This series of frequently asked questions (FAQs) explains several privileges and protections that are relevant to a CPA who provides tax services, including the concept of attorney-client privilege, its implication on CPAs, and the use of Kovel arrangements in the course of client representation.
For additional information on the level of client privilege that is afforded to tax practitioners, see Overview of the Federally Authorized Tax Practitioner – Client Privilege Under Sec. 7525.
Historically, the attorney-client privilege was recognized to ensure that those seeking advice from an attorney could do so without fear that their frank discussions would be revealed. The attorney-client privilege is a rule of evidence, and it fosters the provision of legal advice and advocacy ensuring that an attorney not be compelled to testify or otherwise disclose matters conveyed in confidence by the attorney’s client. Similarly, the client cannot be compelled to testify or otherwise disclose matters communicated to the attorney for purposes of seeking legal advice.
There are exceptions and limitations to the attorney-client privilege; therefore, the scope and application of the privilege may be limited. The determination of whether any particular communication and/or document is protected from disclosure by the attorney-client privilege generally is a legal matter. As such, it may be necessary to consult with counsel in evaluating the scope and application of the privilege in a particular case. Therefore, members should avoid giving any assurances to their clients regarding the applicability of the privilege to any particular situation.
The scope and application of the attorney-client privilege is generally a matter of state law, and each state and the District of Columbia has its own authority regarding the doctrine’s application. Generally, however, the attorney-client privilege applies: (1) when legal advice is sought, (2) to communications made to an advisor in his or her capacity as an attorney, (3) when the communication relates to facts of which an attorney was informed by his or her client without outsiders present for the purpose of securing either (a) advice or an opinion on the application of law, (b) legal services, or (c) advocacy.
The privilege is not available if advice is sought for the purpose or furtherance of committing a crime or tort, and the privilege cannot have been waived by the client.
In brief, for the privilege to apply there must have been communication: (1) between the attorney and the client, (2) in confidence, and (3) made in furtherance of the attorney-client relationship.
The privilege generally applies to confidential communications made by a client to an attorney in order for the client to obtain legal advice or assistance in the attorney’s capacity as a legal advisor and in furtherance of the representation. The privilege is unlikely to protect communication outside a professional relationship. For example, communication between an attorney and his or her friend while at lunch is likely not privileged unless there is a formal advisor-client relationship between the two.
Only communication that was intended to be, and in fact was, confidential will be protected by the attorney-client privilege. Also, only information given to the attorney in furtherance of the legal representation is protected. If the underlying information is available from another source, it generally would not be considered confidential and, therefore, would not be privileged.
The attorney-client privilege has several limitations that significantly impact its availability. Because the client, not the attorney, retains the privilege, it is the client’s privilege to assert or to waive.
Where a client does not intend the communication to be confidential and a third party witnesses the communication, this will likely cause a waiver of any attorney-client privilege. Similarly, if the confidential communication is later disclosed to a third party, the privilege may be waived or forfeited, even if such disclosure was unintentional.
Where a client seeks legal advice from an attorney in furtherance of a crime or fraud or in the concealment of a crime or fraud after the fact, the communication is not protected from disclosure and is not privileged. Similarly, if a client seeks to cover up a crime or fraud, that communication would not be protected.
If two parties were both represented by the same attorney, in subsequent litigation regarding the subject matter of the joint representation, neither client may assert attorney-client privilege against each other in such litigation.
Also, while labeling a document as “privileged and confidential” or the like may show intent that the advice be protected, such labels, or the absence thereof, are not conclusive in determining privilege.
The concept of privilege is afforded to individuals engaged in a formal attorney/client relationship in many legal matters including tax. In addition, a certain level of privilege is afforded to tax practitioners under Sec. 7525, Confidentiality privileges relating to taxpayer communications.
However, privilege does not ordinarily extend to communications between an attorney and taxpayer client relating to the preparation of a tax return, as tax returns are intended to be disclosed to a third party (i.e., a tax authority such as the IRS). See U.S. vs. Cote, 456 F.2d 142 (8th Cir. 1972) and U.S. vs. Gurtner, 474 F.2d 297 (9th Cir. 1973). It is unclear, however, exactly where the line between tax return preparation and tax advice is drawn.
It may be clear that certain communication between a taxpayer client and attorney are not intended for disclosure to the tax authority, such as the persuasiveness of contrary arguments or assessment of anticipated IRS responses to a proposed transaction. Other communication between a taxpayer client and attorney during the course of actually preparing a tax return is clearly intended to be disclosed to the tax authority when the return is filed.
There is likely a large category of tax advice where the implication of the tax return preparation rule is less clear. An attorney may provide advice to a client with respect to a transaction that occurred mid-tax year. The client will consider the conclusions of the advice when it reports the tax effects of the transaction on its federal tax return. There is no clear rule as to whether a court may regard the written advice as tax return preparation, and it likely depends in part on other uses for the advice. It is clear, however, that if a taxpayer voluntarily discloses the advice to the tax authority, for example, in order to support the treatment of a position on a return, it is no longer protected by the privilege.
If a tax authority requests access to privileged files, the relevant client(s) should be notified as soon as practicable so that such client(s) can take steps to assert the privilege if deemed appropriate. An attorney may confer with a client before providing confidential information to the tax authority or government authority in order to provide the client with an opportunity to consider whether to claim privilege, as well as consider whether there may have been an inadvertent waiver of the privilege.
A Kovel arrangement may extend the attorney-client privilege to an accountant’s communications that were “made in confidence for the purpose of obtaining legal advice from the lawyer.” See U.S. vs. Adlman, 68 F.3d 1495 (2d Cir. 1995).
Under the case of U.S. vs. Kovel (296 F.2d 918 (2d Cir. 1961)), it is possible for the attorney-client privilege to be extended to non-lawyer consultants such as accountants who might be retained by a client’s lawyers. It is important to note, however, that the Kovel case is the opinion of one federal circuit court of appeals, and its application is not a certainty.
In a typical Kovel-type arrangement, an engagement is established between the lawyer, the accountant, and the client. In considering a Kovel-type arrangement, it should be noted that a client cannot obtain attorney-client privilege protection merely by using an attorney as an intermediary. The Kovel engagement letter must provide each party’s role, particularly that the accountant’s work generally will be performed under the direction of the attorney.
Where there is a pre-existing relationship between the accountant and the client, it can become more challenging to support the notion that the accountant was hired by the attorney to assist the attorney with legal work. In such a case, the attorney may seek out and engage a new accountant; this helps to ensure that the accountant is working for the attorney and ensures bright lines to indicate information learned by the accountant during the course of the legal representation rather than information a longstanding accountant might have otherwise known. Moreover, to further evidence a Kovel arrangement, the attorney may pay the accountant’s fees or, at a minimum, approve any fees before payment.
In any case where a client is seeking to protect an accountant’s advice under Kovel, however, such protection is uncertain, even where the parties have entered into a formal agreement. Members should be aware of the limitations of any intended Kovel arrangement.
There is no definitive set of facts and circumstances which would dictate the use of a Kovel arrangement. Every client situation is unique and competent legal advice should be obtained, along with a discussion with the CPA’s professional liability insurance carrier.
Pursuing the use of a Kovel arrangement is appropriate for an attorney who seeks the assistance of a non-attorney professional to provide technical advice to help facilitate the attorney’s representation of the client.
Some examples include when an attorney retains assistance from:
- An economist in a transfer pricing tax matter
- A CPA with regard to a research and development tax credit analysis, including an analysis regarding which expenses would be qualified research expenses
- A CPA for a client being investigated for tax fraud
- A CPA for an internal audit
Once again, there is no bright-line test as to when to reject a Kovel arrangement. Some examples as to when a Kovel arrangement may not be appropriate include:
Where the underlying communications between the attorney and the client is not protected from disclosure by the attorney-client privilege. In this instance, a Kovel will not provide any protection. For example, if the communication relates to the preparation of a tax return, even a Kovel arrangement generally will offer no protection.
If a non-attorney professional learns facts or has communication with a taxpayer outside a Kovel arrangement, entering into a Kovel arrangement with an attorney after the fact generally will not provide attorney-client protection.
If the information sought to be protected under a Kovel arrangement was shared with a third party (not a party to a Kovel), any privilege claim likely would have been waived and cannot thereafter be protected.
If, during an examination by a tax authority, a request is made, such as through an Information Document Request (IDR) by the IRS for documents or testimony, the taxpayer may claim that some or all of the sought information is protected from disclosure under privilege. Taxpayers generally cannot make a blanket claim of privilege but, rather, may be required to provide a privilege log (containing, e.g., the types of documents, authors, recipients, date created, type of privilege, or protection claimed) and affidavits affirming to the fact that the documents are confidential or were prepared in anticipation of litigation and that any applicable privilege has not been waived.