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As Tax Time Nears, Can You Trust Your Taxman?

Doug Berry | E+ | Getty Images

A plan created by the Internal Revenue Service to fight fraud by tax preparers is on hold for now after a federal judge ruled in favor of a lawsuit that challenged the new regulations..

The judge said that the IRS doesn't have the authority to regulate hundreds of thousands of noncertified public accountant tax preparers and force them to pass exams and complete continuing education programs in order to do returns.

The IRS says it's looking at its options and considering an appeal. The rules would have gone into effect in 2014.

But as tax filing time for this year is just around the corner, the ruling earlier this month leaves some experts worried that their industry is once again vulnerable to charges of deceit, bad math and the scamming of vulnerable taxpayers.

"We were really looking forward to this program," said Nick Rizzi, CEO of Smart Tax, a tax preparation service based in New York. "We've had to mop up the mess of so many unqualified tax preparers over the years, it's not funny. Making people take exams and get schooled in the level of knowledge you need is only the right thing to do."

While some tax-return preparers are licensed by their states or the IRS, many don't have to pass a government or professionally mandated competency test.

The IRS program would have required anyone who is paid for preparing or assisting in the preparation of a return to obtain a preparer tax identification number, pass a qualifying exam and complete ongoing education requirements.

Most certified public accountants and financial planners already have the ID and training. And anyone who's not a CPA filing tax returns on behalf of a taxpayer is required to obtain a tax ID number for tracking purposes. But they currently don't have to take any qualification exams or courses to call themselves tax preparers.

"This would have been a great way for people to have the confidence that there's some minimum of standards for tax preparers," said Bill Harris, a personal finance expert and CEO of Personal Capital. (Read More: How to Prepare Financially Before a Loved One Dies)

"It would have raised the overall level of expertise. If you're doing tax returns I think you need to have the education that goes with it, "said Harris, former CEO of Intuit, the tax preparation software firm.

Dan Alban, who works for the libertarian group Institute for Justice and was the lead attorney for the three independent tax preparers who filed the lawsuit in federal court in Washington, said the burden of the new rules on smaller tax-preparing firms would have been too much.

"A place like H&R Block can afford to do this, but most of the independent tax preparers are only working three or four months out of the year and they can't afford the costs of classes," he said.

Alban said there's enough regulation already to cut down on fraud by tax preparers. (Read More: Five Tax Mistakes Likely to Spur IRS Audit)

"The government can impose fines up to $100,00 on fraudulent tax returns," he said. "They can easily identify fraud through the ID numbers tax preparers have to submit with the returns."

For CPA Connie Stone, who runs her own tax preparation and investment advising firm in Chagrin Falls, Ohio, the new rules wouldn't necessarily clean up the industry.

"They might raise the level of professionalism, but it's not a golden bullet that would make everyone better," said Stone. "There are plenty of CPAs who make mistakes."

Stone doubts the fees needed to take courses or exams — which can cost $70 to $250 each — would put many tax prepareres out of business. She said it's the extra regulation that's the problem.

"For me, I'm already over my requirements for tax preparation. It's another level of hassle and besides, I think we do have enough regulations in place," Stone said. (Read More: Three Simple Ways to Get a Bigger Tax Refund)

Gene King, a spokesman for H&R Block, said the tax industry needs uniformity on rules.

"The court's ruling essentially eliminates key protections for million of taxpayers," King said. "We believe the IRS standards and additional oversight strengthen the industry's credibility and integrity."

Some of the most egregious fraud claims made against tax preparers, according to the IRS, are the lure of large refunds that don't exist, changing information on tax forms to try to get large returns and diverting refunds for a tax preparer's personal use.

The IRS doesn't have an exact number of how many complaints have been made against tax preparers.

But over the last two months, the Justice Department has sought injunctions against tax preparers in South Carolina, Florida, Maryland, North Carolina, Indiana and Kansas. The issues in these cases included declaration of false tax credits and deductions, fabricated business claims to lower taxable income, failure to sign tax return forms or include identification numbers to hide their role as preparers — and identity theft of tax filers.

For some industry experts, the need for tougher regulations is obvious.

"There's so much fraud out there," said Rizzi, who's firm handles nearly 10,000 tax returns a year. "It's like the wild west when anyone can put out a shingle and say they do returns. We need the new rules to keep some sort of professionalism in the industry."

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