IRS explains ERO rules for shared EFINs and subcontracted returns

Plain-English summary

This Chief Counsel Advice addresses electronic return originators, or EROs, that use the IRS e-file system. It concludes that an ERO may not share its electronic filing identification number, and generally may not electronically originate returns prepared by a subcontractor. An employee may prepare returns away from the ERO's listed business location, and a return filed with a borrowed EFIN is not automatically invalid if it otherwise satisfies the requirements for a valid return. The advice also explains when an ERO becomes a tax return preparer subject to due-diligence and preparer-penalty rules.

Ruling snapshot

• Question: What e-file, due-diligence, return-validity, and preparer-penalty rules apply to EROs?
• Outcome: Advice given.
• Key authorities: IRC §§ 6011, 6694, 6695, 6713, and 7701; Treas. Reg. §§ 301.7701-15 and 301.7701-15(f)

Full text (IRS public release)

       Office of Chief Counsel
       Internal Revenue Service
       memorandum
       Number: 201407013
       Release Date: 2/14/2014
       CC:PA:01:MSHURTLIFF
       POSTN-139152-13

UILC: 6011.06-01

date: November 26, 2013

 to:   Jeanette L. Czachur
       SB/SE ATTI Senior Program Analyst

from: Blaise G. Dusenberry
Senior Technician Reviewer, Branch 1
(Procedure & Administration)

subject: Electronic Return Originators

       This Chief Counsel Advice responds to your request for assistance dated September 6,
       2013. This advice may not be used or cited as precedent.

       ISSUES

       1. Whether it is a violation of IRS e-file rules for an Electronic Return Originator (ERO)
       to share its Electronic Filing Identification Number (EFIN) with others?

       2. Whether it is a violation of IRS e-file rules for an employee of an ERO to prepare
       returns at a location other than the business location provided on the ERO’s Form 8633,
       Application to participate in the IRS e-file Program?

       3. Whether it is a violation of IRS e-file rules for a subcontractor of an ERO to prepare
       returns at a location other than the ERO’s business location?

       4. What are an ERO’s due diligence requirements with respect to returns prepared by
       employees of the ERO?

       5. What are an ERO’s due diligence requirements with respect to returns prepared by a
       subcontractor of the ERO?

       6. Whether a return that is electronically filed by a return preparer using a borrowed
       EFIN is valid?

POSTN-139152-13 2

7. If an ERO violates IRS e-file rules, can return preparer penalties be imposed on the
   ERO?

CONCLUSIONS

1. It is a violation of IRS e-file rules for an ERO to share its Electronic Filing EFIN with
   others.

2. It is not a violation of IRS e-file rules for an employee of an ERO to prepare returns at
   a location other than the business location provided on the ERO’s Form 8633.

3. It is a violation of IRS e-file rules for an ERO to electronically originate returns
   prepared by a subcontractor, regardless of where the returns are prepared.

4. An ERO that is also a return preparer must exercise due diligence in accordance with
   the provisions of the Code, Treasury Regulations, and Publication 1345, Handbook for
   Authorized IRS e-file Providers of Individual Income Tax Returns.

5. It is a violation of IRS e-file rules for an ERO to electronically originate returns that it
   did not prepare or collect from a taxpayer. IRS e-file rules do not address whether an
   ERO must exercise due diligence in reviewing returns that are prepared by, or collected
   from, a subcontractor of the ERO. An ERO becomes an income tax return preparer of
   the returns, and is subject to return preparer due diligence requirements, when, as a
   result of entering data from a return prepared by a subcontractor, it discovers errors that
   require substantive changes and then corrects the errors before filing the return.

6. Electronically filing an income tax return with a borrowed EFIN does not alone
   invalidate a return. If the tax return otherwise meets the established criteria for a valid
   return, it should be processed, despite being filed with a borrowed EFIN.

7. Whether return preparer penalties may be imposed against an ERO depends on
   whether the ERO is a tax return preparer. Return preparer penalties may be imposed
   against an ERO that meets the definition of a tax return preparer under Internal
   Revenue Code (Code) § 7701(a)(36) and Treasury Regulation § 301.7701-15.

LAW AND ANALYSIS

Revenue Procedure 2007-40 specifies the requirements for participating as an
Authorized e-file Provider and is the official set of rules that govern participation in IRS
e-file. To participate in the IRS e-file Program, an Authorized e-file Provider must
comply with all the provisions of Rev. Proc. 2007-40 and all publication and notices
governing IRS e-file. Rev. Proc. 2007-40, section 4.04.

A participant in the IRS e-file is referred to as an “Authorized IRS e-file Provider” or
“Provider”. Electronic Return Originators (EROs) are one category of Providers. An
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ERO is defined as a Provider that originates the electronic submission of returns.
Section 3.01(1) of Rev. Proc. 2007-40.

As a condition of participating in the IRS e-file program, Publication 3112, IRS e-file
Application and Participation, states that Providers “must protect their EFINs, ETINs,
and passwords from unauthorized use. Providers must never share the number and
passwords with others including not transferring EFINs or ETINs to another entity when
transferring the business by sale, gift, or other disposition.” (Emphasis added.)
Furthermore, Form 8633, Application to Participate in the IRS e-file Program, requires
EFIN applicants to sign an agreement, which states, in part: “Acceptance for
participation is not transferrable. I understand that if this firm is sold or its organizational
structure changes, a new application must be filed. I further understand that
noncompliance will result in the firms and/or the individuals listed on this application,
being suspended from participation in the IRS e-file program.” Accordingly, the IRS
may suspend an ERO who shares its EFIN, or impose other sanctions, including
expulsion from the program.

Whether it is a violation of the IRS e-file rules for an ERO to originate a return that is not
prepared at the fixed business location listed on the ERO’s Form 8633 depends on who
prepares the return. It is not a violation of the IRS e-file rules for employees of an ERO
to prepare returns at a location other than the ERO’s business location if the returns are
forwarded to another location for electronic return origination. Specifically, Publication
3112 states: “An application is not required for a location if tax returns are only prepared
or collected at the location and forwarded to another location for origination of the
electronic submission or returns.”

It is a violation of the IRS e-file rules, however, for an ERO to electronically originate
returns that are prepared by a subcontractor of the ERO, regardless of where the
returns are prepared. According to Publication 3112, “[a]n ERO must originate the
electronic submission of only returns that the ERO either prepared or collected from a
taxpayer.”

An ERO that is also a paid preparer must exercise due diligence in the preparation of
returns in accordance with the provisions of the Code, Treasury Regulations (including
Circular 230), and Publication 1345. For example, Section 6695(g) requires paid
preparers to exercise due diligence in the preparation of returns involving EITC, as it is
a popular target for fraud and abuse. Paid preparers must complete all required
worksheets and meet all record keeping requirements associated with preparing returns
involving EITC. More generally, section 10.22 of Circular 230 states that a return
preparer “must exercise due diligence … [i]n preparing or assisting in the preparation of,
approving, and filing tax returns, documents, affidavits, and other papers relating to
Internal Revenue Service matters.”

An ERO that chooses to originate returns that it has not prepared, but only collected
from taxpayers, becomes an income tax return preparer of the returns, and is subject to
POSTN-139152-13 4

return preparer due diligence requirements, when, as a result of entering data, it
discovers errors that require substantive changes, and then corrects the errors before
filing the return. See Publication 1345. In addition to complying with the above-
referenced due diligence requirements, EROs must ensure that taxpayers execute
Form 8879 before the ERO originates the electronic submission of the return. EROs
must also comply with all of the direct deposit rules provided in Publication 1345.

As explained above, it is a violation of IRS e-file rules for an ERO to electronically
originate returns that it did not prepare or collect from a taxpayer. IRS e-file rules thus
do not address whether an ERO must exercise due diligence in reviewing returns that
are prepared by, or collected from, a subcontractor of the ERO. If an ERO violates this
provision of the IRS e-file rules, the IRS is limited to imposing sanctions against the
ERO pursuant to section 7 of Rev. Proc. 2007-40.

The validity of a return that is prepared by a subcontractor of an ERO (or is
electronically filed using a borrowed EFIN) depends not on IRS e-file rules but on
whether the return satisfies the well-known four-part Beard test. Beard v.
Commissioner, 82 T.C. 766, 777 (1984), aff'd per curium, 792 F.2d 139 (6th Cir. 1986).
For a return to be valid: (1) the information on the return must be sufficient for the IRS to
calculate tax liability; (2) the filed document must purport to be a return; (3) the return
must be an honest and reasonable attempt to comply with the tax laws; and (4) the
taxpayer must execute the return under penalties of perjury. Id. If a return satisfies
these four requirements, it is legally valid, even if it is prepared by a subcontractor of an
ERO or is electronically filed using a borrowed EFIN.

Whether return preparer penalties may be imposed against an ERO depends on
whether the ERO is a return preparer. An ERO does not automatically become a return
preparer by sharing its EFIN. Therefore, return preparer penalties may not be imposed
against an ERO if the ERO’s only violation is sharing its EFIN.

Return preparer penalties may, however, be imposed against an ERO that meets the
definition of a tax return preparer under section 7701(a)(36) and section 301.7701-15.
Treasury Regulation Section 301.7701-15(a) defines a tax return preparer as any
person who prepares for compensation, all or a substantial portion of any return of tax
or claim for refund of tax. Treasury Regulation Section 301.7701-15(f) excludes certain
persons from the definition of tax return preparer (for example, any individual who
provides only typing, reproduction, or other mechanical assistance in the preparation of
a return of claim for refund under Treas. Reg. § 301.7701-15(f)(1)(viii)). Section 6 of
Rev. Proc. 2007-40 and Publication 1345 list some of the penalties that may be
imposed against an ERO that is also a return preparer, including those set forth in
section 6694, 6695, and 6713.
POSTN-139152-13 5

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