should include as part of this process.

The author thanks Bahar Schippel for inviting her to write this Article and Larry Campagna for his thoughtful comments. Ms. Schippel chaired the task force that conducted the survey discussed herein.