Requirements for paid preparers when claiming certain credits or head of household filing status
Under the Internal Revenue Code, a penalty can be assessed against a paid tax return preparer for not meeting due diligence requirements when preparing a return or claim for refund claiming the:
- Earned income tax credit (EITC),
- Child tax credit (CTC), additional child tax credit (ACTC), credit for other dependents (ODC),
- American opportunity tax credit (AOTC), or
- Head of household (HOH) filing status.
Law
Section 6695(g) of the Internal Revenue Code states:
Any person who is a tax return preparer with respect to any return or claim for refund who fails to comply with due diligence requirements imposed by the Secretary by regulations with respect to determining (1) eligibility to file as head of household (as defined in section 2(b)) on the return, or (2) eligibility for, or the amount of, the credit allowable by section 24 [CTC/ACTC/ODC], 25A(a)(1) [AOTC] or 32 [EITC] shall pay a penalty of $500 for each such failure.
The amount of the penalty is adjusted for inflation. For returns filed in 2021, the penalty is $540 per failure per return.
It can apply to each tax benefit claimed on a return. That means if you are paid to prepare a return claiming all three credits and HOH filing status, and you fail to meet the due diligence requirements for all four tax benefits, the IRS may assess a penalty of $540 per failure, or $2,160.
Treasury Regulations
Section 1.6695-2 of the Regulations describes the four due diligence requirements a paid tax return preparer must meet when preparing a return or claim for refund claiming the EITC, CTC/ACTC/ODC, AOTC or HOH filing status.
Firms employing preparers: A firm that employs a tax return preparer can be subject to a due diligence penalty for a return or claim prepared by its employee. (Treas. Reg. section 1.6695-2(c))
Due diligence requirements when using prior year earned income to figure the EITC or ACTC: Eligible taxpayers can elect to use their prior year earned income when figuring the EITC or ACTC or both credits when their prior year earned income is more than their current year earned income. If you prepare a tax return in which the taxpayer makes this election, the due diligence requirements under the Treasury Regulations apply to your computation of earned income for two years:
- the current tax year to determine that earned income has decreased from the prior year, and
- the prior tax year to determine the earned income used to compute each credit claimed under the election.
You can answer “yes” to question 1 on Form 8867 PDF, Paid Preparer’s Due Diligence Checklist, even if you used information for the prior tax year as a result of their taking the election. You do not have to recompute the prior year earned income if you prepared the taxpayer’s prior year return.
The Four Due Diligence Requirements
Requirement | Your responsibility |
---|---|
1. Complete and Submit Form 8867 (Treas. Reg. section 1.6695-2(b)(1)) |
Based on information obtained from your client or information you otherwise reasonably obtain or know, you must –
And
|
Requirement | Your responsibility |
---|---|
2. Compute the Credits (Treas. Reg. section 1.6695-2(b)(2)) |
Based on information obtained from your client or information you otherwise reasonably obtain or know, you must -
Or
|
Requirement | Your responsibility |
---|---|
3. Knowledge (Treas. Reg. section 1.6695-2(b)(3)) |
The Treasury Regulations gives eight examples of meeting the knowledge requirement. |
Requirement | Your responsibility |
---|---|
4. Keep Records for Three Years (Treas. Reg. section 1.6695-2(b)(4)) |
|
Additional Due Diligence Topics
Return to main Preparer Due Diligence Page