IRS severely limits methods of disclosure.

The final regulations under Secs. 6662 and 6694 severely limit the methods of disclosure that the Service will consider acceptable. The regulations state that to constitute adequate disclosure, the following rules apply.

Substantial understatement

(two exclusive methods)

1. Use Form 8275, Disclosure Statement, or, if it is a position contrary to a regulation, Form 8275-R, Regulation Disclosure Statement. (Until Form 8275-R is available, the preamble to the Sec. 6662 regulations requires that taxpayers must disclose positions contrary to regulations on a separate Form 8275 with the caption "regulations" appearing in the upper right hand corner of the form.)

2. The annual revenue procedure, currently Rev. Proc. 92-23. This revenue procedure identifies circumstances in which completion of certain forms and schedules in an income tax return will constitute adequate disclosure.

Thus, a captioned disclosure statement (in accordance with old Regs. Sec. 1.6661-4) is no longer acceptable.

Negligence or disregard

of rules or regulations

(one exclusive method)

1. Use Form 8275 or Form 8275-R (if regulation is involved). Note: No annual revenue procedure or captioned disclosure statement is acceptable.

To take a position contrary to a rule or regulation (which the Service has defined to include revenue rulings and notices published in the Internal Revenue Bulletin), the regulatory provision or ruling in question must be identified on the appropriate Form 8275. Note: If the taxpayer is taking a position contrary to a revenue ruling or notice, the penalty will not be imposed if the taxpayer has a realistic possibility of being sustained on the merits. In such a case, no disclosure would be required.

Substantial (or gross)

valuation misstatements

No disclosure exception is available

Preparer penalties

- income tax return

or claim for refund

* Sec. 6694(a): understatements due to unrealistic positions (two exclusive methods). 1. Use Form 8275 or Form 8275-R; or 2. The annual revenue procedure. (No captioned disclosure statement is acceptable.)

* Sec. 6694(b): willful understatement or reckless or intentional disregard of rules or regulations (one exclusive method). Use Form 8275 or Form 8275-R.

The regulations impose an additional requirement for a preparer to avoid the reckless or intentional disregard of rules or regulations penalty if the position is contrary to a regulation. In addition to the Form 8275-R that must be filed, the preparer must demonstrate that the position represents a "good faith challenge to the validity of the regulation." Note: No annual revenue procedure or captioned disclosure statement is acceptable. Note: There is no disclosure exception under the willfulness aspect of the Sec. 6694(b) penalty. Note: If the taxpayer is taking a position contrary to a revenue ruling or notice, the penalty will not be imposed if the preparer has a realistic possibility of being sustained on the merits. Accordingly, in such a case, no disclosure would be required.

Recurring items

Disclosure for recurring items (such as the basis of recovery property) must be made for each tax year in which the item is taken into account.

Carrybacks and carryovers

Disclosure is adequate for an item included in any loss, deduction or credit that is carried to another year only if made with the return (or qualified amended return) for the year in which the carryback or carryover arises.

Passthrough entities

Disclosure for items attributable to passthrough entities is made on the entity's return (or qualified amended return). A taxpayer (partner, S shareholder, beneficiary, etc.), however, may also make an adequate disclosure for a passthrough item if the taxpayer files a properly completed Form 8275 (or 8275-R) in duplicate, one copy with the taxpayer's return and one copy with the IRS Service Center at which the entity's return is filed.

Practice note: Although the regulations severely limit the methods of disclosure that the Service will consider adequate, the statutory language, legislative history and case law may support the use of other methods of disclosure that would satisfy the statutory "adequate disclosure" requirement. In appropriate situations, these alternative methods should be explored.