ALJDEC decisions subject to certification as final

08F-2007.015B-ACY · State Board of Accountancy · 2010-03-02

IN THE OFFICE OF ADMINISTRATIVE HEARINGS

HEARING: February 10 and 11, 2010, starting at 8:00 a.m. on both dates. APPEARANCES: The Arizona State Board of Accountancy appeared through Mary Delaat Williams, Esq., Assistant Attorney General; Respondent Paul M. Fann appeared through D. Jay Ryan, Esq. ADMINISTRATIVE LAW JUDGE: Diane Mihalsky _____________________________________________________________________

FINDINGS OF FACT Background and Procedure 1. The Arizona State Board of Accountancy (“the Board”) issued Certified Public Accountant Certificate No. 4557-E to Respondent Paul M. Fann and Certified Public Accounting Firm Registration No. 2100-C to Paul M. Fann, CPA, PC. 2. On or about September 7, 2006, the Board began an investigation after receiving a complaint from F.S., Mr. Fann’s former client, relating to tax preparation services that Mr. Fan rendered to her during the time period from 2002 to 2006. 3. F.S. did not complain about Mr. Fann’s preparation of her amended return for tax year 2001, which had resulted in the Internal Revenue Service (“IRS”) paying a substantial refund to her. 4. On June 9, 2008, the Board issued a Complaint and Notice of Public Hearing in Case No. 08F-2007.015-ACY. The Board charged Mr. Fann with violating applicable statutes and rules in preparing four tax returns for F.S.: (1) The amended return for tax year 2001; (2) The amended return for tax year 2002; (3) The return for tax year 2003; and (4) The return for tax year 2004. A hearing was scheduled before Administrative Law Judge (“ALJ”) Michael G. Wales in the Office of Administrative Hearings on August 1, 2008 in Case No. 08F-2007.015-ACY. 5. The hearing was continued to September 18 and 19, 2008 to allow the parties additional time to present their cases. 6. On September 11, 2008, the Board filed a Notice to Vacate Administrative Hearing. ALJ Wales vacated the two-day hearing because “[t]he party requesting the hearing has voluntarily withdrawn its request.” 7. Mr. Fann and the Board subsequently exchanged information and engaged in settlement negotiations. 8. On October 20, 2009, the Board requested that the Office of Administrative Hearings provide a two-day hearing date in Case No. 08F-2007.015B-ACY, the matter at issue, to resolve the remaining complaint against Mr. Fann concerning his preparation of F.S.’ amended return for tax year 2001 (“the amended 2001 return”). 9. On December 30, 2009, the Board issued a Complaint and Notice of Public Hearing in this matter. The Complaint alleged that Mr. Fann’s preparation of F.S.’ amended 2001 return to include one-half the income and taxes paid for her share of her former husband’s retirement benefits, consisting of a Supplemental Retirement Benefit Plan (“SERP”) and a Deferred Compensation Plan (“DCP”), violated A.A.C. R4-1-455(B) and applicable standards adopted by the American Institute of Certified Public Accountants (“AICPA”). Specifically, the Board charged tax practice standards (“TS”) Section 300 and TS Section 400, which were incorporated into the Board’s rules by A.A.C. R4-1-455.01(G), and ET Sections 56 regarding Due Professional Care, which was incorporated into the Board’s Rules by A.A.C. R4-1-455.04. According to the Complaint, Mr. Fann’s violations constituted discreditable acts under A.A.C. R4-1-455.03(A) and provided grounds under A.R.S. § 32-741 for the Board to take disciplinary action (as defined in A.R.S. § 32- 701(6)) against Mr. Fann’s certificate and firm registration. 10. A hearing was held on the Board’s charges on February 10 and 11, 2010. The Board called Mr. Fann as part of its case-in-chief, presented the testimony of contract investigator Lawrence Field, CPA, CFF, and submitted seven exhibits. Mr. Fann testified on his own behalf, presented the testimony of Angelo Bellone, CPA, who had been employed by the IRS, and submitted thirteen exhibits. Additional Hearing Evidence The 2001 Amended Return 11. F.S. was the former wife of R.S. The couple had divorced in approximately February 2001. The couple was wealthy and, at the time of the divorce, their marital estate was worth approximately $23 million. 12. F.S. and R.S.’ divorce was acrimonious. R.S. subsequently married a much younger woman, V.S. 13. In January 2002, F.S. initially contacted Mr. Fann regarding the preparation of her 2000 tax return. 14. On March 17, 2003, F.S. sent a 6-page facsimile to Mr. Fann containing the “info you requested.” The remaining five pages of the facsimile (exclusive of the cover page) consisted of the documents described below. 14.1 The second page of the facsimile was a letter from Ben M. Henschel, Esq., who had been R.S.’ attorney in the divorce, addressed to Robert H. Zalk, Esq., who had been F.S.’ attorney in the divorce. The letter was dated March 9, 2001 and provided in relevant part as follows: In compliance with Conclusion 5C of the Judgment and Decree in the above-referenced proceeding, [R.S.] has provided your client with a check in the amount of $112,334, constituting 50% of the January 2001 SERP payment from US Bank, net of applicable taxes as calculated by Erick Wickstrom of Deloitte & Touche, LLP, the CPA the parties used during their marriage. I have enclosed a copy of the check along with Mr. Wickstrom’s calculation for your information.

The parties agreed at the hearing that the letter’s reference to the SERP was erroneous; in fact, the referenced check was for F.S.’ share of the DCP. 14.2 The third page of the facsimile was an unsigned calculation. Although there was no letterhead or other identifying information, the parties agreed that the computer identification at the bottom of the page, C:\WINDOWS\TEMP\[illegible] Calculation identified that software program that Mr. Wickstrom used. The second page included the following numbers, with Mr. Wickstrom’s original entries in regular type and Mr. Fann’s later handwritten calculations shown in italics and brackets: [R.S.] U.S. Bancorp SERP payment

A. Payment as occurred

Gross payment 437,098 [/2 = 218,549]

Federal Witholding [sic] 122,388 28% Bonus Witholding [sic]

Oregon Witholding [sic] 39,339 9% Oregon Bonus Witholding [sic]

Net Payment 275,372

Federal Marginal Rate 39.6% See Note

Oregon Marginal Rate 9% See Note

B. Computation of 1/2 of Net SERP Payment after Federal and Oregon Income Taxes

Gross Payment 437,098

Federal Witholding [sic] 122,388 [ > 173,091 / 2 = 86,546 ] Incremental Federal 50,703 Witholding [sic]

Oregon Witholding [sic] 39,339 [ / 2 = 19,670 ]

Incremental Oregon Tax

Net Payment After Federal 224,669 & Oregon Income Taxes

1/2 of Net Payment 112,334 After Federal & Oregon Income Taxes

C. Notes

1. The highest federal income tax bracket is 39.6% for taxable income amounts over $288,350 for both single and married filing joint returns.

2. The highest Oregon income tax bracket is 9%.

14.3 The fourth page of the facsimile was a copy of a check drawn on U.S. Bancorp/Wachovia Bank dated January 4, 2001, payable to R.S. in the amount of $275,371.92 for lump sum SERP distribution. The paystub showed a “cash distribution” of 437,098,[1] “federal inc tax” of 122,387, “state tax – OR” of 39,339, and a “net payment amount” of 275,371.92. 14.4 The fifth page of the facsimile was a chart entitled “U.S. Bancorp SERP Payment” for R.S. Mr. Fann had crossed out “SERP” and had written “DCP.” The “Gross Payment” was shown as 437,098; the “Federal Tax – 39.6%” was shown as (173,091), the “Oregon Tax – 9%” was shown as (39,339), the “Net Payment After Income Taxes” was shown as 224,669, and “1/2 of Net Payment After Income Taxes was shown as 112,334. The document showed the same computer identification as the third page of the facsimile. 14.5 The sixth page of the facsimile was a chart entitled “U.S. Bancorp SERP Payment” for R.S., which was similar to the fifth page of the facsimile. The document showed the same computer identification as the third and fifth pages of the facsimile. The sixth page included the following numbers, with Mr. Wickstrom’s original entries in regular type and Mr. Fann’s later handwritten calculations shown in italics and brackets. The “Gross Payment” was shown as 21,539 [ x 12 = 258,468 / 2 = 129,234 ]; the “Federal Tax – 39.1%” was shown as (8,422) [ x 12 ÷ 2 = 101,064 / 2 = 50,532 ]; the “Oregon Effective Rate Tax – 5.481%” was shown as (1,181) [ x 12 ÷ 2 = 14,172 / 2 = 7,086 ]; the “Net Payment After Income Taxes” was shown as 11,936; and the “1/2 of Net Payment After Income Taxes” was shown as 5,968. The sixth page of the facsimile also had a handwritten note that did not appear to have been made by Mr. Fann, “As prepared by Touche Ross & Co.” 15. Mr. Fann advised F.S. to consult a tax attorney regarding the proper tax treatment of her share of the SERP and DCP income. The Board submitted an opinion letter from attorney James Roach II, Esq. to Mr. Fann dated April 5, 2005 (“the Roach letter”), in relevant part as follows: We have been retained by [F.S.] to provide you our opinion regarding the proper tax treatment of certain payments made to her by [R.S.] pursuant to the Judgment & Decree in Marital Dissolution entered in the Hennepin County, Minnesota District Court . . . in February, 2001, and subsequently modified in April, 2001, May, 2002, and October, 2002 (the “Judgment & Decree”).

According to the provisions of the Third Amended Judgment & Decree, [R.S.] was required to pay [F.S.] 50% of the U.S. Bank [SERP] payments net of income taxes and 50% of the U.S. Bank [DCP] payments net of taxes. . . .

[R.S.] has elected to report all SERP and DCP payments as income to him, purportedly paid taxes (federal and state) on such income calculated at the highest marginal tax rates (which may or may not be his actual tax rates), and then paid to [F.S.] one- half of the SERP and DCP payments net of the federal and state taxes paid. Since the highest marginal tax rates are higher than [F.S.’], the payments to [F.S.] are therefore, lowered by the tax bracket rate differential from the figure that would result if the payments were taxed directly to her.

The issue presented herein is whether the Judgment & Decree’s award to [F.S.] of 50% of the SERP & DCP payments and/or funds established a property right, i.e., an award of the underlying asset and property right rather than a mere assignment of the income. In the event [F.S.’] interest in the SERP and DCP payments and/or funds represents a vested property right, [F.S.] may be required to report half of the SERP & DCP payments made by U.S. Bank directly to [R.S.] as her separate income and claim credit for the corresponding one half of the income taxes paid by [R.S.].

While the Hennepin County, Minnesota District Court had jurisdiction of the marital dissolution proceedings, the SERP and DCP documents provide that Oregon law shall govern the respective agreements. Thus Oregon law will be controlling in determining whether the SERP & DCP awards to [F.S.] in the Judgment & Decree constitute property rights or merely assignments of income.

Oregon Revised Statutes, Section 107.105(1)(f) provides that “a retirement plan or pension or an interest therein shall be considered as property.” The Oregon Supreme Court Case of Richardson v. Richardson, 769 P.2d 179 (1989), interpreted O.R.S. 107.105(1)(f) and determined that pension rights represent property interests. Hence, the award to [F.S.] of an interest in the SERP and DCP payments pursuant to the judgment and Decree vested her with the property interest. The cases and regulations interpreting the Internal Revenue Code of 1986, as amended, are clear and consistent regarding the owner of a property interest reporting the income attributable to such interest.

[F.S.], as the owner and holder of the property interests (i.e., the SERP and DCP payments) should report one-half of the payments made by U.S. Bank with respect to those interests as her separate income and file amended returns for the appropriate taxable years. Equitably, [F.S.] should claim credit for one- half of the taxes paid by [R.S.] on the SERP and DCP payments.

While the action for reformation of the Judgment and Decree may (and likely will) address separately the impropriety of calculating taxes at the highest marginal federal and state rates, the consequence of [R.S.’] tax payments was to have over- paid tax on income properly reportable by [F.S.] and, consequently, rendering lower payments to [F.S.] than she was entitled with respect to her property interest in the SERP and DCP funds.

Additionally, the amounts of the SERP payments may have been improperly calculated as a function of the life expectancies for [R.S.] and his present wife, [V.S.], rather than [F.S.] The life expectancy for [V.S.] is somewhat longer than for [F.S.] due to their age difference, and the amount of the SERP payments has been correspondingly lower. The reformation action in Hennepin County, Minnesota may include a claim by [F.S.] for the one-half of the difference in the SERP payments caused by U.S. Bank calculating the SERP payments on the lives of [R.S.] and [V.S.] instead of making such calculation based upon the life expectancies of [R.S.] and [F.S.]

In the event [F.S.] receives additional funds from a claim for the SERP payment differential, such additional funds will constitute income for federal and state tax purposes and necessitate the filing of additional amended returns.

Consequently, since the interests of [F.S.] in the SERP and DCP payments constitute interest in property and not mere assignments of income, amended tax returns for all open years for [F.S.] should be prepared to include one half of the U.S. Bank SERP and DCP payments and claim credit for the corresponding one half of the taxes previously paid by [R.S.] with respect to such income.

[Emphases in original.] The facsimile cover sheet for the letter indicated that it was sent to Mr. Fann on April 13, 2005. 16. Mr. Fann prepared an amended 2001 return, which he gave to F.S. on April 15, 2005 for filing. The amended 2001 return included the following “Explanation of Changes to Income, Deductions, and Credits”: Changes due solely to amended return reporting, pursuant to lawyer legal letter attached, of [DCP] and [SERP] payments received by taxpayer from taxpayer’s property interests in former spouse’s US Bank DCP and SERP.

Mr. Fann included a copy of Mr. Roach’s April 5, 2005 opinion letter in the return. 17. Line 1 of the amended 2001 return for “adjusted gross income” showed a net change of 347,783, which the Federal Statements page on the return explained was the total of “50% payment from DCP property interest” of 218,549 and “50% payment from SERP property interest” of 129,234. 18. Line 11 of the amended 2001 return for “federal income tax withheld” showed a net change of 137,078. The Federal Supplemental Information page showed that figure was calculated by adding “50% of estimates re: DCP property interest” in the amount of 86,546 and “50% of estimates re: SERP property interest” in the amount of 50,532. 19. As a result of F.S.’ increased income and taxes withheld, the amended 2001 return calculated an overpayment of income taxes by F.S. in the amount of 33,001, which included a refund of the 9,571 that F.S. had paid with the original 2001 return. The Board’s Evidence to Support the Violations 20. Mr. Field has been a certified public accountant since 1978. He started his accountancy practice for national CPA firms, has been the CFO of Swenson’s, where he did an IPA, and has been a principal in a mid-sized accountancy firm. He has held numerous offices in the Arizona Society of Certified Public Accountants. Since 2001, Mr. Field has been the managing member of the Field Lawdahl PLLC, a CPA firm that specializes in litigation support engagements, forensic accounting, and closely held business and tax consulting. 21. Mr. Field has been a contract investigator for the Board for 20 years. At the time of the hearing, he charged the Board $210/hour for his services. 22. Mr. Field estimated that he prepares approximately 105 tax returns per year. He is not looking for new tax clients. Mr. Field continues to take Continuing Professional Education in tax issues. 23. Mr. Field reviewed Mr. Fann’s work papers for F.S.’ original and amended 2001 returns. Mr. Field interviewed F.S., Mr. Fann, Mr. Roach, and the CPA who followed Mr. Fann in preparing F.S.’ tax returns. Mr. Field testified that, when he showed the amended 2001 return to Mr. Roach, Mr. Roach told him that he had never seen it. 24. Mr. Field testified that TS 300 relates to a CPA’s right to rely on information provided by a CPA’s clients and TS 400 relates to a CPA’s right to rely on information provided by third parties. The Amount of Income Tax Withheld on the Amended 2001 Return 25. Mr. Field testified that Mr. Fann’s reliance on the Roach letter as a basis for the net change in tax on the amended 2001 return, which was based on R.S. paying taxes at the highest incremental rate, violated TS 300. The third paragraph of the Roach letter stated that the taxes that R.S. “purportedly paid” might not have been the amount that he actually paid. The eighth paragraph of the Roach letter stated that R.S. may have inflated the amount of taxes that he paid on the SERP and DCP payments he received to reduce the amount paid to F.S., which would have been unfair may have been an issue for F.S. to ask the domestic relations court to resolve. 26. Mr. Field testified that the Roach letter stated that the use of the highest incremental tax rate for R.S. was likely inaccurate; a reasonable CPA would not have relied on the Roach letter to state on an amended return that the tax on the SERP and DCP income had been withheld or paid at the highest incremental rate. Mr. Field testified that 39.6% was the highest potential tax rate; taxes are not paid or withheld at that rate very often because deductions reduce income. Yet the 2001 amended return claimed that R.S. had paid taxes at 39.6% for the entire amounts of the SERP and DCP income. 27. Mr. Field pointed out the eleventh and final paragraph of the Roach letter stated that F.S. should file an amended return on which she should claim credit for “the corresponding one half of the taxes previously [not purportedly] paid by R.S.” Even if R.S. had withheld income taxes at the highest marginal rate, he may have received a refund, which would lower the amount of taxes actually paid. 28. Mr. Field pointed out that a reasonable CPA would have performed additional research to find out the amount of taxes that R.S. actually paid on the SERP and DCP income by obtaining his 2001 tax return or by obtaining better information from the domestic relations court. 29. Mr. Field also pointed out that the Roach letter stated that, if the DCP payment was based on the age of R.S.’ new wife, V.S., who was younger than F.S., F.S. should have received more money, because the DCP payment to R.S. would have been higher. Mr. Fann failed to look into this issue. 30. Mr. Field pointed out that the third page of F.S.’ March 17, 2003 facsimile to Mr. Fann (“the vertical spreadsheet”) did not include any reference to R.S.’ other taxable income or deductions. R.S.’ taxable income would have to have been more than $700,000 for the entire DCP payment to have been taxed at the maximum rate. There was no information on the spreadsheet that would have allowed a reasonable CPA to infer R.S.’ income. 31. Mr. Field testified that the Roach letter and the vertical spreadsheet contained inconsistent information that suggested that the assumption to R.S. had actually paid taxes at the highest marginal rate on the SERP income and DCP income was incorrect. Because the information appeared to be incomplete, a reasonable CPA would have acquired additional information to resolve the inconsistencies. Any unfairness to F.S. that resulted from R.S.’ claim to have paid taxes at the highest marginal rate on the SERP and DCP income should have been resolved by the domestic relations court in the divorce action, not by filing an amended return for F.S. requesting a refund from the IRS. 32. Mr. Field testified that Mr. Fann had violated TS 300, TS 400, and ET Section 56 by claiming one-half of the federal income taxes that R.S. purportedly paid at the highest marginal rate on F.S.’ amended 2001 return without attempting to obtain further information. The Amount of SERP Income Used to Calculate the Net Change to Income on the Amended 2001 Return

33. As noted above, Mr. Fann multiplied by 12 the amount shown on the sixth page of F.S.’ March 17, 2003 facsimile to him to calculate her SERP income for 2001. 34. Mr. Field testified that, absent any evidence that F.S. in fact had received 12 monthly SERP payments, Mr. Fann’s assumption violated TS 300, TS 400, and ET Section 56 by claiming twelve SERP payments to F.S. as a net change on Line 1 on the amended 2001 return, because the information available was incomplete and inconsistent. Mr. Fann’s claim of twelve SERP payments to F.S. in 2001 likely was incorrect. 35. Mr. Henschel’s March 9, 2001 letter only mentioned the DCP, which it erroneously called the SERP, and referred only to a single “calculation” performed by Mr. Wickstrom. Only a single check had been copied to F.S.’ attorney. The vertical spreadsheet on the third page of the facsimile, copy of the check to R.S. on the fourth page of the facsimile, and chart on the fifth page of the facsimile also erroneously referred to the DCP payment as a SERP payment. None of these documents referred to a second source of retirement benefits. 36. Mr. Field also pointed out that the federal marginal tax rate and Oregon effective tax rates on the sixth page of the facsimile were different from the rates on the third, fourth, and fifth pages of the facsimile. This inconsistency suggested that Mr. Wickham had generated the chart found at the sixth page of the facsimile at a later time and that the sixth page of the facsimile did not refer to tax year 2001. F.S. may have added the sixth page in her 2003 facsimile to Mr. Field through error or through an intent to maximize her refund. 37. Mr. Field testified that a reasonable and prudent CPA would have found additional information on when the SERP payments started and stopped, even if F.S. had represented verbally that she had received twelve payments, because there was nothing in the documents provided to indicate that F.S.’ representation was accurate. Mr. Fann had not exercised due diligence by multiplying by twelve that amount shown on Mr. Wickstrom’s calculations on the sixth page of the facsimile that F.S. had sent him on March 17, 2003. 38. Mr. Field testified that he concluded that the amended 2001 return that Mr. Fann filed significantly overstated F.S.’ income and the taxes paid by multiplying by twelve the SERP payment shown on the sixth page of F.S.’ March 17, 2003 facsimile. 39. The Board subsequently obtained R.S.’ W-2 forms for tax year 2001 from Mr. Wickstrom. The W-2 showed $43,077.20 as payment from the SERP, which was approximately twice the $21,539 monthly SERP payment shown on the sixth page of F.S.’ March 17, 2003 facsimile to Mr. Fann. Mr. Field testified that it appeared that the SERP payments to R.S. may have started in November 2001. 40. Mr. Field testified that he had concluded that there was no other W-2 for the SERP for the year 2001. It would have been unusual for a paying agent to issue more than one W-2 for the same income source and tax year. 41. Mr. Field testified that he had reviewed Mr. Fann’s file. It did not contain any documentation of any attempts to obtain additional information to support the net changes to income and taxes paid in the 2001 return. 42. Mr. Field testified that Mr. Henschel’s letter on the second page of the facsimile was dated March 9, 2001, which was barely nine weeks into tax year 2001. At that time, neither Mr. Wickstrom nor anyone else could have known R.S.’ income, rates for withholding taxes, or taxes that would actually be withheld or paid from his 2001 income for the year. 43. Mr. Field testified that the IRS’ payment to F.S. of the amount claimed as a refund on the 2001 amended return did not absolve Mr. Fann of responsibility for violating the Board’s standards because IRS practice in paying tax refunds does not supersede the Board’s standards. 44. Mr. Field testified that a client’s representations are important but do not supersede other information that is available. In this case, Mr. Fann had information available that should have caused him to question F.S.’ representations that she had received 12 SERP payments in 2001. Mr. Fann’s Defense 45. Mr. Fann has been practicing as a CPA since 1989. He worked for large accounting firm Deloitte and Touche. Since 1992, he has worked in his own public accounting firm, Paul M. Fann CPA, PC (formerly Brown & Fann, PC). 46. Mr. Fann is accredited in business valuations and financial forensics. His business consists primarily of a tax practice, with 70% of his business involving tax issues, 25% involving litigation, and 5% involving miscellaneous issues. Mr. Fann estimated that he has signed more than 20,000 returns during his career. Because Mr. Fann testifies as an expert in litigation, public discipline against his license would harm his practice more than it would others who were not employed regularly as experts in litigation. 47. Mr. Bellone worked for the IRS between 1988 and 1996, staring at the counter. Since 1997, he has been a principal in the firm Bellone & Bordeleau, CPA, PC, which specializes in preparation of tax returns for individuals and businesses. Mr. Bellone estimated that he prepares approximately 2,500 returns a year. Mr. Bellone still performs training for the IRS as part of his Continuing Professional Education requirements. 48. Mr. Fann provided his standard engagement letter to F.S., which she signed on July 31, 2003 and which provided in relevant part as follows: It is your responsibility to provide all the information required for the preparation of complete and accurate returns. You should retain all the documents, canceled checks, and other data that form the basis of income and deductions. These may be necessary to prove the accuracy and completeness of the returns to a taxing authority. You have the final responsibility for the income tax returns and, therefore, you should review them very carefully before you sign them. . . . .

In all matters that may be potentially challenged by the IRS, a Court, or others, we do not take responsibility for the degree of reasonableness of contrary positions that others may choose to take, nor for the costs that may be incurred in the defense of our judgments against challenge(s). . . .

49. F.S. personally filed the 2001 amended return. With the return, Mr. Fann provided a similar disclaimer to F.S., which she signed The Amount of Income Tax Withheld on the Amended 2001 Return 50. Mr. Fann disputed Mr. Field’s testimony that his file did not show any attempt to obtain additional information before he filed the amended 2001 return. He provided the following documents: (1) A letter dated February 5, 2003 from himself to F.S., which stated that he had had three short conversations with Mr. Wickstrom to obtain information necessary for the 2000 return, which concluded that, “[a]lthough it would be more cost effective and efficient for me to deal directly with Mr. Wickstrom to obtain information we need, I feel it necessary to redirect all future communication through you or [F.S.’ divorce attorney] as it relates to document requests from Mr. Wickstrom; (2) A memo dated March 31, 2003 from F.S. to Mr. Fann, which asked how preparation of her 2001 return was coming and that her “records indicate you needed [Mr. Wickstrom’s] calculations of the taxes paid on the SERP and the [DCP] which I believe has been faxed to you”; and (3) A letter dated April 4, 2003, from Mr. Wickstrom to Mr. Fann, stating that Mr. Wickstrom would provide a copy of R.S.’ 2000 return if Mr. Fann would provide a copy of F.S.’ 2000 return. 51. Mr. Fann testified that R.S. was a very wealthy individual with a high income. Although no one would want to pay taxes at the highest rate, people might chose to pay taxes at the highest rate to have a safe harbor and avoid the possibility of a penalty. Mr. Fann submitted R.S.’ draft 2000 return, which showed total income of more than $1.3 million and more than $300,000 in passive income. If a taxpayer overpaid, the excess taxes could be applied to the following year. 52. Mr. Fann submitted TS 100 and TS 200, which allowed members to rely upon information provided by their clients. 53. Mr. Bellone testified that he agreed that Mr. Fann should have filed an amended 2001 return for F.S. based on Mr. Roach’s April 5, 2005 letter. 54. The 2001 amended return that was submitted had been obtained from the IRS. It showed four IRS stamps: (1) A stamp indicating receipt on April 15, 2005 at “Wage & Investment, Phoenix, Arizona 85012”; (2) A stamp indicating Fresno dated April 28, 2005; (3) A stamp indicating “Accounts Management” dated April 29, 2005; and (4) a stamp indicating “Classification Control Unit” dated May 24, 2005. 55. The 2001 amended return also showed check marks to the left of line items 1 through 11. 56. Mr. Bellone testified that the April 15, 2005 stamp indicated that someone (presumably F.S.) had walked into the IRS office at 3rd St. and Earll in Phoenix to file the return. The April 28, 2005 stamp indicated that the amended return had been sent to Fresno, where the original return was stored. The April 29, 2005 stamp indicated that a determination had been made that there was enough information to process the amended return, as opposed to sending it to an auditor or revenue agent. 57. Mr. Bellone testified that a requested refund more than a certain amount triggers a higher level of internal review. Mr. Bellone testified that it appeared that the amended return also went through some kind of classification, based on Mr. Roach’s letter about a community property split as the result of a divorce action. All community property states except for Louisiana have similar laws. Mr. Bellone testified that the IRS would have manually calculated the return and verified R.S.’ information using the returns that he had filed. 58. Mr. Bellone testified that the check marks would have been in different colors and would have been made by the person at the service counter, who would have verified that each number was supported by a source document, such as a 1099 or W-2. 59. Mr. Fann submitted two letters from the IRS to F.S.: (1) A letter dated August 29, 2005, which notified F.S. that it had changed her account balance, based on the amounts of net change for income and taxes shown on lines 1 and 11 of the amended return, and an amount to be refunded of $37,190.48; (2) A letter dated November 3, 2006, responding to F.S.’ inquiry of September 28, 2006, which stated that a check in the amount of $40,915.05 had been issued to her on August 26, 2006. 60. Mr. Bellone testified that the increased amounts reflected interest that the IRS must pay on refunds. Since the IRS had paid the large refund to F.S., the process would have involved a managerial reviewer. Mr. Bellone testified that the IRS would have verified both the taxes paid by R.S. and the number of SERP payments made before paying F.S. such a large refund. 61. Mr. Bellone admitted that the copy of the check shown on the fourth page of F.S.’ March 17, 2003 facsimile to Mr. Fann did not show payment of the taxes claimed on the amended 2001 return. He would have claimed half of the $122,387 that was shown on the check to have been withheld from the gross amount. He would not have added $50,703 to the amount withheld, as Mr. Fann did, based on the number on the third page of the facsimile. 62. Mr. Bellone testified that the disclosure laws would have prevented Mr. Fann from obtaining R.S.’ tax information from the IRS. If Mr. Fann had filed a fraudulent tax return, in violation of IRS rules and regulations, he could have been liable for a penalty. The Amount of SERP Income Used to Calculate the Net Change to Income on the Amended 2001 Return

63. Mr. Fann submitted the 2003 W-2 for R.S. for the SERP payments, which showed a total of $258,463.20 having been paid. This amount is approximately 12 times the $21,539 shown on the sixth page of F.S.’ March 17, 2003 facsimile to Mr. Fann. 64. F.S. told Mr. Fann that she had received 12 SERP payments from R.S. in 2001. 65. Mr. Bellone testified that it was possible for more than one W-2 to be issued for the same income source and tax year. For example, his clients who work for the Paradise Valley Unified School District receive two W-2s for the same tax year because the district enters into two contracts with teachers for each school year. In addition, if a payor changes, more than one W-2 may be generated. 66. Mr. Bellone testified that he believed there were more W-2s for R.S.’ 2001 SERP payments, since the IRS had accepted F.S.’ claimed income for 12 SERP payments. Mr. Bellone testified that the IRS highly scrutinizes income claimed on taxes for bribery and improper money transfers. A refund in the amount paid to F.S. would have “gone through a lot of channels.” 67. Mr. Bellone admitted that it would have been very unusual for there to be more than one W-2 for the same retirement account from the same payor, as the Wachovia/U.S. Bancorp SERP account seemed to be. 68. Mr. Bellone testified that he would have wished to have R.S.’ actual W-2 form before filing the amended 2001 return for F.S. However, the last day to file the 2001 amended return was April 15, 2005, the day that F.S. filed it. Mr. Fann needed to file the amended return to protect the claim for a refund. 69. Mr. Bellone admitted that he had no personal knowledge about how the IRS had processed the amended 2001 return. 70. Mr. Bellone testified that, based on the sixth page of F.S. March 17, 2003 facsimile to Mr. Fann, he would have attributed only half of $21,539 for F.S.’ share of R.S.’ SERP. The category of “Net Payment After Income Taxes” in the amount of $11,936 bolstered the conclusion that only one payment had been made. He admitted that there was no indication on the sixth page that the payment was made monthly. If the client had told him under such circumstances that twelve payments had been made, he would have looked for additional information. 71. Mr. Bellone testified that the different percentages for federal and Oregon taxes shown on the sixth page of the facsimile and the third and fifth pages did not necessarily show that the tax rates were not for the same tax year. The higher rates could have been a progressive tax on a higher income. CHARGED AICPA TAX PRACTICE STANDARDS AND INTERPRETATIONS OF THE CODE OF PROFESSIONAL CONDUCT

1. TS Section 300 concerns “Certain Procedural Aspects of Preparing Returns” and provides in relevant part:

Statement

.02 In preparing or signing a return, a member may in good faith rely, without verification, on information furnished by the taxpayer or by third parties. However, a member should not ignore the implications of information furnished and should make reasonable inquiries if the information furnished appears to be incorrect, incomplete, or inconsistent either on its face or on the basis of other facts known to the member. . . . . . . .

Explanation

.06 The preparer’s declaration does not require a member to examine or verify supporting data. However, a distinction should be made between (a) the need either to determine by inquiry that a specifically required condition, such as maintaining books and records or substantiating documentation, has been satisfied or to obtain information when the material furnished appears to be incorrect or incomplete and (b) the need for a member to examine underlying information. In fulfilling his or her obligation to exercise due diligence in preparing a return, a member may rely on information furnished by the taxpayer unless it appears to be incorrect, incomplete, or inconsistent. Although a member has certain responsibilities in exercising due diligence in preparing a return, the taxpayer has the ultimate responsibility for the contents of the return. Thus, if the taxpayer presents unsupported data in the form of lists of tax information, such as dividends and interest received, charitable contributions, and medical expenses, such information may be used in the preparation of a tax return without verification unless it appears to be incorrect, incomplete, or inconsistent wither on its fact or on the basis of other facts known to a member.

2. TS Section 400 concerns the “Use of Estimates” and provides in relevant part: Statement

.02 Unless prohibited by statute or by rule, a member may use the taxpayer’s estimates in the preparation of a tax return if it is not practical to obtain exact data and if the member determines that the estimates are reasonable based on the facts and circumstances known to the member. . . .

Explanation . . . .

.06 Estimated amounts should not be presented in a manner that provides a misleading impression about the degree of factual accuracy.

.07 Specific disclosure that an estimate is used for an item in the return is not generally required; however, such disclosure should be made in unusual circumstances where nondisclosure might mislead the taxing authority regarding the degree of accuracy of the return as a whole. Some examples of unusual circumstances include the following: . . . .

c. There is litigation pending (for example, a bankruptcy proceeding) that bears on the return.

3. ET Section 56, Article V, which concerns “Due Care,” provides that due care “imposes the obligation to perform professional services to the best of the member’s ability with concern for the best interest of those for whom the services are performed and consistent with the profession’s responsibility to the public.” Subsection D of ET Section 201, “General Standards,” requires a member to “[o]btain sufficient relevant data to afford a reasonable basis for conclusions or recommendations in relation to any professional services performed.” CONCLUSIONS OF LAW The Board has been created and authorized to regulate and control the profession of Certified Public Accountancy in Arizona.[2] This matter lies within the Board’s jurisdiction. The Board bears the burden of proof to establish cause to discipline Mr. Fann’s CPA certificate and CPA firm registration under application statute and regulation by a preponderance of the evidence.[3] A preponderance of the evidence is “[t]he greater weight of the evidence, not necessarily established by the greater number of witnesses testifying to a fact but by evidence that has the most convincing force; superior evidentiary weight that, though not sufficient to free the mind wholly from all reasonable doubt, is still sufficient to incline a fair and impartial mind to one side of the issue rather than the other.”[4] Applicable regulation prohibits a certified public accountant from committing any “discreditable acts,” which include violation of any administrative regulation.[5] Applicable regulations incorporate by reference AICPA tax practice standards and ethical standards regarding due professional care.[6] The hearing testimony about what the IRS would have done or what it actually must have done after the amended tax return was filed was sheer speculation. No evidence was submitted about whether the IRS ever challenged or audited the 2001 amended return. Moreover, the reasonableness of a CPA’s preparation of a tax return must be gauged based on what was known at the time the return was filed, not through the lens of subsequent events, including payment of a substantial refund. Otherwise, the Board could not enforce its standards if the IRS did not challenge a tax return under its rules and regulations, which are distinct from the Board’s standards. The information and documentation upon which Mr. Fann relied for preparation of F.S.’ 2001 amended tax return was inconsistent and appeared to be incomplete, for the reasons that Mr. Field testified. The Board established that a reasonable CPA would not have relied upon this information without further enquiry. There is no evidence that Mr. Fann conducted such an enquiry. Rather, it appears that his evidence of enquiry related to F.S.’ 2000 and original 2001 return. Although it appears that Mr. Wickstrom and R.S. may not have been forthcoming in providing the information that a reasonable CPA would have required, Mr. Fann could have used the vehicle of the domestic relations court to obtain additional information. Mr. Fann’s failure to conduct a further inquiry calls into question his integrity and objectivity.[7] The Board therefore has borne its burden to establish at the hearing that Mr. Fann violated TS Section 300, TS Section 400, and ET Section 56 by stating on F.S.’ amended tax return for the year 2001 that R.S. had paid taxes at the highest incremental rate on the entire alleged amount of DCP and SERP payments. The Board also has borne its burden to establish that Mr. Fann violated TS Section 300, TS Section 400, and ET Section 56 by stating on F.S.’ amended tax return for the year 2001 that F.S. had received SERP payments in the amount of $129,234. The late date of Mr. Roach’s opinion letter does not justify Mr. Fann’s preparation of the 2001 amended return on such unreliable information. Mr. Fann knew about the issues in the amended return at the latest on March 17, 2003, when he received F.S.’ facsimile. Even if exigent circumstances existed, such circumstances would not excuse violation of professional standards and regulations. Mr. Fann’s violations of applicable regulations and AICPA standards constitute discreditable acts, which provide grounds for discipline.[8] The Board may discipline a certificate granted under its statutory authority after hearing if it has established that the registrant committed a knowing violation of a rule adopted by the Board.[9] Under applicable regulation, registrants such as Mr. Fann are deemed to have knowledge of the rules.[10] The Board also may discipline a firm’s registration for the same reasons that allow it to discipline an individual registrant’s certificate.[11] RECOMMENDED ORDER Based on the foregoing, it is recommended that the Board issue a decree of censure under A.R.S. § 32-701(6)(d) against Certified Public Accountant Certificate No. 4557-E and Certified Accounting Firm Registration No. 2100-C, previously issued to Respondent Paul M. Fann and Paul M. Fann, CPA, PC. It is further recommended that the Board require Mr. Fann to reimburse it for the costs of its investigation and Mr. Field’s hearing testimony relating solely to Mr. Fann’s preparation of F.S.’ 2001 amended return. Done this day, March 2, 2010.

/s/ Diane Mihalsky Administrative Law Judge

Transmitted electronically to:

Monica L. Petersen, Executive Director Arizona State Board of Accountancy ----------------------- [1] The numbers on the right side of the decimal are illegible and are omitted. [2] See A.R.S. § 32-701 et seq. [3] See A.R.S. § 41-1092.07(G)(2); A.A.C. R2-19-119; see also Vazanno v. Superior Court, 74 Ariz. 369, 372, 249 P.2d 837 (1952). [4] Black’s Law Dictionary at page 1220 (8th ed. 1999). [5] See A.A.C. R4-1-455.03(A)(3). [6] A.A.C R4-1-455.01(G) and A.A.C. R4-1-455.04. [7] See A.A.C. R4-1-455(B), which provides as follows: Integrity and objectivity. Certified public accountants, public accountants, or firms shall not knowingly or recklessly misrepresent facts when engaged in the practice of public accounting . . . . In tax practices, certified public accountants or public accountants may resolve doubt in favor of their client as long as there is reasonable support for their position. [8] See A.A.C. R4-1-455.03(A)(1) and (3). [9] A.R.S. § 32-741(A)(9). [10] A.A.C. R4-1-102(A). [11] A.R.S. § 32-742(B)(1) and (2).

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