Tax Audits of Lawyers: How to Protect Professional Confidentiality

When a lawyer is subject to a tax audit, the auditor will come to review their accounting records and ask them a number of questions.

There is a risk that information covered by attorney-client privilege could be disclosed to the auditor, either through the provision of documents or during meetings held in the course of the tax audit.

To avoid this, it is important not to include certain information in accounting documents—particularly invoices—prior to the tax audit. During the audit, care must be taken regarding the content of the documents provided to ensure that attorney-client privilege is not breached.

In this article, we will first discuss what the law provides (1), then the various issues surrounding tax audits with regard to the preparation of fee statements by attorneys (2) and the mandatory submission of accounting records in the event of a tax audit (3). We will then address the issue of documents that may be provided to the auditor and how to respond to their questions (4). Finally, we will discuss the situation where a lawyer is subject to a tax reassessment (5).

1. What does the law say?

The General Tax Code provides that, in the event of a tax audit,administration request from the parties concerned any information that may substantiate the accuracy of the reported figures and, in particular, any information that would allow them to assess the size of the customer base.” This also includes the journal, which contains, among other things, the identities of customers (General Tax Code, Art. 98).

The Code of Tax Procedures and the case law of the Constitutional Council nevertheless strictly limit the information to whichadministration have access in the event of a tax audit of a lawyer.

In fact, Article L.13-0 A of the Code of Tax Procedures provides that during a tax audit of a lawyer, in addition to requesting accounting documents, the auditor may request information regarding the amount, date, and form of payments made from the lawyer’s earnings. The auditor is not authorized to request information regarding the nature of the services provided.

The Constitutional Council has made it even clearer that“the legislature intended to strictly limit the scope of the information requested, which may not concern either the identity of clients or the nature of the services provided” (Constitutional Council, Dec. 29, 1999, No. 99-424 DC, para. 40).

2. How can you prepare invoices without violating attorney-client privilege?

In the case of a tax audit of a lawyer, case law has not yet established whether the auditor is entitled to access the fee statements prepared by the lawyer.

Nevertheless, in order to minimize any breach of attorney-client privilege should these invoices be submitted, care must be taken regarding the information contained therein.

The law (CGI, Annex II, Art. 242 nonies A) specifies the required information and states that invoices must include, in particular,“for each of the […] services rendered, the quantity, the precise description, the unit price excluding tax, and the legally applicable value-added tax rate.”

Thus, the attorney must normally include on the invoice the “precise description” of the services rendered. However, to maintain professional confidentiality, it is advisable to use a description that does not allow the auditor to determine exactly what services were provided. It is therefore possible to refer to the fee agreement or to include a more detailed breakdown of the services provided in the email sending the invoice to the client or, if necessary, in an attached document.

Thus, when the inspector has access to the billing statements, he or she will not be aware of the services provided by the attorney, thereby ensuring that attorney-client privilege is upheld.

3. Edit the journal entry file before submitting it

In the event of a tax audit of a lawyer,administration normally request, at the outset of the audit, access to the “Accounting Entries File,” also known as the “FEC.”

This initial step can already lead a poorly advised attorney undergoing a tax audit to disclose information protected by attorney-client privilege.

In fact, the file may contain information regarding the “nature of the services provided” and the “identity of the clients.” This information, which is subject to confidentiality, must be redacted from the file before it is handed over to the inspector.

4. What documents should you provide—or not provide—to the inspector? How should you respond to questions asked by the attorney?

An inspector might be tempted to ask the lawyer under review for fee agreements, consultation records, memoranda, or other documents to substantiate the services provided. The inspector does not have the right to request access to these documents. It is therefore important for the lawyer to refuse to provide them or, at the very least, to ensure that they have a written request from the inspector for the disclosure of these documents.

The issue may be more sensitive when it comes to expenses claimed by the attorney. Often, the documents supporting these expenses do not contain any information covered by attorney-client privilege. However, this may not be the case when it comes to, for example, gifts given by the attorney to clients. In such cases, the inspector may ask for the client’s name, which could pose difficulties in light of attorney-client privilege. It is therefore important to ask the inspector to submit the request in writing to ensure that this information, which is protected by attorney-client privilege, is provided only at the inspector’s request.

Regarding questions asked during an inspection, if you encounter any difficulties, it is important to ask the inspector to put the question in writing and to keep in mind that you are not required to answer questions about the identity of your clients or the nature of the services you have provided.

5. What should you do if a lawyer faces a tax reassessment? What should you do if a lawyer receives a reassessment proposal

If the inspector determines that the amounts reported are insufficient, the attorney will receive a reassessment proposal a reassessment notice. You can find more information about the procedure on our page dedicated to reassessment proposal.

The attorney may comment on the content of the reassessment proposal. In some cases, this may raise the question of whether to disclose information covered by attorney-client privilege in order to challenge the reassessment proposal sent to the attorney.

In these circumstances, it is important to determine whether or not it is appropriate to send these materials.

If you are subject to a tax audit in connection with your practice as a lawyer, our firm can assist you. Please feel free to contact us.

This article was written by Mispelon Avocat, a law firm specializing in tax audits and litigation.