9th Circuit Reverses District Court in Case Involving Exceptions to SOL For Failing to Disclose a Listed Transaction

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We have often discussed statutes of limitation. Yesterday’s post discussed the government’s unlimited time period to assess civil penalties that are not based on the filing of a tax return. Today’s post discusses the consequences of a taxpayer failing to file a form that it is supposed to file when it engages in a listed transaction. In an opinion that surprised me, in May v US, (an unpublished opinion) the 9th Circuit reversed and held that the taxpayer’s failure to file the form resulted in the application of an extended SOL on assessment even when the IRS admitted that it had knowledge of the information that the form itself would have contained.

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First some background: Section 6707A imposes a civil penalty for failing to include information pertaining to a listed transaction on a tax return. Under Section 6707A a listed transaction is “a reportable transaction which is the same as, or substantially similar to, a transaction specifically identified by the Secretary as a tax avoidance transaction for purposes of [Section] 6011.”

Section 6501(c)(10) is an exception the general SOL rules and addresses a taxpayer who “fails to include on any return or statement (that Section 6011 requires to be included in the return or statement) for any taxable year any information with respect to a listed transaction.” If this information is omitted, the time for the assessment of any tax imposed by the Code arising out of the transaction, “shall not expire before the date which is [one] year after the earlier” of (A) the date the Service receives the information required to have been filed, or (B) the date that a material advisor complies with the Service’s request for the list the material advisor is required to maintain on the transaction in which the taxpayer has participated.

Treasury promulgated regs under Section 6011 that specify how a taxpayer is to disclose the transaction. Regulation § 1.6011-4 provides that “[a] taxpayer required to file a disclosure statement under this section must file a completed Form 8886, ‘Reportable Transaction Disclosure Statement’ … , in accordance with … the instructions to the form” and that “[t]he Form 8886 … is the disclosure statement required under this section.”

May involved a transaction that the taxpayer failed to disclose on his 2004 tax return, which he filed in 2005. The transaction at issue that he failed to include on his 2004 tax return was about $165,000 in pass through income. May eventually agreed that the transaction that gave rise to the omitted income was a listed transaction. At the district court, the Service argued that only the taxpayer’s filing of Form 8886 triggered the statute of limitations for purposes of Section 6501(c)(10)(A). The Service admitted that it had knowledge of the information that the taxpayer was supposed to report in the form but that May’s failure to file Form 8886 meant that the statute of limitation was still open (the trial court and appellate opinion do not specify how the IRS got the information but IRS conceded that it had it). May argued that the Service’s knowledge of the information in the form, rather than his filing the form, was the starting point for the one-year period.

 At the district court, May won, with that opinion stating that “common sense confirms that the statute of limitations does not open or close based on which piece of paper a taxpayer chooses to employ.”

Over a brief but spirited dissent, the 9th Circuit reversed. In finding for the government, the 9th Circuit tied the 6501(c)(10) exception to what it viewed as clear directive under the 6011 regulations to submit the 8886:

6501(c)(10)(A)’s reference to “the information so required” under § 6011 functions as an incorporation by reference of the disclosure requirements of Treasury Regulation § 1.6011-4(d), which requires that a taxpayer disclosing a listed transaction do so on Form 8886 and send a completed copy of that disclosure to the OTSA[Office of Tax Shelter Analysis]. It is undisputed that May neither filed a Form 8886 nor sent it to the OTSA. For that reason, May failed to do what was required to start the running of the § 6501(c)(10)(A) statute of limitations. Thus, the one-year limitations period of § 6501(c)(10)(A) did not commence, and the IRS’s assessment of the penalty was timely.

As support, the majority felt that looking to 6501(c)(10) in isolation was not coherent with the overall scheme, and it repeated the maxim from the 1984 Supreme Court case Badaracco v Comm’r that statutes of limitations “barring the collection of taxes otherwise due and unpaid are strictly construed in favor of the Government.”

The dissent viewed it quite differently, focusing on how Section 6501(c)(10) itself does not require the submission of any particular form and that the regulations under 6011 failed to clearly specify the SOL consequences of failing to submit information on any particular form:

It would have been simple to write a statute that stated that the limitations period starts to run on “the date when the taxpayer provides the information to the Secretary on the form specified by the Secretary,” but that’s not how Congress wrote the statute. Alternatively, it would have been simple for the Secretary to have promulgated a regulation that clearly informed all taxpayers that providing information to the IRS doesn’t count unless the information is provided on the specified form.

I must say I am surprised by the 9th Circuit opinion. As the dissent noted, it might have been appropriate to remand for the trial court to refine its standard to avoid a broad reading of the opinion that would invite questions and litigation in other circumstances as to whether IRS had sufficient knowledge:

I have no quarrel with the Government’s position that the taxpayer should be required to provide the relevant information in a coherent form to the appropriate tax agents. An interpretation that started the limitations period as soon as some IRS office, somewhere, had the information or as soon as IRS agents collectively had the information would be both illogical and open to abuse. I don’t disagree that it might be appropriate to remand this case to the district court to apply a more precise interpretation of the statute. But I am not persuaded by the Government’s interpretation, especially in the context of a civil penalty, and cannot join my colleagues in adopting it.

It seems to me if the IRS admits to knowledge of the information then in appropriate circumstances then to elevate the Form itself as the sole trigger elevates a literal form over substance.

Leslie Book About Leslie Book

Professor Book is a Professor of Law at the Villanova University Charles Widger School of Law.

Comments

  1. It would be interesting to see how a court would interpret the SOL start date in a case where the taxpayer either [i] filed the 8886 with the return but did not file a copy with OTSA or [ii] filed an 8886 with OTSA but didn’t attach a copy to the return. For application of the penalty itself, the regs are clear in stating that the non-disclosure penalty applies unless the taxpayer both attached the properly completed Form 8886 to its return and files a copy of the 8886 with OTSA. [I personally think this is unfair, but I’m not aware of any successful challenges to this provision in the regs., or even the allowance of a “reasonable cause” defense based on a “substantial compliance” defense for providing the info to the IRS in one way or the other, even if not in both prescribed ways.] But for purposes of starting the SOL, the statutory scheme would seem to be satisfied if the taxpayer provides the required information to the IRS either as an attachment to the return or as a separate filing with OTSA.

  2. Lavar Taylor says:

    May’s attorney, who I believe is Robert Lord in Phoenix, did an outstanding job on the appellate brief. Anyone who is facing this issue elsewhere should pull a copy and read it.

  3. My gut tells me that this is just further evidence of the lengths that the Service and some courts will go to in punishing participants in “tax shelter” transactions. The Service apparently does not consider itself bound by statutes of limitations in just about any matter involving “tax shelters.”

    Here, the Congressional intent seems to be that the Service had one year after it learned about a shelter to make its assessment–a perfectly appropriate rule where the taxpayer has managed to conceal its actions. But, the facts in this case appear to suggest that the Service had discovered the actions, but delayed for over a year in addressing those actions. Under those circumstances, Congress would appear to not have intended to extend the statute.

    The opinion, which treats the Service’s knowledge as irrelevant because the prescribed form was not filed, elevates form beyond substance. The Service clearly knew of the problem transaction, but sat on its rights. The absence of the prescribed form seems like an after-the-fact rationalization.

    Consider the following fact pattern, based upon recent history. The Service learns of a “tax shelter” deal and sends the taxpayer a notice that it is auditing the taxpayer’s participation in that transaction. The Service then decides unilaterally to defer action on the audit while it pursues a criminal investigation of the “promoters.” Under those circumstances, the Service (and some courts) have taken the position that it may, years later, conclude the audit. No statute of limitations applies because of an underlying “fraud” by someone. See Mullikan in the Sixth Circuit.

    That seems wrong. Once the Service has actual and undeniably effective notice of the transaction, the clock should start ticking, regardless of what forms the taxpayer has (or has not) filed with the Service.

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