Designated Orders the Week of 4/9 – 4/13

We are catching up on some past designated orders. This week Samantha Galvin from University of Denver brings us up to date on the designated orders from last month; the first matter, Joseph v Commissioner, highlights how in most deficiency cases the Tax Court takes little interest in the substance or workings of matters at Appeals; the second sweeps in issues relating to returns with frivolous positions. Les

The week of April 9th was, unfortunately, not the most exciting week for designated orders. The Tax Court designated six orders, and three are discussed below with two of the three pertaining to the same case. The orders not discussed are: 1) an order granting respondent’s motion to withdraw admissions (here), 2) an order in a consolidated case reopening the record and allowing petitioner to serve respondent with interrogatories in a substantiation case with a Graev IIIaspect (here), and 3) an order and decision granting respondent’s motion for summary judgment and sustaining a notice of determination when petitioners did not provide an installment agreement amount (here).


Appeals Officer’s Testimony Excluded

Docket No. 27759-15, George E. Joseph v. C.I.R. (Order here and here)Judge Halpern designated two different orders in this case during the same week, which is somewhat unusual. Both orders involve the same issue which is whether the testimony of IRS Appeals Officer Nancy Driver is admissible.

The first order addresses respondent’s oral motion to exclude Ms. Driver’s testimony. Respondent’s motion was made during a conference call with the parties in advance of their trial. Petitioner requested the conference call to discuss whether Ms. Driver will be available to testify. Ms. Driver is the Appeals Officer who first considered petitioner’s case after he petitioned the Court.

Petitioner argues that Ms. Driver’s testimony is relevant because she identified problems with the IRS’s initial examination of his return. Respondent argues Ms. Driver testimony is not relevant and the Court should exclude her as a witness under Federal Rules of Evidence (“Fed. R. Evid.”) 104, which states the Court “must decide any preliminary question about whether a witness is qualified, a privilege exists, or evidence is admissible.”Respondent argues Ms. Driver’s testimony is excludible under Fed. R. Evid. 408 because it is evidence of a compromise of the deficiency determined by respondent.

The Court also brings the parties attention to Greenberg’s Express Inc. v. Commissioner, 62 T.C. 324 (1974) which states that “[a]s a general rule, this Court will not look behind a deficiency notice to examine the evidence used or the propriety of respondent’s motives or of the administrative policy or procedure involving in making his determinations.” The rationale behind this is that “a trial before the Tax Court is a proceeding de novo; [the] determination as to a petitioner’s tax liability must be based on the merits of the case and not any previous record developed at the administrative level.” Greenberg’s Expressat 328.

The Court does not understand what Ms. Driver’s testimony could include, other than matters precluded by Fed. R. Evid. 408.

Petitioner argues that respondent’s deficiency determination is wrong and that the amounts on the return were correct. Petitioner also alleges that the auditor assigned to his case pulled numbers “out of the air.” Despite these allegations, the Court states that petitioner fails to clearly and concisely state the facts on which petitioner bases errors as Tax Court Rule 34 requires.

The Court asks petitioner to be clear and concise, put forward any objections to Rule 408, and to respond to concerns about the relevance of Ms. Driver’s testimony and the application of Greenberg’s Express.

The second order in this case grants respondent’s motion to exclude the testimony of Ms. Driver.

It appears to the Court that Ms. Driver thought some of the adjustments were less than what respondent had determined. Rather than agree to a settlement with Ms. Driver, the petitioner continued through the process until his case was calendared for trial.

Petitioner states that, “Ms. Driver’s efforts demonstrated a true understanding of the issues presented in the taxpayer’s case” and the Court should consider Ms. Driver’s efforts as a starting point. Again, however, the Court finds petitioner fails to specify which facts he relies upon to show error and still does not identify what knowledge of the facts Ms. Driver possesses.

Ms. Driver’s role was to consider petitioner’s case and reach a resolution that would eliminate, or reduce, the issues for trial. Petitioner did not accept Ms. Driver’s findings when he had the opportunity to do so and the Court will not inquire into why that is. The Court concludes that Ms. Driver’s testimony is not admissible and grants respondent’s motion to exclude it.

Frivolity from the Start

Docket No. 11492-17L, Walter C. Lange v. C.I.R. (Order here). In this case, petitioner petitions the Court on a Notice of Determination proposing a levy of section 6702(a) penalties. Section 6702(a) applies when a return is filed with incorrect information and the IRS identifies it as a frivolous position, or the filing of an incorrect return “reflects a desire to delay or impede the administration of Federal tax laws.”

Respondent argues petitioner filed frivolous tax returns for 2007, 2009 and 2012. Petitioner moves for summary judgment which the Court denies, because it finds that petitioner’s arguments do not establish that there is no genuine dispute to any material facts and that a decision may be rendered as a matter of law.

Petitioner argues that respondent determined multiple penalties for the same tax year, but respondent concedes this issue. Respondent submits Forms 4340 showing the assessment of the penalties at issue to satisfy petitioner’s right under section 6203 to a copy of the record of assessment.

The Court finds petitioner’s remaining arguments, which it does not go into detail about, are meritless. The Court warns petitioner against advancing frivolous or groundless arguments at or after trial and against maintaining the proceeding primarily for purposes of delay. If petitioner does not heed the Court’s warning, it may impose a penalty of up to $25,000 under section 6673(a)(1).

Designated Orders: 7/31/2017-8/4/2017

Professor Samantha Galvin of University of Denver Sturm College of Law brings us this week’s edition of Designated Orders. This week’s post looks at an order involving Section 6751 and an order involving the Court’s power to impose sanctions. Les

The Tax Court designated four orders last week and two are discussed below. The designated orders that are not discussed are an order that a petitioner respond regarding his objection to respondent’s motion for summary judgment (here) and an order denying a petitioner’s motion for reconsideration to vacate the Court’s decision and dismissal where petitioner repeatedly failed to file a disclosure statement as required by Rule 20(c) (here).


Section 6751(b) Compliance is Designated Again

Docket # 13535-16SL, Adrian Antionette McGee v. C.I.R. (Order Here)

Here is yet another section 6751 designated order. After the Graev decision opened the door for these arguments, PT has posted frequently on the topic including, most recently, in a very informative designated order post dedicated to section 6751 a few weeks ago (here).

In this designated order, Judge Leyden is raising the issue of whether the IRS has complied with section 6751 when imposing an accuracy-related penalty. Judge Leyden also raised this issue in another (non-designated) order last week (here) which dealt with a failure to deposit penalty.

McGee is a pro se petitioner from Florida. Undoubtedly, she did not raise section 6751(b) non-compliance during her CDP hearing. As mentioned in our previous designated orders post, this issue is being treated slightly differently depending on the Judge. Judge Leyden appears to be one of the judges that does not think a taxpayer waives the section 6751(b) issue by not raising it.

In the present case, respondent filed a motion for summary judgment. Respondent’s motion was premature but petitioner didn’t object on that basis, so interestingly, the Court exercised its discretion and allowed the motion to proceed.

In case you haven’t been following the other posts, section 6751(b)(1) provides that, “a penalty cannot be assessed unless the initial determination of such assessment is personally approved (in writing) by the immediate supervisor of the individual making such determination or such higher level official as the Secretary may designate.” To demonstrate compliance with this section, respondent must show: 1) the identity of the individual who made the “initial determination”, 2) an approval “in writing”, and 3) the identity of the person giving approval and his or her status as the “immediate supervisor.” The settlement officer’s declaration stated that the requirements of applicable law or administrative procedure were met, but did not specifically verify that section 6751 requirements were met nor did it include any documents to substantiate that the requirements under the section were met.

The Court gives respondent three options: 1) prove that the requirements of section 6751(b)(1) were met, 2) prove that the “automatically calculated through electronic means” exception under section 6751(b)(2) applies and compliance need not be shown, or 3) concede the penalty.

The IRS must supplement its motion by August 15, and the petitioner may respond by August 30 – so we will wait in anxious anticipation to see where this one goes.

Section 6673 Penalty Imposed on Egregious Tax Protestor

Docket # 27787-16, Gary A. Bell, Sr. v. C.I.R. (Order Here)

The Tax Court sees a lot of tax protestors, in part because taxpayers do not have a lot to lose when petitioning the Tax Court. They can represent themselves, the tax liability is not required to be paid beforehand, and the court filing fee is not cost prohibitive and can be waived if the taxpayer can demonstrate economic hardship. The section 6673(a)(1) penalty is one of the Tax Court’s defenses against egregious tax protestors, and others who may meet the section’s criteria.

The petitioner in this case is particularly egregious. In the present case, he petitioned the Tax Court on CP71A notices for four different tax years. The CP71A notices are annual reminder notices informing the taxpayer of a balance due and do not provide a taxpayer with the right to petition the Court.

Petitioner had previously petitioned the Tax Court eight years ago for three out of the four years listed in his petition and the Court had rendered a decision for those years. As for the fourth year, neither a notice of deficiency (nor a notice of determination) had been issued. This meant the Court lacked jurisdiction for every year listed in petitioner’s petition.

As a result, in the present case, respondent filed a motion for summary judgment for lack of jurisdiction and requested that a section 6673(a)(1) penalty be imposed. Petitioner filed a Notice of Objection.

According to the Tax Court, “the purpose of section 6673 is to compel taxpayers to think and to conform to settled tax principles; it was designed to deter frivolity and waste of judicial resources.” In total, the petitioner had previously petitioned the Tax Court six separate times on various tax years using tax protestor arguments and had been warned about the imposition of the section 6673 penalty, to some degree, in all cases. Under section 6673, a penalty of up to $25,000 can be imposed whenever it appears to the Tax Court that proceedings before it have been instituted or maintained by the taxpayer primarily for delay; the taxpayer’s position in such proceeding is frivolous or groundless; or the taxpayer unreasonably failed to pursue available administrative remedies.

Due to the petitioner’s repetitively egregious behavior, the Court was convinced that petitioner instituted and maintained the proceeding for the purpose of delay and imposed a section 6673 penalty of $5,000.

Take-away points:

  • The Court likely designated this order as a warning to other tax protestors who wish, or continue, to drain the Court’s resources in a similar way.
  • The penalty is a necessary option for the Court since a taxpayer can take advantage of the Court’s time and resources, even when he or she has no basis on which to be there.


Summary Opinions for August 1st to 14th And ABA Tax Section Fellowships

Before getting to the tax procedure, we wanted to let everyone know the application for the ABA Tax Section fellowships is now open.  Here is a link to the release regarding the applications and the Christine A. Brunswick Public Service Fellowships.   Here is another link regarding the process, which also highlights recent winners.   I’ve had the pleasure of meeting many of the recipients, and it is an esteemed group providing amazing services thanks to the ABA Tax Section.

A few quick follow ups to some items from last week.  We had a wonderful post from Robin Greenhouse on the BASR Partnership case dealing with the statute of limitations and fraud of the tax preparer, which can be found here.  Ms. Greenhouse and Les were both also quoted in a story on the topic for Law360, which can be found here (may be behind a subscription wall, sorry).  Keith posted on the Ryscamp case, which dealt with jurisdiction to review a determination that a taxpayer’s position is frivolous.  Keith was also quoted about the case in the Tax Notes article, which can be found here (also behind subscription wall, sorry again).

Here are some of the other tax procedure items we didn’t otherwise cover:

  • We flagged earlier in the month that Congress has overturned Home Concrete with the new Highway Bill.  The Surface Transportation and Veterans Health Care Choice Improvement Act of 2015 has a few other changes to tax procedure laws.  Probably the biggest news is that partnerships and s-corps will need to file tax returns three months and fifteen days after the close of their tax years (for calendar filers, that will be March 15).  This is a change for partnerships, but not s-corps.  C-corporations, however, will not have to file until four months and fifteen days after the close of the tax year (April 15 for calendar year filers).  The goal of this is to get k-1s to individuals prior to the April 15 filing deadline.  I assume c-corps were pushed back a month on work flow concerns for preparers.  The act also revised the extended due dates for various types of returns.  In addition, next year, FBARs will be due April 15, and there will be a possible six month extension.
  • The District Court for the District of New Jersey decided a lien priority case where a bank recorded a mortgage regarding a home equity line of credit (HELOC), some portion of which may have been withdrawn after a federal tax lien was filed.  In US v. Balice, the bank argued that the withdrawal date of the funds on the HELOC was irrelevant and state law directed that the date related back to the original recording date (the Court declined to offer an opinion about whether or not this is the actual NJ law).  The government argued that federal law applied, which held first in time is first in right, but only to the extent the funds were already withdrawn.  The Court held that state law defined the property rights, but federal law governed the lien priority.  Under federal the federal statute, the security interest was only perfected when the funds were actually borrowed.  See Section 6323(a).
  • The IRS has issued two important Revenue Rulings in the international arena.  The first outlines the procedures for making competent authority requests.  The second is for taxpayers seeking advanced pricing agreements, and can be found here.
  • Jack Townsend on his Federal Tax Procedure blog has a discussion of Sissel v. US Dept. HHS, where the majority, concurring and dissenting opinions all review the Originations Clause of the Constitution and its application to Obamacare.
  • I unabashedly praised John Oliver’s sultry singing about the IRS with Michael Bolton previously in our pages.  In that ditty, Oliver pointed out we should be hating on Congress, not the IRS.  Peter Reilly over at Forbes makes a good point that in Oliver’s new IRS bit, he should probably be complaining about Congress again and not the IRS about the lack of church audits (check out Section 7611, which is Congress’ doing).
  • Service issued guidance to its new international practice unit on transactions that might generate foreign personal holding company income under subpart F.  Caplin & Drysdale have coverage here.
  • The Tax Court seems to have just thrown an assist to the Service in Summit Vineyard Holdings v. Comm’r, holding that an individual had apparent authority to execute an extension for the statute of limitations, even though the individual lacked actual authority.  The Court somewhat saved the Service, because it probably should have known that the TMP was a different entity in the year in question, as it had been informed of the switch.  The Court noted the auditing agent had very limited TEFRA knowledge (I’m not sure that excuses the IRS from properly following the rules).  The agent had the manager of the then current TMP sign, instead of the TMP for the year in question.  There appears to be somewhat of a split on this, but the Court determined that the Ninth Circuit (where the appeal would lie) would apply state law and find apparent authority based on the evidence and actions taken by the individual.  Saved by the Court!  Based on the facts, it does not seem that unfair though, as the individual was the manager of both TMPs, and it seems like he also thought he was properly executing the paperwork and extending the SOL.
  • In Chief Counsel Advice, the Service has concluded it can only apply the Section 6701 aiding and abetting penalty one time against a person who submitted false retirement plan application documents.  This is the case even though multiple documents could be submitted with fraudulent information, and even though it could result in an understatement for the plan and each participant.
  • The Service has also released PMTA 2015-11, which outlines the application of the penalty under Section 6662A(c) for taxpayers who failed to disclose participation in listed transactions involving cash value life insurance to provide welfare benefits.  This is a very specific issue, so I won’t go into much detail, but the guidance is fairly thorough and provides good insight into the Service’s thoughts on the matter.
  • And another Section 7434 case.  I wrote about the Angelopolous case earlier in the week, which dealt with who was the “filer” of the information return.  In US v. Bigley, the District Court for the District of Arizona reviewed whether an employee’s claim against his employer for false returns was time-barred.  The suit was well past the six year statute, and the employee clearly had knowledge over the last year.  Section 7343(c) outlines the statute of limitations, and states the statute is the later of six years or one year after the return is discovered by exercise of reasonable care.    The Court found that the employee received the information returns upon filing, so the six year statute clearly applied, and it would be impossible to have the one year statute in that situation.  The actual language is “1 year after the date such fraudulent information return would have been discovered by exercise of reasonable care.”  I wonder if it would be possible to create a larger fraudulent scheme, whereby the recipient would receive the information return but not realize it was fraudulent until a later date.  Would the one year statute then apply?
  • My brother-in-law just got a Ph.D. (congrats Alex! I doubt he will ever read this).  In honor of that esteemed accomplishment, here is an infographic highlighting all kinds of negative financial and other statics related to Ph.Ds.  I make no assurances to the veracity of the graphic’s claims, and I am generally in favor of graduate degrees, but I found the stats interesting.


A Terrible (But Apparently Effective) Way to Thwart the IRS’ Civil Fraud Penalty

This post originally appeared on Forbes on December 17, 2014, and can be found here.

Frivolous arguments are not ‘How to STOP the IRS,’ but saying them loudly enough and often enough might prevent the fraud penalty.  The Tax Court in Kernan v. Commissioner recently had the opportunity to review the case of Eugene Kernan.  Mr. Kernan seems to have a lot of interesting ideas, which you can find at this webpage, (absolutely not an endorsement).   Some of Mr. Kernan’s ideas pertain to his not having to file tax returns or pay taxes.  You too can learn how to stop paying taxes for the low price of $1,295.00 by purchasing “How to STOP the IRS” on CD-Rom…

I know that seems like an exciting offer, but, as most readers have probably surmised, Mr. Kernan eventually drew the IRS’ ire, and was assessed taxes, penalties and interest for many of the past years where he was implementing his “How to STOP the IRS” strategies.  Many of the readers–and the author of this post—are probably happy to see Mr. Kernan forced to fulfil one of his civic duties, and there is some entertainment value in person who is smug but incorrect being publicly reprimanded, but we focus on tax procedure and not humiliation.  Thankfully, this backdrop provides an interesting tax procedure issue—whether or not Mr. Kernan’s proselytizing about his improper tax scheme to everyone who would listen, including on TV and to the IRS, was sufficient to insulate him from the civil fraud penalty.


The Facts

Around 1993, Mr. Kernan ceased filing returns, and years 2001 through 2006 were at issue in the Tax Court case.  Mr. Kernan’s interpretation of the Code was that Section 6001 required the Commissioner of the IRS to personally invite him to file a return before he was required to file or pay any tax.  Contrary to Mr. Kernan’s tax philosophy, the Service issued notices of deficiency for each year for the tax due.  The noticed included the failure to pay estimated taxes penalty, the failure to file penalty, the failure to pay penalty, and the applicable interest.  The Service also imposed the fraudulent failure to file penalty under Section 6651(f).

Before issuing the notice, the IRS had recreated Mr. Kernan’s income by reviewing deposits made into his bank account.  Kernan refused to provide records (apparently, that request too should have come from the Commish), so the IRS summonsed the information from his banks.   The IRS found he had two sources of income, from which he seemed to earn a fairly nice living.  First, he sold various tax avoidance products (a fool and his money are soon parted).  Second, he acted as a paralegal, advising folks in IRS matters, and apparently setting up companies, trusts, doing estate planning, and other legal work.

As stated above, Mr. Kernan did not report any of this income, did not file returns, and did not pay tax.  Mr. Kernan did however share this thought on Section 6001 with the Social Security Administration and the IRS by letter – perhaps multiple times.  He also went on TV and discussed his strategy, and plastered his scheme all over his web page.

Before the Court, Mr. Kernan advanced his argument that he was not required to file a return until the Commissioner personally notified him that the IRS would like to review his tax information.  The Tax Court tossed Mr. Kernan’s briefs and refused to review them; generally, not a strong start to a case.  As a side note, the holding has an interesting discussion about the Court’s ability to do this when a party ignores the specific filing requirements.  Here, the Court noted Kernan greatly exceeded the “generous page limits” for briefs that the Court had allowed in this case.  The Court also stated that striking the brief didn’t matter much, because all 88 pages of initial brief and 88 pages of reply brief were garbage.

The tax, interest, and all penalties, except for the fraud penalty, were upheld.  Although Mr. Kernan’s briefs were tossed, the Court did still address whether or not tax and each of the penalties should have been imposed.

The Law

As stated above, the fraud penalty was imposed but not upheld by the Court.  The penalty under Section 6651(f) increases the failure to file penalty from 25% to 75% of the unpaid tax when the failure is fraudulent.  The government must show by clear and convincing evidence that the “taxpayer deliberately failed to file, and…that…the taxpayer intended to evade tax that he knew was owed.”

The Court first reviewed Mr. Kernan’s disclosure as a potential mitigating factor for fraud.  The Third Circuit, which is where I am located but not where Kernan’s case would be appealed, has held that disclosure can be a mitigating factor for fraud in tax protestor failure to file cases.  See Raley v. Comm’r, 676 F2d 980 (3d Cir. 1982).  In the Third Circuit case, the taxpayer sent multiple letters to the IRS, to the Secretary of Treasury, and various other federal officials, in which he claimed taxes were unconstitutional.  The taxpayer later filed returns, but failed to sign the returns and did not include any income.  After the taxpayer pled (or pleaded) guilty to criminal failure to file, he challenged the imposition of the civil fraud penalty.  The Third Circuit held:

[he] went out of his way to inform every person involved in the collection process that he was not going to pay any federal income taxes.  The letters do not support a claim of fraud; to the contrary, they make it clear that [the (non)-taxpayer] intended to call attention to his failure to pay taxes.  It would be anomalous to suggest that [his] numerous attempts to notify the Government are supportive, let alone suggestive, of an intent to defraud.

Although not discussed in detail in the Kernan case, other courts have come to this same conclusion regarding protestors failing to file, requiring an affirmative act of misrepresentation.  See Zell v. Comm’r, 763 F2d 1139 (10th 1985).

Other courts, including the Ninth Circuit, the Seventh Circuit, and the Tax Court when not appealable to the Third or Tenth, have found that disclosure was not sufficient in these cases to prevent the imposition of the fraud penalty.  The Ninth Circuit stated, “disclosed defiance, standing alone, would not bar a finding of fraud.”  Further, fraudulent intent “does not require the taxpayer hide his defiance from the IRS.”  Edelson v. Comm’r, 829 F2d 828 (9th Cir. 1987).

It does not appear that the Ninth, Seventh or Tax Court holdings create a bright line that disclosure will never prohibit the imposition of the fraud penalty.  Likewise,  I would not be confident that the Third Circuit or Tenth Circuit opinions require the penalty to be waived in all protestor disclosures.  For instance, the Third Circuit relied heavily upon the non-taxpayer’s various (and entertaining) letters, indicating those were sufficient to “dilute” the government’s case to the point where it had not proven fraud by clear and convincing evidence.  Where there was less disclosure, the disclosure was less clear, there was stronger evidence of fraudulent intent, or the disclosure was simply an effort to reduce penalties, I would not be surprised if the Third and Tenth held the opposite.

It should also be noted that disclosure does not fix all fraud.  For instance, if a fraudulent return is filed, and then the taxpayer attempts to disclose and fix the fraud, the Service may still be able to impose the fraud penalty, and the statute of limitations will almost certainly still be extended because of the initial fraud.  This holding, and the cases discussed above, pertain to a more narrow fact pattern.

The Court in Kenan held the disclosure did not automatically mitigate the fraud, and went on to determine if the taxpayer had the customary badges of fraud required for the imposition of the penalty.  The Court determined, probably correctly, that Mr. Kenan in good faith believed his interpretation was correct, which was sufficient to erode the government’s attempt to show the intent to defraud by clear and convincing evidence.

A few parting thoughts.  Depending on where you reside, if you espouse your cockamamie tax ideas loud enough and often enough (and actually believe them), the fraud penalty may not be upheld; however, that is not a sure thing in any jurisdiction in my mind.  In addition, unless you have a new tax protestor idea, the Service can use your statements against you, as the rehashed failed protestor arguments can be an evidence of an intent to defraud on the part of the taxpayer – this does still generally require an affirmative action indicting something false to the IRS though.

Congress has also enacted a specific Code Section for protestors.  Section 6702 allows for an additional $5,000 penalty for frivolous returns or other submissions if they are based on positions identified as being frivolous in a published list, or reflect a desire to delay or impede tax administration.  Again, being creative and original in your balderdash should help.

Interestingly, had Mr. Kernan argued he was doing this as a “test case” for his position, which was also his livelihood, the Tax Court may have also considered that as a mitigating factor for fraud.  This would have shown a different intent.  The Tax Court has stated that full truthful disclosure of an intention to present a test case could be a mitigating factor in a fraud penalty case.  See Habersham-Bey v. Comm’r, 78 TC 304 (1982).  I’m not aware of any actual holdings in favor of taxpayers on that argument, but it is possible.

And to conclude, the IRS and the Tax Court do not believe “How to STOP the IRS” is an accurate title, but Mr. Kernan was successful in thwarting the fraud penalty—there was, however, a substantial cost in other penalties, interest, time and perhaps some embarrassment in obtaining that Pyrrhic victory.