Unenrolled preparers

Among all the tax practitioners, unenrolled preparers generally have the least amount of training, and more of them work part time. H&R Block is the largest and most well-known tax-preparation firm in the country. In addition, other national firms and plenty of mom and pop shops are in the tax-preparation business.

The appeal of preparers is that they’re tend to be relatively less costly than the other major categories — they can do basic returns for $150 or so. The drawback is that you may hire a preparer who doesn’t know much more than you do! As with financial planners, no national regulations apply to tax-return preparers, and no licensing is required, although this may change in the future. Several states (for example, California, Maryland, New York, and Oregon) require licensing of such tax preparers. In most states, almost anybody can hang a tax-preparation shingle and start preparing. Most preparers, however, complete some sort of training program before working with clients.

Preparers make the most sense for folks who don’t have complicated financial lives, who are budget-minded, and who dislike doing their own taxes. If you aren’t good about hanging on to receipts or don’t want to keep your own files with background details about your taxes, you definitely need to shop around for a tax preparer who’s going to be around for a few years. You may need all that paperwork someday for an audit, and some tax preparers keep and organize their clients’ documentation rather than return everything each year. (Can you blame them for keeping your records after they go through the tedious task of sorting them all out?) Going with a firm that’s open year-round may also be safer, in case tax questions or problems arise. (Some small shops are open only during tax season.)

Enrolled agents

A person must pass IRS scrutiny to be called an enrolled agent (EA). This license enables the agent to represent you before the IRS in the event of an audit. The training to become an EA is longer and more sophisticated than that of an unenrolled preparer. Continuing education also is required; EAs must complete at least 16 hours of continuing education each year (and 72 hours per three years) to maintain their licenses, which are renewed every three years. Some EAs offer bookkeeping and payroll tax services, and some even do financial planning.

Enrolled agents’ fees tend to fall between those of a preparer and a certified public accountant (I discuss CPAs in the next section). If you require tax return preparation and related advice and representation, and nothing more (no corporate audits or production of financial reports), an EA can provide the expertise you need for a reasonable cost.

The main difference between enrolled agents and CPAs and tax attorneys is that EAs work exclusively in the field of taxation. Not all CPAs and attorneys do. In addition to preparing your return (including simple to complex forms), good EAs can help with tax planning, represent you at tax audits, and keep the IRS off your back. You can find names and telephone numbers of EAs in your area by contacting the National Association of Enrolled Agents (toll-free 855-880-6232; www.naea.org).

Certified public accountants

Certified public accountants (CPAs) go through significant training and examination to receive the CPA credential. To maintain this designation, a CPA must complete 40 hours of continuing education classes per year.

As with any other professional service you purchase, CPA fees can vary tremendously. Expect to pay more if you live in an area with a high cost of living, if you use the services of a large accounting firm, or if your needs are involved and specialized.

Competent CPAs are of greatest value to people completing some of the more unusual and less user-friendly schedules, such as Schedule K-1 of Form 1065 for partnerships. CPAs also are helpful for people who had a major or first-time tax event during the year, such as the child-care tax-credit determination. (Good EAs and other preparers can handle these issues as well.) CPA firms are often a good choice for business owners because they’re usually larger than EA firms and can offer software services beyond tax and bookkeeping, such as computer consulting.

Whenever your return is uncomplicated and your financial situation is stable, hiring a high-priced CPA year after year to fill in the blanks on your tax returns is a waste of money. A CPA once bragged to me that he was effectively making more than $500 per hour from some of his clients’ returns that required only 20 minutes of an assistant’s time to complete.

However, paying for the additional cost of a CPA on an ongoing basis makes sense if you can afford it and if your financial situation is reasonably complex or dynamic. If you’re self-employed and/or you file many other schedules, hiring a CPA may be worth it. But you needn’t do so year after year. If your situation grows more complex one year and then stabilizes, consider getting help for the perplexing year and then using other preparation resources discussed in this chapter or a lower-cost preparer or enrolled agent in the future.

If you desire more information about CPAs in your area, use the “For the Public” link on the American Institute of Certified Public Accountants’ website at www.aicpa.org/forthepublic/findacpa.html. If you’re considering hiring a CPA, be sure to ask how much of his or her time is spent preparing individual income tax returns and returns like yours.

Tax attorneys

Unless you’re a super-high-income earner with a complex financial life, hiring a tax attorney to prepare your annual return is prohibitively expensive. In fact, many tax attorneys don’t prepare returns as a normal practice. Because of their level of specialization and training, tax attorneys tend to have high hourly billing rates — $200 to $400-plus per hour isn’t unusual, and rumor has it that some attorneys in a major metropolitan area have just crossed the $1,000-per-hour threshold.

Tax attorneys sometimes become involved in court cases dealing with tax problems, disagreements, or other complicated matters, such as the purchase or sale of a business. However, other good tax advisors also can help with these issues.

Who’s best qualified?

Who is best qualified to prepare your return? That really depends on the individual you want to hire. The CPA credential is just that, a credential. Some people who have the credential try to persuade you not to hire someone without it.

Some tax-preparation books perpetuate the myth that only a CPA can do your taxes. In one such book, in a chapter about choosing a tax preparer, the authors warn that you shouldn’t choose an accountant casually and note that there are more than 300,000 certified public accountants. These authors then recommend that you ask a potential preparer, “Are you a certified public accountant?” (As you may have guessed, the firm behind the book is a large CPA company.)

What about all the non-CPAs, such as EAs, who do a terrific job helping prepare their clients’ returns and tax plans throughout the year?

If you can afford to and want to pay hundreds of dollars per hour, hiring a large CPA firm can make sense. But for the vast majority of taxpayers, spending that kind of money is unnecessary and wasteful. Many EAs and other tax preparers are out there doing outstanding work for less.

The more training and specialization a tax practitioner has (and the more affluent the clients), generally the higher the hourly fee. Select the tax pro who best meets your needs. Fees and competence at all levels of the profession vary significantly. If you aren’t sure of the quality of work performed and the soundness of the advice, get a second opinion.

What tax services do you offer?

Most tax advisors prepare tax returns. I use the term tax advisors because most tax folks do more than simply prepare returns. Many advisors can help you plan and file other important tax documents throughout the year. Some firms can also assist your small business with bookkeeping and other financial reporting, such as income statements and balance sheets. These services can be useful when your business is in the market for a loan or if you need to give clients or investors detailed information about your company.

As a small business owner, you should seek out tax advisors who work with a large number of small businesses. This should comprise a significant portion of their practice.

Ask tax advisors to explain how they work with clients. You’re hiring the tax advisor because you lack knowledge of the tax system. If your tax advisor doesn’t explore your situation, you may experience “the blind leading the blind.” A good tax advisor can help you make sure that you don’t overlook deductions or make other costly mistakes that may lead to an audit, penalties, and interest. Beware of tax preparers who view their jobs as simply plugging your information into tax forms.

What are your particular areas of expertise?

This question is important because you want to find an advisor who’s a good match for your situation. For example, if a tax preparer works mainly with people who receive regular paychecks from an employer, the preparer probably has little expertise in helping small business owners best complete the blizzard of paperwork that the IRS requires.

Find out what expertise the tax advisor has in handling whatever unusual financial events you’re dealing with this year — or whatever events you expect in future years. For example, if you need help completing an estate tax return for a deceased relative, ask how many of these types of returns the tax preparer has completed in the past year. About 15 percent of estate tax returns are audited, so you don’t want a novice preparing one for you.

What other services do you offer?

Ideally, you want to work with a professional who is 100 percent focused on taxes. I know it’s difficult to imagine that some people choose to work at this full time, but they do — and lucky for you!

A multitude of problems and conflicts of interest crop up when a person tries to prepare tax returns, sell investments, and appraise real estate all at the same time. That advisor may not be fully competent or current in any of those areas.

By virtue of their backgrounds and training, some tax preparers also offer consulting and financial planning services for business owners and other individuals. Because such preparers already know a great deal about your personal and tax situation, they may be able to help in these areas. Just make sure that this help is charged on an hourly consulting basis. Avoid tax advisors who sell financial products that pay them a commission — this situation inevitably creates conflicts of interest.

Who will prepare my return?

If you talk to a solo practitioner, the answer to this question should be simple — the person you’re talking to should prepare your return. But if your tax advisor has assistants and other employees, make sure that you know what level of involvement these different people will have in the preparation of your return.

It isn’t necessarily problematic if a junior-level person does the preliminary tax return preparation that your tax advisor reviews and finalizes. In fact, this procedure can save you money in tax-preparation fees if the firm bills you at a lower hourly rate for a junior-level person.

Be wary of firms that charge you a high hourly rate for a senior tax advisor who then delegates most of the work to a junior-level person.

How aggressive or conservative are you regarding interpreting tax laws?

Some tax preparers, unfortunately, view their role as enforcement agents for the IRS. This attitude often is a consequence of one too many seminars put on by local IRS folks, who admonish and sometimes intimidate preparers with threats of audits.

On the other hand, some preparers are too aggressive and try tax maneuvers that put their clients on thin ice — subjecting them to additional taxes, penalties, interest, and audits.

Assessing how aggressive a tax preparer is can be difficult. Start by asking what percentage of the preparer’s clients gets audited (see the next question). You can also ask the tax advisor for references from clients for whom the advisor helped unearth overlooked opportunities to reduce tax bills.

What’s your experience with audits?

As a benchmark, you need to know that the IRS audits about 1 percent of all taxpayer returns. Small business owners and more affluent clients can expect a higher audit rate — somewhere in the neighborhood of 2 percent to 4 percent.

If a tax preparer proudly claims no audited clients, be wary. Among the possible explanations, any of which should cause you to be uncomfortable in hiring such a preparer: She isn’t telling you the truth, she has prepared few returns, or she’s afraid of taking some legal deductions, so you’ll probably overpay your taxes.

A tax preparer who has been in business for at least a couple of years will have gone through audits. Ask the preparer to explain her recent audits, what happened, and why. This explanation sheds light not only on her work with clients but also on her ability to communicate with you in plain English.

How does your fee structure work?

Tax advisor fees, like attorney and financial planner fees, are all over the map — from about $50 to $300 or more per hour. Many preparers simply quote you a total fee for the preparation of your tax return.

Ultimately, the tax advisor charges you for time, so you should ask what the hourly billing rate is. Alternatively, you can ask him how many hours of work he is assuming it will take to complete your tax return. If the advisor balks at answering such questions, try asking what his fee is for a one-hour consultation. You may want a tax advisor to work on this basis if you’ve prepared your return yourself and want it reviewed as a quality-control check. You also may seek an hourly fee if you’re on top of your tax preparation in general but have some specific questions about an unusual or one-time event, such as making some major purchases for your business or possibly selling your business.

Clarify whether the preparer’s set fee includes follow-up questions that you may have during the year or covers IRS audits on the return. Some accountants include these functions in their set fee, but others charge for everything on an as-needed basis. The advantage of the all-inclusive fee is that it removes the psychological obstacle of your feeling that the meter’s running every time you call with a question. The drawback can be that you pay for additional services (time) that you may not need or use.

What qualifies you to be a tax advisor?

Tax advisors come with a variety of backgrounds. The more tax and business experience they have, usually the better. But don’t be overly impressed with credentials. As I discuss earlier in this chapter, tax advisors can earn certifications such as CPAs and EAs. Although gaining credentials takes time and work, these certifications are no guarantee that you get quality, cost-effective tax assistance or that you won’t be overcharged.

Generally speaking, more years of experience are better than fewer, but don’t rule out a newer advisor who lacks gray hair or who hasn’t yet slogged through thousands of returns. Intelligence and training can easily make up for less experience.

Newer advisors also may charge less to build up their practices. Be sure, though, that you don’t just focus on each preparer’s hourly rate (which of course can change over time). Ask each practitioner you interview how much total time she expects your tax return to take. Someone with a lower hourly fee can end up costing you more if she’s slower than a more experienced and efficient preparer with a higher hourly rate.

Do you carry liability insurance?

If a tax advisor makes a major mistake or gives poor advice, it could cost you thousands of dollars. The greater your income, assets, and the importance of your financial decisions, the more financial harm that can be done.

Even my presuming that you’re not a litigious person, your tax advisor needs to carry what’s known as errors and omissions or liability insurance. You can, of course, simply sue an uninsured advisor and hope the advisor has enough personal assets to cover a loss, but don’t count on it. Besides, you’ll have a much more difficult time getting due compensation that way!

You may also ask the advisor whether he has ever been sued and how the lawsuit turned out. Asking this type of question doesn’t occur to most people, so make sure that you tell your tax advisor that you’re not out to strike it rich on a lawsuit!

Another way to discover whether a tax advisor has gotten into hot water is by checking with appropriate professional organizations to which that preparer may belong. You can also check whether any complaints have been filed with your local Better Business Bureau (BBB), although this is far from a foolproof screening method. Most dissatisfied clients don’t bother to register complaints with the BBB, and you should also know that the BBB is loath to retain complaints on file against companies that are members.

Can you provide references of clients similar to me?

You need to know that the tax advisor has handled cases and problems like yours. For example, if you’re a small business owner (and I assume that by picking up this book, you either are or want to be), ask to speak with other small business owners. But don’t be overly impressed by tax advisors who claim that they work mainly with one occupational group, such as retailers or physicians. Although there’s value in understanding the nuances of a profession, tax advisors are ultimately generalists — as are the tax laws.

When speaking with a tax advisor’s references, be sure to ask what work the advisor performed and what the client’s satisfaction was with it.