CPA Prep REG

REG Chapter 3 Part 2: Substantiation and Disclosure of Tax Positions

To disclose or not to disclose? That is the question.


Welcome to another episode of CPA prep – REG addition. Here are the learning outcomes for today’s lesson.

  1. Summarize the requirements for the appropriate disclosure of a federal tax return position.
  2. Identify situations in which disclosure of federal tax return positions is required.
  3. Identify whether substantiation is sufficient given a specific scenario.

Statement on Standards for Tax Services

The Statement on Standards for Tax Services (SSTS) No. 1, contains the standards a member should follow when recommending tax return positions or preparing or signing tax returns. Here are some of the basics:

  • Comply with the stated reporting and disclosure requirements imposed by the applicable taxing authority (pretty obvious right?) If the taxing authority has rules then you should follow those rules.

But what if the taxing authority has no written standard? Well that’s where SSTS No. 1 comes in:

  • realistic possibility of success standard – you should not recommend a tax return position, prepare, or sign a tax return taking a position unless there is good-faith belief that the position has at least a realistic possibility of being sustained administratively or judicially on its merits, if challenged. (Basically, if there is no way the deduction will hold up if your client gets audited then it’s a no… again this is pretty obvious).
  • You may recommend a tax return position if you conclude that there is a reasonable basis (>20% chance) for the position, and advise the taxpayer to appropriately disclose that position
  • You may prepare and sign a tax return if you conclude that there is a reasonable basis (>20% chance) for the position, and appropriately disclose that position.

Making This Easy To Understand

Does your head hurt? Mine too, so let’s make this really easy:

  1. If the taxing authority has standards on what should be disclosed then you should follow those standards.

If not… Then here is a quick guide on whether or not you should disclose a tax position.

  • The deduction Will” hold up – 90% or greater probability of success if the IRS challenges. No disclosure needed unless otherwise stated.
  • The deduction “Should” hold up – 70%-80% probability of success if the IRS challenges. No disclosure needed unless otherwise stated.
  • The deduction “Will More Likely Than Not” hold up – Greater than 50% probability of success if the IRS challenges. No disclosure needed unless otherwise stated.
  • There is “Substantial Authority” for this deduction – 40% or greater probability of success if the IRS challenges. No disclosure needed unless otherwise stated.
  • There is a “Realistic Possibility of Success” the deduction will hold up – 1 in 3 odds of success if the IRS challenges. No disclosure needed unless otherwise stated.
  • There is a “Reasonable Basis” for the deduction – 20% or greater probability of success if the IRS challenges. Disclosure is needed, this is the minimum acceptable standard for a tax position.
  • There is no way this will hold up but the odds of you being audited are low – this should be self evident but incase you didn’t know… this is not an acceptable standard.

What to Know For the Exam

The important stuff to know is the different levels of assurance when it comes to the probability of success if the IRS challenges a tax position. Know which standards hold more weight and what the minimum level of assurance is needed before a disclosure is required. Until next time! (Here is some additional reading material from the IRS incase you have trouble sleeping… it’s actually not that bad).

Jeremias Ramos is a CPA working at a nationally recognized full-service accounting, tax, and consulting firm with offices conveniently located throughout the Northeast. Jeremias specializes in tax and business consulting with focus areas in real estate, professional service providers, medical practitioners, and eCommerce businesses.

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