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.”

The last few years have seen significant changes in audit procedures employed by the Internal Revenue Service (IRS). These changes range from the new Information Document Request (IDR) procedures to substantial changes at the IRS Appeals level. This post focuses on the IRS’s attempt to develop an agreed set of facts before a case is submitted to IRS Appeals.

As taxpayers and practitioners are aware, IDRs are the most-used tool by IRS revenue agents to obtain information and develop the factual record (other common tools include interviews and site visits). Revenue agents use IDRs in several ways, including to request documents, understand taxpayer positions and identify key personnel involved. The end result of this information gathering is a notice of proposed adjustment, which then forms the basis for the revenue agent’s report in an unagreed case. Continue Reading To Agree or Not to Agree, That Is the Question

We have covered on several occasions the changes in the past year to the IRS Appeals process. See here, here, here, here and here. The reactions from taxpayers and practitioners to the recent changes has, for the most part, been negative.

On May 9, 2017, the American Bar Association Section of Taxation provided comments to the Commissioner of the Internal Revenue Service regarding the recent changes at IRS Appeals (Comments). The comments, which can be found here, can be summarized as follows:

  • First, we recommend that Appeals reinstate the long-standing Internal Revenue Manual (Manual) provision regarding limited circumstances for attendance by representatives of the Service’s Examination divisions (Compliance) and the IRS Office of Chief Counsel (Counsel) at settlement conferences.
  • Second, we recommend that Appeals return the option for face-to-face settlement conferences to taxpayers.
  • Third, we recommend that Appeals publicly reaffirm that independent Appeals Technical Employees may, in all cases, evaluate the hazards of litigation on positions taken by Counsel.
  • Fourth, we offer some observations and suggestions regarding informal issue coordination in Appeals.
  • Fifth, we support the recent reaffirmation of Appeals Team Case Leader (ATCL) unilateral settlement authority.
  • Finally, we reiterate our recent comments with respect to docketed cases in Appeals’ jurisdiction.

Practice Point: We are observing many of the same changes in practices that are discussed in the Comments. Taxpayers and their advisors need to understand and be prepared for the different procedures and approaches being employed at IRS Appeals. These changes appear to be leading down a road where settlements may be more difficult to accomplish and, as a result, we may see an increase in tax litigation.

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?

Knowing your options for a US Federal tax controversy is helpful in creating a sound and efficient strategy. The attached chart depicts the typical options involved in a US Federal tax controversy, from the IRS’s examination of the return, through administrative appeals, litigation in Tax Court, Circuit Court appeal, and to ultimate assessment of tax.

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 IRS is spending increasingly less time auditing large companies. This is a good thing, right?  But wait, the IRS is starting to launch audit campaigns. And some large taxpayers are still being audited even if they are not caught up in a campaign. What could be some of the consequences of these dynamics?

A recent report confirmed that IRS audits of large companies have fallen steeply in recent years. The report conducted by TRAC (Syracuse University’s Transactional Records Access Clearinghouse) (available here) analyzed IRS audit history of large companies from 2010 through 2015.  The study found the IRS spent 34 percent less time on average auditing companies with $250 million or more in assets (Big Corps) in 2015 than it did in 2010.  Audits of the largest companies are declining even more sharply: the IRS spent 47 percent less time auditing companies with assets of $20 billion or more (Giant Corps). Further, the total number of large businesses audited by the IRS’s LB&I (Large Business & International) Division in 2016 is 22 percent lower than it was last year during this time period.

Large taxpayers may take a deep breath once their continuous audit cycle becomes less continuous or stops altogether. This is understandable. But if you are a taxpayer that is audited, a number of important questions immediately come to mind:

  • Will we have good rapport with a new IRS audit team? We spent years building our relationship with the previous IRS team—has all that very important work gone out the window? Will I have the time to build rapport with the new IRS team, or will they be under such time pressure to audit discrete issues that we will have little opportunity to interact with the team and shape the audit plan?
  • Will the IRS team arrive with a preconceived idea of the “proper outcome”? Will information document requests (IDRs) be standardized? Will we be able to effectively negotiate the scope of IDRs? Or will the IRS team simply be fact-gatherers for a more centralized committee that makes decisions?
  • Will we be able to meet with actual decision makers? Or will the decision makers be a committee in the background that we never truly get to engage in a meaningful discussion? Will centralized decision makers take into account the specifics of our situation, or will we be “lumped in” with other taxpayers?
  • Will the IRS issue “fighting regulations” in an attempt to chill legitimate transactions? Will IRS audit teams attempt to apply these fighting regulations to transactions that predate the effective date of the new regulations? After all, doesn’t the IRS often contend that the new regulations are not really a change and simply reflect existing law?
  • Will fewer audits mean bigger adjustments? What institutional pressure is IRS Exam under to propose very large adjustments? What about penalties?
  • Will IRS Appeals exercise true independence and concede improper adjustments? Or will IRS Appeals simply “split the baby” based on inflated numbers? Will this combination of factors result in more high-dollar tax cases going to court?
  • Were continuous audits really a bad thing?