Proving Actual Knowledge in a 6015(c) Case

The case of Bishop v. Commissioner, T.C. Summ. Op. 2018-1 although not precedential, provides comfort for spouses seeking relief under the provision available for those who are divorced, widowed, or separated. This case has a couple of unusual aspects worth noting before discussing the main issue – actual knowledge. First, the person claiming innocent spouse status is the former husband. Only a small percentage of innocent spouse cases present the situation in which the husband claims innocence and seeks relief. Second, this case involves an intervenor, the former wife, who is represented by a low income taxpayer clinic. It is unusual to see a clinic on the side of the intervenor though certainly not unprecedented.  (I corresponded with the Lewis & Clark clinic director, Jan Pierce, about the case.  Jan indicated that the clinic picked up the case at calendar call.  This is something the opinion does not indicate.  Because I also pick up cases at calendar call and litigate and lose them, I think it would be nice if the Court somehow made mention of the fact that a clinic or pro bono counsel came into the case at calendar call.  It provides a little background about the limited ability of the representative in the case.)

Here, the parties admit that the wife inherited a retirement account from her father in 2009. They admit that after she inherited this account she received distributions from the account each year and they admit that the distribution made in 2014 in the amount of $15,068 was left off of their return. They also admitted that $6,000 of the distribution went into a joint checking account that both had access to and that the balance was used to benefit the wife’s daughter. The husband claims that he was generally aware of the retirement account but did not know that a distribution occurred in 2014 and, therefore, had no actual knowledge of the amount left off the return. Because he did not have actual knowledge, he asserts that he qualifies for relief from the additional tax liability based on the language of IRC 6015(c).

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The court starts out stating that a “question exists as to where the burden of proof lies in cases when, as here, the IRS favors granting relief and the nonrequesting spouse intervenes to oppose it. The Court has resolved such cases by determining whether actual knowledge has been established by a preponderance of the evidence as presented by all parties.” To determine if a spouse had actual knowledge the IRS considers “all of the facts and circumstances” as required by Treas. Reg. 1.6015-3(c)(2)(iv). The test imposed by the Tax Court examines the surrounding facts and circumstances for “an actual and clear awareness (as opposed to reason to know)” of the omitted income causing the deficiency.

In a situation like this where both spouses know of the retirement account, both spouses know that money has been distributed from the retirement account in each of the five years preceding the year at issue, and both spouses have access to the bank account into which $6,000 of the retirement account distribution in 2014 was made, the person claiming innocent spouse status would seem to bear a heavy burden to demonstrate that he did not know about the distribution. In the background portion of the opinion, the Court noted that the parties separated twice during 2014 before permanently separating in 2015. These facts suggest that the parties did not enjoy harmonious relations in 2014 and that undoubtedly was a factor in the Court’s decision.

The Court states that “he argues that intervenor deliberately deceived him, but he relies on her silence and does not identify any specific misrepresentations by her.” It also states that “he acknowledges that he was at fault for not checking the records on the joint bank account maintained by him and intervenor.”

The wife attacked his credibility and argued that he had actual knowledge of the distribution because it was deposited in their joint bank account seven months before the filing of the return. During that time he wrote checks on the account and used debit cards to access the account. She did not testify that she specifically told him about the distribution and she testified that they both forgot about it when they provided their accountant with the information necessary to prepare the return.

The Court finds that the “history of withdrawals from the retirement account used by the parties over a period of years and the transactions by petitioner with reference to the joint bank account support a conclusion that petitioner should have known about the distribution. The amount was very large in relation to the average balances and other transactions in the account.” Having made that finding which seems very damaging to the petitioner, the Court went on to conclude however that “there is no evidence … that petitioner saw the bank records before the joint return for 2014 was filed. His denials are not incredible, implausible or contradicted by direct evidence.” So, the Court concludes that “regardless of the strong indications of constructive knowledge, the evidence falls short of establishing actual knowledge of any specific amount of the distribution in 2014.”

The case should provide great comfort to anyone seeking to use section 6015(c) if knowledge is the crucial point of contention. The evidence here of constructive knowledge could hardly have been greater and yet the Court declines to rely on the strong evidence of constructive knowledge instead insisting on proof of actual knowledge. Since he denied actual knowledge and she did not testify that she specifically told him about the distribution, there was no evidence that he had specific knowledge. The opinion is consistent with the language of the statute and upholds the actual knowledge requirement in a very literal way.

If you were advising a client you might tell them to make sure that their spouse knows about all of the income coming from their side of the family equation so that your client could testify that the former spouse had actual knowledge but who engages in this type of planning discussion – not many people.

This case demonstrates how difficult proving actual knowledge will be for the IRS or the intervenor. This difficulty is good news for divorced, separated, or widowed spouses who want to avoid a liability caused by income of their former spouse. Remember that to obtain (c) relief you must make the request within two years of collection action. The timing of the request for innocent spouse relief in this situation could be critical because taxpayers like Mr. Bishop may not qualify for relief under IRC 6015(f) and (c) relief may be the only door available in order to walk away from the liability.

 

Supreme Court Grants Cert. to Decide Whether SEC ALJs Need to Be Appointed Under the Appointments Clause; SG Changes Position and Now Supports Required Appointment

We welcome frequent guest blogger, Carl Smith, who blogs today on a frequently discussed topic – the Appointments Clause and its application to employees of the IRS office of Appeals. Keith

In six prior posts since September 2015 (here, here, here, here, here, and here), I have blogged about the storm at the SEC over whether its ALJs need to be appointed under the Appointments Clause or are mere “employees”, who do not need to be appointed. This issue could spill over into whether the ALJs that the Treasury uses to try Circular 230 sanctions matters need to be, and are properly, appointed. I suspect that they may not be.

I noted that in the courts of appeals, the government took the position that the SEC ALJs were mere employees, so there was no problem in the fact that SEC ALJs had been issuing recommended rulings on administrative sanctions matters without having first been appointed. Two Circuits had split on this question: The Tenth Circuit held that SEC ALJs need to be appointed; Bandimere v. SEC, 844 F.3d 1168 (10th Cir. 2016); while the D.C. Circuit held that they did not. Raymond J. Lucia Cos., Inc. v. SEC, 832 F.3d 277 (D.C. Cir. 2016). I correctly predicted that the Supreme Court would grant cert. to resolve this issue. In fact, the Court did so in Lucia on January 12, 2018. But, I never predicted that in the Solicitor General’s response to the cert. petition in Lucia he would change position 180 degrees and now argue that SEC ALJs have to be appointed. Presumably since the government was no longer seeking to reverse the ruling in Bandimere, the Court did not grant the government’s cert. petition in Bandimere.

This means that both of the parties to the Lucia case currently argue for its reversal. Although it has not done so yet, I suspect the Court will appoint an amicus to argue in favor of the ruling below, since the parties won’t. It is expected that Lucia will be heard and decided by the Court before its current Term ends on June 30.

Central to the Lucia case will be what the Court meant in Freytag v. Commissioner, 501 U.S. 868 (1991), when it held that Tax Court Special Trial Judges (STJs) were inferior officers of the United States who need to be appointed.

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In Freytag, the Supreme Court held that the Appointments Clause did not prohibit the Tax Court’s Chief Judge from appointing STJs because the Tax Court was one of the “Courts of Law” mentioned in the Clause and because the Chief Judge could act for the Tax Court.  In reaching these rulings, the Supreme Court made a subsidiary holding that STJs are not employees of the government, but inferior officers who need to be appointed. To support its holding that STJs are officers, the Supreme Court cited the many judicial duties that STJs perform.  At the end of this section of the opinion, the Supreme Court also observed that STJs can enter final decisions in some cases under  § 7443A(c). It is this finality observation that has puzzled and split the lower courts.

In Landry v. FDIC, 204 F.3d 1125 (D.C. Cir. 2000), a majority of a 3-judge panel of the D.C. Circuit held that the Supreme Court’s observation in Freytag that STJs can rule with finality in some cases meant that being able to make a final ruling was a but for requirement of officer status. Since FDIC ALJs could not enter final rulings, but simply made recommended rulings to the whole FDIC, the majority held that the ALJs were mere employees who did not need to be appointed. The third judge on the panel argued instead that, in Freytag, the Supreme Court had already decided that STJs were officers before it made the observation about STJs being in some cases allowed to enter final orders, so finality was not a but for requirement of an officer.

Like FDIC ALJs, SEC ALJs cannot make final rulings – at least where defendants appeal their proposed ruling to the whole SEC. In Bandimere, the Tenth Circuit disagreed with the Landry majority that being able to issue final rulings was a but for requirement of officer status. The Tenth Circuit held that the SEC ALJs performed nearly all the duties that STJs did, so were also officers who needed to be appointed.

In Lucia, citing Landry, the D.C. Circuit held that SEC ALJs need not be appointed because they did not have final ruling authority. After Bandimere was issued, Lucia moved for reconsideration of the ruling in his case by the full D.C. Circuit. He asked the D.C. Circuit to consider whether it should overrule Landry and agree with the Tenth Circuit in Bandimere. An en banc rehearing was granted. However, the en banc D.C. Circuit split evenly on the question, which left the original holding in Lucia intact. Lucia then sought cert.

In response to Lucia’s cert. petition, the new SG under President Trump surprisingly changed the government’s position – agreeing with the Tenth Circuit that the ability to issue final rulings was not a but for requirement of officer status. The SG felt that the SEC ALJs were sufficiently like Tax Court STJs to have to be appointed. Thus, the SG also sought reversal of the D.C. Circuit. The SG asked the Court to grant cert. in Lucia, even though the parties were no longer in disagreement. (Appointments Clause issues are not jurisdictional, so the courts can accept the parties’ waiver of Appointments Clause arguments.) The SG thinks there is a need for Supreme Court guidance in this area – including issues not discussed below as to removal powers for ALJs, which may now be problematic. A number of Court watchers thought that the issue of appointment of SEC ALJs was now moot and that cert. might not now be granted. However, they were wrong.

But, in granting cert. in Lucia, the Supreme Court did not ask the parties to brief any additional questions – e.g., involving removal powers.

Possible Effect on Appeals Office Personnel Issuing CDP Rulings 

In addition to Lucia’s possible impact on ALJs used by Treasury to hold Circular 230 sanctions hearings, the opinion may have an impact, as well, on an issue that I raised over a decade ago. In a CDP case that I had in the Tax Court, I moved to remand the case to have the CDP hearing redone by a Settlement Officer and Appeals Team Manager who were both appointed consistently with the Appointments Clause. I noted that no Appeals personnel were then appointed. But, citing Freytag, I argued that the duties of Appeals personnel in conducting statutorily-mandated CDP hearings were so similar to the duties of an STJ that such Appeals personnel were also officers for purposes of the Appointments Clause.

In Tucker v. Commissioner, 135 T.C. 114 (2010), the Tax Court rejected my argument for several reasons. For one thing, the court felt that the positions in Appeals were not “established by law” for purposes of the Clause. But, also, the Tax Court held that Appeals personnel in CDP did not make final rulings, and, citing Landry, the Tax Court held that the ability to make a final ruling was a but for requirement of officer status per Freytag.

I appealed Tucker to the D.C. Circuit. That court, at 676 F.3d 1129 (D.C. Cir. 2012), affirmed the Tax Court, but on different reasoning. The D.C. Circuit was troubled by the idea that Congress might be able to get around the Appointment Clause by assigning duties that had to be performed by a constitutional officer to preexisting employees in the bureaucracy. Therefore, the D.C. Circuit bypassed issuing any ruling on whether or not the position of CDP hearing person was “established by law”. The D.C. Circuit next held that collection issues were of too minor importance to require an officer. As to underlying tax liability rulings that could be made in CDP under section 6330(c)(2)(B), Freytag clearly would treat those rulings as ones for which an officer was required. Disagreeing with the Tax Court, the D.C. Circuit held that Appeals Office personnel issuing underlying liability rulings issued rulings with “effective finality”. However, the D.C. Circuit held that the ability to exercise discretion in a tax liability ruling was a but for requirement of officer status – one that was not met by Appeals personnel who ruled under the thumb of IRS Counsel attorneys. It was this lack of discretion that undermined the idea that Appeals personnel in CDP were officers needing to be appointed.

I thought that the D.C. Circuit’s ruling that Appeals exercised little discretion in making CDP underlying liability rulings was not factually supported, and I sought cert. But, cert. was denied.

I had not expected to again litigate the Tucker issue, but Florida attorney Joe DiRuzzo has decided that he wants to relitigate the issue in the Tax Court and in courts of appeals – hoping to create a Circuit split. Before the Supreme Court granted cert. in Lucia, Joe had made motions to remand in (at the moment) four different pending Tax Court CDP cases, arguing that the hearings should be redone by appointed Appeals personnel. The cases are: Thompson, Docket No. 7038-15L (appealable to the Ninth Circuit); Elmes, Docket No. 24872-14L (appealable to the Eleventh Circuitt); Fonticiella, Docket No. 23776-15L (appealable to the Eighth Circuit); and Crim, Docket No. 16574-17L (appealable to the D.C. Circuit). If the Supreme Court agrees with Lucia and the SG that issuing final rulings is not a but for requirement for officer status, then the Tax Court will have to at least revise its rationale for its holding that CDP hearing personnel need not be appointed. Perhaps, after reading the Supreme Court’s Lucia opinion, the Tax Court may also have to rule that CDP hearing personnel need to be appointed. In its lengthy response to the motion to remand (filed on January 5, 2018 in the Thompson case – i.e., a week before the Supreme Court granted cert. in Lucia), the IRS discusses the possible relevance of Lucia and the SG’s change in position, but argues that Landry, Lucia, and both Tucker opinions are, at least at the moment, still good law.

 

Review of “Restoring the Lost Anti-Injunction Act”

We welcome back guest blogger Sonya Watson who has changed her last name since the last time she posted. Sonya, a former student at Villanova who studied under both Les and me while obtaining her LLM, is back in her home town and her “home” law school of UNLV where she is an assistant professor in residence and the director of the Rosenblum Family Foundation Tax Clinic. Today she launches a new feature on PT – a review of law review articles addressing issues of tax procedure. Last year we launched a new feature on designated orders which allows us to examine the critical orders issued by the Tax Court that tend to go unnoticed. Sonya and others to be introduced soon will provide a similar regular guest feature providing insight on the latest thinking from those writing longer articles on tax procedures issues we cannot easily address in our blog posts. The first article being reviewed is co-authored by Kristin Hickman and Gerald Kerska. Kristin is a professor at University of Minnesota Law School and a prolific writer who deserves great credit for her pioneering work to push for recognition of the Administrative Procedure Act’s applicability to tax law. Gerald is a 2017 graduate of University of Minnesota Law School. We hope you enjoy their excellent article examining the history and logic of the anti-injucntion act. Keith

In “Restoring the Lost Anti-Injunction Act,” Kristin Hickman & Gerald Kerska, 103 Virginia Law Review 1683 (2017) the authors ask whether Treasury regulations and IRS guidance documents, such as IRS Revenue Rulings, should be eligible for pre-enforcement judicial review. The answer depends on how courts interpret the Anti-Injunction Act (“AIA”). The AIA prohibits tax lawsuits that would “restrain the assessment or collection of [a] tax.” A broad interpretation of the AIA, such that the AIA applies whenever the issues in a tax case even remotely relate to the assessment or collection of taxes, would tend to preclude pre-enforcement judicial review of Treasury regulations and IRS guidance documents. A narrower interpretation would allow application of the AIA only when the issues in a tax case involve the imminent assessment or collection of taxes. Hickman and Kerska argue that the AIA should be construed narrowly.

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The AIA prohibition of lawsuits that restrain the assessment or collection of taxes is not without exceptions. One familiar statutory exception is that which provides the right to file suit in the U.S. Tax Court when the IRS proposes a tax deficiency. Case law creates further exceptions to the AIA.

Some courts have interpreted the AIA so broadly that the government may invoke the AIA to preclude judicial review of just about any case that may relate to the assessment or collection of taxes, no matter how tangential the relation. For example, in the case of California v. Regan, 641 F.2d 721 (9th Cir. 1981) the Court found that the AIA precluded a lawsuit challenging an ERISA regulation that required the State of California to file annual information returns concerning its employees’ pension plan. The Court reasoned that the AIA applied because the IRS could use the information in the returns to determine whether employees qualified for favorable tax treatment, which in turn would “have an impact on the assessment of federal taxes.” Such broad interpretations contributed to the court’s finding in Florida Bankers Ass’n v. U.S. Department of the Treasury, 799 F.3d 1065 (D.C. Cir. 2015) that pre-enforcement judicial review of a set of Treasury Regulations was precluded under the AIA. However, the court in Chamber of Commerce v. IRS, No. 1:16-CV-944-LY, 2017 WL 4682049 (W.D. Tex. Sept. 29, 2017) came to the opposite conclusion, holding that the AIA does not preclude pre-enforcement judicial review of Treasury regulations. The conflicting opinions in Florida Bankers and Chamber of Commerce could lead to a split in the circuits, adding to the long history of jurisprudential inconsistency regarding the application of the AIA.

As outlined in detail in Hickman and Kerska’s article, courts have had to rely on a hodgepodge of case law to determine when the AIA applies to preclude a tax case, sometimes coming to conclusions that do not mesh well with prior precedent. In their article, Hickman and Kerska propose what appears to be workable, if not perfect, as acknowledged by Hickman and Kerska, solutions to what has thus far been an incoherent framework regarding the scope and meaning of the AIA.

Hickman and Kerska believe that a narrower interpretation of the AIA is warranted to protect taxpayers’ presumptive right to pre-enforcement judicial review of agency rules and regulations under the Administrative Procedure Act (“APA”). They argue that this is especially true in light of the IRS’ less than stellar history of complying with the APA; the historical context of the AIA itself; the jurisprudence surrounding the Tax Injunction Act (“TIA”), which Congress modeled after the AIA; and the many Treasury regulations and IRS guidance documents that relate to the IRS’ function as the middleman for social policy efforts rather than its function as tax assessor and collector.

Hickman and Kerska note that the IRS has viewed itself as the exception to the rule when it comes to the APA, emphasizing that for decades the IRS has claimed that many of its rules and regulations are outside the purview of the APA. The APA applies to regulations that carry the force of law. In the past, Treasury regulations have been labeled as either legislative or interpretative based on whether the regulations were the result of specific legislative authority (legislative) or general authority provided by I.R.C. Section 7805(a) (interpretive). Although courts have held that both legislative and interpretative regulations carry the weight of law, and are therefore subject to the APA, Hickman and Kerska assert that the IRS has continued to attempt to distinguish between legislative and interpretive regulations in attempts to sidestep the APA. Hickman and Kerska further note that even when the Treasury purports to comply with the APA, its compliance is dubious, choosing to follow some provisions of the APA and ignore others. Further, regarding IRS guidance documents such as revenue rulings, revenue procedures, and notices, the Treasury does not even purport to comply with the APA. The foregoing highlights why it is important to determine whether the AIA applies to pre-enforcement judicial review of Treasury regulations and IRS guidance documents. Allowing the government to invoke the AIA regarding Treasury regulations and IRS guidance documents may encourage the government to feel further empowered to ignore the APA.

The AIA is the result of Civil War-era tax legislation, which used significantly different procedures for the assessment and collection of tax than are used today. Hickman and Kerska examine the history of the mechanisms of assessment and collection during the Civil War to show that it was not Congress’ intent to use the AIA to prevent lawsuits that are only tangentially related to the assessment or collection of taxes.

Congress created the income tax in 1861 to help finance the Civil War. At that time, and again in 1862, it created administrative procedures for the assessment and collection of tax. The process by which taxes were assessed and collected was lengthy:

Congress tasked assistant assessors with receiving tax returns, with visiting taxpayers in their districts individually to investigate their potential liability for taxes, and, if a taxpayer either failed to file or submitted a fraudulent return, with preparing a return on the taxpayer’s behalf “according to the best information” available. Based on the returns filed and investigations performed, assistant assessors had thirty days after the statutory filing deadline to provide the assessors with alphabetized lists of taxpayers and the taxes they allegedly owed. The assessors then made the lists publicly available, advertising in county newspapers and posting in public places the time and location where taxpayers might examine the lists. These lists served as tentative assessments, informing taxpayers of their proposed tax liabilities. Taxpayers could appeal from those proposed assessments, and assessors were responsible for considering such appeals before submitting final lists of “sums payable” to their respective collection districts. Upon receiving said final lists from the assessors, collectors were charged with publishing the lists again, this time designating the listed taxes as due. People who failed to pay the taxes owed within a specified period after such publication—ten days generally, but thirty days for income taxes, for example—were assessed an additional ten percent penalty and given another ten days to comply. After that, a delinquent taxpayer’s personal or real property could be levied, “distrained” (i.e., seized), and sold.

Over time, procedures for collection and assessment of tax evolved but what remained the same, until fairly recently, was that people paid their taxes yearly and there was a period of time between when taxes were assessed and when they were collected. In contrast, today we overwhelmingly pay our taxes all throughout the year by way of withholding and estimated payments. During the Civil War-era up until World War II, there sometimes wasn’t a large and steady enough stream of revenue for the government to operate, making it vital that there be some way to prevent hinderances to the assessment or collection of taxes. This is why Congress created the AIA in 1867; to make sure the government had the funds it needed to operate. Today, for the most part, such hindrances are more the exception than the rule.

During Civil War-era tax administration when the AIA was created, because of the mechanisms of assessment and collection then in place, as described above and diagramed below, taxpayers had multiple opportunities to halt assessment or collection of taxes.

 

 

 

 

 

Taxpayers of the time frequently took advantage of these opportunities. Seeing that multiple opportunities to file a lawsuit to halt the assessment or collection of taxes were a barrier to the government’s goal of raising revenue to pay for the Civil War, Congress enacted the AIA. Given this historical context, Hickman and Kerska argue that the AIA was and is meant to prevent only a lawsuit that will imminently prevent the assessment or collection of taxes such that the government’s stream of revenue may be stopped. Therefore, they argue, the government should not be allowed to invoke the AIA in the face of just any lawsuit that is conceivably related to the assessment or collection of taxes. Further, the government certainly should not be allowed to invoke the AIA for lawsuits pertaining to pre-enforcement judicial review of Treasury regulations and IRS guidance documents given that at the time of the AIA’s enactment, taxing authorities would have been required to strictly adhere to the letter of the AIA and not allowed to adopt broad, legally substantive pronouncements that would legally bind taxpayers, as compared to taxing authorities’ power today to make rules and regulations that have the effect of law.

Recent TIA jurisprudence provides evidence for Hickman and Kerska’s assertion that the AIA should not preclude pre-enforcement judicial review of Treasury regulations and IRS guidance documents. The TIA, Tax Injunction Act, provides that federal district courts may not retain jurisdiction of tax cases regarding the assessment or collection of state taxes where the taxpayer may readily seek a remedy in a state court. Congress created the TIA, modeled after the AIA, for the purpose of protecting state revenue collection. In Direct Marketing Ass’n v. Brohl, 135 S. Ct. 1124 (2015) interpreting the TIA, the Court found that the assessment or collection of taxes were “discrete phases of the taxation process that do not include informational notices or private reports of information relevant to tax liability.” In other words, pre-enforcement judicial review of agency promulgated rules and regulations is distinct from judicial review of the assessment or collection of taxes. Hickman and Kerska argue that, given the connection between the TIA and AIA, the Court’s finding in Direct Marketing should apply when the government attempts to invoke the AIA to prevent pre-enforcement judicial review of Treasury regulations and IRS guidance documents.

The fact that many Treasury regulations and IRS guidance documents pertain to social policy considerations more so than to the assessment and collection of taxes provides another reason why Treasury regulations and IRS guidance documents should not be precluded from pre-enforcement judicial review under the AIA. Modern tax laws, Treasury regulations, and IRS guidance documents provide not only for taxation of income but also for the transfer of benefits meant to improve society as a whole and policy considerations also intended to benefit society. As Hickman and Kerska note, many Treasury regulations and IRS guidance documents concern “the environment, conservation, green energy, manufacturing, innovation, education, saving, retirement, health care, childcare, welfare, corporate governance, export promotion, charitable giving, governance of tax exempt organizations, and economic development,” which may not directly relate to the mechanisms for the assessment and collection of taxes. Such being the case, Hickman and Kerska note that

[p]arties subject to these regulations are not in the traditional position of paying more taxes with their tax return and then suing for a refund or filing a return documenting their noncompliance and opting to generate a deficiency notice. Absent pre-enforcement review, such regulations may be permanently shielded from judicial oversight, no matter how egregiously the IRS disregards APA requirements.

Hickman and Kerska propose two solutions to prevent the misuse of the AIA in the context of pre-enforcement judicial review of Treasury regulations and IRS guidance documents.

First, to ensure that the AIA is not applied to cut off lawsuits that are only tangentially related to the assessment or collection of taxes, they propose an engagement test. The engagement test would allow the AIA to apply only in cases where the IRS has initiated enforcement procedures against a particular taxpayer. Under such a test, the government could invoke the AIA only by demonstrating that it is engaged with a taxpayer regarding a potential issue or liability, which would be an easy burden for the government to meet given the paper trail it creates when pursuing an issue or liability regarding a particular taxpayer. Moreover, such a test would require taxpayers to exhaust administrative procedures prior to seeking a judicial remedy. Recognizing that courts may feel constrained in favor of prior precedents, however, Hickman and Kerska also offer a legislative fix as an alternative to the engagement test.

Hickman and Kerska provide proposed legislative language that would prevent the government from invoking the AIA in cases involving pre-enforcement judicial review of Treasury regulations and IRS documents:

Notwithstanding section 7421(a), not later than 60 days after the promulgation of a rule or regulation under authority granted by this title, any person adversely affected or aggrieved by such rule or regulation may file a petition for judicial review of such regulation with the United States Court of Appeals for the District of Columbia or for the circuit in which such person resides or has their principal place of business.

Jurisprudence providing exceptions to the AIA may leave taxpayers, practitioners, and judges alike befuddled when it comes to deciding when the AIA applies to prevent any tax case from going forward. Adding the question of when the AIA should apply to prevent a tax case from going forward for the purpose of determining whether pre-enforcement judicial review of Treasury regulations or IRS guidance documents further confuses the issue. Hickman and Kerska’s article provides considerable food for thought on how to determine the proper application of the AIA.

 

 

Designated Orders: Week of 1/1/2018 – 1/5/2018 aka New Year, New Graev III(?)

This week’s designated orders come courtesy of Caleb Smith at University of Minnesota. It is not surprising that Graev III and other issues related to penalties continue to dominate the order pages at the Tax Court. As one might expect in reading Graev III and previous designated orders, Judge Holmes has problems with the way things are working. In two cases Caleb discusses, we find out about the problems and how to attack them. Keith

Estate of Michael Jackson v. C.I.R., dkt. # 17152-13 [here];

Oakbrook Land Holdings, LLC v. C.I.R., dkt. # 5444-13 [here]

2018 begins with Judge Holmes continuing the inquiry into the aftermath of Graev III, and raising some new issues. As Carl posted earlier [here], even if we now know that the IRC 6751(b)(1) argument can be raised in a deficiency case, there certainly remain questions to be answered about the contours of its applicability and interplay with IRC 7491(c) (the IRS burden of production on penalties).

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The main issue in Judge Holmes’s two orders is the interplay of these statutes with taxpayers that are not “individuals” as defined in the code. That is, how does the burden of production issue in 7491(c), which by its language applies to penalties against individuals come to effect partnerships and estates?

Consider the varying breadth of the primary statutes at play:

  • IRC 6751(b)(1): “No penalty under this title shall be assessed […]”

Thus, subject to the exceptions listed in IRC 6751(b)(2), the supervisory approval requirement appears quite broad. By its language, it appears to apply to all penalties found in the Internal Revenue Code.

OK, so we know that supervisory approval is broad. But when exactly does the IRS have the burden of production to show that it has complied? That seems a slightly narrower… As relevant here:

  • IRC 7491(c): the IRS “shall have the burden of production in any court proceeding with respect to any individual for any penalty […]”

So if the penalty is against an individual, the IRS bears the burden of production. That, of course, prompts the question: what is an “individual” for tax purposes? For guidance there, we look to the definitions section of the code. As relevant here:

  • IRC 7701(a)(1): “The term “person” shall be construed to mean and include an individual, a trust, estate, partnership, association, company or corporation.”

This definition clearly contemplates that not every entity is an “individual.” In fact, an individual is basically limited to a natural human. Putting these three statutes together, you seem to get (1) supervisory approval required for all penalties, but (2) burden of production for the IRS to show approval only when the penalty is against a natural human.

The question seems more complicated in the case of partnerships than estates (go figure). For one, in TEFRA cases the petitioner is the partner that files the petition: which may be an individual, but it may also be another partnership, association, etc. Another wrinkle: in the TEFRA/partnership context, the court is looking at the applicability of the penalty, not the liability. Does that change the analysis? 7491(c) explicitly deals with a court proceeding “with respect to the liability […] for any penalty[.]” Is determining applicability the same (or close enough) to being “with respect to” the liability of the penalty for IRC 7491(c) to apply in TEFRA? I would think yes, but I (blessedly) do not frequently work with partnership issues.

As far as I can tell the question of whether the IRS should have the burden of production on penalties (generally) against estates, partnerships, etc. is not much changed under Graev III. The only real difference now is that the IRS (may) have to wrap in supervisory approval as part of their burden of production. In reading Judge Holmes’s orders, I couldn’t help but get the sense that his questions have less to do with the outcome of Graev III and more to do with general problems in the law concerning penalties. In fact, it seemed to me that Graev III simply provided the Court an opportunity to review some issues that may have been lurking for some time.

In both orders, Judge Holmes lists multiple memorandum decisions that apply the burden of production against the IRS for penalties against estates and in the partnership context, respectively. However, Judge Holmes also notes that the cases either don’t really address the question (for applicability against estates), or are fairly unclear in their rationale (for applicability in the partnership context… again, go figure).

The court decision that explicitly does apply the burden of proof on the IRS in a partnership context appears particularly weak. That case is Seismic Support Services, LLC v. C.I.R., T.C. Memo. 2014-78. The issue is addressed in a footnote (11), where the Court actually notes that the language of IRC 7491(c) applies “on its face” to individuals and that numerous Tax Court decisions have refused to apply IRC 7491(c) against the IRS when the taxpayer isn’t an individual. In fact, a precedential decision explicitly says that 7491(c) doesn’t apply when the taxpayer is not an individual: see NT, Inc. v. C.I.R., 126 T.C. 191.

Case closed… right?

Well, no, because other memorandum decisions have applied IRC 7491(c) against the IRS when the taxpayer was a corporation. Why it is that Judge Kroupa in Seismic Support Services, LLC decides that she should follow the lead of the memorandum decisions is beyond me. Those decisions provide essentially no analysis as to whether IRC 7491(c) should apply against non-individuals, whereas NT, Inc. specifically states why it shouldn’t. I would not be surprised if the Court began a trend towards consistency in this matter, abandoning Judge Kroupa’s approach and opting for what appears to be the correct statutory reading: if it isn’t an “individual,” the burden of production for penalties does not apply to the IRS. Partnership issues may complicate that matter, but generally speaking (and especially for estates), it does not appear that IRC 7491(c) should apply.

Throughout all of this, one thing that surprised me was that the IRS has not raised the issue before. In fact, the case that explicitly holds that IRC 7491(c) does not apply in the case of corporate taxpayers (NT, Inc. v. C.I.R.), the IRS (by motion) stated that it did apply… and the Court had to say of its own volition “no, in fact it does not.” Little issue, I suppose, because the IRS won either way.

And that may be the ultimate lesson: if and when the burden of production will actually change the outcome. In essentially all of the cases cited by Judge Holmes (i.e. the cases I reviewed) it is likely the IRS didn’t much care about the burden of proof. They were arguing a “mechanical” applicability of a penalty (like substantial undervaluation) such that it really didn’t matter who had the burden of production, since the burden would be met (or not met) depending on how the Court valued the underlying property (in the estate cases).

But where the penalty requires something more (say, negligence) the IRC 7491(c) issue would definitely be important. Alternatively, if it becomes a requirement that the IRS affirmatively show compliance with IRC 6751 without the taxpayer raising that issue, it may also change the calculous. Like so many other penalty issues, we don’t yet have clarity on how that will turn out.

Remaining Orders:

There were three other designated orders that were issued last week. An order from Special Trial Judge Carluzzo granting summary judgment against an unresponsive pro se taxpayer can be found here, but will not be discussed. The two remaining orders don’t break new ground or merit nearly as much discussion, but provide some interesting tidbits:

A Judge Buch order in Collins v. C.I.R., (found here) may be of some use to attorneys that have some familiarity with federal court, but no familiarity with Tax Court. In Collins, the pro se taxpayer (apparently an attorney, but without admission to the Tax Court) attempts to compel discovery, and cites to the Federal Rules of Civil Procedure (FRCP) Rule 37 to do so. Among many other errors (ranging from spelling, to failing to redact private information), this maneuver fails. For one, it fails because Mr. Collins appears to seek information “looking behind” the Notice of Deficiency (i.e. to how or why the IRS conducted the examination) which older Tax Court decisions frown upon. (I would say that the outcome of Qinetiq (discussed here) generally reaffirms this approach.)

But the more imminent reason why Mr. Collins approach fails is that he doesn’t comply with the Tax Court Rules before looking to the FRCP as a stand-in. And those rules (at R. 70) plainly require attempting informal discovery before using more formal discovery procedures. All of which is to say, attorneys that are accustomed to litigating in other fora should understand that Tax Court is a different animal than they may be expecting.

Finally, An order from Judge Gustafson (found here) shows still more potential problems for the IRS on penalty issues, this time IRC 6707A concerning failure to disclose reportable transactions. The Court surmises (and orders clarification through a phone call) that the IRS may have lumped multiple years of penalties (some for time-barred periods) into one aggregate penalty for a non-time barred year. This is almost certainly a no-no, and if it turns out the IRS calculated the later (open) penalty in that way one would expect the phone call to involve some large dollar concessions from the IRS.

 

 

 

 

 

Tax Court Decides Scope and Standard of Review in Whistleblower Cases

In a fully reviewed Tax Court opinion, Kasper v Commissioner, the Tax Court held that the scope of review in whistleblower cases is subject to the record rule and that the standard of review is abuse of discretion. The opinion is an important development in the progression of treating tax cases as a subset of cases within the mainstream of administrative law generally and the Administrative Procedure Act.

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The opinion concerns whistleblower claim relating to a former employee’s allegations that his employer had a longstanding pattern of uncompensated overtime for its employees. The whistleblower claim connected to taxes because it claimed that the millions of dollars in unpaid overtime would have led to substantial employment tax on the compensation.

The IRS rejected the claim in 2011, and in so doing sent a boilerplate rejection that was not really responsive to the particulars of the claim. In a bankruptcy proceeding involving Kasper’s former employer, IRS collected over $37 million in taxes relating to unpaid withholdings. Kasper wanted some of that, connecting his whistleblower claim to the IRS actions in the bankruptcy proceeding.

The opinion notes that the parties tried the case to “establish the contents of the administrative record and ordered the parties to brief the issues of the scope and standard of review in whistleblower cases to help us figure out both what we can look at and how to look at the IRS’s work in whistleblower cases.”

The opinion clears the fog on the scope and standard of review in whistleblower cases. In so doing, it explores an issue we have covered in PT and an area that I have discussed extensively in IRS Practice and Procedure, especially in revised Chapter 1.7, namely the precise relationship between the APA and the workings of the IRS.

The importance of Kasper is that it establishes that whistleblower cases, unlike deficiency cases which predate the APA and which have a defined set of procedures establishing a clear legislative exception to the path of judicial review of agency action, are subject to the same rules as applied to court review of other agency adjudications. There are there main aspects of that principle:

  • Scope of Review: Tax Court review of whistleblower determinations are subject to the record rule, meaning that the parties are generally bound to the record that the agency and party made prior to the agency determination
  • Standard of Review: the Tax Court will review whisitleblower determinations on an abuse of discretion basis; and
  • Chenery Rule Applies: The Tax Court can uphold the Whistleblower Office determination only on the grounds it actually relied on when making its determination.

What makes Kasper one of the most significant tax procedure cases of the new year is that in reaching those conclusions it walks us through and synthesizes scope and standard of review and Chenery principles in other areas, such as spousal relief under Section 6015 and CDP cases under Section 6220 and 6330.

In what I believe is potentially even more significant is its discussion of exceptions within the record rule that allow parties to supplement the record at trial.   To that end the opinion lists DC Circuit (which it notes in an early footnote would likely be the venue for an appeal even though the whistleblower lived in AZ ) summary of those exceptions:

  • when agency action is not adequately explained in the record;
  • when the agency failed to consider relevant factors;
  • when the agency considered evidence which it failed to include in the record;
  • when a case is so complex that a court needs more evidence to enable it to understand the issues clearly;
  • where there is evidence that arose after the agency action showing whether the decision was correct or not; and
  • where the agency’s failure to take action is under review

As I observe in IRS Practice and Procedure, the clarity so to speak of cases such as Kasper in bringing categories of tax cases within the confines of administrative law is belied by the complexity and at times uncertainty surrounding basic administrative law principles. As  Kasper notes, there can be (and often are) disputes about what is the agency record, and nontax cases establish that the agency itself does not have the final word on what constitutes the record.

On the merits, the Tax Court concluded that the information that Kasper provided did not lead to the collection of the employment taxes in the bankruptcy case. Even though the whistleblower office did not consider the evidence pertaining to the bankruptcy court proceedings, the opinion notes that the IRS would have filed its proof of claim in the ordinary course, so its error in note considering the information was harmless.

Ninth Circuit Holds Period to File Tax Court Collection Due Process Petition Jurisdictional Under Current Supreme Court Case Law Usually Treating Filing Deadlines as Nonjurisdictional

This will be a very brief post. Today, subsequent to my post on the NTA Report calling for certain legislative fixes, the Ninth Circuit held, in a published opinion in Duggan v. Commissioner, that the 30-day period in section 6330(d) to file a Tax Court Collection Due Process petition is jurisdictional and not subject to equitable tolling under the Supreme Court’s post-2004 case law that generally excludes filing deadlines from jurisdictional status. The Ninth Circuit relied on an exception to the current Supreme Court rule that applies where Congress clearly states that the time period is jurisdictional, although the court admits that language Keith and I suggested in our amicus brief in the case might be clearer. The Ninth Circuit noted that the jurisdictional grant for the Tax Court suit was in the same sentence that set out the filing deadline. We have blogged before on Duggan here. In essence, the Ninth Circuit in Duggan adopts the position that the Tax Court adopted in Guralnik v. Commissioner, 146 T.C. 230 (2016) (where Keith and I filed an amicus brief making the same arguments that were rejected in Duggan).

Mr. Duggan was one of at least eight taxpayers over the last two years who have been misled into filing his or her Tax Court Collection Due Process petition one day late because of confusing language in the current notice of determination – a notice that does not show the last date to file.

The Duggan opinion is not the first court of appeals opinion to hold that Collection Due Process petition filing period jurisdictional. However, it is the first such court of appeals opinion that has considered the interaction of the Supreme Court’s current rules on the usual nonjurisdictional nature of most filing periods with the statutory language in section 6330(d)(1).

As I noted in my post on the NTA report from earlier today, Keith and I are imminently awaiting an opinion from the Fourth Circuit in Cunningham v. Commissioner, 4th Cir. Docket No. 17-1433 (oral argument held on Dec. 5, 2017; the Harvard Federal Tax Clinic is counsel for the taxpayer). Cunningham is on all fours with the facts and legal arguments presented in Duggan. She also argues that she was misled by the IRS through confusing language in the Collection Due Process notice of determination into mailing her Tax Court petitions to the court a day late. Like Duggan, she seeks equitable tolling to make her filing timely.

NTA Calls for Making Judicial Tax Case Filing Deadlines Subject to Forfeiture, Waiver, Estoppel, and Equitable Tolling

We welcome back frequent guest blogger Carl Smith who comments on a portion of the NTA’s recently released annual report relating to the issue of equitable tolling and adequate provision of information to taxpayers facing court filing deadlines.  The Ninth Circuit ruled this morning on this issue in the Duggan case linked below and found IRC 6330 jurisdictional.  More later. Keith

In her annual report to Congress dated December 31, 2017, National Taxpayer Advocate Nina Olson has made two legislative proposals that will, if enacted, address problems that Keith and I have faced in some cases that were are litigating or have recently litigated in the courts of appeals. These cases have been the subject of a number of posts on PT. Thus, even if we never win any of these cases (and we make no promises on that score), at least we may have provoked discussion of legislative fixes.

Among problems that have come up in these cases are ones that flow from the courts’ view that all filing deadlines in the Tax Court are jurisdictional and therefore not subject to the judicial doctrines of forfeiture, waiver, estoppel, and equitable tolling – doctrines that are often applicable to nonjurisdictional statutes of limitations in suits (1) between private parties and (2) outside the tax area, brought against the federal government in such areas of law as Social Security disability benefits, employment discrimination, tort claims, and veterans benefits. The NTA notes that, unlike with the Tax Court, the appellate courts have been divided over whether those doctrines apply to tax case filings in the district courts and the Court of Federal Claims. The NTA has recommended that the Code be amended to provide that all of these tax case judicial filing deadlines be made nonjurisdictional and subject to those doctrines. The portion of her report on this proposal can be found here.

Also, along similar lines, the NTA is recommending a legislative change to require the IRS to show the last date to file any Tax Court petition on all Collection Due Process and innocent spouse notices of determination – just as the IRS has been required (since 1998) to show the last date to file on all notices of deficiency. She would have Congress also amend the Code to state that taxpayers may rely on the last date to file shown in the notice, even if the IRS has given the wrong last date – the same rule (added in 1998) under section 6213(a) applicable to notices of deficiency that show the wrong last date. As part of this proposal, she would also ask Congress to allow persons out of the country an additional 60 days to file Tax Court Collection Due process and innocent spouse petitions. The portion of her report on this proposal can be found here.

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I had thought about extending this post to list all the various cases that Keith and I have litigated or are litigating in this area, but have decided that it makes more sense simply to report on the court rulings when they come down. I will, however, note that we are imminently awaiting rulings in the following three cases:

Duggan v. Commissioner, 9th Cir. Docket No. 15-73819   (submitted without oral argument on Dec. 7, 2017; the Harvard Federal Tax Clinic is amicus), and Cunningham v. Commissioner, 4th Cir. Docket No. 17-1433 (oral argument held on Dec. 5, 2017; the Harvard Federal Tax Clinic is counsel for the taxpayer). In both of these cases, the taxpayers argue that they were misled by the IRS through confusing language in the Collection Due Process notice of determination into mailing their Tax Court petitions to the court a day late. They seek equitable tolling to make their filings timely.

Pfizer v. United States, 2d Cir. Docket No. 17-2307 (oral argument to be held on Feb. 13, 2018; the Harvard Federal Tax Clinic is amicus). There, the IRS issued a notice of disallowance of a claim for overpayment interest under section 6611and told the taxpayer it had 6 years to bring suit on the claim in the district court (under 28 U.S.C. section 2401(a)) or the Court of Federal Claims (under 28 U.S.C. section 2501). That is the position that the IRS has long taken as to the statutes of limitations applicable to overpayment interest suits. See Rev. Rul. 56-506, 1956-2 C.B. 959. When the taxpayer brought suit in the SDNY about 3 years later, the DOJ moved to dismiss the suit for lack of jurisdiction as untimely, arguing that the applicable statute of limitations is the 2-year one of I.R.C. section 6532(a). The taxpayer argues that the applicable statute of limitations is the 6-year one, but if the 2-year statute applies, then that 2-year period is nonjurisdictional and subject to estoppel. The taxpayer points to Miller v. United States, 500 F.2d 1007 (2d Cir. 1974), which held that the 2-year period of section 6532(a) is subject to estoppel. Miller is in conflict with Federal Circuit case law holding that the 2-year period is jurisdictional and not subject to estoppel. See, e.g., RHI Holdings, Inc. v. United States, 142 F.3d 1459 (Fed. Cir. 1998).

 

Designated Orders: 12/25/17 to 12/29/2017

The Court was busy during the holiday issuing more designated orders than might be expected and perhaps bringing back to work some Chief Counsel employees who thought they were off until the new government leave year. This week’s designated orders post was prepared by William Schmidt. He focuses on an order regarding Railroad Retirement Income. This type of income gets special play in the tax code but does not create many cases. Keith

On this holiday week, the designated orders could be divided into the Graev III camp and the non-Graev III camp. Two orders not discussed include an order denying a husband’s motion to be recognized as his wife’s “next friend” (Order Here) and the granting of an IRS motion for summary judgment when petitioner did not provide documents for collection alternatives (but submitted an offer in compromise two weeks after filing the petition) (Order and Decision Here).

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Judge Ashford’s Graev III Orders

One example: Docket # 10691-14S, Christopher John Totten v. C.I.R. (Order Here).

Keith Fogg previously discussed fallout for Graev III in this post and Bob Kamman made note of Judge Ashford’s December 26 orders specifically in the comments for that post so this is a bit of a repeat, though it receives some focus in the context of this week’s designated orders.

On December 26, Judge Ashford issued 18 designated orders (14 solitary and 2 each of 2 consolidated dockets) that followed Judge Buch’s template of providing history and a timeline regarding Graev III and other connected cases dealing with Internal Revenue Code section 6751(b).

In Judge Ashford’s orders, the IRS is to respond to the orders on or before January 9 and the petitioners are to respond on or before January 16. Any motions addressing the application of section 6751(b) are to be filed on or before January 23.

This series of orders added to the already interesting history of section 6751(b), Chai, and Graev III.

Taxation of Railroad Retirement Income

Docket # 14521-16, Mell Woods & Gloria Woods v. C.I.R. (Order and Decision Here).

Petitioner Mell Woods received $8,769 of railroad retirement income (“RRI”) in 2013. On their joint tax return for 2013, the petitioners reported $59,047 of adjusted gross income, which did not include the railroad retirement income. The petitioners elected to have the IRS compute their tax liability, which the IRS computed and assessed based on the income reported (which still did not factor in the RRI). The liability is the amount petitioners paid the IRS.

The IRS received the Form SSA-1099 from the Railroad Retirement Board that reported the RRI. Based on that reported income, the IRS underreporting department issued a notice of deficiency from an increased taxable income that includes 85% of the RRI ($7,454) with a resulting deficiency in income tax of $1,125.

After the petitioners filed a timely petition to the Tax Court, the IRS proposed stipulations of fact. On July 27, 2017, the Tax Court issued an order that the petitioners show cause why the proposed stipulations should not be deemed stipulated. After receiving a deficient response from the petitioners, the Court made absolute that order to show cause by its order on August 17, 2017, and deemed stipulated the proposed facts with one exception (the phrase “of which $7,454.00 (85%) was taxable income” – at issue in the Tax Court case).

The IRS next filed a motion for summary judgment with 8 numbered paragraphs supported by 4 documents. Two of the documents are authenticated by IRS counsel Olivia Rembach and the other two are self-authenticating.

Petitioners filed a response denying 5 of the 8 factual paragraphs in the IRS motion. Their denials follow the lines of “Paragraph 3 is denied; paragraph 5 is denied; paragraph 6 is denied”, et cetera. Mr. Woods also included a declaration with statements that the information supplied to the Court is not totally correct: “some of the information does not match the records of the petitioners; other information has been redacted, or covered up, and is not the same as the information supplied to the IRS by the petitioners”. With regard to the RRI, he stated that the information supplied by the U.S. Railroad Retirement Board is incorrect. On the IRS computation of the income tax, “[they] are now complaining about their own figures” because the petitioners “paid the exact amounts as computed by the IRS” and “do not owe additional taxes for the year in question.” He also states that Ms. Rembach does not have personal knowledge of the information and concludes she is not a competent witness.

The Court reviewed the response and determined that the petitioners made blanket denials and did not set forth specific facts showing a genuine dispute for trial, especially regarding the issue of whether the railroad retirement income Mr. Woods received is taxable income. The Court granted the IRS motion for summary judgment and decided the petitioners owed the income tax deficiency of $1,125.

Takeaways:

  • Responses to motions or orders should ideally explain why the parties disagree by stating specific facts and providing supporting documentation. Here, the petitioners gave blanket denials regarding IRS statements that might have gained traction if they said something beyond “paragraph 3 is denied.”
  • When the IRS underreporting department is contacting about income reported to them, it is worthwhile to review the entire notice to see if you agree with their calculations. The IRS might deny credits that should be allowed so it may be necessary to respond to the notice. Overall, you will need to have solid reasons to dispute why the income should not be included with that year’s taxable income (identity theft is a good example).
  • In this case, the main issue was the taxability of railroad retirement income. Since the petitioners submitted their tax return to the IRS for computation of the income tax owed, it may be that they did not understand how to determine the taxable portion of RRI. The order illustrates that Tier 1 railroad retirement benefits are included in income as “social security benefits” under IRC section 86. Tier 1 RRI benefits are taxable under a formula that includes 85% of the RRI in income if the taxpayers’ modified AGI (excluding the RRI) exceeds $44,000. Since the petitioners had modified AGI of $59,047, that was well over the threshold and 85% of the RRI was taxable (85% of the $8,769 was includible income so $7,454 was added to the taxable income). The increase in their income added to their tax $1,125, resulting in a deficiency. Because the petitioners did not argue there was a computational error, the Court ruled for the IRS.