Daniel H. Markstein, III
President

(b) Authority to disqualify. The Secretary of the Treasury, or his or her delegate, after due notice and opportunity for hearing, may disqualify any appraiser with respect to whom a penalty has been assessed under section 6701(a). 

(l) If any appraiser is disqualified pursuant to this subpart C, such appraiser is barred from presenting evidence or testimony in any administrative proceeding before the Department of Treasury or the Internal Revenue Service, unless and until authorized to do so by the Director of Practice pursuant to section 10.81, regardless of whether such evidence or testimony would pertain to an appraisal made prior to or after such date. 

(2) Any appraisal made by a disqualified appraiser after the effective date of disqualification will not have any probative effect in any administrative proceeding before the Department of the Treasury or the Internal Revenue Service. An appraisal otherwise barred from admission into evidence pursuant to this section may be admitted into evidence solely for the purpose of determining the taxpayer's reliance in good faith on such appraisal.

Appraiser Penalties

New section 6695A, as added by the Act, imposes a penalty on an appraiser who prepares an appraisal that he or she knows (or reasonably should have known) would be used in connection with a return or a claim for refund, if the appraiser's conclusion as to the value of a property results in either a substantial valuation misstatement of income tax within the meaning of section 6662(e) or a gross valuation misstatement of any tax within the meaning ofsection 6662(h). 

A substantial valuation misstatement can occur only with respect to an income tax return. In general, it occurs if the value of any property claimed on such return is 150% or more of the amount determined to be the correct amount of such property. For example, if a taxpayer donates a painting to a museum, claims on his or her return that the value of the painting was $100X and the value is determined to be $66.66X, a substantial valuation misstatement will have occurred.^[6]

A gross valuation misstatement can occur with respect to an estate, gift or generation-skipping transfer tax (a "transfer tax return") return as well as an income tax return. In general, it occurs with respect to an income tax return if the value of any property claimed on such return is 200% or more of the amount determined to be the correct amount of such property. For example,if a taxpayer donates a painting to a museum, claims on his or her return that the value of the painting was $1 OOX and the value is ultimately determined to be $50X, a gross valuation misstatement will have occurred.^[7]

In the case of a transfer tax return, it occurs if the value of any property claimed on such return is 50% or less than the value determined to be the correct value. For example, if a taxpayer makes a taxable gift of a painting, claims on his or her gift tax return that it was worth $100X and the value of the painting is determined to be $200X, a gross valuation misstatement will have occurred.^[8]

Although a gross valuation misstatement may occur with respect to a transfer tax return, it is unclear that such misstatement can give rise to an appraiser penalty under section 6695A. This is so because section 6696 defines “return” and “claim for refund” for purposes of section 6695A as a return of any tax imposed by Subtitle A and a claim for refund of any tax imposed by Subtitle A. The transfer taxes are imposed by Subtitle B.^[9]

The only method that an appraiser has to obtain relief from an appraiser's penalty section 6695A is to persuade Treasury that the value established in his or her appraisal “was more likely than not the proper value.”^[10]

Appraiser Blacklisting

Section 330(c) of Title 31 of the United States Code, as amended by the Act, permits Treasury to direct that no appraisal completed by the appraiser have any probative effect in any proceeding before Treasury or the IRS and to prohibit the appraiser from testifying before Treasury or the IRS without regard to whether a penalty has been imposed against him or her under Code §6701(a) or under any other section. Indeed, section 330(c) of Title 31 provides no standards for Treasury to use in determining whether to use section 330(c) of Title 31 against a particular appraiser. All that is required is notice and an opportunity for a hearing.

A.     Regulations Under Section 6695A.

1.     The More-Likely-Than-Not Standard

We believe that section 6695A should be construed to permit a waiver of the penalty if the Secretary determines that the appraiser reasonably and in good faith believed that the appraised value was more likely than not proper. A construction that required a factual determination that the appraised value was more likely than not proper would establish a standard that would be virtually impossible to meet. 

In order for the penalty to apply, there must be a determination that the correct value is at least 33% less than (for income tax purposes) or at least 50% greater than (for estate or gift tax purposes) the appraiser's value. Once the correct value has been finally determined, it is difficult, if not impossible, for an appraiser to argue that a significantly different valuation was more likely than not the proper value. The value that was found to be correct was presumptively the value that was more likely than not to be found proper. After failing to win the valuation argument, the appraiser is unlikely to be able to establish that him or her valuation was more likely than not the proper valuation. Accordingly, we believe that, as with other parts of the Code, the “more-likely-than-not” standard in section 6695A means or should be construed to mean a belief that the appraised value was more-likely than not correct. (See, e.g., section 6662(d)(2)(C)(i)(II) prior to amendments made by P.L. 108-357; Treas. Reg. § 1.6664-4(f)(2)(i){B).)

If construed otherwise, section 6695A could interfere inappropriately with the judicial process. Consider an appraiser who believes that there is substantial support for a valuation method. He or she believes that it is more likely than not to be sustained by the courts. Even if he or she were to conclude that the probability of success was fifty-one percent, he or she might well refuse the engagement based on a fear of triggering the penalty. And if other appraisers were similarly intimidated, the taxpayer would be denied an opportunity to offer evidence of a method having a fifty-one percent probability of success. Whenever litigants are precluded from making a legal argument in court, serious constitutional, as well as policy, issues are implicated.^[11] We suggest that it is important to avoid a construction of section 6695A that would tend to close the courthouse door on arguments having such a substantial probability of success. 

Imposing a more-likely-than-not standard on appraisers without regard to their states of mind not only threatens the judicial process but is also inconsistent with provisions applicable to practitioners under Circular 230. The more-likely-than not standard in section 6695A should be contrasted with the much less rigorous not-frivolous and reasonable-basis standards in section 10.34 of Circular 230. It should also be contrasted with the more-likely-than-not standard under section 10.35 of the Circular. Under section 10.35, the more-likely-than-not standard does not pose a threat to the judicial process. It does not, in other words, preclude a taxpayer from defending the taxpayer's substantive position in court. Rather, as a practical matter, it merely renders them unable to invoke the professional-advice defense under section 6664 to a section 6662 penalty should the argument on the substantive position fail. 

For these reasons, we suggest that the more-likely-than-not standard insection 6695A be construed to apply only when the appraiser could not have reasonably and in good faith concluded that the position taken in the appraisal was more likely than not the correct result. Thus, in the example described above, assuming that the appraiser could not reasonably and in good faith conclude that the probability of success was greater than fifty percent, the penalty could apply. On the other hand, if he or she could reasonably reach a more-likely-than-not conclusion, the penalty should not apply even if the appraisal is rejected in court. Any interpretation of section 6695A that failed to consider the appraiser's state of mind would make no sense. Indeed, a more-likely-than standard is unintelligible if not tethered to the appraiser's state of mind. For, once the court rejects the appraiser's valuation, it is no longer possible to consider the likelihood of the success of such valuation unless one adopts a test that excludes the actual outcome and focuses instead on what a reasonable appraiser would have thought about the likelihood of success. 

Therefore, we think that the section 6695A penalty should be waived if the appraiser establishes that he or she reasonably and in good faith believed that the appraised value was more likely than not correct. Such a rule would mean that the appraiser would be subject to the penalty if the appraiser intentionally, recklessly, or incompetently determined the appraised value. For example, an appraiser who uses an obviously incorrect valuation method to value an asset (e.g., values an operating business solely on the basis on the value of the assets of the company and without regard to the earnings or cash flow of the business) would be subject to the penalty. 

If our recommendation that the penalty be imposed only when the appraiser fails to establish that she reasonably and in good faith believed the value was more likely than not correct is rejected, we respectfully request that you issue regulations that describe the kinds of factors that would need to be shown by an appraiser in order to establish to the satisfaction of Treasury that the appraised value was more-likely than not the proper value.

2.     Reliance on Representations From Others

We also believe that Treasury regulations should specifically address the issue of the appraiser's reliance on representations of others. The three circumstances in which we think that guidance should be provided are described below.

a.  The appraiser has relied on advice of legal counsel to the taxpayer that none of the special valuation rules of Chapter 14 of subtitle B of Title 26 applies. For example, the appraiser has been engaged to value for federal gift tax purposes common stock in a closely held business that has been transferred by the taxpayer to his or her child as a gift. Legal counsel to the taxpayer advises the appraiser that section 2701 of the Code (providing a statutory rule of valuation which differs from the “willing buyer-willing seller” valuation method normally used for federal gift tax purposes under Treas. Reg. § 25.2512-1) does not apply. Reliance on other legal advice, such as advice relating to title, and rights and obligations with respect to the property being appraised) presents the same kind of issue.

b.   The appraiser has relied, in part, on an appraisal provided by another appraiser. For example, an appraiser is asked to appraise, for federal estate tax purposes, stock in a closely-held operating business which owns real estate. The appraiser determines that both the capitalization of income and net asset value approaches should be considered to determine the value of the stock. The appraiser of the stock is not an expert in appraising real estate. The appraiser asks taxpayer's attorney to obtain an appraisal of the land from a knowledgeable appraiser of real estate. The attorney engages a knowledgeable appraiser of real estate who provides a written estimate of the land's fair market value using willing buyer/willing seller valuation method normally used for federal gift tax purposes under Treas. Reg. § 25.2512-1. The appraiser of the stock relies on the estimate offair market value of the real estate in determining the value of the business. It develops that the value of the stock, in fact, is 250% more than the appraised value in part because the value of the land was underestimated.

c.   The appraiser, despite the exercise of reasonable due diligence received inaccurate or incomplete information about the assets income, liabilities or other relevant circumstances from the taxpayer or any employees or agents of the taxpayer.

In all of the situations described above, we suggest that so long as the appraiser had no reason to believe that the information that he or she received from the attorney, from the other appraiser or from the taxpayer or his agents was incorrect, she should not be subject to the penalty under section 6695A to the extent that he or she can show that the valuation misstatement would not have occurred if information that he or she had received from others had been correct.

B.     Blacklisting of Appraisers

We also suggest that section 10.50(b) of Circular 230 be amended in one of the following two ways.

1.   If you adopt our suggestion that the penalty under section 6695A of the Code should be imposed only if the appraiser does not establish that he or she reasonably and in good faith believed that the appraised value was more likely than not proper (the “reasonable and in good faith” test). we suggest the amendment of section 10.50(b) to provide that a proceeding to blacklist an appraiser pursuant to section 10.50(b) should be commenced only if that penalty under section 6695A was imposed against the appraiser.

2.   If you do not adopt our suggestion that the penalty under section 6695A of the Code should be imposed only if the appraiser does not meet the reasonable and in good faith test, we suggest the amendment of section 10.50(b) to set forth the criteria that the Secretary will use to determine that an appraiser will be blacklisted.

We also think that an appraiser should be subject to blacklisting only if the Internal Revenue Service can establish that the appraiser has demonstrated a pattern of providing incorrect appraisals knowingly, recklessly or as a result of the appraiser's gross negligence. A requirement of such a showing, we believe,is consistent with the rules of disciplining a Practitioner (within the meaning of section 10.2(e) of Circular 230) for giving incorrect tax opinions under section 10.51(l) of the Circular. We believe this symmetry is desirable.