REG I: ethics, tax procedures and business law

Taxation and Regulation tests federal taxation of individuals, entities and property transactions, but it also tests professional responsibilities in tax practice, federal tax procedures and business law. Candidates often treat the non-tax areas as an afterthought and lose points they could easily have earned. This lesson covers those areas: the ethical and professional rules that govern tax practice, the procedures of the Internal Revenue Service and the tax courts, and the business law topics in the blueprint. Lesson 8 covers the taxation of individuals and entities using the Brandt family from ACCT-351 and ACCT-352.

The REG blueprint

Under the 2024 blueprint, REG has five areas: ethics, professional responsibilities and federal tax procedures; business law; federal taxation of property transactions; federal taxation of individuals; and federal taxation of entities, including tax preparation. The tax areas carry most of the weight, but the first two together account for roughly a third of the section, which is more than many candidates assume. Tax law changes on a schedule: under the AICPA's policy, provisions of the 2025 federal tax act became testable in REG and TCP from July 1, 2026. Check which tax year the exam uses and which recent provisions are testable before you sit.

Professional responsibilities in tax practice

Three sets of rules govern a CPA's tax practice. Treasury Department Circular 230 regulates practice before the IRS by attorneys, CPAs, enrolled agents and others. It requires due diligence, prompt disposition of matters, the return of client records on request, advising clients of noncompliance and its consequences, and standards for written advice. It prohibits contingent fees in most situations, with exceptions such as services in connection with an IRS examination or a claim for refund. The AICPA's Statements on Standards for Tax Services (SSTSs), revised effective January 1, 2024, apply to AICPA members and cover tax return positions, answers to questions on returns, procedural aspects, use of estimates, knowledge of errors, and written and oral advice. The Internal Revenue Code imposes penalties on preparers and taxpayers.

The standards for tax return positions are tested often. A preparer must not take a position unless there is a reasonable basis for it and it is adequately disclosed, or unless there is substantial authority for it; for tax shelters and reportable transactions the standard is that the position is more likely than not to be sustained. Under section 6694, a preparer who takes an unreasonable position faces a penalty of the greater of 1,000 dollars or 50 percent of the fee, and for willful or reckless conduct, the greater of 5,000 dollars or 75 percent of the fee. Taxpayers face an accuracy-related penalty of 20 percent of an underpayment caused by negligence or a substantial understatement, which for individuals means an understatement exceeding the greater of 10 percent of the correct tax or 5,000 dollars. These amounts are from the Code as most recently studied; confirm current figures before relying on them.

Errors, confidentiality and conflicts

When a CPA learns of an error in a client's previously filed return, or that a client failed to file, the SSTSs and Circular 230 require the CPA to inform the client promptly of the error and its potential consequences and recommend corrective action. The CPA may not inform the IRS without the client's permission, except where required by law. If the client refuses to correct a significant error, the CPA should consider whether to continue the relationship. Confidentiality is protected by section 7216, which makes it a crime for a preparer to disclose or use return information without the taxpayer's consent, with limited exceptions. The federally authorized tax practitioner privilege in section 7525 extends attorney-client privilege to tax advice in noncriminal matters, but not to tax shelter promotion or return preparation. Conflicts of interest, such as preparing returns for both spouses in a divorce, are permitted under Circular 230 only with informed written consent and a reasonable belief that the practitioner can represent each client competently.

Federal tax procedures

REG tests the procedures from filing to litigation. Returns are generally due on the fifteenth day of the fourth month after year end for individuals and C corporations and the third month for partnerships and S corporations, with automatic extensions of six months to file, not to pay. The IRS may examine a return by correspondence, in an office or in the field. A taxpayer who disagrees with a proposed adjustment can request a conference with the IRS Independent Office of Appeals, then file a petition with the Tax Court without paying the tax, or pay and sue for a refund in a district court or the Court of Federal Claims. Penalties include failure to file, failure to pay and estimated tax underpayment, and interest runs on unpaid tax.

The program below computes the failure-to-file and failure-to-pay additions for an individual who files four months late and pays seven months late, and checks which assessment period applies when income is omitted. The failure-to-file addition is 5 percent of the unpaid tax per month, reduced by the failure-to-pay addition for months when both apply, up to a maximum of 25 percent; the failure-to-pay addition is 0.5 percent per month. These are the general rules of section 6651; special minimums and rates apply in some cases, and interest is added.

# REG I: failure-to-file and failure-to-pay additions (IRC 6651), simplified.
# 5% per month for failure to file (max 25%), 0.5% per month for failure to pay;
# when both apply in a month, the filing addition is reduced by the paying one.
tax_due, months_late_file, months_late_pay = 18000, 4, 7
ftp = tax_due * 0.005 * months_late_pay
ftf = 0.0
for m in range(1, months_late_file + 1):
    ftf += tax_due * (0.05 - 0.005)
ftf = min(ftf, tax_due * 0.225)
print(f"Failure-to-file addition {ftf:,.0f}")
print(f"Failure-to-pay addition  {ftp:,.0f}")
print(f"Total additions          {ftf + ftp:,.0f}  (interest is extra)")
# Statute of limitations check on assessment: 3 years, 6 if income omitted > 25%
reported, omitted = 120000, 34000
years = 6 if omitted > 0.25 * reported else 3
print(f"Omitted {omitted / reported:.0%} of reported income -> assessment period {years} years")

Failure-to-file addition 3,240
Failure-to-pay addition  630
Total additions          3,870  (interest is extra)
Omitted 28% of reported income -> assessment period 6 years

Four months late gives a combined filing addition of 4.5 percent per month after the offset, 3,240 dollars, and seven months of the payment addition gives 630 dollars. Because the omitted income exceeds 25 percent of the income reported, the IRS has six years rather than the usual three to assess additional tax. There is no limitation period for a fraudulent return or for a return that was never filed. Questions on the statute of limitations are among the most predictable in REG; learn the three-year rule, the six-year rule for substantial omissions, the unlimited period for fraud, and the refund claim rule of three years from filing or two years from payment.

Business law

Business law in REG covers agency, contracts, debtor-creditor relationships, federal laws and regulations, and business structures. Agency questions test how an agency relationship arises, the agent's actual and apparent authority, the principal's liability for the agent's contracts and torts, and the duties of each party. Contract questions test formation (offer, acceptance, consideration, capacity and legality), defenses such as mistake, fraud, duress and undue influence, the statute of frauds (contracts for interests in land, contracts that cannot be performed within a year, promises to pay another's debt, and sales of goods for 500 dollars or more under the UCC), performance, breach and remedies. The UCC's Article 2 governs sales of goods between merchants and others, with rules on firm offers, additional terms and risk of loss.

Debtor-creditor questions test secured transactions under UCC Article 9: attachment of a security interest (value given, the debtor's rights in the collateral and a security agreement), perfection by filing, possession or automatically for purchase-money security interests in consumer goods, and priority among creditors. They also test bankruptcy: liquidation under Chapter 7, reorganization under Chapter 11 and individual repayment plans under Chapter 13; the order of priority for claims; voidable preferences made within 90 days before the filing, or one year for insiders; and debts that cannot be discharged. Federal law questions cover employment law, such as the Fair Labor Standards Act and employment discrimination, and the federal securities laws at an introductory level. Business structure questions compare sole proprietorships, partnerships, limited liability companies and corporations on liability, management, taxation and formation.

Business structure questions are among the easiest marks in this area if you organize the comparison. Ask four questions of each entity: who is personally liable for its debts, who manages it, how it is taxed and how it is formed. A general partner is personally liable for partnership debts, while limited partners risk only their investment as long as they do not participate in control in a way the governing statute forbids. Members of a limited liability company are generally protected from its debts, can manage it themselves or appoint managers, and choose its tax classification under the check-the-box rules. Shareholders of a corporation are protected unless a court pierces the corporate veil, for example because the corporation was a sham or was inadequately capitalized. Directors owe duties of care and loyalty, and the business judgment rule protects good-faith decisions made on an informed basis. Formation requires a filing with the state for limited partnerships, LLCs and corporations, but not for a general partnership, which can arise from conduct alone.