Oops! I Did It Again: Practical Implications of Revenue Procedure 2022-39

A fact, well known in the tax community: every tax return contains at least one error. Except for the simplest Form 1040, this statement is invariably true, especially considering the increasing complexity of corporate returns.¹

First, what is meant by an “error” on a tax return? No definition exists in the Internal Revenue Code, in the Treasury Regulations, or in any instructions or other guidance. In fact, the word “error” is not often used to describe a position on a return. The Code and the regulations speak of positions that 1) are more likely than not correct, 2) have substantial authority, 3) have a reasonable basis, or 4) have a reasonable possibility of being sustained.²

Although the regulations mention frivolous positions,³ it’s safe to say that errors are not frivolous. No one has decided to take an erroneous position. It just happened during the return preparation. It could have been caused by corrupted data, a misunderstanding with a preparer, a transposition mistake, or even something as innocent as untimely information return. Regardless of how errors occur, they exist and must be dealt with.

How are these errors discovered? In the author’s experience, there are three common ways:

In subsequent financial reporting. Calendar returns are typically prepared in the spring and summer (and, if we are being honest, early fall), well after the financial reporting for the year has been completed. During the subsequent financial reporting season, an error may be discovered. (Note the passive voice. Who discovers the error? The taxpayer’s accounting team? The taxpayer’s financial auditors? The taxpayer’s tax team? Does it matter?) The first question is typically, How long has this error existed? If it existed in a prior year, then the taxpayer has an error on a previously filed return.
In a subsequent tax return. Similarly, the taxpayer and its preparer will work on a subsequent return with more knowledge and insight than they had when the prior return was prepared. The reason could be additional Internal Revenue Service guidance, continuing professional training, or new members on the teams. An error is discovered. Again: How long has it existed? Oh, it was on last year’s return, too.
During an IRS examination. Of course, this is the method of discovery that keeps tax professionals awake at night. What are the unknown errors on my returns? How soon will the statute of limitations expire?

Sadly, almost any error could result in an accuracy-related penalty under IRC Section 6662. The two most common penalties are for 1) negligence or disregard of rules or regulations⁴ and 2) substantial understatement of tax.⁵

However, there may be no cause to worry. The regulations provide a way to self-correct most errors without penalty. If the taxpayer files a qualified amended return (QAR),⁶ then the adjustment is made without penalty.

The filing of a QAR sounds simple—especially to an IRS examiner—but filing a QAR is often not practical. First, if there is a change in taxable income, then state returns must be amended as well. Again, this sounds easy, but even with the simplest corporate structures, this could require the amending of dozens—if not hundreds—of state returns. Second, amending all these returns is costly and resource intensive. Third, errors can be discovered at different times, so that they can’t all be fixed with one QAR. For instance, if one error is discovered in a subsequent financial audit, then two are discovered during the filing of the next year’s return, and then another three are discovered in the next year’s financial audit. Finally, correcting errors, even with a single QAR, makes little sense when a taxpayer is so large that it is under continuous audit by the IRS. A QAR must be filed before contact by the IRS; however, if examinations go from one year to the next, then a time to get the benefit of filing a QAR may never exist.

Discovery of an error also implicates the ethical responsibilities of the preparer (and other regulated tax professionals as well). For example, under Treasury Circular 230, a practitioner who knows that the client has not complied with the tax laws or has made an error in or omission from any return must advise the client promptly of the fact of such noncompliance, error, or omission. The practitioner must advise the client of the consequences (typically penalties).⁷ American Institute of Certified Public Accountants guidance provides similarly that its members should inform the taxpayer promptly upon becoming aware of an error in a previously filed return, an error in a return that is the subject of an administrative proceeding, or a taxpayer’s failure to file a required return. Members also should advise the taxpayer of the potential consequences of the error and recommend the corrective measures to take. “Corrective” action is typically an amended return or, if under exam, disclosure to the IRS agent.⁸ These ethical obligations are important to note because simply choosing not to address an error is very risky—not just for the taxpayer, but also for any tax professionals involved with the error.

Solutions for Taxpayers Under Continuous Examination

How did we get here in the first place? Large taxpayers have been subject to frequent, if not continuous, examination since the enactment of the Code. Until the 1980s, the penalty regime would have been simple to apply to these taxpayers. The negligence penalty was the only penalty that could apply, but that penalty may have been difficult for the IRS to sustain. A sophisticated taxpayer with convincing evidence and strong resources would likely be able to rebut an assertion that it was negligent and did not exercise ordinary care.

Partially as a reaction to the tax shelter craze of the 1970s, Congress enacted the Tax Equity and Fiscal Responsibility Act of 1982 (TEFRA). One feature of TEFRA was the penalty for substantial understatement of tax then found in IRC Section 6661. For the first time, taxpayers could be subject to a penalty based on simple mathematics. That is, if their understatement of tax was substantial, then the penalty could apply, subject to several defenses.

Shortly after the enactment of Section 6661, the IRS provided relief for taxpayers under continuous audit through Revenue Procedure 85-26, 1985-1 CB 580. The system of continuous audit was then known as the Coordinated Examination Program (CEP). The revenue procedure provided that “[f]or purposes of section 1.6661-6(c) of the regulations, a written statement furnished by a CEP taxpayer to the revenue agent responsible for examining its return is treated as a qualified amended return” if it was provided by a certain date early in the examination. The written statement had to be captioned “Furnished under Rev. Proc. 85-26.” It had to include “[a] description of the nature and the amount of all items that would result in adjustments and that the taxpayer would have reported if, in lieu of furnishing a written statement, the taxpayer had then filed a properly completed amended return.” Finally, it was signed under penalties of perjury.

As part of the Omnibus Reconciliation Act of 1989, Section 6661 was repealed and replaced by Section 6662, which remains the governing statute for the subject penalties. This change in the law necessitated revisions to Revenue Procedure 85-26. Issued in revised form in 1994 (Revenue Procedure 94-69, 1994-2 CB 804), the new procedure doubled in length but retained the same remedy. To wit, written disclosures made at a certain date early in the examination would be considered to have been made on a QAR. The new procedure largely maintained the three requirements for the written document, with a reference to the new procedure in the caption and a clarification of the description of items: “The description of an item is adequate if it consists of information that reasonably may be expected to apprise the Internal Revenue Service of the identity of the item, its amount, and the nature of the controversy or potential controversy.” This language matches the language in the regulations issued under Section 6661 in 1985.⁹ Moreover, it continues to be the standard for disclosure because it recurs verbatim in Revenue Procedure 2022-39.

Revenue Procedure 94-69 provided procedures for taxpayers subject to the (former) CEP. It allowed them to disclose errors and avoid accuracy-related penalties for negligence, disregard of rules or regulations, or substantial understatement of income tax under Sections 6662(b)(1) and (b)(2). In general, in lieu of filing a QAR, the procedure allowed taxpayers to avoid the accuracy-related penalty. Neither of these penalties will apply to the extent that adjustments resulting in additional tax are reported, or a position contrary to a rule is adequately disclosed, in a written statement within a fifteen-day window beginning with the IRS’ first written information request.

After the IRS eliminated CEP in 2000, it applied Revenue Procedure 94-69 to taxpayers under the Coordinated Industry Case (CIC) program. Both CEP and CIC taxpayers were under continuous audit.

In 2019, the IRS replaced CIC with the Large Corporate Compliance (LCC) program, effective for audits for tax years 2017 and after. LCC is not a continuous examination program. The IRS annually selects large corporate taxpayers, like other taxpayers, for examination based on their risk profiles. Although a small number of taxpayers may be examined in multiple consecutive years, unlike the prior CEP and CIC programs, the LCC program does not assume a continuous examination.¹⁰

That LCC taxpayers could not assume to be under continuous examination led many to question the efficacy of Revenue Procedure 94-69. Moreover, considerable commentary was issued to defend Revenue Procedure 94-69 and its underlying policy. Ultimately, in 2021 the Large Business & International Division of the IRS issued a memorandum that directed, among other things, that “Revenue Procedure 94-69 will continue to apply to any taxpayer currently in the CIC and the new LCC program. This procedure is currently under review.”¹¹ That review resulted in the issuance of Revenue Procedure 2022-39 and related Form 15307.

Mechanics of Revenue Procedure 2022-39

The new revenue procedure builds on the framework established by its predecessors, Revenue Procedures 85-26 and 94-69. A few key features discussed here include 1) the penalties to which the new procedure applies; 2) the definition of “eligible taxpayers”; 3) new Form 15307 as QAR; 4) the effect of compliance with Revenue Procedure 2022-39, with consequences of inadequate disclosure; and 5) the effective date. Practical considerations will be offered along the way.

Penalties to Which It Applies

Only two penalties are in the purview of Revenue Procedure 2022-39, the penalties for 1) negligence and disregard of rules or regulations under Section 6662(b)(1) and 2) substantial understatement of income tax under Section 6662(b)(2). This is not surprising, because this procedure follows the scope of its predecessors. What has changed, however, is the penalty landscape. Recall that Revenue Procedure 85-26 responded to the enactment of the new substantial understatement penalty under Section 6661 and, similarly, Revenue Procedure 94-69 was issued when the substantial understatement penalty was modified with the enactment of Section 6662. A lot has changed in the penalty landscape in recent decades. The IRS has new penalties at its disposal and, moreover, has intensified its reliance on penalties as a tool for voluntary compliance. Consequently, the new procedure provides limited or no protection against some penalties that concern the prudent taxpayer. For instance, disclosure under Revenue Procedure 2022-39 provides no protection against penalties for:

substantial valuation misstatement;
lacking economic substance;
understatement with respect to reportable transactions;
undisclosed foreign financial asset understatement; and
substantial overstatement of pension liabilities.

Thus, for example, taxpayers concerned about exposure to a penalty for transfer pricing adjustments cannot rely on Revenue Procedure 2022-39 to minimize penalty risk and must rely on another strategy.¹²

“Eligible Taxpayers” Defined

As mentioned above, Revenue Procedures 85-26 and 94-69 assumed that subject taxpayers were under continuous audit under the CEP and CIC programs. The current LCC program lacks the same assumption. So, when are taxpayers eligible to avail themselves of the relief that Revenue Procedure 2022-39 provides? According to Section 3.01 of the revenue procedure:

An “eligible taxpayer” means any taxpayer selected for examination under the LCC (or successor program) if, on the date on which the IRS first contacts the taxpayer concerning an examination of an income tax return, at least four of the taxpayer’s income tax returns for the five taxable years preceding the taxable year at issue are (or were) under examination under the LCC, the CIC, or a successor program. [Emphasis added.]

Note that eligibility is determined as of the date of first contact regarding the current exam. Thus, the taxpayer should, when preparing for the opening conference, determine whether it is eligible to rely on Revenue Procedure 2022-39. To wit, were at least four of the taxpayer’s last five years under CIC, LCC, or some future similar program?¹³ One would expect the determination to be clear; however, one can also imagine a scenario where a taxpayer was under regular examination preceding its entry into LCC. Those examinations would be excluded from the four-out-of-five rule by the terms of the definition of “eligible taxpayer.” Should they be?

It’s unclear how significant this problem will be. It is the author’s experience that IRS agents liked the disclosure regime under Revenue Procedure 94-69. It led to a good working relationship with taxpayers who were more than willing to agree to proper adjustments so long as no penalty applied. Moreover, one suspects that IRS agents welcomed the easy, agreed-upon adjustments that improved the metrics of the audit. In fact, in the author’s experience, IRS agents often requested disclosures under Revenue Procedure 94-69 to taxpayers not in CEP or CIC. Thus, it is reasonable to expect that IRS agents may take a liberal view of eligibility. A smart practice would be to discuss “eligibility” with the agent early in the examination. How effective is relief under Revenue Procedure 2022-39, when an agent agrees to apply it when the taxpayer is clearly not eligible? The answer is unclear; however, as Section 3.01 provides, “Taxpayers selected for examination under the LCC or the LPC will be notified by the IRS if they are eligible taxpayers under this revenue procedure.” Therefore, when eligibility is questionable, a prudent taxpayer should request notification of its eligibility under the revenue procedure.

What procedures are available for ineligible taxpayers? Revenue Procedure 2022-39 provides no relief but recommends: 1) filing a QAR or 2) making adequate disclosure on Form 8275, Form 8275-R, or Schedule UTP. How reasonable are these suggestions? As noted above, filing an amended return is an unattractive option, because it is complicated—not to mention expensive and of limited efficacy—for an entity with even a modestly complex structure. Presumably, adequate disclosure would be accomplished by filing an amended return, because the decision to disclose an item on an original return presupposes knowledge at the time of filing. The scope of the revenue procedure is “intended for the disclosure of errors and omissions that were not known at the time of filing the original return” (see Section 2.18 of the procedure). Thus, the procedure provides no practical assistance to ineligible taxpayers.

What other options are available for ineligible taxpayers? There are at least three:

Disclose the errors at opening conference. If they are honest mistakes that will be discovered during the examination anyway, then the taxpayer should be the one to disclose.¹⁴ By doing so, the taxpayer lays the foundation that the error was due to reasonable cause and that it is conducting itself in good faith. A good outline to follow in making the disclosure has three parts: 1) how the error happened; 2) how it was discovered; and 3) how the taxpayer will prevent it from recurring.
Review the original return for adequate disclosure. The IRS issues an annual revenue procedure that prescribes the circumstances under which disclosing information on a return (or QAR) in accordance with the form and instructions is adequate.¹⁵ However, reliance on the annual revenue procedure for adequate disclosure is not a defense against the negligence penalty.¹⁶ Thus, this can be helpful but has limited effectiveness because it covers only one of the penalties.
Wait for the agent to discover the error. This option is fraught with peril. At the opening conference, the agent will ask, “Are there any known errors on the return?” The taxpayer must be careful to answer truthfully.¹⁷ A cagey response (“We’ve disclosed everything we’ve chosen to disclose”), while true, may invite additional scrutiny and defeat a later claim of good faith and reasonable cause. It also comes with latent ethical issues for tax professionals. As noted above, under ethical standards, a tax professional must recommend corrective action upon the discovery of an error and, in the context of an audit, corrective action is disclosure to the examiner. If the client doesn’t disclose, then the professional must consider withdrawing from the professional relationship with the client.

New Form 15307 as QAR

Under Revenue Procedures 85-26 and 94-69, disclosure was made in a written statement, properly captioned, signed under penalty of perjury, containing a description of the item. In practice, disclosure took many forms. In the author’s experience, the IRS and the taxpayer agreed to many alternative disclosures, including everything from (A) a simple spreadsheet listing a brief description of the issue and the amount in question to (Z) a detailed presentation with PowerPoint slides. Revenue Procedure 2022-39 introduces a new, mandatory, and much more detailed form. To avoid the negligence and substantial understatement penalties, a properly completed Form 15307 (Post-Filing Disclosure for Specified Large Business Taxpayers) or any successor form is treated as a QAR if furnished to the examination team “after the tax return with respect to the particular taxable year has been filed but no later than 30 days (or a later date agreed to in writing by the IRS with respect to a particular taxable year) from the date of a written request to the taxpayer that Form 15307 be furnished with respect to that taxable year.” The disclosure must provide information that reasonably may be expected to apprise the IRS of the identity of the item, its amount, the nature of the controversy or potential controversy.¹⁸ Each adjustment must be separately stated, and no netting is allowed. Although the amount of the adjustment is required, no computation of the revised tax is necessary (except concerning credits).¹⁹

Revenue Procedure 2022-39 contains one interesting departure from its predecessors, in Section 4.04: “The taxpayer may also disclose information for purposes of establishing the reasonable basis of a position even though the taxpayer does not report any items that would result in adjustments.” Thus, the taxpayer may disclose an issue that it will not concede. In doing so, the taxpayer must provide the “reasonable basis” to avoid penalty for the item should the IRS propose an adjustment anyway.

The new form requires much of the same information that Form 8275 requires; however, unlike Form 8275, one Form 15307 must be submitted for each issue. The form also includes some additional detail, such as information regarding timing and the effect on carryover adjustments. The form comes with instructions that include examples of incomplete and adequate disclosure description. The prudent taxpayer is well advised to model its descriptions on the examples.

Effect of Compliance With Revenue Procedure 2022-39

Proper disclosure on Form 15307 will be treated as a QAR, and the IRS will assert neither the negligence nor the substantial understatement penalties related to the adjustment so long as it is agreed upon at the conclusion of the examination. If the taxpayer does not agree to the disclosed adjustments, Section 4.05 provides that any additional tax 1) will be subject to the applicable deficiency procedures; 2) will not reduce the underpayment subject to the negligence penalty; and 3) will not reduce the substantial understatement penalty unless there was a reasonable basis for the treatment of the item identified on Form 15307. Thus, the IRS’ decision on whether to assert a penalty will be influenced by the taxpayer’s agreement to any proposed adjustment. A prudent taxpayer will work diligently with the examiner to get an adjustment that can be agreed to; otherwise, the taxpayer should expect penalties.

A disclosure based on incomplete information, unreasonable assumptions, or otherwise not conforming with the requirements of Revenue Procedure 2022-39 or Form 15307 will be considered inadequate. Consequently, a taxpayer deemed to have made an inadequate disclosure will not receive penalty protection under the procedure. The IRS will inform the taxpayer of any determination that a disclosure is inadequate.²⁰

Effective Date

Revenue Procedure 94-69 is now obsolete, and the new procedure is effective for eligible taxpayers for exams that began after November 16, 2022. There is transition relief, however. The provisions of Revenue Procedure 94-69 continue to apply for the taxable year 2020 and earlier years but not for the taxable year 2021 and after.²¹

Conclusion

Revenue Procedure 2022-39 is a welcome continuation of the policy contained in Revenue Procedure 94-69. That said, there are two major lessons to take to heart.

First, the taxpayer should understand its eligibility for relief under the new procedure and, almost as important, the taxpayer should communicate with the examination team to get its views on eligibility and any flexibility available.

Second, upon discovery of an error, the taxpayer should review the new Form 15307 and begin to complete it. Waiting until the opening conference is set may not leave enough time to complete it effectively.

________________________________________________________________________________________

Mark Mesler is the senior counsel at the Asbury Law Firm.

Endnotes

Think Schedule M-3 and enhanced Form 5471 reporting, for instance.
Treasury Regulations Sections 1.6662-4(b)(4)(ii)(c), 1.6662-4(d), 1.6662-3(b)(3), and 1.6662-4(b)(2). Though not defined in the Code or regulations, tax professionals also speak of stronger positions using the terms “will” and “should.” Using them is like taking the volume of “more likely than not” and turning it up to 11. For a humorous take on this issue, see “A Detailed Guide to Tax Opinion Standards,” Tax Notes 106 (March 21, 2005): 1469–1471.
Described as “frivolous or patently improper” in Treasury Regulations Section 1.6662-3(b)(3).
If any part of an underpayment of tax is due to negligence or disregard of rules or regulations, a penalty of twenty percent is imposed. See IRC Section 6662(a) and Treasury Regulations Sections 1.6662(b)(1) and 1.6662-2(b). The twenty percent rate is applied to the portion of the underpayment attributable to negligence or disregard of rules and regulations, as shown in IRC Section 6662(a) and Treasury Regulations Section 1.6662-2(a)(3).
The accuracy-related penalty also is imposed on underpayments attributable to a “substantial understatement” of income tax. See IRC Sections 6662(a) and 6662(b)(2) and Treasury Regulations Section 1.6662-4(a). For substantial understatement penalty purposes, an “understatement” means the excess of the amount of tax required to be shown on the return for the taxable year over the amount of tax imposed that is actually shown on the return, reduced by any rebate, per IRC Section 6662(d)(2)(A). A corporation (other than an S corporation or a personal holding company) has a “substantial” understatement if the amount of the understatement for the taxable year exceeds the lesser of 1) ten percent of the tax required to be shown on the return for the taxable year or, if greater, $10,000; or
2) $10,000,000. See IRC Section 6662(d)(1)(B).
The amount of tax shown on the return includes an amount shown as additional tax on a qualified amended return, except that the amount is not included if it relates to a fraudulent position on the original return, per Treasury Regulations Sections 1.6662-4(b)(4) and 1.6664-2(c)(2). A qualified amended return is one that is filed before the earlier of 1) the date the taxpayer is first contacted by the IRS concerning any examination (including a criminal investigation) with respect to the return or 2) in the case of a pass-through item, the date the IRS first contacts the pass-through entity in connection with an examination of the return to which the pass-through item relates, per Treasury Regulations Section 1.6664-2(c)(3). Moreover, the IRS may prescribe by revenue procedure rules governing how qualified amended returns apply to different classes of taxpayers, per Treasury Regulations Section 1.6664-2(c)(4)(ii).
Treasury Department Circular No. 230, Section 10.21, “Knowledge of client’s omission.”
Statement on Standards for Tax Services No. 6, Knowledge of Error: Return Preparation and Administrative Proceedings.
Treasury Regulations Section 1.6661-4(b)(1)(iv), removed by TD 9174, effective January 5, 2005.
The IRS also implemented the Large Partnership Compliance (LPC) program in 2021. For simplicity, we will discuss only the LCC as it concerns Revenue Procedure 2022-39; however, its provisions equally apply to LPC taxpayers.
Interim Guidance Memo: LB&I-04-1021-0017 (October 21, 2021), Interim Guidance on Implementation of the Large Partnership Compliance Pilot Program.
See Treasury Regulations Section 1.6662-6(d)(2)(iii) concerning the documentation required to avoid a penalty.
Note that Revenue Procedure 2022-39, unlike its predecessors, is prepared to weather changes in IRS audit programs. It not only applies to the LCC but to a “successor program” as well.
“Always tell someone something they are going to find out anyway.”—The Author. This is good advice in tax practice and marriage.
Treasury Regulations Section 1.6662-4(f)(2). See Revenue Procedure 2022-41 for the current annual revenue procedure.
Treasury Regulations Section 1.6662-3(c). “The provisions of [Section] 1.6662-4(f)(2), which permit disclosure in accordance with an annual revenue procedure for purposes of the substantial understatement penalty, do not apply for purposes of this section.”
Making a false statement to a federal agent may be a crime under U.S.C. Section 1001.
As noted above, this is the same standard for disclosure required by Revenue Procedure 94-69.
These requirements appear in Sections 4.01, 4.02, and 4.03 of Revenue Procedure 2022-39. What’s more, the instructions for Form 15307 provide “where facts and circumstances of an item are identical, and represent a high volume of low dollar amounts, the disclosures can be netted.” The instructions also provide examples of acceptable and unacceptable netting of adjustments.
See Sections 4.06(1) and 4.06(2) of Revenue Procedure 2022-39.
Taxpayers may be subject to transition relief for examinations of the taxable 2021 if they were eligible for relief under Section 2.15 regarding the May 21, 2019, Interim Guidance Memorandum (LB&I-04-0419-004), Interim Guidance on Implementation of the Large Corporate Compliance (LCC) Program.

Oops! I Did It Again: Practical Implications of Revenue Procedure 2022-39
Regardless of how errors occur, they must be dealt with