Leslie Book

About Leslie Book

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

Court Sentences Kroupa; NTA On Appeals’ Changes; Tax Reform Still Percolating

Kroupa Sentenced

Earlier this week Keith discussed the differing views that former Tax Court Judge Kroupa and the government had on sentencing. Yesterday the court, agreeing with the government, sentenced former Judge Kroupa to 34 months. Her ex-husband received 20 months. The Minnesota Lawyer recounts the tale; for those interested our prior posts link to the underlying documents in the case.

read more...

NTA Blogs on Appeals’ Changes

I am a keen reader of what the National Taxpayer Advocate writes; her take on tax administration often offers both an insider and outsider perspective. Her recent blog post on Appeals’ changes in bringing in Compliance and Counsel to Appeals conferences does just that; she appreciates what motivated Appeals to make the changes, and then discusses and reflects on why practitioners, such as the ABA Tax Section, have raised concerns. I recommend a full read of this post but this snapshot shows some of the issues she has with the new procedures:

The new approaches being put into place by Appeals make it appear as though Appeals no longer trusts its own Hearing Officers and that these Hearing Officers require the guidance and oversight of Counsel and Compliance to reach the correct determinations. As a former practitioner, I would think long and hard before bringing a case to Appeals under these new rules.

Tax Reform on the Horizon (and Some Thoughts on Tax Administration)

There is lots of talk this week on the Senate’s proposed health care legislation. On a separate legislative track is deeper tax reform for business and individual taxpayers. On Procedurally Taxing we steer clear from most of the big macro policy issues underlying the tax reform policy choices. We have, however, noted that many reform proposals do implicate key issues of tax administration. For example, last year Keith discussed the House Blueprint for tax reform and its proposal to add a new small claims court to hear tax cases.

The other day Speaker Ryan offered his tax reform pitch and assurance that reform will happen in 2017 as part of a talk he gave to the National Association of Manufacturers. Now, I have scratched my head thinking about border adjustability and contemplated the possible ways that service providers may try to shift income into pass through entities in light of some of the specific proposals that many are kicking around. But my ears perked up when I heard the Speaker justify, at least in part, individual tax reform on the difficulties Americans face when they file their tax returns:

Look at what happens during tax season. I could describe the complexity of the code all day, but what really defines our tax code is that sense of dread that you feel. You know that feeling?

You have to navigate long, complicated forms to file your returns. You need to wade through a seemingly endless amount of deductions and credits, each with its own rules and eligibility requirements.

And then, after you tally up those deductions, you are placed in up to seven different federal tax brackets based on your income level.

And at the end you hope—I mean really hope—that you do not owe a bunch this year. You hope, because you do not really know ahead of time. How could you? This whole system is too confusing, and just too darn expensive.

The solution, according to Ryan is to “start over.”

First, we will eliminate harmful, burdensome taxes including the death tax and Alternative Minimum Tax.

Next, we will clear out special interest carve outs and excessive deductions, and focus on keeping those that make the most sense: home ownership, charitable giving, and retirement savings.

We will consolidate the existing seven brackets into three, double the standard deduction, and simplify things to the point that you can do your taxes on a form the size of a postcard. Wouldn’t that be nice?

And finally—and most importantly—we will use the savings from eliminating these loopholes to lower tax rates.

Let me say that again: We are going to cut taxes

I am intrigued by the Speaker’s reference to the way that Americans meet their annual tax return obligations. A brief article  from Bloomberg earlier this year estimates that only 5 million out of the 165 million or so individual returns are done manually.The overwhelming majority of Americans today do not wade through IRS forms. Instead, they answer user friendly prompts generated by increasingly freely provided software; those that do not use a DIY product either pay a preparer or use free preparers at VITA or TCE sites.

The Speaker is thinking about taxpayer burden using a 20th century model; fewer and fewer taxpayers actually work with an actual IRS form. The bigger point the Speaker makes though I think is that despite the decreasing mental burden on Americans in actually filing their tax returns, many Americans are clueless going into filing season when it comes to understanding their individual and family tax situation. Many Americans, especially lower and moderate income Americans, do not grasp the hodgepodge of credits and deductions that Congress has put in the Code for one reason or another.

If thinking about tax administration when it comes time to pass reform, Congress should simplify our tax system so the average American can understand what their return reflects and how their actions may in fact align with tax law. When thinking about tax reform, Congress should strongly consider paring back the myriad credits and deductions that leave most Americans befuddled. In addition, while Congress may choose (and have good reason) to use the IRS to administer social policy provisions, including some credits, actually aligning the substantive provisions with the reality of Americans’ lives would contribute to a tax system that the IRS could administer and the public could understand.

9th Circuit Finds No Conflicts of Interest or Duress in Taxpayer Challenges to Extensions of the Statute of Limitations

A recent published Ninth Circuit opinion, Twenty-Two Strategic Investment Funds v US, illustrates the difficulties taxpayers face when they argue that the courts should disregard a consent to extend the statute of limitations (SOL) on assessment due to an advisor’s conflict of interest or a taxpayer’s alleged duress.

read more...

Twenty-Two Strategic Investments involved an investment in the ill-fated KPMG BLIPs loss generating foreign currency investment tax shelter.

For those wanting a brief summary of the shelter, the opinion serves that up nicely:

In order to participate in the BLIPS program, a client would establish a single-member limited liability company (“LLC”), which would take out a specific loan with a participating lender and contribute all of the loan funds to a strategic investment fund, an LLC managed by Presidio, which would then purchase foreign currency assets. After a brief period, usually about sixty days, the client would exit the BLIPS program, the assets would be sold, and the loan would be repaid with interest and pre-payment penalties. The result of this series of transactions was a tax loss for the client approximately equal to the amount of the offset he or she was seeking.

Presto. Tax losses. The only problem was that IRS and DOJ got wind of the scheme, and civil liability and even criminal sanctions followed. This post, however, is not so much about BLIPs but the after effects for one of the unlucky investors who the IRS eventually came after in light of the BLIPs going bust.

The procedural issues in the case turned on the taxpayer arguing that extensions of the SOL on assessment were invalid. There were two reasons that the taxpayer argued the extensions were invalid: 1) the taxpayer’s accountant and return preparer Smith had a conflict of interest which the IRS knew about and 2) the individual taxpayer Gonzales left holding the bag on the consequences of the disallowed losses signed the extension under duress. If the extensions were invalid, the assessments were out of time.

This is a published Ninth Circuit opinion, and that is in part why it drew my interest (there are not so many published circuit court tax procedure opinions). Yet the taxpayer’s arguments were pretty thin.

On the conflict issue, the taxpayer had pointed out that his accountant Smith “instrumental in selling the [tax] shelter to Gonzales,” received a commission for involving Gonzales in BLIPS, and signed the 2000 tax return that the IRS was auditing.”

There are some cases in the TEFRA context (this is a TEFRA case but TEFRA discussions on the blog draw as much interest as last week’s PBS documentary on steel manufacturing in Warsaw Pact countries following the reforms of Soviet Premier Kosygin so I will skip those) where criminal investigations of the tax matters partner resulted in an impermissible conflict that the courts concluded prevented the TMP from binding the partnership.

Here, however, the issue related to the individual taxpayer binding himself, not from a TMP who the courts noted had incentives to extend the SOL that ran directly counter to the individual investors ultimately potentially liable for civil taxes and penalties.

Not enough for a conflict that would bring into question the extension’s validity:

Other than this vague implication of wrongdoing, Gonzales offers no evidence that Smith’s involvement in promoting BLIPS and his involvement in preparing Gonzales’s 2000 tax return combined to create a conflict of interest three years later when the IRS approached Gonzales himself about extending the limitations period. There is no evidence in the record that the IRS contacted Smith during the time he was advising Gonzales to request that Gonzales agree to extend his limitations period. Nor is there evidence that Smith ever provided any advice to Gonzales regarding extending his limitations period. Furthermore, as the district court observed, “[a]lthough Steve Smith represented Gonzales during the audit that flowed from his 2000 tax return, Gonzales had designated different representation before signing the consents.

The remaining issue concerned Gonzales’ argument that he signed the extensions under duress. Duress generally requires evidence of wrongful pressure to coerce someone into signing a contract or other agreement that they would ordinarily not sign. Duress in the tax context is an “action[] by one party which deprive[s] another of his freedom of will to do or not to do a specific act.” Price v. Comm’r, 43 T.C.M. 18 (T.C. 1981), aff’d, 742 F.2d 1460 (7th Cir. 1984).

Gonzales’ duress argument centered on two main events: IRS met with him without his legal representative and an IRS agent served a summons on him at his residence before asking him to extend the SOL. As with the conflict argument, the court had little problem disposing of it as a challenge to the extension.

Gonzales can recall no details of the meeting other than its location. He cannot remember any questions agent Doerr asked him or any particular things agent Doerr said that were intimidating or coercive. His testimony was that he was worried that he might be in legal trouble and that the IRS could ruin his life. His conclusion was founded on inference. However, the fact that the agent declined to assure Gonzales that the IRS would not be pursuing lawful action against him does not justify an inference that Gonzales was deprived of his freedom of will to such a degree that he signed the consents to the extensions under duress.

Similarly, the court noted that there was nothing out of the ordinary with the agent serving a summons at his residence; in fact, Section 7602 provides that it may be “delivered in hand to the person to whom it is directed, or left at his last and usual place of abode.” Simply put, that the summons caused Gonzales stress was not enough; stress or taxpayer fear following IRS agents taking legally authorized actions do not amount to duress.

Parting Thoughts

Taxpayers sign extensions of the SOL for many reasons. After the fact, it is difficult to unwind those extensions, just as it is difficult to unwind a stipulation, as Keith discussed last week here.

The duress issue in this case to me is the more interesting of the two. There are a handful of cases where the courts have found that IRS agents have impermissibly threatened taxpayers to sign documents. For example, in the 1973 TC memo opinion Robertson v Commissioner an agent’s specific threat to seize a taxpayer’s house if he did not sign a form constituted duress.

Duress also comes up in the context of determining whether a spouse agreed to file a joint tax return or other document (including an extension of the SOL) in light of pressure or abuse coming from the other spouse. There are a handful of cases as well looking into whether a spouse’s actions reach the level of duress. That is an issue we discuss in the Saltzman Book treatise; the upshot is that on occasion coercive forces both outside and inside the marriage have reached the level for a court to conclude that the document would not have been signed except for the constraint applied to the taxpayer’s will.

 

IRS Expands Online Account Tools

Last year IRS launched an online account tool to allow individual taxpayers to look up basic information such as balance due for any years where there was an outstanding liability. Earlier this week, IRS announced that the tool’s now include the option to view up to 18 months of tax payment history. The online portal also allows individuals to get transcripts of Form 1040-series tax returns through the IRS’s Get Transcript tool and make payments through electronic payment options.

Mindful of the data breaches of the recent past IRS appears to have inserted a robust authentication process. To register, IRS requires the following:

  • Social Security Number
  • Date of birth
  • Filing status and mailing address from latest tax return
  • Access to an email account
  • Personal account number from a credit card, mortgage, home equity loan, home equity line of credit or car loan
  • A mobile phone with your name on the account.

The news release accompanying the development provides a bit more detail on registering:

Taxpayers who have registered using Secure Access for Get Transcript Online or Get an IP PIN may use their same username and password. To register for the first time, taxpayers must have their personal and financial information including: Social Security number, specific financial information, such as a credit card number or loan numbers, email address and a text-enabled mobile phone in the user’s name.

Moreover, IRS seems to be moving toward an authentication that should limit inappropriate access:

As part of the security process to authenticate taxpayers, the IRS will send verification, activation or security codes via email and text. The IRS warns taxpayers that it will not initiate contact via text or email asking for log-in information or personal data. The IRS texts and emails will only contain one-time codes.

The shift to an online account portal for individual taxpayers is a welcome development, as digitally capable taxpayers will  access information that until now generated resource draining phone calls and correspondence. With the opportunities it provides, it also presents challenges. The National Taxpayer Advocate, for example, has discussed on numerous occasions how many segments of the taxpaying public (such as the poor and elderly) may have limited access to technology and differing preferences than other taxpayers (see e.g., her comments from the 2016 Annual Report at around page 23, where she discusses research showing that “28.5 percent, 40 percent, and 31.9 percent of the Low Income, Senior, and Disabled taxpayers, respectively, had no broadband access at home, significantly limiting their online activities.”)

It is helpful that IRS is seeking comments from individuals who use the online tools. The problem comes if the IRS fails to recognize the needs of a sizeable portion of the population for whom this is not a viable option. It is important that Congress funds the IRS and IRS addresses the needs and preferences of the millions of taxpayers who by choice or necessity will be communicating with IRS via correspondence, telephone or in person.

 

 

9th Circuit Opines on TEFRA Small Partnership Exception’s Application to Disregarded Entities and Punts on Issue of Deference Given to Revenue Rulings

Today Treasury re-released regulations under the new partnership audit regime, and that is a reminder that TEFRA is on its way out, putting pressure on me and my Saltzman/Book colleagues to finish our new chapter on partnership audits. Despite the new regime, courts, taxpayers and IRS still wrestle with TEFRA, which, given its complexity, will still produce developments for the blog and the treatise for the foreseeable future. Those developments include technical TEFRA issues, as here, but also broader issues of importance to tax procedure, including the degree of deference that courts should give to revenue rulings and when disregarded entities under the check the box regulations are not to be disregarded for all purposes.

read more...

Last week the 9th Circuit in Seaview Trading v Commissioner considered one nook and cranny of TEFRA, the Section 6321 small partnership exception that applies when the partnership has “10 or fewer partners each of whom is an individual . . . , a C corporation, or an estate of a deceased partner.”

In Seaview, the father and son partners each held their interest in a partnership via single member LLCs that were organized under Delaware law. IRS audited the partnership and under TEFRA issued a final partnership administrative adjustment (FPAA) disallowing partnership losses relating to the 2001 year. The statute of limitations had long passed on the father and son’s individual 2001 tax returns if the TEFRA rules were not applicable. The son, on behalf of the partnership, filed a petition in Tax Court claiming that the FPAA was invalid because the partnership was exempt from TEFRA due to its qualifying for the small partnership exception. The Tax Court disagreed, and the Ninth Circuit, on appeal, affirmed the Tax Court. In so doing, it expounded on the relationship between State and Federal law and the deference given to revenue rulings.

In this brief post I will explain the issue and summarize the appellate court’s opinion.

As most readers know, the check the box regulations under Section 7701 disregard a solely owned LLC unless the owner elects otherwise. Regulations under Section 6321 provide that the small partnership TEFRA exception “does not apply to a partnership for a taxable year if any partner in the partnership during that taxable year is a pass-thru partner as defined in section 6231(a)(9).” TEFRA, at Section 6321(a)(9), defines a pass-thru partner as any “partnership, estate, trust, S corporation, nominee, or other similar person through whom other persons hold an interest in the partnership.” Section 6321(a)(9) predates the LLC and like entity explosion of the late 20th century, and there are no Treasury regulations that define LLCs and the like as a pass-thru partner.

The partnership in Seaview argued that under the check the box regulations, the LLCs that held the partnership were treated as sole proprietorships of their respective individual owners, and that consequently they could not constitute pass-thru partners within the meaning of the TEFRA regulations.

Despite the absence of regulations that address the issue of how interests held through single member LLCS are treated under the small partnership exception, the IRS, in Revenue Ruling 2004-88, specifically considered that issue. The revenue ruling held that a partnership whose interest is held through a disregarded entity ineligible for the small partnership exemption because a disregarded entity is a pass-thru entity.

In reaching its conclusion that the small partnership exception did not apply, the 9th Circuit addressed how much deference it should give to the IRS’s revenue ruling. The opinion notes that there is some uncertainty on the degree of deference to informal agency positions like revenue rulings. The court explained that in Omohundro v. United States the 9th circuit has generally given Skidmore deference to them. On the other hand, it noted that under the 2002 Schuetz v. Banc One Mortgage Corp., the 9th Circuit had given greater Chevron deference to an informal HUD agency position, and that there is some tension between the circuit’s approach in Schuetz and its approach in Omohundro.

It avoided having to resolve the tension between Omohundro and Schuetz by finding that the Service position in the revenue ruling was correct even when applying the less deferential Skidmore standard. The Skidmore test essentially means that courts defer to the position if it finds it persuasive. As the opinion describes, factors that courts have considered in analyzing whether a position is persuasive include the position’s thoroughness, agency consistency in analyzing an issue and the formality associated with the guidance.

The taxpayers in Seaview essentially hung their hat on the revenue ruling’s rather brief discussion of the sole member LLC issue, but the court nonetheless found the ruling persuasive and also consistent with other cases and less formal IRS counsel opinions that likewise considered the application of the small partnership exception to disregarded entities.

For those few readers with an appetite for TEFRA complexity, I recommend the opinion, but in a nutshell the court agreed with the Service approach that looked first to how the statute’s language did not reflect a Congressional directive to limit the exception to only listed entities. As the opinion discussed, Section 6321(a)(9) defines a pass thru partner as a “partnership[s], estate[s], trust[s], S corporation[s], nominee[s] or [an]other similar person through whom other persons hold an interest in the partnership.” Noting that the statute itself contemplates its application beyond the “specific enumerated forms” the question turns on “whether a single- member LLC constitutes a “similar person” in respect to the enumerated entities.”

The opinion states that “Ruling 2004-88 holds that the requisite similarity exists when ‘legal title to a partnership interest is held in the name of a person other than the ultimate owner.’ ” That line drawing, in the 9th Circuit view, was persuasive, and the revenue ruling had in coming up with the approach cited to and briefly discussed cases that supported the IRS position, including one case where a custodian for minor children was not a pass thru partner because he did not have legal title and another case where a grantor trust was a pass thru partner because it did hold legal title.

One other point, the relationship between state and federal law, is worth highlighting. The taxpayers gamely argued that the IRS view impermissibly elevated state law considerations to determine a federal tax outcome. The court disagreed:

But the issue here is not whether the IRS may use state-law entity classifications to determine federal taxes. Rather, the question is whether an LLC’s federal classification for federal tax purposes negates the factual circumstance in which the owner of a partnership holds title through a separate entity. In other words, state law is relevant to Ruling 2004-88’s analysis only insofar as state law determines whether an entity bears the requisite similarity to the entities expressly enumerated in § 6231(a)(9)—that is, whether an entity holds legal title to a partnership interest such that title is not held by the interest’s owner.

Conclusion

The Bipartisan Budget Act (BBA) new rules for partnership audits begin for returns filed for partnership tax years beginning in 2018. As partners and advisors navigate the uncertain waters of a new BBA partnership audit regime, TEFRA and its complexity will be with us for some time.

The BBA regime has opt out procedures for partnerships that have 100 or fewer qualifying partners. Essentially the statute states that all partners must be individuals,  C corporations, or any foreign entity that would be treated as a C corporation were it domestic, an S corporation, or an estate of a deceased partner. While silent on the treatment of disregarded entities, the BBA statute also states that Treasury and IRS by “regulation or other guidance” can prescribe rules similar to the rules that define the category of qualifying partners. 

Proposed Treasury regulations under the BBA were in limbo but earlier today Treasury re-released regulations that provide guidance for the new regime. The proposed BBA regulations specifically address disregarded entities. Despite comments in response to an earlier notice asking Treasury to allow disregarded entities to be treated as qualifying partners, the proposed regulations do not include disregarded entities as qualifying partners and the preamble specifically states that Treasury declined to do so because “the IRS will face additional administrative burden in examining those structures and partners under the deficiency rules.”

The upshot is that for under both TEFRA and likely BBA disregarded entities holding interests in a partnership mean that the general partnership audit rules will apply.

 

 

 

 

District Court Strikes Down IRS’s User Fees for PTINs

Readers may be aware of last week’s Steele v US district court opinion that upheld the IRS’s requirement that preparers obtain a PTIN but struck down the IRS’s requirement that preparers pay a user fee to get the PTIN. In light of the Steele opinion, IRS announced it is suspending PTIN renewal and registration.

This is another big setback to the IRS’s approach to gain oversight over tax return preparer community and may result in the IRS refunding millions of dollars in previously collected PTIN fees. The opinion conflicts with Brannen v US, a 2012 11th Circuit opinion that held that the IRS’s PTIN user fee regime passed muster, and is yet another in the ripples following the DC Circuit’s invalidating the IRS’ plan to regulate unlicensed preparers a few years ago in the Loving case.

I will excerpt the parties’ positions and the way the court resolved the dispute, and offer some observations as to why I think the court’s approach is misguided.

read more...

The Steele district court opinion turns on the Independent Offices Appropriation Act of 1952 (IOAA) codified at 31 USC § 9701. The IOAA provides broad authority to assess user fees or charges on identifiable beneficiaries by administrative regulation. User fees assessed under IOAA authority must be (1) fair and (2) based on costs to the government, the value of the service or thing to the recipient, public policy or interest serviced, and other relevant facts.

Essentially the plaintiffs argued that the user fee scheme provided no value to preparers in light of the DC Circuit’s Loving opinion:

 [P]laintiffs argue that because Congress did not grant the IRS licensing authority—as found by Loving—tax return preparers receive no special benefit in exchange for the fees, rendering them unlawful under the IOAA. In other words, plaintiffs argue that the IRS originally created a licensing scheme that would limit tax return preparers to those certain people who could meet eligibility criteria. But, because Loving found that Congress did not authorize a license requirement for tax return preparers, there are now no restrictions on who may obtain a PTIN and therefore it is no longer true that only a specific set of people may receive PTINs and the “special benefit” of being able to prepare tax returns for compensation. The only beneficiary of the PTIN system is therefore the IRS.

The IRS, looking to the approach of the 11th Circuit in Brannen, distinguished the PTIN rules from the ill-fated regulatory regime that the DC Circuit struck down in Loving:

The government argues that the PTIN and user fee regulations are separate from the regulations imposing eligibility requirements on registered tax return preparers. It argues that the PTIN requirements are not arbitrary and capricious because they make it easier to identify tax return preparers and the returns they prepare, which is a critical step in tax administration, and because PTINs protect social security numbers from disclosure. In support of its position that it may charge fees for PTINs, the IRS states that PTINs are a service or thing of value because the ability to prepare tax returns for compensation is a special benefit provided only to those people who obtain PTINs, who are distinct from the general public. Individuals without PTINs cannot prepare tax returns for compensation. In addition, the IRS argues that PTINs protect the confidentiality of tax return preparers’ social security numbers, and that protection itself is a service or thing of value.

The district court opinion adopted the view that the PTIN rules were part and parcel of the overall regulatory regime:

The Court finds that PTINs do not pass muster as a “service or thing of value” under the government’s rationale. First, the argument that the registered tax return preparer regulations regarding testing and eligibility requirements and the PTIN regulations are completely separate and distinct is a stretch at best. While it is true that they were issued separately and at different times, they are clearly interrelated. The RTRP regulations specifically mention the PTIN requirements and state that PTINs are part of the eligibility requirements for becoming a registered tax return preparer. See Regulations Governing Practice Before the Internal Revenue Service, 76 Fed. Reg. at 32287–89; 26 C.F.R. § 1.6109-2(d) (“[T]o obtain a [PTIN] or other prescribed identifying number, a tax return preparer must be an attorney, certified public accountant, enrolled agent, or registered tax return preparer authorized to practice before the Internal Revenue Service under 31 U.S.C. 330 and the regulations thereunder.”). Furthermore, the overarching objectives named in the PTIN regulations indicate a connection to the RTRP regulations. They were 1) “to provide some assurance to taxpayers that a tax return was prepared by an individual who has passed a minimum competency examination to practice before the IRS as a tax return preparer, has undergone certain suitability checks, and is subject to enforceable rules of practice;” and 2) “to further the interests of tax administration by improving the accuracy of tax returns and claims for refund and by increasing overall tax compliance.” Furnishing Identifying Number of Tax Return Preparer, 75 Fed. Reg. at 60310. The first objective clearly relates to the RTRP regulations regarding eligibility requirements for tax return preparers. The second objective is less explicit, but it does not stretch common sense to conclude that the accuracy of tax returns would be improved by requiring tax return preparers to meet certain education requirements.

Once it functionally equated the PTIN regime to the testing and eligibility requirements Loving struck down, the Steele opinion concluded that the benefit that the IRS was supposedly conferring for the user fee was in fact the functional equivalent of regulating the practice of preparing returns, with my emphasis below on the key part of the Steele opinion’s discussion:

Having concluded the inter-connectedness of the regulations, the government’s argument begins to break down. The Loving court concluded that the IRS does not have the authority to regulate tax return preparers. Loving, 742 F.3d at 1015. It cannot impose a licensing regime with eligibility requirements on such people as it tried to do in the regulations at issue. Although the IRS may require the use of PTINs, it may not charge fees for PTINs because this would be equivalent to imposing a regulatory licensing scheme and the IRS does not have such regulatory authority. Granting the ability to prepare tax return for others for compensation—the IRS’s proposed special benefit—is functionally equivalent to granting the ability to practice before the IRS. The D.C. Circuit has already held, however, that the IRS does not have the authority to regulate the practice of tax return preparers. See id. In coming to its conclusion, the Circuit considered the statutory language that the Secretary may “regulate the practice of representatives of persons before the Department of the Treasury.” Id. at 1017–18 (quoting 31 U.S.C. § 330(a)(1)). The court found that the IRS improperly expanded the definition of “practice . . . before the Department of Treasury” to include “preparing and signing tax returns” because to “practice before” an agency “ordinarily refers to practice during an investigation, adversarial hearing, or other adjudicative proceeding.” Id. at 1018. The Loving court concluded that “[t]hat is quite different from the process of filing a tax return” in which “the tax-return preparer is not invited to present any arguments or advocacy in support of the taxpayer’s position . . . [and] the IRS conducts its own ex parte, non-adversarial assessment of the taxpayer’s liability.” Id. The ability to prepare tax returns is the “practice” identified by the IRS in Loving, but the court found that such an activity does not qualify as practicing before the IRS. Therefore, it appears to this Court that the IRS is attempting to grant a benefit that it is not allowed to grant, and charge fees for granting such a benefit.

Parting Thoughts

There are over  700,000 PTIN holders, and I have seen estimates that IRS has collected anywhere between $175 and 300 million since the PTIN program started in 2011. One aspect of the opinion is that by deciding the case in this manner (i.e, IRS has no authority to charge fees for PTINs), the court did not address the plaintiffs’ alternate argument that fees the IRS charged were excessive. (IRS reduced the PTIN fee to $50 from $64 a few years ago).

This is obviously a major setback for the IRS. I am surprised by the court’s narrow view of the benefits associated with PTINs. I recall a decade or so ago the many challenges IRS had in assessing the quality of return preparers in a pre-PTIN required world. When discussing IRS efforts to unify the identification requirement under a single identifying number, GAO noted that past practices made it very difficult for IRS to get a sense of the overall preparer community, let alone associate individual preparers and the returns they prepared. While of course the IRS benefits from the uniformity of identifying requirements, so does the public, and, by extension, so do preparers.

It is in the interest of competent and honest preparers to ensure that the public has confidence in the work that they do. The visibility and accountability associated with a uniform identifying requirement benefits the tax system generally. While the impact of Steele is by no means as far-reaching as Loving, it is a major defeat and is further reason why Congress needs to step in and legislate that IRS has the ability to regulate this important aspect of tax administration.

Tax Court Case Highlights Limits of Court’s Power in Standalone Innocent Spouse Cases

 One of the challenges I used to face when directing a legal clinic was explaining to clients the limits of what the Tax Court could do in cases, especially in CDP and innocent spouse cases. When people would come to the clinic with a problem, and took the time (usually on their own) to petition the Tax Court they held out hope that if they could tell their story to the judge it would help make the IRS problem go away.

Despite some deep questions as to where the Tax Court sits constitutionally, its judges have extensive power in deficiency cases to resolve disputes, apply equitable principles and even order the issuance of a refund. A recent innocent case in Tax Court, Asad and Akel v Commissioner, illustrates some of the Tax Court’s limits and likely confusion that pro se taxpayers face in standalone innocent spouse cases that are not part of a deficiency proceeding.

read more...

The simplified version of the facts is as follows. Asad and Akel were married, and then divorced. When married, both individually owned rental properties, and they filed joint returns. IRS audited a couple of those years’ returns, disallowing losses and expenses pertaining to the real estate activities and also imposing a 20% accuracy-related penalty. Asad and Akel did not respond to the stat notices. At trial in their divorce, Asad and Akel agreed that each would be responsible for ½ of the federal tax debt for the years IRS assessed liabilities.

Fast forward a few years. Each now ex spouse filed separate requests for relief from joint and several liability. IRS denied each request and both spouses filed petitions to Tax Court challenging the denial; husband for good measure intervened on wife’s Tax Court challenge. The Tax Court consolidated both cases.

In a pre-trial memo, IRS agreed to reduce each spouse’s share of the joint liability to essentially reflect the share that was attributable to the ex spouse, a result consistent with an outcome under Section 6015(c). The problem was that the parties wanted the IRS and Tax Court to respect their 50/50 tax liability allocation they agreed to in state court, an outcome that would have favoured Asad, who wound up with a higher shares of the liability under the IRS concession.

What did Asad and Akel want from the court? Asad and Akel did not claim at trial in Tax Court that they were entitled to relief under 6015, and essentially argued that that the Tax Court should provide a way to guarantee that the IRS respect the state law divorce terms. The Tax Court held that it could (and would) not do so. The state law agreement is not binding on the IRS, which was not a party (thankfully I am sure) to the state law divorce proceeding.

Although Asad and Akel petitioned the Court for relief from joint and several liability under section 6015, at trial neither contended that they satisfied the tests for relief under section 6015. It is apparent that they both would agree to a 50-50 settlement of these cases. But the IRS is also a party to these cases. Without the IRS’s consent to a settlement under which Asad and Akel’s liability is each reduced to 50%, there can be no enforceable settlement on those terms.

The substantive issue that both ex spouses agreed on at Tax Court was that they should not be subject to the 20% accuracy related penalty, and they argued at trial in the Tax Court that the positions on the old joint returns reflected the advice of a competent tax return preparer. Again, the opinion (and clear application of the law) left the ex spouses with no relief. In a standalone innocent spouse case the penalty issue was not properly before the court:

The Court is without jurisdiction in these cases to consider Asad’s and Akel’s return-preparer defense. Neither Asad nor Akel petitioned the Tax Court in response to the IRS’s notice of deficiency. See sec. 6213(a) (allowing taxpayer to petition the Tax Court to redetermine a deficiency within 90 days after the mailing of a notice of deficiency). Instead, they petitioned the Court to review the IRS’s denial of their respective claims for relief from joint and several liability under section 6015. See sec. 6015(e). In a stand-alone section-6015 case such as this, which is independent of a deficiency proceeding, the Court can consider only whether the relief provisions of section 6015 are available. See Block v. Commissioner, 120 T.C. 62, 68 (2003). The Court cannot consider issues other than section-6015 relief. Id. Thus, it cannot consider Asad’s and Akel’s tax-return-preparer defense to the accuracy-related penalties.

Conclusion

For seasoned tax practitioners it comes as no surprise that the IRS is not bound by state law divorce proceedings because this reflects settled law. It appears that Asad and Akel did not appreciate the subtleties of the limits of the Tax Court’s powers and the relationship between state and federal law.

The outcome of this case is a decision that reflects the IRS concession rather than the agreement that the ex spouses reached in state court. Of course, nothing in this opinion keeps Asad and Akel from following the state court agreement in terms of paying the IRS and that agreement may be enforceable in the divorce proceeding even if it is not enforceable with respect to the IRS. They may very well have federal tax liabilities and state court obligations that do not match but they can be held to both. Nothing prevents them from getting the result they bargained for in the divorce. This opinion also does not keep them from now requesting penalty relief even though they will not have a judicial remedy unless they pay the penalty and file for refund. This standalone case is not res judicata or collateral estoppel on that issue.

 

Trump Budget: Perhaps Dead on Arrival But Key Themes Emerge for Tax Administration

The Trump Administration released its FY 18 budget, a budget that is generating a great deal of controversy due to unrealistic assumptions and for its slashing many entitlement programs. Since early days on the campaign the President has emphasized the need to control for errors and fraud in transfer programs. IRS has been a poster child for improper payments, and it is no surprise that this budget addresses that issue.

read more...

The document entitled Analytical Perspectives to the budget seems to contain most of the context and description of the assumptions and additional detail. Starting at about page 99 is a discussion of the need to ensure greater integrity in federal spending programs. While I have not read line by line the budget materials there are two measures in the budget that stand out for possible impact on tax administration: oversight over tax return preparers and expanded IRS math error powers. The former in my view is a great idea and the latter not so much.

The  budget requests “authority to increase [IRS] oversight over paid preparers.” As the Administration states, “[i]ncreasing the quality of paid preparers lessens the need for after-the-fact enforcement of tax laws and increases the amount of revenue that the IRS can collect.” We have discussed this issue numerous times in PT. Increasing accountability and visibility of unenrolled preparers is on balance good for taxpayers and tax administration. The most recent IRS compliance study pegged unenrolled preparers as having the highest error rates on EITC returns, and while regulation is not a panacea, requiring minimum standards and directly bringing those preparers into the Circular 230 fold is a way to discourage preparers and taxpayers from acting as if the tax system is an unwatched cookie jar and to encourage preparers to act as gatekeepers.

The second proposal in the budget is a call to expand IRS power to essentially use math error summary assessment powers:

[W]ith this new authority, the IRS could deny a tax credit that a taxpayer had claimed on a tax return if the taxpayer did not include the required paperwork, or where government databases showed that the taxpayer-provided information was incorrect.

I understand the reasoning behind this proposal. EITC exams already hover at about 40% of all IRS exams and while IRS does these exams mostly on the cheap through correspondence, TIGTA has estimated that it still costs IRS on average about $400 for each correspondence exam. Yet the problem with the proposal is that the underlying information in many of the federal databases is not reliable enough to justify dispensing with the normal due process protections of pre-assessment notice and defined right to Tax Court review. For example, HHS maintains database on child custody but millions of lower income individuals do not have formal custody arrangements or even if they do the databases are not reliable enough to warrant automatic rejection. In addition, GAO and others have criticized past IRS administration of its math error powers, an issue that is particularly pressing if individuals rely on the claimed credit to meet basic needs.

While IRS is still an efficient administrator of refundable credits (even accounting for program error costs per $ of benefit are very low relative to other means-based benefit programs), Congress would be better served recognizing the limits of IRS ability to verify eligibility and provide additional resources to do its job properly rather than look for ways to do its job on the cheap and on the backs of the beneficiaries.

While many observers have labeled this budget dead on arrival, tax proposals and tax administration proposals often have nine lives. The theme of reducing errors and saving money through increased compliance will be recurring over the next few years, and that will likely lead to proposals like these that if enacted could mean significant tax administration changes.

Legal Practice and Mental Health

We try hard to stay in our lane on Procedurally Taxing. If you come to us for tax procedure and tax administration, and want to keep it that way, feel free to pass on today’s article.  Because we deal with proper representation and because good mental health of the representative is an important aspect of proper representation, you may find today’s short post of some benefit.

May is mental health month, according to Mental Health America, a leading nonprofit that spreads the word on mental health issues. As someone who has over the years benefitted from confronting mental health issues with the care of professionals, and who lost a dear friend to suicide, I believe that tax professionals and the organizations where they work should have at their disposal resources to help through inevitable tough times that are part of life.

There are many places that can provide help and information, and lawyers and tax professionals are generally pretty good about finding information (hey, you found us)! For many who might need help, however, a big issue still is the stigma associated with seeking help from a mental health professional.

Perhaps that is changing.

read more...

An article last week in the WSJ Law Firms Finally Say it’s OK to See a Therapist [$]discussed how some law firms have begun to address more directly the challenges of life in big law, with proactive efforts to bring care to lawyers who may need some help.

My tax professor at Stanford, Joe Bankman, who is also a clinical psychologist in addition to being a rock star tax professor, along with Sarah Weinstein, have started the Wellness Project. As the home page of the project describes, “there has been an explosion of interest in wellness at law schools, and in the greater legal community. The purpose of this website is to make it easier for those working in this area to share ideas, teaching materials, articles and announcements.”

There are some terrific resources at the Wellness Project site. I listened to their most recent podcast, a conversation with Brooklyn Law School Professor Heidi Brown, who discussed her book The Introverted Lawyer. The discussion is terrific, and includes some heartfelt stories about anxiety and how students and lawyers can develop coping strategies to deal with anxiety. As a fellow introvert who finds joy and calm in reading, reflecting and writing, I identified with Professor Brown’s day-to-day approach in finding professional satisfaction despite anxieties.

Just knowing that there are others who sometimes struggle can make a difference. People do not need to suffer in silence, or feel that mental health issues make them weak or lesser professionals.

Back to tax procedure. I promise.