Faced with the prospect of potential tax liability after an unsuccessful audit, taxpayers are faced with the options of filing a petition in the US Tax Court (Tax Court) prior to paying the liability or paying the liability, making a claim for refund, and (if denied or more than six months have passed) suing the government for a refund in local district court or the Court of Federal Claims. For taxpayers that select the Tax Court route, sometimes a question later arises as to whether they can seek to dismiss their case in order to refile in a different forum. The problem that arises is that Internal Revenue Code (Code) Section 7459(d) provides that if a Tax Court petition in a deficiency proceeding is dismissed (other than for lack of jurisdiction), the dismissal is considered as a decision that the deficiency is the amount determined by the Internal Revenue Service (IRS).

Taxpayers have attempted to avoid this rule in the past, presumably so that they could refile a lawsuit in another forum either because they believe that forum would be more favorable or because they desire a jury trial (Tax Court cases are bench trial; no juries are allowed). More than 40 years ago, the Tax Court rejected this tactic in Estate of Ming v. Commissioner, 62 TC 519 (1974),  holding that under Code Section 7459(d), a taxpayer who petitions the court for a redetermination of a deficiency may not withdraw a petition to avoid the entry of decision. Specifically, the court held: “It is now a settled principle that a taxpayer may not unilaterally oust the Tax Court from jurisdiction which, once invoked, remains unimpaired until it decides the controversy.” Since Ming, the Tax Court has distinguished its holding in collection due process cases which involve the review of the IRS’s collection action, not the redetermination of a tax deficiency. See Wagner v. Commissioner, 118 TC 330 (2002). The Tax Court has further extended Wagner to non-deficiency cases involving whistleblower claims under Code Section 7623(b)(4) and stand-alone innocent spouse cases under Code Section 6015(e)(1). See Jacobson v. Commissioner, 148 TC No. 4 (Feb. 8, 2017); Davidson v. Commissioner, 144 TC 273 (2015). Continue Reading When Can a Taxpayer Dismiss a Tax Court Case as Moot?

The Internal Revenue Service Office of Appeals (IRS Appeals) recently announced that it will offer a new virtual “face-to-face” option in the form of web-based communication to taxpayers and representatives to resolve tax disputes. IRS Office of Appeals Pilots Virtual Service, IRS (July 24, 2017. This announcement comes on the heels of other changes at IRS Appeals that curtail the ability of taxpayers to have face-to-face hearings with IRS Appeals. The IRS cites the need for the new service because of IRS Appeals’ large (and growing) case load—more than 100,000 cases each year! For some our prior coverage on recent changes at IRS Appeals, see here, here, here and here.

Practice Point: In the wake of an ever-shrinking budget, resources and staff, the IRS really has no choice but to try new and arguably more efficient methods to move cases along. The backlog of cases at IRS Appeals is staggering, and our clients are experiencing long wait times until a case is even assigned to an IRS Appeals officer. Then when the case is assigned, it typically sits for months until real progress can be made. This is not the fault of the IRS or the individual Appeals’ officers, but really the reality of a resource-starved governmental agency. The virtual appeals conference is seemingly a good method to conduct an Appeals conference for simple cases. If a case is complex, however, a virtual conference may be no different (or no more effective) than a telephonic conference. In cases that require extensive explanation, it is hard to see how the IRS Appeals conference will be effectively conducted virtually. But “hope springs eternal.”

Not only should companies worry about the Internal Revenue Service (IRS) auditing their returns, but they also have to be aware of a potential assault from within. Indeed, current and former employees have an incentive to air all of your tax issues with the hope of being rewarded for the information.

Section 7623(b) was added to the Internal Revenue Code (IRC) in 2005, and pays potentially large monetary rewards for so-called tax whistleblowers. To qualify for remuneration, a whistleblower must meet several conditions to qualify for the Section 7623(b) award program: (1) submit the confidential information under penalties of perjury to the IRS’s Whistleblower Office; (2) the information must relate to a tax issue for which the taxpayer (if the IRS found out) would be liable for tax, penalties and/or interest of more than $2 million; and (3) involve a taxpayer whose gross income exceeds $200,000 the tax year at issue. If the information substantially contributes to an administrative or judicial action that results in the collection, the IRS will pay an award of at least 15 percent, but not more than 30 percent of the collected proceeds resulting from the administrative or judicial action (including related actions).

Section 7623(b) has spawned a collection of law firms around the country dedicated to signing up scores of whistleblowers who are hoping to cash in big! Our clients routinely ask us how to best protect themselves. We typically tell our clients that the best defense is a good offense. Consider the following:

  1. Use of non-disclosure agreements with employees who work on sensitive projects like mergers and acquisitions;
  2. Limit employee access to the companies tax accrual workpapers and other documents that indicate the tax savings involved in a transaction or a position claimed on a return;
  3. Review your procedures to ensure that privilege and confidentiality is maintained (this would include training employees and managers);
  4. Review company’s internal procedures for employee complaints to ensure that you have robust procedures in place that offer an independent review and allow for anonymous submissions; and
  5. Be vigilant, and look for signs that an employee is “disgruntled.”

Practice Point: If you are under examination by the IRS, you may be able to discern a whistleblower issue based on the questions being asked by the IRS and whether those questions could only be formed based on information provided by a whistleblower. If this situation exists, it is important to determine whether you should raise the issue with the IRS, particularly if you believe that any confidential and/or privileged information has been provided to the IRS without your consent. To make sure you are protected and adequately prepared, consult with your tax controversy lawyer.

Today, the Internal Revenue Service (IRS) released Revenue Procedure 2017-25 extending the Fast Track Settlement (FTS) program to Small Business / Self Employed (SB/SE) taxpayers.  The IRS’s SB/SE group serves individuals filing Form 1040 (US Individual Income Tax Return), Schedules C, E, F or Form 2106 (Employee Business Expenses), and businesses with assets under $10 million.

FTS offers a customer-driven approach to resolving tax disputes at the earliest possible stage in the examination process. The program provides an independent IRS Appeals review of the dispute.  Under this approach, the IRS Appeals Officer acts as the mediator and has settlement authority.

The purpose of the program is to reduce the time to resolve cases and to provide the IRS Exam Team with the authority to settle cases based on hazards of litigation (which is generally reserved for IRS Appeals Officers).  FTS has been considered a great success by the IRS and many taxpayers.  The expansion of this successful alternative dispute resolution makes sense in light of the ever-shrinking resources of the IRS.

In its annual report to the US Congress, the Taxpayer Advocate Service (TAS) had a lot to say about IRS Appeals and the (lack of) use of other alternative dispute resolution (ADR) techniques. In this post, we will highlight what the TAS had to say in this area.

IRS Appeals

Undoubtedly, one of the Internal Revenue Service’s (IRS) most successful dispute resolution techniques has been IRS Appeals. Briefly, after the IRS’s Examination Division proposes a tax adjustment, taxpayers have the statutory right to seek an “appeal” of the decision. IRS Appeals is a separate and seemingly independent division of the IRS where one or more appeals officers review the redeterminations and adjustments made by the Examination Division, and attempt to settle the dispute directly with the taxpayer based upon a “hazards of litigation” analysis, much in the same manner as a judge would rule. The TAS acknowledged the success and utility of the IRS Appeals program and mission, but requested that Congress expand the program, giving the IRS the resources it needs to manifest the full intent of the program.

The TAS reported that funding for IRS Appeals has diminished sharply—by about 11 percent from 2013 to 2016, with staff reduced during the same period by 24 percent. In response to shrinking resources, but hobbled by the same duties and similar case load, IRS Appeals has been forced to implement procedures and policies that hamper its long-term mission of providing a fair and impartial review of the Examination Division’s adjustments. The TAS pointed out that these policies have resulted in (1) creating an inhospitable Appeals environment; (2) limiting in-person Appeals conferences; (3) reducing the Appeals officer’s ability to perform a quality substantive review; and (4) failing to protect the rights of taxpayers when conducting collection Appeals hearings. The TAS noted that there has been a large increase of cases docketed in the US Tax Court before seeking an IRS appeal. The TAS believes that docketing a case before it goes to Appeals has added inefficiency and unnecessarily increased the case load of the Tax Court.

The TAS suggested the following solutions:

  1. Expand the locations in which Appeals Officers hear matters. Presently, there are numerous states in which there are no IRS appeals officers. As a result, taxpayers who seek an appeal and request an in-person conference are forced to travel to the states in which an IRS appeals officer is located.
  2. Hold more in-person appeals conferences. The TAS report argues that in-person conferences facilitate the efficient and expeditious settlement of matters.
  3. Revise procedures and policies to allow IRS appeals officers additional discretion and time to undertake factual development and provide more substantive review of matters.

Practice point: We have recently reported about many of the issues facing taxpayers seeking review by IRS Appeals. The TAS confirms our critiques of the system. IRS Appeals is a very good and useful technique that has a high probability of settling cases. Generally, appeals officers are thoughtful and engaged; however, the lack of resources has put tremendous pressure on an already overworked and under supported system. It makes little sense that Congress would gut the revenue-collecting arm of the federal government. Practitioners and taxpayers alike would applaud the implementation of the recommendations in the TAS report. Indeed, many of the appeals officers themselves, overworked and stripped of their discretion, would likewise support these considerations.

ADR

There is no question that certain ADR programs produce substantial benefits for governments, and assist in the efficient resolution of controversy matters. The IRS has several ADR methods that it employs, for example fast track settlement and post appeals mediation.The TAS acknowledges the substantial benefits of the IRS’s ADR programs, but suggests that these programs need to be expanded and tweaked to fix real and perceived problems.

The IRS offers four types of ADR techniques: fast track settlement (FTS), fast track mediation for collection matters (FTM), post appeals mediation (PAM), and the rapid appeals process. The TAS reports that these ADR techniques accounted for only 306 cases in fiscal year 2017! Of these 306 cases, 251 were actually resolved through settlement. And the trend over the last three years has been a steady decline in ADR cases. TAS explains that one of the problems with the IRS’s ADR program is that it is only available if the IRS agrees to participate. Another cited problem is the perception among taxpayers that the process is rigged in favor of the IRS, as the presiding officers are IRS employees. When ADR is used in a commercial context, for example in collecting a debt, the facilitators are typically third-party neutral, professionals. In the IRS’s case, the ADR facilitators are IRS appeals officers who are not specifically dedicated to the ADR process, but have normal Appeals cases in addition to ADR cases.

In its report, the TAS makes several good suggestions, including the following points:

  1. Expand ADR. Make it more available, and remove the IRS’s discretion to resolve controversies through ADR. The TAS believes that ADR should be available to all taxpayers. Publicize and encourage taxpayers to engage in ADR with the IRS instead of following the traditional appeals path. In an effort to demonstrate the efficacy of the program, the IRS should maintain and publish statistics on its ADR program.
  2. Independent ADR specialists. The TAS suggests that the IRS have a team of professionals trained and dedicated to ADR. This would increase the public’s trust in the programs.

Practice point: In the last several years, the benefits of seeking resolution under the IRS’s ADR programs have been waning. From experience, the IRS seems to now give only lip service to these programs. The TAS’s suggestions are right on target. A team of dedicated and truly independent ADR professionals could have a profound effect on the system and the number of case both at the IRS and in the courts. The IRS should devote the resources necessary to make this vision a reality and embrace the techniques long used by businesses (think debt collection) and the courts. Indeed, in nearly every court system in the country litigants are required (or at least strongly encouraged) to engage in some sort of ADR prior to seeking redress before the court. If ADR is good enough for the courts, why hasn’t the IRS embraced this tried and tested dispute resolution technique?

In a letter dated November 4, 2016, IRS Chief of Appeals Kirsten Wielobob provided some clarification regarding the authority of the Appeals Team Case Leaders (ATCLs) to settle cases, revisions to IRM section 8.6.1.4.4 permitting other IRS employees to attend conferences, clarifications to conference practices, and revisions to how Appeals handles section 9100 relief determinations. After a month of speculation, of interest to most taxpayers and practitioners is the news that, although settlement authority will remain with the ATCLs, Appeals will revise its procedures to make it clear that an Appeals Manager must review a case prior to an ATCL finalizing a settlement. In an apparent attempt to thread the proverbial needle, the letter indicates that the Appeals Manager “will not be accepting or rejecting settlements,” but if the ATCL and Appeals manager “disagree about a settlement,” the next higher level manager supervising ATCL Operations will resolve any disagreement. Although this procedure is contemplated in IRM section 8.7.11.3.1  (03-16-2015), the letter suggests that there will in fact be a procedural shift. It remains to be seen whether, as some have feared, this will lead to increased delays in resolving cases.

The US Department of the Treasury and Internal Revenue Service (IRS) issue Priority Guidance Plans each year to identify and prioritize the tax issues they believe should be addressed through regulations, revenue rulings, revenue procedures, notices and other published administrative guidance.  On October 31, 2016, the IRS and Treasury released the first quarter update to the 2016-2017 Priority Guidance Plan originally released on August 15, 2016.

The original plan identified 281 guidance projects as priorities, and the first quarter update includes an additional six guidance projects.  The additional projects include:

  • Guidance regarding the removal of the no-rule positions for certain legal issues concerning device and business purpose under section 355 (PUBLISHED 09/12/16 in IRB 2016-37 as REV. PROC. 2016-45 (RELEASED 08/26/16)).
  • Revenue procedure providing a self-certification procedure for waivers of the 60-day rollover requirement under §§402(c)(3) and 408(d)(3) (PUBLISHED 09/12/16 in IRB 2016-37 as REV. PROC. 2016-47 (RELEASED 08/24/16)).
  • Announcement on hardship distributions and loans from retirement plans as a result of Louisiana storms (PUBLISHED 09/12/16 in IRB 2016-37 as ANN. 2016-30 (RELEASED 08/30/16)).
  • Announcement concerning the tax treatment of payments made on behalf of or reimbursements received by residents affected by the Southern California Gas Company natural gas leak (PUBLISHED 08/01/16 in IRB 2016-31 as ANN. 2016-25 (RELEASED 07/19/16)).
  • Guidance for income and employment tax purposes on the treatment of cash payments made by employers under leave-based donation programs for the relief of victims of the Louisiana storms (PUBLISHED 10/03/16 in IRB 2016-40 as NOT. 2016-55 (RELEASED 09/16/16); and
  • Guidance under §909 related to foreign-initiated adjustments and the separation of foreign taxes and related income (PUBLISHED 10/03/16 in IRB 2016-40 as NOT. 2016-52 (RELEASED 09/15/16)).

IRS Appeals cases within the Large Business and International (LB&I) division that involve a significant number of issues, a significant amount of money, or highly complex issues are typically assigned to a “team” of IRS Appeals officers. The Appeals Team Case Leader (ATCL), however, has “complete control” of the case, is “independent” from the IRS Examination Team and, except for certain coordinated issues, has settlement authority for all work assigned to the Appeals team. See I.R.M. 8.7.11.2 (09-25-2013). Currently there are 35 ATCLs.

Rumors are rampant, however, that the IRS may soon eliminate the ATCL’s settlement authority and require review and approval of settlements by an Appeals Team Manager (ATM), of which there are only a handful. On September 22, 2016, at an annual conference sponsored by the Internal Revenue Service and the New York Chapter of the Tax Executives Institute, Reinhard Schmuck, an ATCL for Area 9 in New York, confirmed that the IRS is considering changes to ATCL’s settlement authority. He indicated that the review was initiated in response to a report filed by the Treasury Inspector General for Tax Administration that determined that in a sample of penalty Appeals cases, the case files did not always support Appeals’ decisions to abate penalties as required by Appeals criteria. See TIGTA Report Number:  2015-10-059 to the Internal Revenue Service Chief of Appeals (July 30, 2015). He cautioned, however, that the IRS had not made any final decisions.

Attendees at the conference, including former Appeals Officers and practitioners, expressed dismay at the proposed change because the LB&I Appeals process, which has worked well and instilled confidence in taxpayers, is not broken. This change may be a devastating blow to resolution at Appeals, and may cause a chilling effect on seeking redress at Appeals before heading to court. What is the use of spending a significant amount of time and effort to negotiate at Appeals if the decision maker is not even part of the negotiations?

What can we expect if the rumors ring true:

(1) Additional delays at Appeals;

(2) Unhappy ATCLs and ATMs;

(3) Unfair and unreasoned settlements;

(4)  Increased assertion of penalties; and

(5) Taxpayers avoiding Appeals and an increase in tax litigation.

The new procedures were rumored to be effective October 1. We do not have confirmation of a change in policy, but once the rumors are confirmed, we will report back.

The Internal Revenue Service (IRS) has revised the Internal Revenue Manual (IRM) regarding Appeals Conferences.  Below is a summary of material changes to IRM 8.6.1, effective October 1, 2016:

  • The IRM was revised to reflect that most conferences in Appeals will be conducted by telephone.  The revision also provides guidance for when in-person conferences are appropriate (e.g., when there are substantial books and records to review that cannot be easily referenced with page numbers or indices, or when there are numerous conference participants that create a risk of an unauthorized disclosure or breach of confidentiality).
  • IRM 8.6.1.4.1.2, In-Person Conferences: Circuit Riding was added.  If the assigned Appeals employee is in a post of duty that conducts circuit riding, circuit riding will be permitted when the address of the taxpayer, representative or business (for business entities) is more than 100 miles from a customer-facing virtual conference site or 150 miles from the nearest Appeals Office.  Area Directors have the discretion to deviate from these mileage limitations.  Circuit riding will also be allowed if the nearest Appeals Office cannot take the case due to high inventories or lack of technical expertise, or if there is no convenient alternative.
  • Language was added in IRM 8.6.1.4.4 to state that Appeals has the discretion to invite Counsel and/or Compliance to the conference.  The IRM notes that the prohibition against ex parte communications must not be violated and references Rev. Proc. 2012-18.
  • The definition of a new issue was updated in IRM 8.6.1.6.1(2).  The IRM retains prior language stating that a new issue is a matter not raised during Compliance’s consideration and adds that any issue not raised by Compliance in the report (e.g., 30-Day Letter) or rebuttal and disputed by the taxpayer is a new issue.

The revised IRM 8.6.1 is available here.

The US Court of Appeals for the Sixth Circuit recently held in U.S. v. Detroit Medical Center that a nonprofit entity incorporated under state law falls within the definition of a ‘corporation’ for purposes of determining the interest rate applicable to tax refunds. The case is worth reading for its plain meaning analysis as well as its reliance on prior case law dating back hundreds of years.

In Detroit Medical, a not-for-profit corporation overpaid its taxes, entitling it to a refund plus interest. Under the Internal Revenue Code (Code), ‘corporations’ receive lower interest rates on refund than other taxpayers. The taxpayer claimed that, as a not-for-profit corporation, it should not be treated as a ‘corporation’ and thus was eligible for the higher interest rate resulting in an extra $9.1 million in refunds. The Sixth Circuit found nothing in the relevant statute that excludes a not-for-profit corporation from the definition of “corporation.” In reaching its holding, the court relied on various statutory construction principles, including: (1) in the absence of any statutory definition to the contrary, courts presume that Congress adopts the customary meaning of the terms it uses; (2) the word “includes” is a term of inclusion, not exclusion; (3) dictionary definitions (both old and new) are appropriate tools to determine the meaning of a word used in the Code; and (4) when Congress uses particular language in one section of a statute but omits it in another part of the same Act, the general rule is that Congress acted intentionally and purposely in the disparate inclusion or exclusion.

As further support for its plain meaning analysis, the Sixth Circuit relied primarily on an 1819 opinion by Chief Justice Marshal in Dartmouth College that permitted charitable organizations to be treated as corporations.  The court further noted that in 1612, Sir Edward Coke wrote in The Case of Sutton’s Hospital that a charitable hospital and school founded at the London Charterhouse was as valid a corporation as any other because it possessed all the characteristics that are of the essence of a corporation. Finally, the court cited to commentaries by William Blackstone from 1753 that charitable corporations are one of three basic kinds of corporations.

The Sixth Circuit’s approach of applying a strict plain meaning analysis is consistent with its approach in prior tax cases, including its interpretation of Code section 956 in The Limited and Code section 1256 in Wright  Additionally, the opinion highlights the importance in tax litigation of not limiting one’s argument to just the most recent cases and searching for useful authority outside the tax context. In a recent opinion involving the interpretation of Code section 6662, the Tax Court in Rand employed a similar approach by applying the rule of lenity and relying on an 1820 Supreme Court opinion dealing with homicide at sea.