A New Small Claims Court

On June 24, 2016, the GOP published “A Better Way – Our Vision for a Confident America” which sets out its vision of a new improved tax system for the United States.  Now that the GOP controls the levers of power, the blueprint it published last summer has more significance in the national debate.   If you have take time to read proposed legislation, which I do not often do, the document is a pretty quick read and has some nice pictures.  Even though PT does not devote much time to proposed legislation, the blueprint contains a curious but little defined provision concerning tax litigation.  I want to talk about that aspect of the blueprint because Congress already created a system designed to handle small cases almost 50 years ago and I wonder what causes Congress to want to fix that system.

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When the blueprint gets to tax administration, it proposes the following:

A New IRS for the 21st Century

A New Tax Administrator for a New Tax Code

An integral element of this Blueprint will be to rebuild the IRS into a modern and efficient 21st century administrator of the nation’s tax system. The new IRS will have a streamlined structure aligned with the simpler and fairer tax system for families and individuals and businesses of all sizes.

Streamlined Taxpayer Service Agency

With a dramatically simpler tax code, the Blueprint will create a new streamlined IRS dedicated to delivering world-class customer service. The new IRS will be centered on three major units: families and individuals, businesses, and an independent “small claims court” unit.

  • The families and individuals unit will focus on providing state of the art customer service so that taxpayers can get efficient help and answers to their tax questions.
  • The business unit will focus on administering the new tax code for businesses of all sizes and types, including specialists with expertise on the issues facing start-up entrepreneurs and small businesses and specialists with expertise on the issues facing large domestic companies and American-based global corporations.
  • The “small claims court” unit will be independent of the new IRS. This will allow routine disputes to be resolved more quickly, so that small businesses no longer spend more in legal fees to resolve a dispute with the IRS than the amount of tax that was at stake.

Together, these three units will be the core of the new IRS’s commitment to Service First. Each will have an efficient and accountable workforce specially trained to handle matters relevant to taxpayers in their particular area of responsibility. And each of these units will have access to a modern taxpayer records system and internal communications that are secure and comply with record-retention requirements.

Making small claims court one of three units of the IRS is astonishing to me as a reorganizational concept.  While it is described in one place as one of the units of the IRS, it is then described as independent of the IRS.  The clarifying description makes it sound something like the Tax Court which has a small tax case procedure created by IRC §7463.  So, I am left wondering what is new and why the GOP thinks that a new procedure for resolving small claims is so important that it makes it into a grouping of only three units in the reorganization of the IRS.

The Tax Court was, for almost the first 50 years of its existence, more like an independent part of the IRS than a separate court.  It was housed for much of that time in the IRS national office.  I had the good fortune during a small part of my tenure with Chief Counsel’s office to occupy the former office of the Chief Judge of the Tax Court.  The office is a corner office in the national headquarters building of the IRS at 1111 Constitution Avenue and the office is located directly below the office of the IRS Commissioner.  Like the Commissioner’s office, it came with its own private bathroom.  It was a nice office for a government attorney.  When Congress made the Tax Court an Article I court in 1969, it appropriated funds for the court to have its own space which it does now in the Judiciary Square section of Washington.

So, in 1969 Congress made the Tax Court truly independent of the IRS and it created a procedure for small claims cases.  For a greater discussion of the background of the changes in 1969 you can read “The History of the Tax Court – An Historical Analysis” (available for purchase here or can be viewed online here) by Washington and Lee Law School Dean Brant Hellwig. What then makes the GOP so unhappy about the small claims provisions that it lists this as a third prong of the tax reorganization process?  The blueprint offers only a few clues.  It talks about allowing routine disputes to be resolved more quickly.  While wanting more speed in the resolution process is a good thing, it is not something that most of my clients complain to me about.  I see two relatively cheap and easy ways in the current model to achieve more speed in the resolution of small tax cases.  One is to require Appeals to meet with the taxpayer shortly after the case is at issue.  Currently, Appeals may take several months before it gets to a docketed case.  During that time, some taxpayers who were gung ho about their case at the time of filing the petition seem to lose interest.  For that reason, I would like to see Appeals involved much quicker  For the purpose of achieving the goal of the blueprint early meetings would mean, in many cases, early resolution.   Currently, the vast majority of Tax Court cases settle and settle with Appeals.  Getting the taxpayer to meet with the Appeals Officer quickly after the case is filed would speed up resolution.  To achieve this goal, Appeals may need additional resources and it may benefit from a legislative mandate to quickly meet with the taxpayer after the case is at issue.  This would be the single biggest way to speed outcomes in the current system.

A second way to speed resolution of small cases is to expand the use of bench opinions.  I have written about bench opinions before and guest blogger Andy Grewal has written about them also.  Many small cases involve issues that the judge can decide almost immediately if the judge has time.  The current system in the Tax Court requires that the judge issue the bench opinion before the calendar session ends during which the case is heard.  Tax Court judges usually like to end the sessions as quickly as possible since that allows them to return home and saves the government money on travel expenses.  Changing the Tax Court rules to allow bench opinions during a short period of time after the end of the calendar would allow the judge to render a bench opinion without having to prolong the calendar in the city where it is heard and give the judge the benefit of working side by side with their clerk in drafting the opinion.  This would make bench opinions more normal, rather than opinions that occur only when a calendar is prolonged and the judge is able to make time without a trial in the city of the calendar.  This could reduce the time of the decision in small cases from several months to several days or a few weeks in the cases susceptible to bench opinions.  In her remarks at a recent ABA conference, Special Trial Judge Leyden expressed a desire to use bench opinions to the fullest extent possible for the very purpose of giving the taxpayer a quick answer after trial.  Because this can occur without a change in the existing statute, IRC §7459, which does not limit the time for issuing bench opinions, it is a relatively easy fix, although undoubtedly involves other considerations within the Court regarding its practices.  Bench opinions do have the ability to detract from the uniformity of decisions the Tax Court was created to promote.

In creating the small claims court, the GOP blueprint also expressed concern that it was needed “so that small businesses no longer spend more in legal fees to resolve a dispute with the IRS than the amount of tax that was at stake.”  Small businesses can use the existing small tax case procedure of the Tax Court when their tax dispute is less than $50,000 for a tax period.  They can do so unrepresented, as do 70% of the litigants at present.  Nothing really keeps them from moving forward under the present system without hiring a representative, but the small business will face the same problems under the present system or a new system of winning the case, or achieving the best outcome, without representation.  Unless Congress is proposing to expand low income taxpayer clinics (LITCs) to allow them to represent businesses, small businesses with tax disputes making it uneconomical to hire a representative will still go before whatever body resolves the case either unrepresented or pay more for the representation than the amount in dispute.  Currently, IRC §7526 limits LITCs to representation of individuals.  I am not campaigning for an expansion of LITC scope into coverage of certain business entities, but providing some form of congressionally supported representation is the only way to solve the problem for small businesses whose tax issue does not involve enough liability to justify hiring a professional.    These taxpayers get a fair hearing before the Tax Court at present.  It is hard to imagine a new tribunal that would improve the fairness of the hearing and I know of no way to resolve the fee issue without providing this group with some sort of free or subsidized representation similar to the representation currently available to low income taxpayers.

It is interesting that the blueprint focuses on small tax cases as such a big part of the administrative fix of the system.  The current system could be changed to speed the process in the ways I described and other ways such as sending out the Tax Court judges more often, which would require more judges.  I am surprised that this was identified as such a big problem and will follow with interest how it is resolved.

Mixing a Pro Se Taxpayer and Confusing Innocent Spouse Deadlines Leads to Bad Result

In Vu v Commissioner, a summary case from late last year, the Tax Court held that a pro se taxpayer did not establish the Tax Court’s jurisdiction to hear an appeal of an IRS’s denial of a request for innocent spouse relief. What makes the case unusual is that the taxpayer Amanda Vu did file a petition requesting relief but she did so before the IRS issued what it styled as a notice of determination and just prior to 6 months elapsing after her request to the IRS for relief was made. In other words, her petition jumped the gun on the two separate avenues needed to confer the Tax Court’s jurisdiction.

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Before digging into the case I note that I came across the case and wrote a draft of this post without realizing that Carl and Keith are now representing the taxpayer Ms. Vu. As I discuss below, what intrigued me initially about the case was how the result was unfair. Carl and Keith and the Harvard Tax Clinic have filed a motion to set aside the dismissal and remove the case’s small case designation. I will discuss below why the Tax Court dismissed the case, and why I agree with the Tax Court judge that the outcome inequitable and hope that the legal argument Carl and Keith have advanced persuade the Tax Court to reconsider its approach.

I also note that we have discussed premature petitions before, albeit in the context of straight up deficiency cases. In Tax Court Order Finds Jurisdiction Even When Taxpayer Files a Petition Before the IRS Issues Notice of Deficiency a taxpayer filed a petition prior to the stat notice but in response to other correspondence IRS issued in its exam. I discussed how the Tax Court in Weiss v Commissioner went out of its way to confer jurisdiction, essentially allowing the taxpayer’s response to IRS motion to dismiss the case confer jurisdiction, so long as the taxpayer amended its petition and the IRS’s motion and the taxpayer’s response were issued prior to the actual 90-day period ran. I speculated that the problem of premature petitions filed in good faith was likely a common one, and that the Weisses were lucky in that the IRS motion, and their response, were within the 90-day period.

Vu was not nearly as fortunate as Weiss. I will simplify the facts to bring home the procedural conundrum Vu found herself in.

She, with a friend’s assistance, submitted a request for innocent spouse relief that she signed and dated February 28, 2014. IRS recorded it as received on March 24, 2014.

Vu testified that she received from IRS on June 12 an “Innocent Spouse Relief Lead Sheet” that was dated June 4, 2014. The document was designated Workpaper # 615 and reads in part:

Conclusion: (Reflects the final determination on the issue.)

Conclusion for 6015(b):

Note: A summary of your conclusion should go here. Ensure that reference is made as to what factors are met if allowing or granting partial relief, and what factors are not met

It was concluded that the Taxpayer does not meet innocent spouse relief under IRC 6015(b).

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Conclusion for 6015(c):

Note: A summary of your conclusion should go here. Ensure that reference is made as to what factors are met if allowing or denying partial relief, and what factors are not met if disallowing or granting partial relief.

It was concluded that the Taxpayer does not meet innocent spouse relief under IRC 6015(c).

*******

Conclusion for 6015(f):

Note: A summary of your conclusion should go here.

It was concluded that the Taxpayer does not meet innocent spouse relief under IRC 6015(f).

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Vu sent in a petition to Tax Court and it had a September 8, 2014 postmark, and Tax Court received it on September 12, 2014.

About one month after Vu filed her petition, on October 9, 2014 IRS mailed Vu a final determination denying her request for innocent spouse relief.

On November 3, 2014, IRS filed an answer. In the answer it denied issuing a notice of determination from New Mexico and indicated that it issued a notice of determination from Phoenix on October 9, 2014. IRS did not in the answer indicate that the petition Vu filed was premature; that was too bad because if it had flagged the issue, the taxpayer, like the early bird in Weiss, could have cured her defect and filed a petition that would have clearly been timely.

On January 27, 2015 Vu, more than 90 days after issuing what it called a final determination and over four months after Vu filed her petition, IRS filed a motion to dismiss Vu’s petition on the ground that she filed it prior to the time that the IRS issued its October 9 notice of determination.

Vu did not respond to the Tax Court’s order ordering a response to the motion. The motion was argued at a June 2015 calendar in New Mexico.

The Law

A petition to Tax Court is timely in innocent spouse cases if it is made (1) within 90 days of the mailing of a notice of final determination of relief, or (2) if the IRS has not yet mailed a notice of determination, at any point after six months has transpired since the taxpayer’s request for relief was made with the Commissioner.

Applying the above rules to Vu meant that the Tax Court would have had jurisdiction under two alternate theories:

  • if it considered the IRS’s Innocent Spouse Relief Lead Sheet IRS issued sometime in June a notice of determination and Vu filed a petition within 90 days of that determination, or
  • if at the time she filed her petition to Tax Court 6 months had elapsed following her request for relief and IRS had issued no determination in the case.

On both grounds the Tax Court held that Vu came up empty leaving the Tax Court to conclude that it had no jurisdiction in the case.

Both issues are interesting and walk us down some complicated procedural rules. First let’s look at issue 1. The opinion indicates that it likely would have been willing to conclude that the Workpaper #615 correspondence was a determination, noting cases such as Barnes v Commissioner that neither the statute or regs impose a specific form or spell out the content of what should be in a determination and the language of the workpaper led the taxpayer to conclude it was a final IRS determination. The problem for Vu was that there was no evidence in the record when IRS issued that correspondence, making it impossible to conclude that the petition she filed was within 90-days (and allowing the court to punt on concluding definitively that the Workpaper was a determination).

There were two possible dates: June 4, when the document was dated, or June 12, when Vu claimed to receive it. Determining which was correct was key, because if it were issued on June12th the petition she mailed on September 8 would have been filed within 90 days, using the mailbox rule that allows date of mailing to be the date of filing. If it were issued on June 4th the petition would have been filed outside the 90-days.

According to the Tax Court Vu did not offer any evidence as to why June12th was the correct date:

As for the June 12, 2014, date, petitioner however did not present any evidence whatsoever showing that any relevant action occurred on June 12, 2014, and has specifically failed to establish that respondent provided her the requisite final determination notice on that date.

What about issue 2, the 6-month rule? That issue turned on whether Vu’s request was considered made on February 28, when she signed, dated and testified that she mailed it, or March 24, when IRS records treated the request as received. If the operative date were February, then Vu’s petition would have conferred jurisdiction, as the petition she mailed on September 8 and which the Tax Court received on September 12 would have been filed after 6 months had elapsed from her administrative request for relief and prior to the IRS’s issuance of the October 9 final determination.

Vu came up empty here too. How it gets there requires a detour to Section 7502, the mailbox rule. The Vu opinion treats the statutory language “made” in the same manner as if it interpreted when the request were filed. The opinion treated the request for relief as having been filed or made in March (when IRS received it) and not when  mailed in late February. It does so because the mailbox rule under Section 7502 is actually an exception to the general rule that a document is filed when it is received by the IRS. Recall that the mailbox rule of Section 7502 only applies when documents are filed with and received after the expiration of a filing period. Here, the filing period limitation relates to the time period to bring an administrative request for innocent spouse relief, and that limitation was years in the future:

Because petitioner’s Form 8857…was filed before respondent initiated any collection action with respect to that year (indeed, before respondent even issued the joint notice of deficiency to petitioner and Mr. Nguyen with respect to that year), we find that respondent timely received the form on March 24, 2014; section 7502 therefore does not apply, and the relevant date for section 6015(e)(1)(A)(i)(II) is not six months after the alleged mailing date of the form but six months after the date of receipt of the form, or September 25, 2014.

The opinion made clear why Vu came up short:

Consequently, we can exercise jurisdiction over the petition herein only if it was filed “at any time after the earlier of” October 9, 2014 [the date of the formal notice of determination], or September 25, 2014 [six months after Vu’s request was made], see sec. 6015(e)(1)(A)(i), and “not later than” January 7, 2015, see sec. 6015(e)(1)(A)(ii). Because the petition was filed with the Court on September 12, 2014, it does not meet this requirement and we thus lack jurisdiction over it.

This opinion noted the unfairness of the outcome:

While we acknowledge that this is an inequitable result, as petitioner filed her petition believing in good faith that it was timely and her opportunity to file another petition has now expired, we are unfortunately constrained by the statute, and our role is to apply the tax laws as written.

Final Thoughts

This is a bad outcome. I do not understand why counsel for IRS did not alert Vu of the premature petition issue earlier in the process. It appears that counsel for the IRS did not appreciate the 90-day issue fully until it filed the motion; otherwise one would have hoped that counsel would have filed the motion in lieu of the answer. That would have given Vu time to file a petition within the 90-day window, as the taxpayer in Weiss did. I also note that the IRS only raised the 6-month issue at the hearing itself on the motion, which was many months after the IRS filed its motion to dismiss.

We have discussed before the difficulties associated with confusing IRS correspondence. When you add to the mix the reality that many taxpayers are pro se and not equipped to understand the nuances of differing IRS procedures you can get to a place where a taxpayer is denied her day in court despite efforts to have her case heard.

There is a possibility that the Tax Court will change its mind and the case will get heard. Keith and Carl in their motion to set aside the dismissal argue that the IRS forfeited the right to make an SOL argument by waiting too long in this case, as it should have been made in the answer. This is an argument similar to the way the Supreme Court in the 2004 case of Kontrick v. Ryan held that a bankruptcy debtor waited too long in his case to raise the untimeliness of a creditor’s filing because the time period was not jurisdictional, so had to be raised earlier in the case.  Kontrick is the Supreme Court opinion that first began the narrowing of the use of the word “jurisdictional”.

We have discussed the issue of jurisdictional deadlines repeatedly; the most recent was Carl’s discussion of Tilden earlier this week, an opinion that does not help the argument in Vu. Admittedly there is no direct precedent in support of Vu’s argument, and the Tax Court in Pollock v Commissioner has previously held that the deadline under Section 6015(e)(1)(A) was jurisdictional and not subject to equitable tolling. To be sure, there is no long line of Supreme Court precedent holding deadlines under Section 6015 jurisdictional, and the Tax Court’s opinion in Pollock was prior to the Supreme Court and other courts’ narrowing of the term jurisdictional. Moreover, the language in Section 6015(e) consists of a single sentence containing both jurisdictional grants and time periods to file a petition, a type of statute that the Supreme Court has previously held to be not jurisdictional.

Keith and Carl have a few cases other than Vu in the pipeline making this argument and I hope the courts at a minimum address the changing law and meaningfully apply those changes to these and other deadlines where IRS conduct has contributed to taxpayer confusion and the denial of a day in court.

Tilden v. Comm’r: Seventh Circuit Reverses Tax Court’s Untimely Mailing Ruling

Frequent guest blogger Carl Smith provides a detailed analysis of Friday’s 7th Circuit opinion in the Tilden case.  The opinion discusses two issues: 1) whether the time to file a petition in Tax Court in a deficiency case is jurisdictional and 2) the proper application of the timely mailing regulations.  Carl analyzes both issues in the case.  Keith

I have blogged on this case four times before here, here, here and here.  In my last post, I said I was grabbing a bowl of popcorn to watch how the Seventh Circuit ruled in the appeal of Tilden v. Commissioner, T.C. Memo. 2015-188. In an opinion issued on January 13, the Seventh Circuit again changed course – abandoning the argument two judges on the panel had raised sua sponte at oral argument – that the time period to file a Tax Court deficiency petition might no longer be jurisdictional under current non-tax Supreme Court case law on jurisdiction.  Instead, the court (following decades of Tax Court and Circuit court precedent) continued to hold that the time period to file a deficiency petition is a jurisdictional requirement.

However, the Seventh Circuit reversed the Tax Court’s holding that the envelope containing the petition was not entitled to the benefit of the timely-mailing-is-timely-filing rules of the regulations under section 7502.  In the case, the Tax Court had held that USPS tracking data showed the envelope placed in the mail beyond the last date to file.  The Seventh Circuit criticized the usage of tracking data as evidence of the date of mailing.  Rather, the Circuit court held that the petition had been timely filed under the private postmark provision of the regulations, not a different provision of the regulations on which the Tax Court had relied.

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Tilden Facts

Tilden is a deficiency case.  The envelope containing the petition bore a private postage label from stamps.com, dated the 90th day.  Apparently, the envelope was placed in the mail by an employee of counsel for the taxpayer, and that employee also affixed to the envelope a Form 3800 certified mail receipt (the white form), on which the employee also handwrote the date that was the 90th day.  The Form 3800 did not bear a stamp from a USPS employee.  Nor did the USPS ever affix a postmark to the envelope.

The envelope arrived at the Tax Court from the USPS.  The USPS had handled the envelope as certified mail.  That meant that the USPS internally tracked the envelope under its “Tracking” service.  Plugging the 20-digit number from the Form 3800 into the USPS website yielded Tracking data showing that the envelope was first recorded in the USPS system on the 92nd day.  The envelope arrived at the Tax Court on the 98th day.

In Tilden, the IRS moved to dismiss the case based on the ground that the USPS Tracking data showed the petition was mailed on the 92nd day.

In his objection, the taxpayer disagreed, arguing that this was a situation covered by Reg. 301.7502-1(c)(1)(iii)(B)(1).  That regulation states:

(B) Postmark made by other than U.S. Postal Service.–(1) In general.–If the postmark on the envelope is made other than by the U.S. Postal Service–

(i) The postmark so made must bear a legible date on or before the last date, or the last day of the period, prescribed for filing the document or making the payment; and

(ii) The document or payment must be received by the agency, officer, or office with which it is required to be filed not later than the time when a document or payment contained in an envelope that is properly addressed, mailed, and sent by the same class of mail would ordinarily be received if it were postmarked at the same point of origin by the U.S. Postal Service on the last date, or the last day of the period, prescribed for filing the document or mailing the payment.

The taxpayer argued that the stamps.com mailing label, combined with the Form 3800, was a “postmark” not made by the USPS that legibly showed a date that was the 90th day and that the 8-day period between the 90th day and receipt by the Tax Court was when mail of such class would “ordinarily be received”.  Thus, under the regulation, the petition was timely filed.

In responding to the objection, the IRS changed position and now argued that the taxpayer had the wrong portion of the regulation, and that the relevant portion of the regulation was actually Reg. 301.7502-1(c)(1)(iii)(B)(2), which provides:

(2) Document or payment received late.–If a document or payment described in paragraph (c)(1)(iii)(B)(1) is received after the time when a document or payment so mailed and so postmarked by the U.S. Postal Service would ordinarily be received, the document or payment is treated as having been received at the time when a document or payment so mailed and so postmarked would ordinarily be received if the person who is required to file the document or make the payment establishes–

(i) That it was actually deposited in the U.S. mail before the last collection of mail from the place of deposit that was postmarked (except for the metered mail) by the U.S. Postal Service on or before the last date, or the last day of the period, prescribed for filing the document or making the payment;

(ii) That the delay in receiving the document or payment was due to a delay in the transmission of the U.S. mail; and

(iii) The cause of the delay.

The IRS argued that the petition had arrived beyond the time it would “ordinarily be received”, triggering the taxpayer’s obligation to prove the three conditions of the relevant portion of the regulation – none of which had been proved.

Tilden Tax Court Ruling 

In his opinion, Judge Armen held that both parties had relied on the wrong portions of the regulation.  He believed the relevant portions of the regulation were found at:

(1) Reg. 301.7502-1(c)(1)(iii)(B)(2), which provides:

(3) U.S. and non-U.S. postmarks.–If the envelope has a postmark made by the U.S. Postal Service in addition to a postmark not so made, the postmark that was not made by the U.S. Postal Service is disregarded, and whether the envelope was mailed in accordance with this paragraph (c)(1)(iii)(B) will be determined solely by applying the rule of paragraph (c)(1)(iii)(A) of this section; and

(2) Reg. 301.7502-1(c)(1)(iii)(A), which provides:

If the postmark does not bear a date on or before the last date, or the last day of the period, prescribed for filing the document or making the payment, the document or payment is considered not to be timely filed or paid, regardless of when the document or payment is deposited in the mail.

Judge Armen admitted that no postmark from the USPS actually appeared on the envelope, but he cited his opinion in Boultbee v. Commissioner, T.C. Memo. 2011-11.  In Boultbee, a deficiency petition was mailed from Canada, but bore no timely postmark from the USPS (only a timely postmark from the Canadian mail service).  Still, the USPS Tracking information showed that the envelope entered the USPS mail stream before the end of the filing period.  The judge held that such tracking information could serve as a postmark of the USPS, making the petition timely mailed.

Relying on Boultbee, he held in Tilden that the envelope was deemed to bear a USPS postmark as of the tracking information date.  Then, relying on the portion of the regulation dealing with a situation where there is both a USPS postmark and a private postmark, he said the USPS postmark (the tracking information date) governed, so the petition was untimely.

Tilden Motion for Reconsideration 

In a motion for reconsideration filed by the taxpayer, the taxpayer, among other things, argued for applying the common law mailbox rule.  The taxpayer reported that the IRS told him that the IRS objected to the granting of the motion for reconsideration.

But, when the IRS actually filed a response to the motion, the IRS changed position again and now did not object to the granting of the motion.  The IRS noted that section 7502 has been held to supersede the common law mailbox rule in most Circuits (with one exception not relevant to this case).  And, in any case, the common law mailbox rule couldn’t apply here where there was actual delivery – and delivery was on a date after the due date.  You still needed section 7502 to make the late envelope timely.

But, the IRS now took the position that the envelope had been received at the limit of, but still within, the time in which the envelope would be expected to “ordinarily be received” if mailed on the 90th day from Utah, where the taxpayer’s attorney’s office was.  In part, the IRS concession was based on the delay to be expected because (as many people forget), since the 2001 anthrax in the mail scare, all mail to the Tax Court gets irradiated.  Thus, the IRS conceded that the taxpayer’s petition was timely under the portion of the regulation on which the taxpayer relied, Reg. 301.7502-1(c)(1)(iii)(B)(1).  The IRS, without mentioning Boultbee, simply told the court that the court had relied on the wrong provisions of the regulation, since there was no actual USPS postmark in this case, just tracking data.

Somewhat incensed that neither party responded to Boultbee — the lynchpin of his prior ruling in Tilden —  Judge Armen denied the motion for reconsideration, telling the parties the truism that the court’s jurisdiction may not be conferred by mere concession by the parties.

Seventh Circuit Oral Argument

At the oral argument in the Seventh Circuit, two judges on the panel, sua sponte, raised a different issue:  Whether the time period in section 6213(a) to file a deficiency petition is still a jurisdictional requirement in light of non-tax Supreme Court case law since 2004 that generally excludes compliance with filing periods from jurisdictional status, unless (1) there is a “clear statement” that Congress wants the particular time period to be jurisdictional or (2) for decades, the Supreme Court in prior rulings has held the particular time period jurisdictional (stare decisis).  Anyone listening to the oral argument (posted on the Seventh Circuit’s website) would tell you that the court was leaning toward holding the time period not jurisdictional and that the IRS had now waived any complaint in the case that the time period (now a mere statute of limitations) had been violated.

But, unbidden, after the oral argument, the parties filed supplemental briefs on this question, with the parties taking opposite views on whether the deficiency filing period is jurisdictional.

Seventh Circuit Holding

Apparently, the panel had second thoughts about what it raised sua sponte.  Instead, it held that the time period in section 6213(a)’s first sentence was a jurisdictional requirement.  After acknowledging that case law cited to it from prior Circuit opinions, including itself, had not discussed the applicability of the current Supreme Court case law on jurisdiction to the Tax Court deficiency filing period, the Seventh Circuit, found three reasons to support its holding:

First, the court implicitly looked to the “clear statement” exception, finding a “magic word” (Slip op. at 5):  There was a reference to “jurisdiction” in a later sentence in section 6213(a) limiting the Tax Court’s power to issue injunctions against premature assessment or collection of the deficiency to when “a timely petition . . . has been filed”.  The Seventh Circuit wrote:  “Tilden does not want either an injunction or a refund; he has yet to pay the assessed deficiencies. But it would be very hard to read §6213(a) as a whole to distinguish these remedies from others, such as ordering the Commissioner to redetermine the deficiency (sic).” Id.  (Comment:  What does the injunctive provision have to do with the first sentence?  Where is the “clear statement” that the first sentence filing period is jurisdictional?  Moreover, “timely” in the injunctive jurisdiction sentence obviously includes filings deemed timely by other Code provisions such as section 7502, 7508 (combat zone extensions), and 7508A (disaster area extensions), so “timely” doesn’t show Congress wanting the 90-day period in the first sentence of section 6213(a) to be rigidly applied.)

Second, the court noted the pre-2004 longstanding holdings of the Tax Court and many Circuits that the time period was jurisdictional (i.e., stare decisis).  “We think that it would be imprudent to reject that body of precedent, which (given John R. Sand & Gravel) places the Tax Court and the Court of Federal Claims, two Article I tribunals, on an equal footing.”  (Slip op. at 6)  In John R. Sand & Gravel Co. v. United States, 552 U.S. 130 (2008), the Supreme Court had held that, purely on a stare decisis basis, it would not follow its current rules on what is jurisdictional because for over 100 years (in multiple opinions), the Court had held the 6-year time period to file a Court of Federal Claims petition under the Tucker Act (28 U.S.C. section 2501) is jurisdictional.  (Comment:  But, in Henderson v. Shinseki, 562 U.S. 428 (2011), the Supreme Court held that the filing period in the Article I Court of Appeals for Veterans Claims is not jurisdictional.  And, for tax cases, the relevant comparable time period to file a refund suit in the Court of Federal Claims is not 28 U.S.C. section 2501, but I.R.C. section 6532(a); Detroit Trust Co. v. United States, 131 Ct. Cl. 223 (1955); on which the Supreme Court has never made a jurisdictional ruling.  Moreover, the stare decisis exception to the current Supreme Court case law is to a long line of Supreme Court precedents on the particular time period, not to precedents of lower courts, on which the Seventh Circuit was relying.)

Third, the Seventh Circuit accepted the conclusion of the Tax Court that the section 6213(a) time period was jurisdictional in the Tax Court’s recent opinion in Guralnik v. Commissioner, 146 T.C. No. 15 (June 2, 2016), which held that the CDP petition filing period under section 6330(d)(1) is jurisdictional in part because of the Tax Court’s reliance on its precedents that all filing periods in the Tax Court are jurisdictional.  (Comment:  This is pretty circular.  Is this even a separate reason, or just a restatement of the previous stare decisis ground?)

As to the section 7502 issues, the Seventh Circuit said the Tax Court had relied on the wrong provisions of the regulation.  The right provision was the one relied on by the taxpayer and, eventually, the IRS – the rules for private postmarks where there is no USPS postmark.  The Seventh Circuit did not consider tracking data to be a USPS postmark, writing, as well:

“For what it may be worth, we also doubt the Tax Court’s belief that the date an envelope enters the Postal Service’s tracking system is a sure indicator of the date the envelope was placed in the mail. The Postal Service does not say that it enters an item into its tracking system as soon as that item is received . . . .” (Slip op. at 7)

The Seventh Circuit acknowledged that parties are not allowed to collude to give a court jurisdiction that it doesn’t otherwise have, but the appellate court held that there was no apparent collusion in this case, and the Tax Court was bound to accept the IRS’ factual concession (after the motion for reconsideration) that the envelope had been placed timely in the mails (a factual concession that had no evidentiary support, by the way).  (Comment:  This holding is going to shock a lot of Tax Court judges.)

Finally, the Seventh Circuit excoriated the lawyers who failed to put a proper postmark on the envelope:  “Stoel Rives was taking an unnecessary risk with Tilden’s money (and its own, in the malpractice claim sure to follow if we had agreed with the Tax Court) by waiting until the last day and then not getting an official postmark or using a delivery service.”  (Slip op. at 8)

Additional Observations             

The Seventh Circuit’s ruling in Tilden certainly doesn’t help the argument that Keith and I are pursuing in the Circuit courts that the time periods in which to file CDP and innocent spouse petitions in the Tax Court are not jurisdictional.  However, a stare decisis argument is harder as to those two filing periods:  There is only one published opinion of a Circuit court holding that the CDP filing period is jurisdictional (and it did not mention the recent Supreme Court case law on jurisdiction) and there are no opinions of any Circuit courts on whether the innocent spouse filing period is jurisdictional.  Keith and I are not giving up.

Without citing Boultbee, the Seventh Circuit casts doubt on Boutlbee’s reliance on USPS tracking data – at least for purposes of finding the Tax Court lacked jurisdiction.  This alone is a major event.

As pointed out in my prior posts, there are a number of cases in the Tax Court where the proceedings have been stayed pending the Seventh Circuit’s ruling in Tilden.  We can expect some of them to generate opinions soon, including possibly a Tax Court court conference opinion discussing whether or not the Tax Court now agrees with the Seventh Circuit as to which regulation provisions govern and how relevant USPS tracking information is.  Ironically, one of the cases awaiting this ruling is factually identical to Tilden and apparently involves the same law firm making the same postmark mistake (though that case would be appealable to the Eighth Circuit).

Finally, a National Office attorney informed me last month that there is a “reverse Tilden case” pending in the Tax Court – i.e., one where the postmark is untimely (not sure if it is USPS or not), but the tracking data shows the envelope in the USPS mail stream before the end of the filing period.  There’s always something . . . .

Superseding Original Returns

As the filing season starts, it is appropriate to think of filing more than one return if the first or second return is incorrect.  This is not the same as voting early and often as Chicago voters were fond of doing during the Mayor Daley era.  The filing of  a more correct return(s) during the filing season allows the taxpayer to get it right before the due date of the return in order to avoid penalties or other consequences that can flow from an incorrect return.  With each new return filed prior to the due date of the return, the newly filed return replaces and supersedes the preceding one(s).  Because of the timing of this post at the beginning of the filing season, we do not mean to suggest that you make anything but the best effort in filing the first return, but knowledge of the availability of the superseding return may come in handy for one of your clients some day.

Usually, April 15th is not an especially busy time for the tax clinic because the work of the clinic is not geared to the filing season but rather to the litigation calendar.  Last year things worked out a little differently because we had some clients with unfiled 2012 returns that generated refunds which would have been lost if the returns were not filed within three years of the original due date and a client who had already filed their 2015 return which was rendered incorrect by a Form 1099 received after the filing of the return.  So, the filing date mattered to our clinic last year.  In filing the second return for 2015 for the client who received the Form 1099 after the original filing for the year, we filed what is known as a superseding return.  Prior to filing this return, we did a bit of research which I share in this post.  If we had not filed a superseding return in the case of the Form 1099, the taxpayer could have filed an amended return after the due date for filing the 2015 return passed or could have waited for contact from the IRS Automated Underreporter Unit and responded at that time to an inquiry about the income reported on the Form 1099 but not reported on the Form 1040.  By filing the superseding return, we hoped that we corrected the situation in the timeliest manner.  Superseding returns are far enough outside filing norms for me to expect that some glitch might occur in doing this so you do not want to do this routinely or declare victory too soon afterwards.

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Many people file returns early in the filing season because they want to obtain a refund as quickly as possible or they need to have a filed return for other reasons such as sending it to the people who determine the amount of student loans or financial aid for which their son or daughter qualifies.  Sometimes, after filing a return and before the due date for filing the return, a taxpayer gains additional information that renders the return incorrect in some fashion.   The taxpayer in that situation faces a choice about whether and when to fix the return.  The advantage of fixing the return prior to the due date for filing the return is that fixing it before that date makes the later return the original return for the tax period and eliminates the possibility of penalties or other action based on the missing information.

If a taxpayer learns of the incorrectness of a return after filing but before the due date, they also face a slightly different situation than if they had learned about the incorrectness after the due date.  The regulations provide that a taxpayer should, but not must, file an amended return when they learn that a return filed is incorrect. I co-authored an article with Professor Calvin Johnson on the duty to correct returns if you want to read more on this topic. The regulation which directs taxpayers that they should file an amended return when learning of a mistake seems to address the taxpayer who finds out after the original due date.  If the taxpayer finds the mistake before the original due date and fails to fix it before that date, their responsibility to the system may differ.

The idea of superseding returns receives little attention.  The IRS makes brief mention of it in I.R.M 21.6.7.4.10 which it last revised on October 1, 2016. The mention in the manual does not imply that the IRS encourages superseding returns.  I suspect that the IRS does not want to encourage superseding returns because it does not want to deal with the processing headaches they will create.  If you do submit a superseding return, you will need to file the return as a paper return and you will want to write on the return “SUPERSEDING RETURN” at the top of the form in hopes that doing so will give a big clue to the person processing the return.  Of course, you could send it with a cover letter but letters often get separated from the tax form during the filing process.

The legal basis for superseding returns traces its roots to Haggar Co. v. Helvering, 308 U.S. 389 (1940).  In Haggar the taxpayer filed a return, realized before the due date that the return contained a mistake, filed an amended return before the due date of the original return and sought to have the IRS accept the amended return.  The return had particular importance in this year because it fixed the corporation’s capital stock account for purposes of a special tax on earnings.  The Court stated “Sections 215 and 216 of the National Industrial Recovery Act impose interrelated taxes on domestic corporations — namely an annual capital stock tax and an annual tax on profits in excess of 12 1/2 percent of the capital stock, calculated on the basis of the value of the capital stock as fixed by the corporation’s return for the first year in which the tax is imposed.”  The return at issue in Haggar was the corporation’s return for the first year.

The IRS refused to accept the second or amended return and issued a notice of deficiency based upon the value of the stock in the tax return originally filed   The taxpayer petitioned the notice arguing that  filing the amended return before the due date allowed it to set the value of the stock.  The Supreme Court agreed stating:

“It is plain that none of these purposes would have been thwarted, and no interest of the Government would have been harmed, had the Commissioner, in conformity to established departmental practice, accepted the petitioner’s amended declaration. It is equally plain that, by its rejection, petitioner has been denied an opportunity to make a declaration of capital stock value which it was the obvious purpose of the statute to give, and that denial is for no other reason than that the declaration appeared in an amended, instead of an unamended, return. We think that the words of the statute, fairly read in the light of the purpose, disclosed by its own terms, require no such harsh and incongruous result.”

Even though most returns do not have the same importance as the return at issue in Haggar, the principle in the case established the concept of superseding returns that carries forward to today. While my description of superseding returns focuses on using them to correct a mistake found before the due date in order to avoid penalties or some other consequence of leaving information off of a return, a couple of former Chief Counsel attorneys, Harve Lewis and Norlyn Miller, have written about how it might be used as a planning tool for timely making certain corporate elections.

 

Tax Exceptionalism Lives? QinetiQ v. CIR

We welcome back guest blogger Bryan Camp who is the George H. Mahon Professor of Law at Texas Tech.  Professor Camp teaches both tax and administrative law which is why I sought him out for this guest post.  The decision here is important.  The lead attorney for the taxpayer, Jerry Kafka, is one of the best if not the best tax litigators in the country.  Though his client lost this case the arguments made here were not frivolous.  What could have been a game changer had the taxpayer won leaves us in the same posture we were in before the case was brought but with more light shone into the corners of tax and the APA.  Keith

Keith emailed me last week and asked if I would care to blog about a recent 4th Cir. opinion affirming a Tax Court decision that upheld a proposed deficiency in the taxes of QinetiQ US Holdings (Q).  (for previous PT posts on QinetiQ see here, here and here).It seems that Q took a big §83(h) deduction.  On audit, the Service disallowed the deduction and sent Q a Notice of Deficiency (NOD).  In court, Q argued that the NOD violated the Administrative Procedure Act (APA) because the NOD gave no explanation for the disallowance and, oh, by the way, the §83 deduction was proper.  The Tax Court rejected both arguments.  The 4th Cir. affirmed.

Maybe the §83 issue is interesting.  If so, I’m sure the Surly Subgroup will blog it.  To me, however, what makes this 4th Cir. opinion worthy of a shout out is its discussion about the relationship of the Administrative Procedure Act (APA) to tax procedure.  Ever since the Supremes decided Mayo Foundation in 2011, it seems everybody and their little dogs have been declaring that something called “tax exceptionalism” is dead.  The Fourth Circuit’s opinion gives a more nuanced take, one that is worth blogging about for three reasons.  First, it represents a new front on the “tax exceptionalism” debate.  Second, the Circuit’s opinion makes a critically important point about the relationship of the APA to tax procedure.  Third the opinion could affect court review of other types of IRS determinations, such as CDP determinations.

I will consider each of these points in turn.

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  1. A New Front on Tax Exceptionalism Debate

QinectiQ represents a new front in the ongoing debate over the proper relationship of the APA to tax practice and procedure.  Up to now, the debate has been chiefly about tax regulations and tax guidance.  That’s the Mayo case and other cases where taxpayers have sought to challenge the procedure by which Treasury and the IRS have issued regulatory and similar guidance.  This case involves the proper application of the APA to a very different type of agency action: an agency determination.  The APA has some general standards that courts are supposed to use in reviewing agency determinations in particular cases, also known as “agency adjudications.”

Professor Steve Johnson at Florida State has written extensively and lucidly about the tax exceptionalism debate.  In this short Florida Bar Review article from 2014 he encouraged tax practitioners to consider challenging NOD’s under an APA standard.  Apparently the lawyers for Q read his article!

The APA is found at 5 U.S.C. Subchapter II.   Section 706 says that courts should review agency adjudications to be sure they were not made arbitrarily.  To do that, the court needs to see what the agency’s rationale was for its decision.  So over time the Supreme Court has developed the requirement that “an agency provide reasoned explanation for its action.” FCC v. Fox Television, 556 U.S. 502, 515 (2009).

In QinectiQ, the taxpayer argued that the NOD failed the APA §706 standard.  The NOD said only that Q had additional taxable income of “$177,777,501” because Q had “not established that [it was] entitled” to a deduction “under the provisions of [26 U.S.C. §83].” The NOD gave zero explanation for why the Service was disallowing the deduction.  The failure to articulate a rational explanation for its disallowance decision meant that a review court had no way to police the NOD for arbitrariness.

In a short unpublished order, the Tax Court refused to apply the APA standard and held that the NOD was instead subject to the standard provided for in §7522(a). The taxpayer’s argument to the Fourth Circuit was essentially that §7522 and the APA standards were cumulative, not exclusive.

The Fourth Circuit affirmed the Tax Court.  It believed the taxpayer’s attempt to apply the APA standard “fails to consider the unique system of judicial review provided by the Internal Revenue Code for adjudication of the merits of a Notice of Deficiency.” (p. 9 of slip opinion).

The Fourth Circuit thought two features of tax administration made the APA standard inapplicable.  First, “because the Code’s provisions for de novo review in the tax court permit consideration of new evidence and new issues not presented at the agency level, those provisions are incompatible with the limited judicial review of final agency actions allowed under the APA.” (p. 10-11 of slip opinion).  Second, the Tax Code’s provisions for judicial review of NOD’s pre-dated the APA.  “Congress did not intend for the APA ‘to duplicate the previously established special statutory procedures relating to specific agencies.’” (p. 12 of slip opinion, quoting Bowen v. Massachusetts, 487 U.S. 879, 903 (1988)).

The Fourth Circuit’s consideration of these two features of tax administration is the more nuanced understanding that I think is worth commenting on.

  1. The Proper Relationship of the APA to Tax Administration

The nuance is this: the APA is not sui generis.  That is, the APA was enacted on top of existing agency practices and procedures.  One simply cannot pretend that the APA was enacted in a vacuum!  That’s the point I try to make about tax regulations in my article “A History of Tax Regulation Prior the Administrative Procedure Act,” 63 Duke L. J. 1673 (2014)

The APA was enacted on the basis of a massive, massive, study of federal agencies and their operations undertaken by the Attorney General’s Committee on Administrative Law (“the Committee”).  The Committee’s Final Report is generally believed to be the most important influence on the text and application of the APA.

The Final Report grew out of a detailed study of then-existing agencies, a study contained in 27 Monographs written by staff, each running hundreds of pages.  (Monograph 22 focused on the tax administration).  At its inception, the Committee “had initially hoped to be able to suggest uniform rules for agency practice” (quote from Grisinger Law in Action: The Attorney General’s Committee on Administrative Procedure, 20 J. of Policy History 379 (2008)).  In light of the information produced in the 27 monographs, however, the Final Report backed away considerably from that aspiration and instead prescribed a general framework for balancing the goals of agency efficiency and autonomy with the goals of agency transparency and protection of individuals from arbitrary agency actions. That is why the resulting APA was widely understood as standing for the proposition that “procedural uniformity was not well suited to the administrative process.” (Grisinger at 402; one sees the same theme in almost all the contemporary commentaries and reviews of the Final Report).  That is, the APA provided generalized standards for controlling administrative actions rather than detailed prescriptions. This conventional view is elegantly summed up by Professors Hickman and Pierce: “the Administrative Procedure Act is to administrative law what the Constitution is to constitutional law.” Kristin E. Hickman, Richard J. Pierce, Jr., Federal Administrative Law:  Cases and Materials, (Foundation Press, 2010) at 19.

What this means is that while the APA does apply to all agencies, including the IRS, it does not apply in the exact same way to all agencies.  Every agency is “exceptional” in that every agency faces a different set of operational demands and requirements and organic statutory provisions.  All of those variables must be reconciled to the general language of the APA and it should not surprise anyone that different reconciliations lead to different applications of the APA principles to different agencies.   That is why the Supreme Court, in Bowen, said “When Congress enacted the APA to provide a general authorization for review of agency action in the district courts, it did not intend that general grant of jurisdiction to duplicate the previously established special statutory procedures relating to specific agencies.” 847 U.S. 879 at 903.

Put another way, the debate is not “whether” the APA applies, it’s “how” the APA applies.  It is not so much whether the NOD review procedure “comply with” the APA as it is whether the procedures are “consistent with” the APA.  Does the APA displace or otherwise affect otherwise applicable rules that govern what goes into the NOD and how the Tax Court reviews it?

That is what the Fourth Circuit recognizes in QinetiQ.  The Tax Code’s specific statutory review structure makes the APA review standard inapplicable, for both historical and operational reasons.  The historical reason is what I said above: the specific statutory structure for court review of NOD’s pre-dates the APA and the APA was not written to displace prior law.  The operational reason is that taxpayers have the burden to prove entitlement for deductions and have every opportunity to do so in a de novo Tax Court review.  That de novo nature of review is what makes the current practice acceptable.  For example, if the IRS rejects a claimed deduction, tax law does not put the burden on the IRS to prove up the rejection.  The burden remains on the taxpayer to prove up the entitlement, only now in front of the Tax Court (or district court if the taxpayer chooses to pay the deficiency and then go for a refund).  It is the Tax Court’s job to determine or re-determine the taxpayer’s proper tax liability.  That’s why it can either increase the proposed deficiency (§6214(a)) or actually order a refund (§6512(b)).

The Tax Court has recognized these points as well.  It has a nice discussion of this kind of “tax exceptionalism” in Ax v. CIR, 146 T.C. No. 10 (2016) (which Les has previously blogged here and which Professors Stephanie Hoffer and Chris Walker give some very thoughtful comments here). In Ax, the taxpayer objected to the Service raising a new issue before the Tax Court, even though the Service acknowledged it bore the burden of proof.  Like the taxpayer in QinetiQ, the taxpayer in Ax argued that because “the Supreme Court rejected the concept of ‘tax exceptionalism,’ the Administrative Procedure Act and [case law] bar Respondent from raising new grounds to support his final agency action beyond those grounds originally stated in the notice of final agency action” (e.g. the NOD).  The Tax Court’s rejection of that position is worth reading.

III.  The Door Is Still Open: Implications of QinetiQ on Other IRS “NODs”

Have you ever noticed how you need an NOD to get Tax Court review?  I don’t just mean the “Notice of Deficiency.”  I also mean the “Notice of Determination” from a CDP hearing.  That’s a ticket to the Tax Court, too.  But, sorry, a “Determination Letter” is not a ticket.  Likewise, if a taxpayer petitions for “stand alone” spousal relief per §6105(f), the eventual “Notice of Determination” issued by IRS or Appeals is the ticket for Tax Court review (of course, §6105(e) also permits a taxpayer to seek judicial review in cases where the Service has not acted within 6 months of the initial request for spousal relief).

The point is that the Tax Court reviews agency decisions other than deficiency determinations.   QinectiQ deals with only ONE kind of IRS determination (although by far the most frequent).  The inimitable Steve Johnson gives an excellent and in-depth treatment of the variety of ways that the APA §706 might be applicable to a variety of IRS determinations in his Duke L. Rev. article “Reasoned Explanation and IRS Adjudication,” 63 Duke L. J. 1771.

The Fourth Circuit’s rationale for not applying the ABA §706 standard of review in QinectiQ actually suggests the ABA standard may be applicable to court review of some of these other IRS determinations.  One sees this in the opinion’s discussion of Fisher v. Commissioner, 45 F.3d 396 (10th Cir. 1995).  In Fisher, the 10th Circuit held an NOD invalid because the NOD implicitly denied, without explanation, a taxpayer’s request for penalty abatement.  Since the Service has the discretion to grant or deny such requests, the 10th Circuit thought that the failure to explain why the Service was exercising its discretion to deny the relief violated “an elementary principal of administrative law that an administrative agency must provide reasons for its decisions.”  45 F.3d at 397.  Unexplained exercise of discretion is per se arbitrary, says Fisher.

The Fourth Circuit could have just disagreed with Fisher.  The IRS issued a well-reasoned AOD that explained why Fisher was wrong.  AOD-1996-08, 1996 WL 390087.  But the Fourth Circuit instead chose to distinguish Fisher, saying in footnote 6: “we do not read Fisher…as requiring a reasoned explanation in all Notices of Deficiency.”  Hmmmm.  Does that suggest that in situations where the Service is exercising discretion—like refusing to grant a request for spousal relief, or refusing to accept a collection alternative offered in a CDP hearing—that one of those decisions would be subject to the APA §706 standard, even when the Tax Code has very detailed special statutory procedures?  After all, both the CDP provisions and spousal relief provisions were added by Congress after the APA.

Let’s look at CDP procedures.  Currently the Tax Court’s approach to CDP review is both (a) abuse of discretion and (b) de novo.  That’s not quite square with how the APA contemplates the relationship of a reviewing court to agency decisions.  Here’s how the Court explained it in a recent CDP case, Drilling v. Commissioner, T.C. Memo 2016-103:

the standard of review employed by the Tax Court is abuse of discretion, except with respect to the existence or amount of the underlying tax liability, for which the standard of review is de novo. Goza v. Commissioner, 114 T.C. 176, 181-182 (2000). The evidentiary scope of review employed by the Tax Court is de novo. Robinette v. Commissioner, 123 T.C. 85, 101 (2004), rev’d, 439 F.3d 455, 459-462 (8th Cir. 2006). That means that the Court’s review is not confined to evidence in the administrative record. See Speltz v. Commissioner, 124 T.C. 165, 177 (2005) (citing Robinette v. Commissioner, 123 T.C. at 94-104), aff’d, 454 F.3d 782 (8th Cir. 2006). If the Court remands a case to the Appeals Office, the further hearing is a supplement to the original hearing, not a new hearing, Kelby v. Commissioner, 130 T.C. 79, 86 (2008), but the position of the Appeals Office that the Court reviews is the position taken in the supplemental determination, id.

Notice that this means if the taxpayer wants to present new information, the Tax Court has the option of hearing that new evidence itself or sending the case to the Appeals Office for a “supplemental” hearing.  See e.g. Drake v. Commissioner, T.C. Memo 2006–151, aff’d 511 F.3d 65 (1st Cir. 2007) (“The resulting section 6330 hearing on remand provides the parties with the opportunity to complete the initial section 6330 hearing while preserving the taxpayer’s right to receive judicial review of the ultimate administrative determination.”)

The Tax Court’s practice of allowing new information is IMHO a perfectly reasonable procedure and it reflects the ongoing nature of both CDP and 6015(f) determinations.  Each of those determinations can be affected by facts that change at any time.  But it is arguably NOT the procedure contemplated by the APA.  Notably, the APA contemplates that the record, once made, is unalterable.  And the danger of allowing an open record is that the Tax Court becomes mired “with tax enforcement details that Congress intended to leave with the IRS.” Robinette v. Commissioner, 439 F.3d 455, 459 (8th Cir. 2006) aff’ing in part 123 TC 85.

Both the CDP and the spousal relief review provisions were added by Congress long after the APA’s enactment.  Perhaps the flip side of pre-existing administrative schemes not being displaced by the APA is that post-APA statutory provisions do not exclude application of APA §706 but incorporate that standard (unless of course Congress says the provisions are to be exclusive).  Of course, the operational reasons for concluding that the §706 standard has been trumped by the specific CDP provisions may remain.

Those of us who study this stuff are not in agreement.  For Les’ take, see here; for Stephanie Hoffer and Chris Walker’s take, see here.  As Keith points out, the CDP procedures have astonishingly large gaps in them.  But IMHO the APA does not mandate a uniform set of rules for the Tax Court to deal with those gaps.  Like the U.S. Constitution, the APA simply provides the touchstone by which to measure any rules or procedures that the Tax Court or IRS come up with in implementing CDP.   Claiming that a procedure violates §706 is like claiming one process or another violates “due process.”  You first have to figure out what process is “due” before you can find a violation.

In sum, I believe the Fourth Circuit’s opinion in QinetiQ leaves open the door to argue that for non-deficiency determinations, APA §706 has greater applicability than for standard Tax Court review of deficiency notices.  Personally, I think that (1) the specificity of the both the CDP and innocent spouse provisions, and (2) the specific relationship that the Tax Court has in supervising so many aspects of tax administration still trump the general provisions in the APA.  But those two reasons for treating current procedure as may not be as applicable to other types of determinations, such as §6672 decisions, or penalty abatement decisions, or other “discretionary” decisions that are not clearly covered by specific Tax Code provisions.

 

NTA Releases Annual Report

The National Taxpayer Advocate released her Annual Report yesterday. The report is broken into three main volumes.

Volume 1 follows the general approach of past reports with a discussion of most serious problems, legislative recommendations and most litigated issues. Given the NTA’s laser-like focus on IRS plans to build the so-called Future State, much of the discussion touches on issues relating to IRS plans to modernize tax administration. In a Special Focus to Volume 1, the NTA “has attempted to identify and make recommendations to address the challenges the IRS faces to become a 21st century, taxpayer-centric tax administrator.” Volume 1 also has a discussion of IRS performance relating to taxpayer rights, a section I am looking forward to reading and a welcome addition to IRS performance metrics.

Volume 2 contains TAS research and related studies. There are five studies in the volume, including discussions of taxpayer service among differing ethnic groups, the impact of educational letters on potentially noncompliant individuals, IRS use of financial analysis in installment agreements, a call for IRS to better use internal data to determine collectability of taxpayers, a discussion of collection issues facing business taxpayers.

A new part of the report is in Volume 3, which contains literature reviews on taxpayer service in other countries, incorporating rights in tax administration, behavioral science, geographic considerations for tax administration, customer considerations for online accounts, alternative dispute resolution options and ways to reduce false positives in fraud detection.

For those looking for the Cliff Notes version there is an executive summary that summarizes the main issues.

I have previously expressed my admiration for the NTA’s reports. The reports are a major contribution to tax administration. I have not had time to work through materials but the Special Focus on Future State in Volume 1 is a good place to start for those interested in the prospects of tax administration reform. In the past year the NTA has convened a series of public forums to gain insights in taxpayer preferences and challenges. Applying her considerable experience with IRS and using insights from those forums, the NTA has attempted to provide a blueprint for best practices that Congress and IRS should keep handy as IRS crawls into the 21st century.

USVI – Residing or Vacationing (and What if You Pay Income Tax While only Vacationing)

I am sitting in my dining room writing, and there is freezing rain outside, I’ve got a terrible cold, and my wife is cleaning up some child’s vomit.  I can’t help but think how nice it would be to live somewhere much warmer, that wasn’t as affected by these seasonal illnesses ….  And, wouldn’t it be all the better if I paid far less in taxes?  Maybe I should trade Love Park for Love City (nickname of St. John’s, USVI—which is apparently giving people money to come visit)?

The United States Virgin Islands have shown up in a lot of tax procedure cases over the last decade (like a ton!, there are only around 100,000 residents, and it seems like there is an important case every week).  So why is that the case?

Well, it is, for some, a legal tax shelter.  Normally, a US Citizen must file his or her return with the Service on a specified date, and the Service must assess tax within three years of filing a return, but if no return is filed the period of limitations remains open indefinitely.  See Section 6501.  To be filed, “the returns must be delivered…to the specific individual…identified in the Code or Regulations.” See Allnut v. Comm’r.  This normally means somewhere with the Service.  The USVI however operates a “separate but interrelated tax system.” Huff v. Comm’r.  Bona fide USVI residents are required to only file tax returns with the USVI Bureau of Internal Revenue (“VIBIR”).  See Section 932(c)(2).  If the taxpayer is not a bona fide resident, but has USVI source income, the taxpayer must file with the VIBIR and the Service.  In an effort to bring businesses to the USVI, an economic development program was implemented in USVI, which allows for a reduction of USVI tax on certain USVI residents up to 90% of their income tax.  Not sure how much economic development it has spurred, but a lot of rich people began trying to be bona fide USVI residents (or at least claimed they were), and the IRS took exception.

Below is a discussion of a few cases relating to claims of USVI residency.  One will review the requirements of residency, and why parking a boat may not be enough. It also highlights the interesting SOL issue of whether a USVI return starts the limitations period when the taxpayer is not a USVI resident.  The final case below investigates what happens if a non-resident pays tax to USVI (claiming to be a resident) and the refund statute of limitations has passed after there has been a determination that the person was not a resident.

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Parking Your Yacht and Staying at Ritz–Not Residency

In Commissioner v. Estate of Travis L. Sanders, the Eleventh Circuit reversed the Tax Court and remanded for additional fact findings regarding whether or not the decedent had ever been a resident of the USVI (and from the tone of the case, the Court gave fairly clear indication that the Tax Court should find he was not a resident).    The Tax Court opinion in Sanders can be found here.  The issue in the case was whether the filing of a USVI return started the statute of limitations, which the Court decided hinges on whether he was a resident of USVI.  As stated above, this has been a hot topic over the last few years, which we have not covered much on PT.

In Sanders, the taxpayer made his money on surge protectors (I think high end, not the consumer ones your computer is plugged into).  The more protectors he sold, the more his balance sheet surged.  In 2002, Mr. Sanders began spending some (but not much) time in the USVI.  From ’02 to ’04, the years in question, Mr. Sanders stayed at the Ritz, and then parked his yacht on the islands and stayed on the boat.  He spent somewhere between 8 and 18 days on the islands in ’02, between 49 and 78 days in ’03, and between 74 and 109 days in ’04.  He kept his FL home, never established a personal mailing address in the USVI, his girlfriend (eventually wife) remained in FL, his minor child lived in FL, and he spent considerable time at the company HQ in FL.

As to his work at the surge company, he became a limited partner in a USVI company, which employed him, and then contracted his services to the company he had created.  Mr. Sanders took the position that this was USVI source income, and that he was a USVI resident.  He then claimed the income was exempt from United States taxes (and it was potentially entitled to a 90 percent tax credit under USVI tax laws – hence the set up).

The IRS said this Caribbean dream was a little too dreamy, and in 2010 issued a notice of deficiency, alleging Mr. Sanders was not a bona fide USVI resident and that the set up was, as Jack Townsend would say, a b@!! $&!1 tax shelter.  Unfortunately, our Captain Sanders died in 2012, and did not get to see if his scheming worked.  In August, the Eleventh Circuit didn’t weigh in on the BS’iness of the tax shelter, but did overturn the Tax Court as to whether the statute of limitations prohibited the assessment.  Why did the courts disagree?

How to qualify as a USVI resident has changed somewhat over recent years, and, the discussion to follow regarding the statute of limitations on filing with VIBIR may no longer apply, as the Service and VIBIR entered into an information sharing agreement in ’07, and following that the Service agreed to treat certain returns filed with VIBIR as starting the statute of limitations regardless of whether the person was actually resident of USVI.

This was prior to ’07, and the Service took the position that Mr. Sanders was not a bona fide resident of the USVI in the years in question, and therefore the return he filed with VIBIR did not start the running of the statute of limitations in the United States.  Mr. Sanders (and the USVI government) argued he was a bona fide resident, and the statute had run.

The Court did not determine whether Mr. Sanders was or was not a bona fide resident, and remanded for further fact finding.  It was clear from the tenor of the opinion that based on the facts before the Court it strongly (very, very, very strongly) disagreed with the Tax Court conclusion that Mr. Sanders was a resident.

The more important holding, although not new law, was that the statute of limitations for filing his US Federal tax return would only run due to the VIBIR filing if Mr. Sanders was a bona fide resident (requiring a substantive finding of fact), and there was no good faith exception to this requirement implied in the statute.

In discussing the good faith exception, the Eleventh Circuit reviewed the meaning and use of the term bona fide and found it required objective proof.  The Court did note there are some fairness concerns in not having such an exception, but said that was not sufficient to read such an exception into the statute.  In addition, it noted that “entwining of the merits of a case with the statute of limitations is not uncommon in tax cases.”  The Eleventh Circuit rejected the good faith exception, holding filing with VIBIR only triggers the statute if the taxpayer is a bona fide resident (not merely that the taxpayer believes he is).

As to the bona fide residency, as mentioned above, the Eleventh Circuit gave a pretty heavy indication as to its feelings as to residency.  The Court stated that “[b]ecause the Tax Court never decided the nature and extent of Sanders’s physical presence, it cannot have properly weighed this factor.”  Further, “[e]ven Sanders’s own estimate that he spent 18 days in the USVI…places him on the island for only a small portion of time,” and “he had no personal home on the islands for any part of [the years in question].”  And, “[l]iving in a condominium partially owned by one’s employer (and which is not even available for every visit) does little to evidence an intention to reside there indefinitely…”, but the Court did note that moving the boat to the island and connecting it to utilities was slightly more indicative of residence; although, noted this was less strong evidence than a fixed home.  There were various other similar quotes, making it fairly clear the Court did not think Sanders was a bona fide resident.

Although I’ve discussed this type of planning in the past with clients for both USVI and PR (and other more exotic jurisdictions), this type of planning has a more common analogous state level planning topic; which is selecting a state level income tax residence (in my practice, it is usually someone in NY, NJ, MA, and less often PA, considering a move to FL).  Obviously, the analysis is different, but the advice is the same; you can’t just say you think you are a resident, you have to take meaningful steps that can prove you are.

Also, interesting to note, at least to me, that the Chief Justice of the Eleventh Circuit was appointed by George H. W. Bush, who once claimed residency in Texas while staying a limited number of days per year in the Houstonian, which Texas accepted and Maine, DC, and other states never questioned.  Perhaps the Houstonian is more homey than the Ritz.

Where Does My Entity Reside?

The Third Circuit had an interesting, albeit unsurprising, holding in the end of October relating to USVI residency of entities.  In VI Derivatives, LLC v. United States, the Third Circuit affirmed the district court’s denial of the taxpayer’s motion to dismiss for lack of subject matter jurisdiction, holding that res judicata barred the challenge to subject matter jurisdiction.  In VI Derivatives, various LLCs were challenging their residency, but the lower court had previously already determined the residency of the entity owners (the Ventos, more on them in a minute).  In that holding, the Court indicated there was no separate determination to be made regarding the entities, “Because those partnerships are pass-through entities…, they do not have residencies separate from their owners.”  When the entities filed a motion to dismiss for lack of subject matter jurisdiction based on residency, the District Court denied the motions, holding res judicata barred the challenge because the residency decision on the owners constituted a final judgement on the merits, which was not appealed.  The Third Circuit agreed.

For those of you who follow tax procedure closely, especially offshore matters, the Ventos are turning into a familiar family.  Cases pertaining to the capital gains ($180MM) generated from the sale of Richard’s Vento’s business have generated interesting holdings regarding USVI residency, summons enforcement, and FOIA (and probably others that I am forgetting).

And…

VI Non-Residents Cannot Claim FTC For VI Income Paid

Not a shocking holding either.  In Vento v. Comm’r, the Tax Court reviewed the case of Renee Vento (daughter of Richard), who claimed foreign tax credits on her United States return for tax she paid in the USVI.  In the year the tax arose, Renee lived in the US.  For the tax year, she filed her income tax return with VIBIR including the payment of tax claiming to be a USVI resident, and the IRS transferred her estimated US payments to VIBIR.  Later, the IRS and Courts determined she was not a USVI resident, and a notice of deficiency was issued.  An agreed assessment was determined, with Renee treated as a US resident.  Renee apparently sought a refund on the VIBIR return, but this was likely denied due to the passing of the statute of limitations.  Renee then attempted to seek credits on her US return under Section 901 for payments she made to VIBIR (and the IRS payments that were converted to VIBIR payments) for the tax year in question.  Renee also claimed that for the IRS or the Court to hold otherwise would unfairly subject her to double taxation in the US and USVI.

The IRS responded by arguing that Renee was not a USVI resident, and therefore the payments were not compulsory, so no credits could be issued.

The Tax Court agreed with the Service.  It found that Renee had no USVI source income, and therefore there was no obligation to pay tax, so the payments to VIBIR were not “taxes paid”.  Section 901(b)(1) allows a credit for “the amount of any income…tax paid or accrued during the taxable year to any…possession of the United States.”  The Court found that the holdings regarding residency did not appear to give much credence to Renee’s position, which it found undercut her argument that she had a reasonable basis for paying VIBIR.  The Court also found that Renee had not exhausted all of her potential remedies to reduce her liability to USVI.  As such, the Tax Court found Renee did not meet her burden of showing that she had validly paid tax to USVI.

Before getting to the equity argument, the Court did note that Congress did not intend that taxes paid to USVI be eligible for the foreign tax credit.  The Court viewed the coordination rules under Section 932(c) as eliminating the potential for double taxation that the FTC usually solved.  Further, the Regulations specifically state that for FTC purposes, USVI income of a Section 932(a) taxpayer is treated as income from sources within the United States.  See Reg. 1.932-1(g)(1)(ii)(B).  The Court did also note that Renee’s situation may allow her to “slip through the crack in the statutory framework,” as under the literal terms she did not earn any USVI income, but it did not believe Congress would have intended that result.  The Court did not, however, hold on this rationale, as the “taxes paid” reasoning was sufficient.

The holding ends with some statements pertaining to the equity argument:

Whatever sympathy we might have for petitioners, however, does not compel us to allow them a credit against their U.S. tax liabilities to which they are not legally entitled.16 To the extent that petitioners pay tax on the same income to both the United States and the Virgin Islands, they must seek a remedy elsewhere; they cannot find it in section 901.

Foot note 16 states:

Our sympathy for petitioners would be tempered to the extent that tax avoidance motives prompted their claims to Virgin Islands residence. While the limited record before us is silent regarding petitioners’ motivations, our agreement to base our decision on the parties’ stipulations and admissions under Rule 122 does not require us to ignore the District Court’s observation in VI Derivatives, LLC v. United States…, aff’d in part, rev’d in part sub nom. Vento v. Dir. of V.I. Bureau of Internal Revenue… that “the timing of the [Vento] family’s decision to ‘move’ to the Virgin Islands is suspicious.” According to that court, Vento family members realized a significant gain as a result of a transaction that occurred at the beginning of 2001. Becoming Virgin Islands residents for that year held out the prospect of more than $9 million in tax savings to the family.

Sounds a bit like unclean hands.  Don’t argue equity after your tax fraud-ish behavior.  A bit harsher than the original taxpayer friendly Sanders holding before the Tax Court.

While reading the case, I wondered if the taxpayer could have made an argument about the amounts paid to the US that were “covered into” USVI (payments) pursuant to Section 7654.  That is the provision that makes the US pay over any tax collections it has to the possession.  I believe USVI intervened in this case (although I could be confusing my USVI residency cases), and the US was clearly a party.  It would seem both were on notice that their transfer of funds was potentially incorrect.  I have done no research on this, so the notion could be completely off base, but it was my initial thought while reading.

Limerick in Celebration of Helvering’s Birthday – January 10th

By Farley P. Katz

There once was a guy named Helvering

Who cared about one little thing

That thing was the tax

And here are the facts

It works but it feels like a sting

 

 

A special thanks to Rachael Rubenstein of Strasburger (and former PT guest poster) for sharing the above limerick authored by her co-worker Farley P. Katz, who has been celebrating the birthday of former Commissioner of Internal Revenue Guy T. Helvering for decades in unique ways.