Many practitioners were taken aback by the recent Tax Court decision in Canal Corp. v. Commissioner, where Judge Kroupa issued a stinging opinion that not only recast a leveraged partnership distribution as a disguised sale, but also upheld penalties against the taxpayer for what the judge characterized as the taxpayer’s unreasonable reliance on the opinion of its tax advisor. Judge Kroupa’s analysis, which should be on the forefront of every tax advisor’s mind, raises a number of interesting, if thorny, questions, including:
- Should a fixed and/or contingent fee arrangement necessarily render tax advice unreliable for purposes of avoiding a substantial understatement penalty under the “reasonable cause and good faith” exception?
- Has the enactment of section 6694 undercut the rationale for prohibiting taxpayers from relying on advisors that have a conflict of interest?
- When (if at all) should courts defer to the opinion of a reputable tax advisor in deciding whether to uphold an assessment of penalties against a taxpayer?
Today, we tackle the first of these three questions.