[Federal Register Volume 76, Number 244 (Tuesday, December 20, 2011)]
[Rules and Regulations]
[Pages 78816-78820]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2011-32487]


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DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 1

[TD 9570]
RIN 1545-BK16


Tax Return Preparer Penalties Under Section 6695

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Final regulations.

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SUMMARY: This document contains final regulations that modify existing 
regulations related to the tax return preparer penalties under section 
6695 of the Internal Revenue Code (Code). The final regulations are 
necessary to monitor and to improve compliance with the tax return 
preparer due diligence requirements of section 6695(g). The final 
regulations affect paid tax return preparers.

DATES: Effective date: The final regulations are effective on December 
20, 2011.
    Applicability date: For date of applicability, see Sec.  1.6695-
2(e).

FOR FURTHER INFORMATION CONTACT: Spence Hanemann, (202) 622-4940 (not a 
toll-free number).

SUPPLEMENTARY INFORMATION:

Paperwork Reduction Act

    The collection of information contained in the final regulations 
was previously reviewed and approved by the Office of Management and 
Budget in accordance with the Paperwork Reduction Act of 1995 (44 
U.S.C. 3507(d)) under control number 1545-1570. The collection of 
information is in Sec.  1.6695-2(b)(1) and (b)(4) of the final 
regulations, and is an increase in the total annual burden from the 
burden in the prior regulations. The collection of this information 
will improve the IRS' ability to enforce compliance with the due 
diligence requirements under section 6695(g) with respect to 
determining eligibility for, or the amount of, the earned income credit 
(EIC) under section 32.
    An agency may not conduct or sponsor, and a person is not required 
to respond to, a collection of information unless it displays a valid 
control number assigned by the Office of Management and Budget.
    Books or records relating to a collection of information must be 
retained as long as their contents may become material in the 
administration of any internal revenue law.

Background

    This document contains amendments to the Income Tax Regulations (26 
CFR part 1) under section 6695 of the Code.
    The Treasury Department and the IRS published a notice of proposed 
rulemaking (REG-140280-09) in the Federal Register, 76 FR 62689, on 
October 11, 2011 (the NPRM). A public hearing was scheduled for 
November 7, 2011. The IRS did not receive any requests to testify at 
the public hearing, and the public hearing was cancelled. Written 
comments responding to the NPRM were received and are available for 
public inspection at http://www.regulations.gov or upon request. After 
consideration of all the comments, the proposed regulations are adopted 
as amended by this Treasury decision. The revisions to the regulations 
are discussed in this preamble.

Summary of Comments and Explanation of Revisions

    The IRS received nine written comments in response to the NPRM, and 
this section addresses those public comments. This section also 
describes the significant differences between the rules proposed in the 
NPRM and those adopted in the final regulations.

1. 2011 Amendment to Section 6695(g)

    On October 21, 2011, section 501 of the United States-Korea Free 
Trade Agreement Implementation Act, Public Law 112-41, 125 Stat 428, 
amended section 6695(g) of the Code by increasing the amount of the 
penalty from $100 to $500. To account for this change in the law, Sec.  
1.6695-2(a) of the final regulations has been conformed to the 
statutory language of section 6695(g), as amended.

2. Necessity of These Regulations

    Two commenters stated that the proposed amendments to the due 
diligence standards in the NPRM were unnecessary in light of recent 
regulatory changes requiring tax return preparers to register with the 
IRS and comply with the ethical standards governing practice before the 
IRS (Circular 230), as well as the tax return preparer penalties under 
section 6694. They suggested that the IRS can apply these existing 
provisions to address misconduct by tax return preparers, including 
improper determination of eligibility for, and amount of, EIC by both 
individual tax return preparers and firms.
    As reflected in section 6695(g), Congress has determined that 
noncompliance with the EIC rules poses a sufficiently significant 
problem to merit imposing unique due diligence requirements on tax 
return preparers involved in determining eligibility for, or amount of, 
the EIC. By recently quintupling the amount of the penalty for failure 
to comply with these requirements, Congress reaffirmed the need for 
specific rules to reduce EIC noncompliance. In order to address 
noncompliance with the EIC rules, the final regulations modify the due 
diligence requirements under section 6695(g) that have been in place 
for over a decade. Treasury and the IRS concluded that these 
regulations are consistent with section 6695(g), and no modification is 
made in the final regulations in response to these comments.

[[Page 78817]]

3. Submission of Form 8867

    Section 1.6695-2(b)(1)(i) of the proposed regulations required that 
the Form 8867, ``Paid Preparer's Earned Income Credit Checklist,'' be 
submitted to the IRS in the manner required by forms, instructions, or 
other appropriate guidance. One commenter noted, in part, that tax 
return preparers sometimes provide a paper copy of the completed tax 
return or claim for refund to the taxpayer for submission by the 
taxpayer. A tax return preparer's ability to provide a paper copy, as 
opposed to filing the tax return electronically, is subject to the 
rules and limitations in Sec.  301.6011-7 and related guidance. Another 
commenter stated that the proposed regulations were unclear in how they 
apply to nonsigning tax return preparers. The due diligence 
requirements and the penalty for failure to comply with them apply to 
any tax return preparer, including a nonsigning tax return preparer, 
who determines eligibility for, or amount of, the EIC.
    After consideration of these comments, Treasury and the IRS have 
concluded that the rules in the regulations should be clarified to 
provide how tax return preparers who prepare a tax return or claim for 
refund but do not submit it directly to the IRS can satisfy the 
requirement under proposed Sec.  1.6695-2(b)(1)(i) to submit the 
completed Form 8867 to the IRS. In response to these comments, Sec.  
1.6695-2(b)(1)(i) of the final regulations provides that tax return 
preparers who prepare a tax return or claim for refund but do not 
submit it directly to the IRS may satisfy this aspect of their due 
diligence obligation by providing the form to the taxpayer or the 
signing tax return preparer, as appropriate, for submission with the 
tax return or claim for refund.
    One commenter suggested that the Form 8867 be a stand-alone form 
that the taxpayer signs and submits as an affidavit of EIC eligibility. 
After consideration of this comment, Treasury and the IRS have 
concluded that imposing such an obligation on taxpayers, rather than on 
tax return preparers, would be contrary to the purpose of section 
6695(g), which is to discourage tax return preparers from preparing EIC 
tax returns or claims for refund without performing basic due 
diligence. No modification is made in the final regulations in response 
to this comment.

4. Requirement To Verify Taxpayer Information

    Section 1.6695-2(b)(1)(i) of the proposed regulations required 
submission of Form 8867 to the IRS, and Sec.  1.6695-2(b)(4)(i)(C) of 
the proposed regulations required retention of a copy of any document 
that was provided by the taxpayer and on which the tax return preparer 
relied to complete Form 8867 or the Earned Income Credit Worksheet. Two 
commenters suggested that these additional requirements increased a tax 
return preparer's burden under the knowledge requirement of existing 
Sec.  1.6695-2(b)(3) because a tax return preparer would now be 
obligated to verify taxpayers' responses to the eligibility questions 
and also to verify nonsigning tax return preparers' (if any) completion 
of the Form 8867. The proposed regulations, however, do not expand tax 
return preparers' obligation to verify information provided by 
taxpayers and other tax return preparers under existing Sec.  1.6695-
2(b)(3).
    Under Sec.  1.6695-2(b)(3) of the current regulations, tax return 
preparers are already required to complete Form 8867, prohibited from 
ignoring the implications of information provided, obligated to make 
reasonable inquiries if the information provided appears incorrect, 
inconsistent, or incomplete, and required to contemporaneously document 
their reasonable inquiries and the taxpayer's responses. For purposes 
of Sec.  1.6695-2(b)(3), tax return preparers would not be held to a 
higher standard under the proposed regulations than they are under the 
existing regulations. A tax return preparer can generally rely on the 
information furnished by a taxpayer (or other tax return preparer who 
determines eligibility for, or amount of, the EIC) as long as the tax 
return preparer does not know, or have reason to know, that the 
information is incorrect, inconsistent, or incomplete. A signing tax 
return preparer who satisfies the knowledge requirement in Sec.  
1.6695-2(b)(3), therefore, will ordinarily be able to rely on the 
information furnished to the signing tax return preparer by a taxpayer 
or nonsigning tax return preparer regarding the EIC. The additional 
requirements in proposed Sec.  1.6695-2(b)(1)(i) and (b)(4)(i)(C) are 
not unduly burdensome and will improve the IRS' ability to determine 
whether a tax return preparer has complied with the EIC due diligence 
requirements that already exist. No modification is made in the final 
regulations in response to these comments.

5. Nonsigning Tax Return Preparers

    Two commenters expressed concern that expanding the due diligence 
requirements and penalty to nonsigning tax return preparers would 
subject individuals to the section 6695(g) penalty who are beyond the 
intended scope of these rules. The commenters provided the example of 
individuals hired by tax preparation software companies to answer 
discrete questions for taxpayers who are using tax preparation software 
to prepare their own tax return or claim for refund. These individuals 
provide general resource information for the taxpayers who are 
preparing their own tax return or claim for refund, and they do not 
know all of the specific facts relating to the taxpayer's tax return or 
claim for refund. The commenters reasoned that these individuals might 
be nonsigning tax return preparers and would arguably be subject to 
these due diligence requirements and related penalty.
    The term ``nonsigning tax return preparer'' is specifically defined 
in Sec.  301.7701-15(b)(2) and is limited to those who prepare all or a 
substantial portion of a tax return or claim for refund within the 
meaning of Sec.  301.7701-15(b)(3). Under Sec.  301.7701-15(b)(3), a 
person who renders tax advice on a position that is directly relevant 
to the existence or amount of an entry on a tax return or claim for 
refund is regarded as having prepared that entry. Section 301.7701-
15(b)(3) further provides that whether a schedule, entry, or other 
portion of a tax return or claim for refund is a substantial portion is 
determined based upon whether the person knows or reasonably should 
know that the tax attributable to the schedule, entry, or other portion 
of a tax return or claim for refund is a substantial portion of the tax 
required to be shown on the tax return or claim for refund. Also, Sec.  
301.7701-15(f)(1)(viii) provides an exception from the definition of 
tax return preparer for any individual providing only typing, 
reproduction, or other mechanical assistance in the preparation of a 
tax return or claim for refund.
    Treasury and the IRS have concluded that, in the routine situation 
described by these commenters, the individuals employed at the tax 
preparation software companies as described in the comments are not 
nonsigning tax return preparers as long as they either (i) fall within 
the mechanical exception because they are not exercising independent 
judgment on the taxpayer's underlying tax positions, or (ii) do not 
know (and reasonably should not know) that any generic advice provided 
relating to the EIC is a substantial portion of the tax required to be 
shown. On the other hand, in rare instances when any such individual is 
both exercising independent judgment and knows or reasonably should 
know that specific advice provided to a taxpayer

[[Page 78818]]

relating to EIC is a substantial portion of the tax return or claim for 
refund within the meaning of Sec.  301.7701-15(b)(3), the individual is 
a nonsigning tax return preparer subject to the due diligence rules. No 
modification is made to the final regulations in response to this 
comment.

6. Penalizing Firms

    By replacing ``signing tax return preparer'' with ``tax return 
preparer,'' Sec.  1.6695-2(a) of the proposed regulations effectively 
provided that a firm that employs a person to prepare for compensation 
a tax return or claim for refund may be subject to the penalty for its 
employee's failure to comply with the due diligence requirements. Two 
commenters questioned the proposed application of the due diligence 
requirements and penalty to firms. Section 6695(g) imposes a penalty on 
``[a]ny person who is a tax return preparer'' that fails to comply with 
the due diligence requirements ``with respect to determining 
eligibility for, or the amount of, the credit allowable by section 
32.'' Under section 7701(a)(36), a ``tax return preparer'' is ``any 
person who prepares for compensation, or who employs one or more 
persons to prepare for compensation, any return of tax imposed by title 
or any claim for refund of tax imposed by this title.'' After 
consideration of these comments, Treasury and the IRS have concluded 
that it is appropriate to apply the due diligence requirements to firms 
as provided in the proposed regulations. This position is consistent 
with the long-standing application of the section 6694 tax return 
preparer penalties to firms under the rules provided in Sec. Sec.  
1.6694-2(a)(2) and 1.6694-3(a)(2). No modification is made to the final 
regulations in response to these comments.

7. Conditions Required for Imposing a Penalty on a Firm

    Proposed Sec.  1.6695-2(c) provided generally that a firm cannot be 
subject to a penalty under section 6695(g) unless one of the following 
three conditions is satisfied: (1) A member of the principal management 
of the firm knew of the failure to comply with the due diligence 
requirements; (2) the firm failed to establish reasonable and 
appropriate procedures to ensure compliance with the due diligence 
requirements; or (3) the firm failed to comply with its reasonable and 
appropriate compliance procedures through willfulness, recklessness, or 
gross indifference. Two commenters expressed concern with the 
conditions required for application of the penalty to a firm, as set 
forth in proposed Sec.  1.6695-2(c).
    One of these commenters noted that, if management became aware 
through the firm's reasonable and appropriate compliance procedures 
that an employee failed to comply with the due diligence requirements, 
then the firm would be subject to a penalty under proposed Sec.  
1.6695-2(c)(1) because management knew of the failure. The commenter 
suggested that the final regulations provide that the penalty not apply 
to the firm if management knew and took reasonable action to resolve 
the problem before the penalty is assessed. After consideration of this 
comment, Treasury and the IRS have concluded that, if management knows 
of the failure to comply prior to the date the tax return or claim for 
refund is filed, the only acceptable remedial action would be to 
satisfy the due diligence requirements prior to filing, in which case 
there would be no penalty. If, on the other hand, management does not 
know of the failure to comply until after the tax return or claim for 
refund is filed, the appropriate analysis is whether the firm had 
reasonable and appropriate compliance procedures and disregarded those 
procedures through willfulness, recklessness, or gross indifference, as 
described in Sec.  1.6695-2(c)(3), and management's knowledge is 
relevant only insofar as it is a factor in that analysis. In response 
to this comment, the final regulations provide that a firm is only 
subject to a penalty under Sec.  1.6695-2(c)(1) if the manager knew of 
an employee's failure to comply with the due diligence requirements 
prior to the date the tax return or claim for refund was filed.
    The other commenter suggested that the IRS might determine under 
proposed Sec.  1.6695-2(c)(3) that a single failure to submit Form 8867 
with a tax return by an otherwise compliant firm qualifies as disregard 
of reasonable and appropriate compliance procedures through gross 
indifference. Section 1.6695-2(c)(3) of the proposed regulations 
established a heightened standard, in part, by imposing liability for 
the penalty against a firm that disregarded its reasonable and 
appropriate compliance procedures through willfulness, recklessness, or 
gross indifference. A single, accidental failure to submit Form 8867 
with a tax return by an otherwise compliant firm would not constitute 
disregard of compliance procedures through willfulness, recklessness, 
or gross indifference, and the firm would not be subject to the penalty 
in that situation. After consideration of this comment, Treasury and 
the IRS have concluded that the heightened standards in proposed Sec.  
1.6695-2(c)(3) would adequately protect firms against isolated and 
inadvertent instances of disregard of their compliance procedures. No 
modification is made to the final regulations in response to this 
comment.

8. Retention of Records

    Proposed Sec.  1.6695-2(b)(4)(ii) required that a tax return 
preparer must retain the records described in Sec.  1.6695-2(b)(4)(i) 
for the period ending three years after the later of the date the tax 
return or claim for refund was due or the date it was filed. One 
commenter stated that the record retention date should not be tied to 
the date the tax return or claim for refund was filed because, if the 
tax return preparer who prepares the tax return or claim for refund is 
not the individual who files it, that tax return preparer might not 
know when it is filed and when the retention period expires. In 
response to the comment, the final regulations require a tax return 
preparer to retain the records described in Sec.  1.6695-2(b)(4)(i) for 
the period ending three years after the later of the date the tax 
return or claim for refund was due or the date it was transferred in 
final form by the tax return preparer to the next person in the course 
of the filing process. In the case of a signing tax return preparer who 
electronically files the tax return or claim for refund, the next step 
in the filing process will be to electronically file the tax return or 
claim for refund, so the relevant date is the date the tax return or 
claim for refund is filed. In the case of a signing tax return preparer 
who does not electronically file the tax return or claim for refund, 
the next person in the course of the filing process will be the 
taxpayer, so the relevant date is the date the tax return or claim for 
refund is presented to the taxpayer for signature. In the case of a 
nonsigning tax return preparer, the next person in the course of the 
filing process will be the signing tax return preparer, so the relevant 
date is the date the nonsigning tax return preparer submitted to the 
signing tax return preparer that portion of the tax return or claim for 
refund for which the nonsigning tax return preparer was responsible.
    The record retention date under the final regulations will be the 
same for nonsigning tax return preparers supervised by a signing tax 
return preparer in the same firm and nonsigning tax return preparers 
who are employed by a different firm than the signing tax return 
preparer. In both cases, the records must be retained until three years 
from the later of the due date of the tax return or the date the tax

[[Page 78819]]

return or claim for refund is submitted in final form to the signing 
tax return preparer. As a practical matter, however, a supervised 
nonsigning tax return preparer and the supervising signing tax return 
preparer can satisfy both of their record retention obligations under 
the final regulations by retaining a single paper or electronic copy of 
the records described in Sec.  1.6695-2(b)(4)(i). The supervised 
nonsigning tax return preparer's record retention period may, 
nevertheless, expire before the signing tax return preparer's record 
retention period. In such cases, the supervising signing tax return 
preparer is required to retain the records until the expiration of his 
or her record retention period under Sec.  1.6695-2(b)(4)(ii), 
regardless of when the supervised nonsigning tax return preparer's 
record retention period expires.

9. Comment Period and Effective Date

    One commenter stated that the 30-day comment period provided under 
the proposed regulations was inadequate. Numerous substantive comments 
were, in fact, received addressing the proposed regulations. Treasury 
and the IRS have concluded that the duration of the comment period 
provided in the proposed regulations was in compliance with all of the 
applicable procedural rules and requirements governing regulations.
    Three commenters stated that the proposed effective date of the 
regulations would not provide tax return preparers and computer 
software providers sufficient time to adjust their procedures and 
products to reflect the proposed amendments. The proposed regulations 
provided that they will apply to tax returns and claims for refund for 
tax years ending on or after December 31, 2011. The IRS publicly 
announced in Spring 2011 that the IRS was exploring the implementation 
of a new requirement for tax return preparers to submit the Form 8867 
with a taxpayer's tax return or claim for refund. Treasury and the IRS 
have concluded that implementation of these rules for the upcoming 
filing season is consistent with the best interests of tax 
administration.

Special Analyses

    It has been determined that this final rule is not a significant 
regulatory action as defined in Executive Order 12866, as supplemented 
by Executive Order 13563. Therefore, a regulatory assessment is not 
required. It also has been determined that section 553(b) of the 
Administrative Procedure Act (5 U.S.C. chapter 5) does not apply to the 
final regulations.
    When an agency issues a rulemaking, the Regulatory Flexibility Act 
(RFA) (5 U.S.C. chapter 6), requires the agency to ``prepare and make 
available for public comment an initial regulatory flexibility 
analysis'' that will ``describe the impact of the proposed rule on 
small entities.'' (5 U.S.C. 603(a)). Section 605 of the RFA provides an 
exception to this requirement if the agency certifies that the 
rulemaking will not have a significant economic impact on a substantial 
number of small entities.
    The final rules affect tax return preparers who determine the 
eligibility for, or the amount of, EIC. The NAICS code that relates to 
tax preparation services (NAICS code 541213) is the appropriate code 
for tax return preparers subject to the final regulations. Entities 
identified as tax preparation services are considered small under the 
Small Business Administration size standards (13 CFR 121.201) if their 
annual revenue is less than $7 million. The IRS estimates that 
approximately 75 to 85 percent of the 550,000 persons who work at firms 
or are self-employed tax return preparers are operating as or employed 
by small entities. The IRS has determined that the final rules will 
have an impact on a substantial number of small entities.
    The IRS has determined, however, that the economic impact on 
entities affected by the final rules will not be significant. The prior 
regulations under section 6695(g) required tax return preparers to 
complete the Form 8867 or otherwise record in their files the 
information necessary to complete the form. Tax return preparers were 
also required to maintain records of the checklists and EIC 
computations, as well as a record of how and when the information used 
to compute the EIC was obtained by the tax return preparer. The amount 
of time necessary to submit, record, and retain the additional 
information required in the final regulations, therefore, should be 
minimal for these tax return preparers.
    Based on these facts, the IRS hereby certifies that the collection 
of information contained in the final regulations will not have a 
significant economic impact on a substantial number of small entities. 
Accordingly, a Regulatory Flexibility Analysis is not required.
    Pursuant to section 7805(f) of the Code, the notice of proposed 
rulemaking preceding the final regulations was submitted to the Chief 
Counsel for Advocacy of the Small Business Administration for comment 
on its impact on small business and no comments were received.

Drafting Information

    The principal author of the final regulations is Spence Hanemann, 
Office of the Associate Chief Counsel (Procedure and Administration).

List of Subjects in 26 CFR Part 1

    Income taxes, Reporting and recordkeeping requirements.

Amendments to the Regulations

    Accordingly, 26 CFR part 1 is amended as follows:

PART 1--INCOME TAXES

0
Paragraph 1. The authority citation for part 1 continues to read in 
part as follows:

    Authority:  26 U.S.C. 7805 * * *.
    Section 1.6695-2 also issued under 26 U.S.C. 6695(g). * * *


0
Par. 2. In Sec.  1.6695-2, paragraphs (a), (b)(1), (b)(2), (b)(4), (c), 
and (d) are revised and new paragraph (e) is added to read as follows:


Sec.  1.6695-2  Tax return preparer due diligence requirements for 
determining earned income credit eligibility.

    (a) Penalty for failure to meet due diligence requirements. A 
person who is a tax return preparer of a tax return or claim for refund 
under the Internal Revenue Code with respect to determining the 
eligibility for, or the amount of, the earned income credit (EIC) under 
section 32 and who fails to satisfy the due diligence requirements of 
paragraph (b) of this section will be subject to a penalty of $500 for 
each such failure.
    (b) * * *
    (1) Completion and submission of Form 8867--(i) The tax return 
preparer must complete Form 8867, ``Paid Preparer's Earned Income 
Credit Checklist,'' or such other form and such other information as 
may be prescribed by the Internal Revenue Service (IRS), and--
    (A) In the case of a signing tax return preparer electronically 
filing the tax return or claim for refund, must electronically file the 
completed Form 8867 (or successor form) with the tax return or claim 
for refund;
    (B) In the case of a signing tax return preparer not electronically 
filing the tax return or claim for refund, must provide the taxpayer 
with the completed Form 8867 (or successor form) for inclusion with the 
filed tax return or claim for refund; or
    (C) In the case of a nonsigning tax return preparer, must provide 
the signing tax return preparer with the completed Form 8867 (or 
successor form), in either electronic or non-

[[Page 78820]]

electronic format, for inclusion with the filed tax return or claim for 
refund.
    (ii) The tax return preparer's completion of Form 8867 (or 
successor form) must be based on information provided by the taxpayer 
to the tax return preparer or otherwise reasonably obtained by the tax 
return preparer.
    (2) Computation of credit--(i) The tax return preparer must 
either--
    (A) Complete the Earned Income Credit Worksheet in the Form 1040 
instructions or such other form and such other information as may be 
prescribed by the IRS; or
    (B) Otherwise record in one or more documents in the tax return 
preparer's paper or electronic files the tax return preparer's EIC 
computation, including the method and information used to make the 
computation.
    (ii) The tax return preparer's completion of the Earned Income 
Credit Worksheet (or other record of the tax return preparer's EIC 
computation permitted under paragraph (b)(2)(i)(B) of this section) 
must be based on information provided by the taxpayer to the tax return 
preparer or otherwise reasonably obtained by the tax return preparer.
* * * * *
    (4) Retention of records--(i) The tax return preparer must retain--
    (A) A copy of the completed Form 8867 (or successor form);
    (B) A copy of the completed Earned Income Credit Worksheet (or 
other record of the tax return preparer's EIC computation permitted 
under paragraph (b)(2)(i)(B) of this section); and
    (C) A record of how and when the information used to complete Form 
8867 (or successor form) and the Earned Income Credit Worksheet (or 
other record of the tax return preparer's EIC computation permitted 
under paragraph (b)(2)(i)(B) of this section) was obtained by the tax 
return preparer, including the identity of any person furnishing the 
information, as well as a copy of any document that was provided by the 
taxpayer and on which the tax return preparer relied to complete Form 
8867 (or successor form) or the Earned Income Credit Worksheet (or 
other record of the tax return preparer's EIC computation permitted 
under paragraph (b)(2)(i)(B) of this section).
    (ii) The items in paragraph (b)(4)(i) of this section must be 
retained for three years from the latest of the following dates, as 
applicable:
    (A) The due date of the tax return (determined without regard to 
any extension of time for filing);
    (B) In the case of a signing tax return preparer electronically 
filing the tax return or claim for refund, the date the tax return or 
claim for refund was filed;
    (C) In the case of a signing tax return preparer not electronically 
filing the tax return or claim for refund, the date the tax return or 
claim for refund was presented to the taxpayer for signature; or
    (D) In the case of a nonsigning tax return preparer, the date the 
nonsigning tax return preparer submitted to the signing tax return 
preparer that portion of the tax return or claim for refund for which 
the nonsigning tax return preparer was responsible.
    (iii) The items in paragraph (b)(4)(i) of this section may be 
retained on paper or electronically in the manner prescribed in 
applicable regulations, revenue rulings, revenue procedures, or other 
appropriate guidance (see Sec.  601.601(d)(2) of this chapter).
    (c) Special rule for firms. A firm that employs a tax return 
preparer subject to a penalty under section 6695(g) is also subject to 
penalty if, and only if--
    (1) One or more members of the principal management (or principal 
officers) of the firm or a branch office participated in or, prior to 
the time the return was filed, knew of the failure to comply with the 
due diligence requirements of this section;
    (2) The firm failed to establish reasonable and appropriate 
procedures to ensure compliance with the due diligence requirements of 
this section; or
    (3) The firm disregarded its reasonable and appropriate compliance 
procedures through willfulness, recklessness, or gross indifference 
(including ignoring facts that would lead a person of reasonable 
prudence and competence to investigate or ascertain) in the preparation 
of the tax return or claim for refund with respect to which the penalty 
is imposed.
    (d) Exception to penalty. The section 6695(g) penalty will not be 
applied with respect to a particular tax return or claim for refund if 
the tax return preparer can demonstrate to the satisfaction of the IRS 
that, considering all the facts and circumstances, the tax return 
preparer's normal office procedures are reasonably designed and 
routinely followed to ensure compliance with the due diligence 
requirements of paragraph (b) of this section, and the failure to meet 
the due diligence requirements of paragraph (b) of this section with 
respect to the particular tax return or claim for refund was isolated 
and inadvertent. The preceding sentence does not apply to a firm that 
is subject to the penalty as a result of paragraph (c) of this section.
    (e) Effective/applicability date. This section applies to tax 
returns and claims for refund for tax years ending on or after December 
31, 2011.

Steven T. Miller,
Deputy Commissioner for Services and Enforcement.
    Approved: December 14, 2011.
Emily S. McMahon,
Acting Assistant Secretary of the Treasury.
[FR Doc. 2011-32487 Filed 12-19-11; 8:45 am]
BILLING CODE 4830-01-P