CapitolBeat Tax Legislation

June 01, 2011
Contingency fees prohibited for tax matters.

By Bruce C. Allen & Jeannie Tindel
Senate Bill 342 (Wolk) was amended in late March to include a provision that prohibits contingency fees in tax matters.

“In today’s fiscal crisis, state and local governments across the country have been forced to ask citizens for higher taxes and enacted significant cuts in public services,” says Wolk. “We recently enacted billions of dollars in cuts, with several billion more on the horizon, often requiring sacrifices from the most vulnerable among us. SB 342 provides a way to make the tax system more honest by taking away the incentive for unregulated consultants to seek aggressive tax returns on a contingency fee basis.

“Contingency fees tie a consultant’s compensation to the amount of a taxpayer’s tax refund, providing a strong incentive to play fast and loose with rules, requiring pay outs of big tax refunds from taxes previously collected and spent, and often leading unsophisticated firms into audits. This bill doesn’t affect a taxpayer’s right to file a claim for refund for any tax; it only regulates the way they pay unrelated third parties seeking refunds on their behalf.”

CPAs are only allowed to accept contingency fees when decisions are made by third parties. Tax appeals are one of those areas where contingency fees are allowed and, in many instances, provide the only cost effective means for the unsophisticated taxpayer to obtain their rightful reimbursement from local, state and federal taxing authorities.

CalCPA believes SB 342 will unfairly and inadvertently limit a taxpayer’s options in seeking professional representation to advocate their interests in front of a taxing entity. Particularly affected by this restriction would be low-income taxpayers unable to afford an upfront fee or an hourly rate for tax services, and those taxpayers for whom the disputed amount would not justify the cost of retaining an expert.

Low-income taxpayers who believe they have been incorrectly charged by the FTB, or must defend themselves against a tax position taken by the FTB, would lose an affordable option to rectify claims against them or seek refunds lost due to mistakes by tax preparers or the taxing entity.

The bill also would reduce attorney fees for tax litigation cases. Under current law, California taxpayers can have their attorney fees and expenses paid by the state if they are successful in litigating tax matters. Some attorneys have chosen to pursue reimbursement under the Private Attorney General doctrine rather than using the lower reimbursement rates contained in provisions of the Revenue and Taxation Code. Wolk’s bill would require use of the reimbursement rates contained in the RTC.

The interest in revising the fee reimbursement requirements is due to a recent case, Northwest Energetics, LLC vs. the Franchise Tax Board, where the court found against the FTB. In the case, Northwest contested the constitutionality of California’s limited liability company fee statute. Northwest conducted no business in California and alleged that the LLC fee was an unconstitutional tax. The Superior Court agreed and ordered that all fees paid by the plaintiff be returned. Additionally, the Court ordered that the attorneys should be paid $3.5 million under the Private Attorney General doctrine contained in the Civil Code since they performed a service beneficial to other LLCs.

The FTB appealed to the Court of Appeals, which eventually concurred with the Superior Court that the LLC fee—as it was applied to Northwest—was unconstitutional. The Court of Appeals also ruled that the plaintiffs were allowed to collect under the Private Attorney General doctrine, but that the Superior Court had performed an incorrect assessment of the amount of fees to be awarded. The Superior Court then reduced the attorney fees to $1.9 million and the FTB eventually settled the matter. There are other similar cases pending settlement.

SB 342 was passed out of the Senate Committee on Governance and Finance April 27, and was referred to the Judiciary Committee. No further action is anticipated this year, but it could still pass next year.

Joint and Several Liability: Independent Contractor
SB 459 (Corbett) would require any person or employer—including those not in a business—to provide independent contractors with a notice to be developed by the Employment Development Department that would explain:
  • The impact of being hired as an independent contractor;
  • The impact that the independent contractor status has on the individual’s tax obligations;
  • The lack of labor and employment protections; and
  • The ability to seek advice from the EDD or the Labor Commissioner as to whether the individual is properly classified as an independent contractor.
The bill would impose joint and several liability on any paid adviser who knowingly advises an employer to treat an individual as an independent contractor if there is a later determination that the individual should not have been treated as such. Attorneys providing advice in the course of the practice of law and employees of businesses are exempted from the joint and several liability provisions.

SB 459 is supported by most labor organizations and opposed by most business groups. It has passed the Senate Judiciary Committee and is pending in the Senate Appropriations Committee.
Bruce C. Allen is CalCPA’s director of government relations. Jeannie Tindel is CalCPA’s director of legislation.
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