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Circular 230 and tax return preparers

REG Chapter 1 · Area I · Blueprint I.A.1–2

Every tax return you will ever sign carries two sets of rules: Treasury Department Circular 230, which decides who may represent taxpayers before the IRS and how they must behave, and the Internal Revenue Code penalties that land on paid preparers who cut corners. The Blueprint wants you to recall both and apply them to a scenario. Reggie, a tax practitioner at Harbor Lane Tax & Advisory, walks Sam, a new associate, through a busy filing season. Penalty amounts are the ones for returns filed in 2027 (tax year 2026).

In this chapter

  1. Who may practice before the IRS
  2. Duties when dealing with the IRS and the client
  3. Fees, client records, conflicts and advertising
  4. Return positions and written advice
  5. Sanctions and the disciplinary process
  6. Who is a tax return preparer
  7. Preparer penalties for understatements (§6694)
  8. Procedural, disclosure and criminal penalties

This chapter has 8 lessons, 50 practice MCQs with explanations and 20 simulations, plus flashcards and a recall sheet.

What this chapter covers

Chapter 1 is free to read in full. Here are its lessons.

Who may practice before the IRS

Why the rule exists. Taxpayers who hire someone to deal with the IRS are trusting that person with their money and their legal rights. Congress gave the Treasury power (31 U.S.C. 330) to decide who may represent others and to discipline those who misbehave. Treasury does this through Circular 230, the regulations at 31 CFR Part 10.

Circular 230 has five parts. Subpart A says who may practice. Subpart B lists duties and restrictions. Subpart C lists sanctions. Subpart D sets the disciplinary process. Subpart E covers general provisions.

Practice before the IRS means every matter connected with presenting a client's rights, privileges or liabilities to the IRS: preparing and filing documents, corresponding and communicating with the IRS, giving written advice on a transaction with potential for tax avoidance, and representing a client at conferences, hearings and meetings.

Attorneys, CPAs and enrolled agents have unlimited practice rights, as long as they are not suspended or disbarred. Other individuals have limited rights: an individual may always represent himself, an immediate family member, his regular employer, a partnership in which he is a general partner, or a corporation of which he is an officer.

To represent a client the practitioner files Form 2848, Power of Attorney and Declaration of Representative. Form 8821 only lets a named person receive the client's information; it does not allow representation. Every paid preparer needs a PTIN, renewed each year.

Example. Kofi, a CPA, files Form 2848 for client Marta for income tax, Form 1040, years 2025 and 2026. He may sign agreements and speak for her on those years only. A neighbor holding a Form 8821 for Marta may receive copies of notices but cannot argue her case.

Micro-example. Ana is a CPA licensed in Ohio. A Texas client asks her to answer a CP2000 notice. Her Ohio license is enough: Circular 230 lets any CPA in good standing in any state practice before the IRS, so she files a Form 2848, receives a CAF number and replies to the notice.

Synthesis. Darnell holds an AFSP record of completion for 2026 and prepared and signed Ms. Ochoa's 2026 return. The IRS examines that return and later sends the case to Appeals. Darnell may represent her before the revenue agent, but not before Appeals, and he cannot represent her for 2025, a year he did not prepare. Ms. Ochoa should engage a CPA, attorney or EA for the appeal.

Watch out. Examiners write 'a preparer with a PTIN may represent the client in an audit'. A PTIN only allows paid preparation. Representation needs a CPA, attorney or EA licence, or the limited AFSP right for a return the person prepared.

Duties when dealing with the IRS and the client

Why the rules exist. The IRS needs honest, timely information to run a self-assessment system, and clients need advisers who tell them the truth even when it is unwelcome. Subpart B turns those needs into specific duties.

When the IRS lawfully asks for records, a practitioner must promptly hand them over unless the practitioner believes in good faith and on reasonable grounds that they are privileged. If the practitioner does not have them, he must say so and, to the best of his knowledge, who does (§10.20).

When a practitioner learns that a client has not complied with the tax law or has made an error or omission on a return, the practitioner must promptly advise the client of it and of the consequences under the law (§10.21). The duty is to advise the client. It is not a duty to correct the return or to tell the IRS.

A practitioner must exercise due diligence in preparing, approving and filing returns and in checking the accuracy of statements made to the IRS and to clients (§10.22). Relying on the work of another person is reasonable if the practitioner used reasonable care in engaging, supervising, training and evaluating that person.

Example. A client hands Reggie a brokerage statement showing $14,200 of dividends but tells him the dividends were $4,200. Due diligence means Reggie reports $14,200 or asks the client to explain the difference with evidence; he cannot simply accept the lower figure.

Micro-example. While preparing Mr. Tan's 2026 return, Sam sees that his 2025 return left out a $9,000 Form 1099-NEC. Under §10.21 Reggie must promptly advise Mr. Tan of the omission and explain that an amended return would add tax, interest and possibly a penalty. Reggie must not contact the IRS himself, and he is not required to amend.

Synthesis. Mr. Tan refuses to amend 2025 and wants the same item left off the 2026 return. Circular 230 still only requires advice for 2025. For 2026, signing a return that omits known income would breach §10.22 and §10.34 and could bring a §6694(b) penalty. Reggie must include the income or decline the 2026 engagement. Advice is the duty for the past year; accuracy is the duty for the return you sign.

Watch out. The trap answer is 'The CPA must notify the IRS of the client's error' or 'must file an amended return'. Section 10.21 requires only advising the client of the error and its consequences.

Fees, client records, conflicts and advertising

Why the rules exist. Fees and conflicts are where a practitioner's own interest can pull against the client's interest and against the tax system. Circular 230 limits the arrangements most likely to tempt someone into an aggressive position.

A practitioner may not charge an unconscionable fee (§10.27). A contingent fee, one based on a percentage of the refund or of the tax saved, is banned for services connected with any matter before the IRS, with four exceptions: an IRS examination of, or challenge to, an original return; an amended return or refund claim filed within 120 days after the taxpayer receives written notice of the examination or challenge; a claim solely for statutory interest or penalties the IRS assessed; and a judicial proceeding under the Code.

At the client's request a practitioner must promptly return all records of the client needed for the client to comply with federal tax obligations, even during a fee dispute (§10.28). The practitioner may keep copies. Only the practitioner's own work product, held back until its fee is paid, may be withheld.

A conflict of interest exists when representing one client is directly adverse to another, or when the practitioner's own interests or responsibilities to others may materially limit the work. The practitioner may proceed only with each affected client's informed consent, confirmed in writing no later than 30 days after consent, and keeps the confirmations for 36 months (§10.29).

Practitioners may advertise, but not with false, misleading or coercive statements. A published fee schedule must be honored for at least 30 days after it was last published (§10.30). A practitioner may not endorse or otherwise negotiate a client's federal tax refund check, or have it deposited into an account the practitioner controls (§10.31).

Example. A firm's website lists 'Form 1040 with Schedule C: $650'. A client signs up 20 days after the firm removes the price from its website. The firm must still charge $650, because published fees bind for 30 days after the last publication.

Micro-example. Reggie represents Harbor Bakery in an IRS examination of its 2025 return and agrees to a fee of 15% of any tax the IRS drops. The exam ends with $40,000 of proposed tax removed. The fee of 15% x $40,000 = $6,000 is permitted because it is for an examination of an original return.

Synthesis. Two clients, a divorcing couple, ask Reggie to prepare separate returns and to advise both on who claims their daughter. Their interests are directly adverse. Reggie may act only if he reasonably believes he can serve each competently and diligently, the law does not forbid it, and each gives informed consent confirmed in writing within 30 days. He keeps the consents for 36 months after the work ends. If either refuses, he represents one or neither.

Watch out. Examiners pair 'contingent fee' with 'amended return' to tempt you. An amended return is a contingent-fee exception only if it is filed within 120 days after the client receives written notice of an IRS examination of that return.

Return positions and written advice

Why the rules exist. Clients rely on written advice to make decisions, and some advice is written mainly to sell a tax strategy. Section 10.37 makes sure written advice rests on real facts and law, not on the hope that the IRS will never look.

A practitioner may not willfully, recklessly or through gross incompetence sign a return or advise a position that lacks a reasonable basis, is an unreasonable position under §6694, or is a willful attempt to understate tax (§10.34). The practitioner must tell the client about penalties reasonably likely to apply and how disclosure can avoid them.

A practitioner may rely in good faith on information the client provides, without verifying it, but may not ignore what other information implies. If something looks incorrect, inconsistent or incomplete, the practitioner must make reasonable inquiries.

Written advice includes letters and email. If the practitioner knows or has reason to know the advice will be used to promote or market a transaction, the practitioner's compliance is judged more strictly.

Example. A client says she drove 18,000 business miles in a year when her car's service records show 12,000 total miles. Reggie cannot simply use 18,000. The service records make the claim inconsistent, so he must ask questions before relying on it.

Micro-example. A client wants Reggie's email opinion on deducting a $30,000 vacation home as a rental. Reggie learns the family used it 40 days and rented it 25 days. His written advice must apply the personal-use rules to those facts. Writing 'it is deductible because the IRS rarely checks' would breach §10.37.

Synthesis. Sam drafts a return taking a $12,000 deduction that has a reasonable basis but not substantial authority. Under §10.34 Reggie must tell the client about any penalty reasonably likely to apply, and about the chance to avoid it by disclosing the position on Form 8275. If disclosed, the return position meets the standard; if the client refuses disclosure, Reggie should not sign a return taking the undisclosed position.

Watch out. An answer saying the practitioner may consider 'the low chance of audit' when giving written advice is always wrong under §10.37.

Sanctions and the disciplinary process

Why the rules exist. A licence to represent taxpayers is only trustworthy if the IRS can remove it from those who abuse it. Subparts C and D give the Treasury that power, with a fair process.

The Secretary of the Treasury may censure, suspend or disbar a practitioner who is incompetent or disreputable, who willfully violates Circular 230, or who recklessly or through gross incompetence violates the duties in §10.34 to §10.37 (§10.50 and §10.52). A monetary penalty may be imposed instead of, or as well as, those sanctions.

Section 10.51 lists incompetence and disreputable conduct, including: conviction of a federal tax crime, of any crime involving dishonesty or breach of trust, or of a felony that makes the person unfit; giving false information to the IRS; misappropriating client funds meant for taxes; willfully failing to file one's own return or evading one's own tax; trying to bribe IRS staff; disbarment or suspension by a state licensing body; and preparing returns without a valid PTIN.

The Office of Professional Responsibility (OPR) brings the case. An administrative law judge decides it, and appeals go to the Treasury appellate authority. Expedited suspension is available when, for example, the practitioner's state licence has been revoked or the practitioner has been convicted of certain crimes.

Example. A CPA has failed to file his own federal returns for three years and owes no tax because of withholding. Willful failure to file his own return is still disreputable conduct under §10.51; owing no tax is not a defense.

Micro-example. A practitioner charged $18,000 for an abusive scheme that breached §10.37. OPR may impose a monetary penalty of up to $18,000, the gross income from the conduct, in addition to censure, suspension or disbarment.

Synthesis. An EA is convicted of a felony for embezzling from a charity where she was treasurer. The conviction involves dishonesty, so it is disreputable conduct under §10.51 even though it has nothing to do with tax. Because it is a conviction, OPR may use expedited suspension (§10.82) rather than the full hearing route.

Watch out. Watch for 'a monetary penalty may not exceed $10,000'. Circular 230 caps the monetary penalty at the gross income derived from the conduct, not at a fixed dollar amount.

Who is a tax return preparer

Why the rule exists. Preparer penalties and duties only work if it is clear who they apply to. The Code (§7701(a)(36)) and Treas. Reg. 301.7701-15 define a tax return preparer as any person who prepares for compensation, or employs others to prepare for compensation, all or a substantial portion of a tax return or claim for refund.

A signing preparer is the individual with primary responsibility for the overall substantive accuracy of the return. A nonsigning preparer prepares, or advises on, a substantial portion of a return without signing it, for example by giving advice on a completed transaction that becomes a major entry.

The following are not preparers: people who only type, copy or give mechanical help; an employee preparing the return of the employer that regularly employs them; a fiduciary preparing a return for the trust or estate; an IRS employee doing official work; a volunteer preparing returns without pay; and an adviser whose advice was about a transaction that had not yet happened when the advice was given.

Every paid preparer must have a PTIN and put it on the return. A preparer who reasonably expects to file more than 10 individual income tax returns in a year must file them electronically.

Example. Chen is a payroll clerk at Northgate Hardware and prepares its Form 941 each quarter as part of her salary. She is not a tax return preparer for that return, because she prepares it for her own regular employer.

Micro-example. Priya advises a client on how to report a completed $120,000 sale of rental land on a return showing AGI of $300,000. The item is over $10,000 and is 40% of AGI, so it is a substantial portion. Priya is a nonsigning preparer for that return even though Reggie signs it.

Synthesis. In March 2026 a client asks Elena how to structure a property swap planned for June. In February 2027 Sam prepares the client's 2026 return reporting the swap. Elena's advice was about a future transaction when given, so she is not a preparer of the 2026 return. Sam, who decides the entries, is the preparer; if he is not the person with primary responsibility, the reviewing CPA who signs is the signing preparer.

Watch out. Examiners describe someone who 'gave advice and was paid' and ask if they are a preparer. Check timing: advice before the transaction is planning, not preparation. Advice on a completed transaction that is a substantial portion makes the adviser a nonsigning preparer.

Preparer penalties for understatements (§6694)

Why the rule exists. A paid preparer influences millions of dollars of tax, and the client usually cannot judge whether a position is sound. Congress made the preparer share the cost of positions that should never have been taken.

Under §6694(a) a preparer who knew or reasonably should have known about an unreasonable position that caused an understatement owes the greater of $1,000 or 50% of the income derived (or to be derived) from preparing that return. A position is unreasonable unless: it had substantial authority; or it was disclosed and had a reasonable basis; or, for a tax shelter or reportable transaction, the preparer reasonably believed it was more likely than not to be sustained.

The penalty does not apply if the preparer shows reasonable cause and good faith, for example a single honest mistake on an otherwise careful return, or reliance on a respected adviser.

Under §6694(b) a preparer whose willful attempt to understate tax, or reckless or intentional disregard of rules and regulations, caused an understatement owes the greater of $5,000 or 75% of the income derived. The §6694(b) amount is reduced by any §6694(a) penalty for the same position.

Example. A preparer charged $1,600. An undisclosed, unreasonable position caused an understatement. Penalty = greater of $1,000 or $800 = $1,000. With a fee of $4,000, it would be $2,000.

Micro-example. Reggie charged $3,000 to prepare a return with an undisclosed position that lacked substantial authority; the IRS disallowed it and tax was understated. Penalty under §6694(a) = greater of $1,000 or 50% x $3,000 = $1,500.

Synthesis. Same return, but the IRS also proves Sam recklessly ignored a client document and understated tax. §6694(b) = greater of $5,000 or 75% x $3,000 ($2,250) = $5,000. The (b) penalty is reduced by the (a) penalty already charged for the same position: $5,000 - $1,500 = $3,500 more, so the total is $5,000. If the position had been disclosed with a reasonable basis, the (a) penalty would be $0, but disclosure never cures willful or reckless conduct.

Watch out. Do not mix up the preparer penalty with the taxpayer's 20% accuracy-related penalty under §6662. The preparer penalty is based on the preparer's fee, not on the tax understated.

Procedural, disclosure and criminal penalties

Why the rules exist. Simple procedural steps (signing, giving the client a copy, keeping records) let the IRS trace who prepared what. Strict privacy rules keep taxpayers willing to share sensitive information. Credits that are often claimed in error get extra diligence rules.

Section 6695 charges a flat penalty for each failure to give the taxpayer a copy, to sign, to include the PTIN, or to keep a copy or list of returns prepared for 3 years. For returns filed in 2027 each failure costs $65, up to $33,000 a year. Negotiating a client's refund check costs $665 per check.

Due diligence (§6695(g)) applies to the earned income credit, the child tax credit and credit for other dependents, the American opportunity tax credit and head of household status. The preparer must complete Form 8867, compute the credit with proper worksheets, make reasonable inquiries when information looks incomplete or inconsistent, and keep records for 3 years. Each failure costs $665.

A preparer may not disclose or use return information for any purpose other than preparing the return without the taxpayer's written consent. Civil penalty: $250 per disclosure, up to $10,000 a year (§6713). Knowing or reckless disclosure is a misdemeanor (§7216). Disclosures to the IRS, under a court order, for peer review, or to other staff of the same firm working on the return are allowed.

Serious misconduct is criminal. Signing a return the preparer does not believe true and correct is a felony under §7206; knowingly delivering a false return is a misdemeanor under §7207. Courts may bar repeat offenders from preparing returns (§7407).

Example. A preparer fails to sign 600 returns in a year. 600 x $65 = $39,000, but the annual cap for this failure is $33,000, so the penalty is $33,000.

Micro-example. Sam prepared a head of household return claiming the EITC, the child tax credit and the AOTC, and did not ask the questions Form 8867 requires for any of them. That is four due diligence failures: 4 x $665 = $2,660 under §6695(g).

Synthesis. A preparer gives 3 clients' names and refund amounts to a lender without consent, fails to sign 2 returns, and forgets to give 1 client a copy. Penalties: §6713 3 x $250 = $750; §6695(b) 2 x $65 = $130; §6695(a) 1 x $65 = $65. Total civil penalties = $945. If the disclosures were knowing, §7216 criminal charges are also possible.

Watch out. Examiners say 'the preparer gave the client list to a sister firm for marketing, with the client's verbal permission'. Consent must be written and obtained before the disclosure; verbal permission does not protect the preparer.

Chapter 2: Licensing and disciplinary systems