Tax Preparer Surety Bond

We recently had a question from a reader about what a surety bond was, in particular one required by a tax preparer. Having been a Chartered Accountant for many years it wasn’t something I was familiar with for tax preparation work and so had to look into it. In today’s accounting blog article we review these bonds, why they are required and what are their costs.

What is a Surety Bond?

In its most basic form a surety bond, from the french word sûreté meaning a promise or a pledge, is an agreement between three parties. The first party, the principal, purchases a bond from a bond provider – the surety. The surety, for a fee, takes on the risk that the principal does not perform a certain action or an action to certain standard, for the benefit of a third party – the obligee.

The obligee is often a government agency that overseas or regulates a certain type of activity within their jurisdiction. And to provide a certain level of protection to themselves or a customer of the principal, require the principal to hold a certain level of bond (like insurance cover) to allow them to provide their product or service.

So a quick recap, three parties, in an agreement to promise to pay if certain actions do or do not take place. The three parties are:

  • the principal: they purchase the surety bond, for a fee, from a surety provider;
  • the surety provider: they will financially cover the obligee if the principal breaches the agreement; and
  • the obligee: the beneficiary to the agreement.

What is a Tax Preparer Surety Bond?

Within the world of surety bonds there is a unique type referred to as a tax preparer surety bond. Applying our definition above, in this case the tax preparer is the principal, an insurance company is the surety and a state government body that regulates tax preparation is the obligee.

Under these arrangements the bond provides a certain level of protection to tax preparer clients against the tax preparer making a material mistake or acting in a manner not in the client’s interest – for example through theft or fraud. It’s important to remember that the bond provides no direct protection for the principal for mistakes or misconduct say by an employee of a preparer. The bond isn’t like professional insurance that a preparer could purchase where they could transfer this risk. In the case of the preparer bond, no transfer of risk to a third party takes place for the preparer.

Who Needs to Have a Bond?

These bonds are unique in the United States in that only the states of California and Nevada require these bonds to be in place. However even they provide exemption for Enrolled Agents (EAs), Certified Public Accountants (CPAs), and members of the California State Bar. They also enable those who have been employed by one of these groups to also be possibility exempt as long as their employer certifies that person’s experience is sufficient in place of the formal training program otherwise required. All other providers of tax preparation services to the general public are required to have a surety bond in place.

In California they define a tax preparer as someone who:

  • prepares or assists in the preparation of either state of federal income tax returns;
  • takes on the responsibility for the approval and/or submission of these returns; and
  • offers these services to the public for a fee or some form of consideration.

The reason these two groups are exempt is because of the significant initial training and testing and on going continuing professional education (CPE) they are required to undertake. For example in California the general CPE requirements for CPAs is:

  • 80 hours total;
  • 20 hour yearly minimum;
  • 40 hours in technical subjects; and
  • 12 hours yearly minimum in technical subjects.

Applying for a Tax Preparer Surety Bonds?

In the United States only two states require a tax preparer surety bond to be held by tax providers, California and Nevada.

California

If you are not an exempt tax preparer and therefore you need to register with the CTEC, you can find their application process here.

Nevada

Any Document Preparation Service that is not an exempt preparer in the state must operate with a surety bond in place. All of the details and the application forms for the state can be found here.

How Much Does a Tax Preparer Surety Bond Cost?

The cost of a tax preparer surety bond is influenced by the amount of bond being sought and the credit score of the individual or business seeking the cover. These two factors go into setting the premium rate charged – which will be a percentage of the total sum. This is a bit like buying insurance cover. Someone seeking a smaller amount of cover and a good credit history will, prima facie, pay a lower premium when compared to the opposite.

It is interesting to note that while a credit history check is required for document preparation service applicants in Nevada, tax preparers in California generally do not.

Because of the variable nature of the amounts and credit histories no definitive figure can be put on the costs involved. However, they tend to range between 1 to 15 per cent of the level of cover being sought. For example in California a two-year bond can be purchased for as little as $55.

Conclusion

We trust you have found this article useful as a starter to tax preparer surety bonds. We looked what a surety bond was in general, specifically what a tax preparer bond covered and where and who is required to have one in place. And finally we briefly looked at their cost and how low the premium rates can be for modest sums for individuals with good credit history.

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