Starr v US and The Power to Confer Discretionary Treaty Benefits: Part 1

It is not often that the courts wrestle with the application of discretionary treaty provisions. Earlier this month, in Starr International v US , a DC federal district court found that the Competent Authority did not act arbitrarily or capriciously in denying discretionary relief under the U.S.-Swiss Treaty. In today’s post, I will  discuss the jurisdictional battle that led to last week’s opinion. I will follow up in Part 2 with a discussion as to the court’s application of the APA to the treaty claims.

read more...

In 2015, in District Court Hands IRS Loss in its Bid to Exclude Discretionary Treaty Benefits From Judicial Review I discussed the fight between The Starr International Group and the IRS over Starr’s efforts to get the benefits of discretionary treaty relief that would have reduced US withholding on AIG dividends. Much of the post discussed the government’s unsuccessful efforts to convince the court that the decision was not subject to court review. That opinion, and my post, discusses why there is a strong presumption against unfettered agency discretion.

Following that setback, the government asked the court to reconsider. In a 2016 opinion, the government did get a victory, of sorts. Despite reaffirming its earlier conclusion about the court’s power to review the IRS’s decision to not grant discretionary treaty relief, the District Court held that separation of powers principles meant that it could not order a monetary refund for Starr even if it felt that the US competent authority improperly applied that the anti-treaty shopping provisions of the US –Swiss tax treaty.

The 2016 opinion explored the  limits of the court’s powers. In so doing, it discusses how in treaties there is a consultation process between the contracting states following one state’s Competent Authority determination that a party is entitled to discretionary treaty relief.  That consultation is an executive branch function. As such, the 2016 opinion concludes that the courts are unable  to mandate that a party is entitled to receive a refund based on a claim that there was an improper application of a discretionary tax treaty provision. On that point, the opinion was clear:

To determine that Starr is entitled to a certain sum of benefits, the Court would be forced to step into the shoes of the IRS and its Swiss counterparts and effectively preordain the outcome of any consultation between the two. This a court may not do.

Yet in that 2016 development the district court concluded that Starr could bring a claim under the APA seeking to set aside the U.S Competent Authority’s determination and that if Starr “prevailed on that claim, [it] would be entitled … to have the matter remanded to the U.S. Competent Authority for further action” consistent with the Court’s opinion.

The 2016 opinion nicely summarizes how the APA provided jurisdiction over Starr’s dispute:

The APA makes “final agency action for which there is no other adequate remedy in a court … subject to judicial review.” 5 U.S.C. § 704. The government concedes that the Competent Authority’s decision constitutes final agency action. And if the Court were to hold that Starr could not challenge the decision through a claim brought under the tax-refund statute, then no other adequate remedy would exist, and review under the APA would be proper. Cf. Cohen v. United States, 650 F.3d 717, 736 [108 AFTR 2d 2011-5046] (D.C. Cir. 2011) (en banc) (directing the district court to consider the merits of an APA claim against the IRS when plaintiffs had “no other adequate remedy at law”).

In allowing Starr to bring a claim under the APA, the 2016 opinion acknowledged that Starr’s ultimate goal was a refund, not just an academic finding that the Competent Authority acted improperly. Yet, the opinion paved the way for the Starr Company to amend its complaint to bring the APA claims and suggested that such a finding might in fact lead to a refund (or at least a consultation about a refund):

As the Court has explained, however, monetary relief of any sort is unavailable to Starr without improper judicial intervention into the consultation process….

The Court declines to assume, however, that Starr would forgo an opportunity simply to have the Competent Authority’s decision set aside as arbitrary, capricious, or an abuse of discretion. Indeed, as the government recognizes, remanding to the agency for further consideration is the norm when a court sets aside an agency’s action. And this relief is not illusory. Regardless of whether the Court possesses the authority to order the IRS to engage in consultation, counsel for the IRS has represented—and the Court would fully expect—that the IRS would not decline to consult with the Swiss in the event that the Court found that the IRS abused its discretion and remanded to the IRS, and the IRS otherwise preliminarily determined that Starr qualified for treaty benefits. Hr’g Tr., ECF No. 34, 42:8-18. The Court thus will not deprive Starr of the opportunity to seek this form of relief under the APA. It will grant Starr leave to amend its complaint to bring such a claim.

Starr dutifully amended its complaint to include APA claims. This led the district court in an opinion earlier this month to apply the APA to the Competent Authority’s decision to deny treat benefits. In Part 2 of this post, I will discuss the court’s analysis as to why under the APA the Competent Authority did not act improperly in finding that the discretionary treaty benefits did not apply to reduce withholding on the AIG dividends.

 

 

Tax Court Exercises Equity to Allow Late Rollover of IRA

At procedurallytaxing we generally discuss things that happened a week or two or three ago.  Sometimes, we take even longer.  The case of Trimmer v. Commissioner, 148 T.C. No. 14 (April 20, 2017) came out four months ago.  It deserves attention if you have not yet seen it.

When the case came out, I was very excited not just for the Trimmers but because this case was tried by the Fordham Tax Clinic.  The students, Amanda Katlowitz, Ravi Patel, and Regina Yoon, together with their director, Elizabeth Maresca, did an outstanding job in winning an equitably compelling case but a difficult one which resulted in a precedential opinion from the Tax Court.  The Court declares by making the case precedential that it breaks new ground.  It provides good news for taxpayers who fail to timely roll over their IRAs and perhaps good news for taxpayers in other circumstances who have a good equitable argument.  Because of changes in the way that individuals who fail to timely roll over their IRA may remedy the problem as we discussed here, I hope that most of these cases get resolved administratively going forward, but that does not diminish the importance of this victory.

read more...

The IRS determined that the Trimmers had a deficiency of $37,918 in 2011 for pulling funds out of an IRA and failing to timely roll it over to another qualifying account.  Mrs. Trimmer is a school teacher and Mr. Trimmer, age 47, was a recently retired police officer.  They have two sons who were not too far from college.  A tax hit of this amount would have been devastating to their financial well-being.

When Mr. Trimmer retired from the New York police force he anticipated continuing to work and had lined up a job at the New York Stock Exchange as a security guard.  After he retired and just before he was to begin work, the NYSE job fell through.  The loss of this job and his inability to quickly find another one sent him into a tailspin and he “began experiencing symptoms of a major depressive disorder.”  The Court details other symptoms but the one that relates to this case involves the receipt of distributions from his New York City retirement accounts.  He received checks for $99,990 and $1,680 and these checks sat on his dresser for a month before he deposited them in the family joint bank account – but not a retirement account.  Mrs. Trimmer thought/hoped that Mr. Trimmer was properly dealing with the retirement funds.

Mr. Trimmer was also the person who normally took care of getting the family tax return prepared.  Unfortunately, his depression caused him to delay the task.  Eventually, he went to their preparer who took note of the 1099-R detailing the distribution and told him to put the money into an IRA.  Mr. Trimmer did so the following month but by that time more than 60 days had elapsed.  The funds simply sat on his dresser or in the joint bank account until moved to the IRA.  The preparer filled out the return as if a proper rollover had occurred and may not have known of the timing issues.  The IRS did notice the timing of the rollover eventually, however, and sent the Trimmers a notice of proposed changes.

Mr. Trimmer wrote to the IRS and explained what had happened and how his post NYPD depression had impacted the timing of the rollover.  The IRS summarily denied the request for relief and did not mention the ability of the IRS to grant hardship waivers.  A notice of deficiency and Tax Court petition followed.  The Trimmers argued that they qualified for a hardship waiver under IRC 402(c)(3)(B) because “his failure to make timely rollovers was caused by his major depressive disorder during the relevant period.”  The IRS argued that the Trimmers did not qualify because they failed to “apply for relief pursuant to the terms of Rev. Proc. 2003-16.”  The IRS next argued that “there has been no final administrative determination denying petitioners relief, and that even if there had been, it would not be subject to judicial review.”  The IRS also argued that its refusal to grant him relief during the audit process was not an abuse of discretion.

The Court pointed out that the IRS had supplemented Rev. Proc. 2003-16 with Rev. Proc. 2016-47 discussed in our prior blog post.  The 2016 Rev. Proc. provides that the IRS “may determine that the taxpayer qualifies for a waiver of the 60-day rollover requirement under section 402.”  The 2016 Rev. Proc. has an effective date of August 24, 2016.  The IRS argued that the 2016 Rev. Proc. was not issued when the IRS examined the Trimmers’ 2011 return and the examiners had no authority to make a determination.

The Court does not buy this argument pointing out that nothing in Rev. Proc. 2003-16 or IRC 402(c)(3)(B) limits or constrains an examiners ability to find hardship during an examination whereas IRM 4.10.7.4 in effect during the examination of the Trimmers’ return stated: Examiners are given the authority to recommend the proper disposition of all identified issues, as well as an issues raised by the taxpayer.”  The Court found that the 2016 Rev. Proc. did not create new authority but made clear the existence of that authority.  The Court looked at the way the IRS behaved during the examination and found that it did not deny relief because it could not make a determination but rather denied relief summarily without pointing to the statute or the then applicable Rev. Proc.

The IRS pointed to several earlier memorandum decisions of the Tax Court declining to consider equitable relief.  The Court responds that these cases did not involve any administrative request for hardship waiver through a private letter ruling or during the examination.  Mr. Trimmer did request administrative relief during the examination.  So, the Court finds the IRS did have the authority to consider the hardship request made during the examination and made a final determination to deny relief.

Having made that determination, the Court then moved on to its own review of the denial.  The IRS argued that the Tax Court did not have the authority to review the waiver denial as a part of a deficiency case.  The Court finds that the claim for a waiver here goes to the heart of the proposed deficiency.  It points to the “strong presumption that an act of administrative discretion is subject to judicial review” and that “agency action is only exempt from judicial review where the governing statues expressly preclude review or where the action is committed to agency discretion by law.”  Nothing in the applicable statute expressly precludes judicial review and the procedures for judicial review logically apply here.  So, the Court finds that it has jurisdiction to review the denial of the hardship waiver.  The appropriate standard for review is abuse of discretion.

The Court next addressed the IRS motion in limine objecting to the expert witness offered by the Trimmers.  A motion in limine is usually filed by a party to obtain a ruling in advance of trial so that the party might know how to proceed during the trial.  Having the decision on the motion appear in the opinion limits some of its usefulness and makes the determination more like the ordinary determination of the value of an expert witnesses testimony.  Nonetheless, the IRS seeks here before, during or after the trial to limit the value of the Trimmers’ expert witness. In deciding what to do with this testimony, the Court goes through the usual rules applied to allowing expert testimony.  The Court finds the expert’s testimony relevant, that she is qualified as an expert and reliable.  On the issue of reliability, the IRS argued that she did not observe Mr. Trimmer while he was going through the period of alleged depression.  This issue of timing comes up regularly when parties seek an expert in IRC 6511(h) cases.  It would be convenient if people experience life problems would go to a qualified expert at the start of their problems but all too often the problems also prevent the person from seeking timely treatment.  Here, the Court became comfortable that the expert used the proper technique to put the pieces together after the fact and it found that her expert testimony was supported by the credible testimony of the other three family witnesses who, although not experts, observed and lived through Mr. Trimmer’s period of incapacity.

The IRS had other problems with the expert including her alleged violation of state law because of her licensure (she was not treating him), the late submission of the expert report 22 days before trial instead of 30 (the Court cut the academic clinic a break), the use of an assistant in preparing the report (permitted under Court rules),  the lack of a statement of compensation (she did it pro bono), the failure to list her publications (these were on an attached CV) and the failure to list other cases in which she testified as an expert (there were none to list.)  So, the Court denied the motion in limine and admitted the expert’s testimony leaving still the determination of whether the IRS abused its discretion in denying the waiver.

The Court carefully examined the phrase equity and good conscience.  It found that the applicable statute giving the IRS authority to grant a waiver where taxpayers had missed the statutory time period for rollovers reflected “a broad and flexible concept of fairness, by providing a non-exhaustive list of situations that might satisfy the general standard.”  The Court listed the four objective factors to be used in making this evaluation.  Looking at those factors it determined that the one did not apply (a failure by a financial institution which frequently occurs in rollover cases), two were favorable to the Trimmers (their lack of use of the funds and the prompt rollover after the return preparer pointed out the problem) which left the factor of the inability to complete the timely rollover.  On this point the Court found that Mr. Trimmer’s failure resulted from a disability which materially impacted his ability to function.  The Court noted that it reviewed a number of private letter rulings and determined that its decision here was consistent with the rulings made by the IRS.

The case represents a great victory for the Trimmers and others who might seek equity in the Tax Court.  I must confess I am jealous of the success of the Fordham clinic since my clinic’s efforts at equitable results have not met with the same success.  The case is cause for continuing to try as well as for celebrating a victory of justice.

 

Designated Orders: 8/7/17 to 8/11/2017 and Update on Yesterday’s Post

This week’s post on designated orders was written by William Schmidt the LITC Director for Kansas Legal Services. 

Before I turn you over to this week’s orders, for the second day in a row I want to pass out additional information about the prior day’s post.  As with the additional information yesterday, an alert reader found pertinent information that will add to your understanding of the case.  As we were filing the blog post yesterday, the debtor’s attorney was filing a joint stipulation of dismissal of the Pendergraft 505(a) litigation.  If you remember the case, the debtor sought to litigate her status as an innocent spouse in bankruptcy court.  The IRS objected and the bankruptcy court essentially said that it could hear the case but first she needed to make an administrative request to the IRS asking that it grant her innocent spouse status.  She did what the court requested, almost always a good idea, and the IRS has given her a preliminary indication that it intends to deny her request.  I believe her attorney is concerned that if he passes on the chance to litigate the innocent spouse issue in Tax Court, the IRS may appeal the decision of the bankruptcy judge and he could lose the opportunity in both venues.  So, he is taking the safe route but also a route that will keep us from learning how higher courts would view this jurisdictional issue.  Keith

There were 5 designated orders this week and they made up a mixed bag.  The group includes a woman trying to convince the Court she was not part of a partnership despite prior history of stating otherwise, a man whose mail history will decide his tax liability, assistance for a petitioner regarding discovery, and summary judgments in Collection Due Process (“CDP”) cases.

Is She a Partner or Not?

Docket # 20872-07 & 6268-08, Derringer Trading, LLC, Jetstream Limited, Tax Matters Partner, et al, v. C.I.R. (Order Here)

For a Chicago trial set this month, the subject matter is a partnership-level proceeding under the TEFRA unified audit and litigation procedures.  The partnership and the years in question is Derringer Trading, LLC, for 2003 and 2004.  Leila Verde, LLC, was a partner of Derringer during those years.  The parties disagreed whether Susan Hartigan was a member of Leila Verde.  Michael Hartigan (Susan’s estranged husband) represented her as the ultimate owner of Leila Verde, the IRS position was that she was the 99% owner of Lelia Verde during 2003 and 2004 while Mrs. Hartigan filed a memo supporting her position that she was not a partner of Leila Verde at all.  The Court held an evidentiary hearing on Mrs. Hartigan’s status.

Following a recounting of the evidence regarding the financial history of the Hartigans, the Court looked at three doctrines and concluded that Mrs. Hartigan is a partner of Leila Verde.  Under the duty of consistency, Mrs. Hartigan previously asserted she was a partner of Leila Verde in prior courts, a joint tax return and in a bankruptcy case.  Using analysis from the tax benefit rule, changing her status would provide a windfall to Mrs. Hartigan, which the rule was designed to prevent.  Under judicial estoppel, Mrs. Hartigan took the position in prior courts that she was a partner of Leila Verde in an affidavit and other assertions, which she would now be estopped from asserting an opposite position against her prior judicial benefit.  Her statute of frauds argument that the Leila Verde Purchase Agreement was invalid was misplaced for the TEFRA proceeding.

The Court notes that Mrs. Hartigan’s allegations of Mr. Hartigan forcing her to make the Leila Verde purchase through “deception, abuse, manipulation, exploitation and domination” would be better suited for an innocent spouse partner-level proceeding after the TEFRA proceeding.

Takeaway:  Be consistent in your court testimony!

What Is His Last Known Address?

Docket # 22293-16, Nathanael L. Kenan v. C.I.R. (Order Here)

Mr. Kenan filed his 2011 tax return from his address on Ivanhoe Lane in Southfield, Michigan.  Mr. Kenan alleges that he moved to a new address, Franklin Hills Drive, in Southfield prior to February 2013 and notified the U.S. Postal Service regarding his change of address.  The IRS mailed a statutory notice of deficiency (“SNOD”) to the original address on February 19, 2013.    Mr. Kenan filed his 2012 tax return from the second address and does not allege he gave the IRS a change of address between filing his tax returns.

Since Mr. Kenan did not file a Tax Court petition to respond to the SNOD, the IRS garnished his wages, levied his bank account, and applied his 2012 refund to his 2011 liability.  The activity prompted him to contact the National Taxpayer Advocate, who Mr. Kenan alleges advised him to file a Tax Court petition.  The petition states he did not receive the SNOD, having moved with no SNOD being forwarded to the new address so he argues no SNOD was ever mailed at all.

Should the SNOD have been mailed correctly, the Tax Court would dismiss Mr. Kenan’s petition for lack of jurisdiction for timeliness.  If the SNOD was not correctly mailed, the dismissal would be based on an invalid tax assessment.  The Court denied the IRS motion to dismiss for lack of jurisdiction in order to proceed to trial, where Mr. Kenan has the burden of proof regarding his timeline of the facts.

Takeaway:  The IRS is required to update their addresses based on U.S. Postal Service Change of Address notifications.  The address the IRS uses to mail their notifications is influential to determine jurisdiction for Tax Court.

Odds and Ends

Docket # 30295-15, Joseph H. Hunt v. C.I.R. (Order Here)

  • Judge Cohen provides some relief regarding discovery for Mr. Hunt:  “It appears to the Court that the interrogatories, with multiple pages of convoluted instructions and definitions served on an unrepresented taxpayer, are excessive under Rule 71(a) and should be limited under Rule 70(c), Tax Court Rules of Practice and Procedure.”

Docket # 21360-16L, Mushfaquzzaman Khan & Bushra Khan v. C.I.R. (Order & Decision Here)

  • Petitioners failed to respond to an IRS motion for summary judgment regarding a lien collecting on a 2014 tax liability and the Court granted the IRS motion.  Takeaway:  The Tax Court is not authorized to review a taxpayer’s underlying liability when that issue is raised for the first time on appeal of a notice of determination.

Docket # 13479-15L, Michael Horwitz & Judith A. Horwitz v. C.I.R. (Order & Decision Here)

  • In another CDP hearing, the petitioners did respond to the IRS motion for summary judgment, but the motion was still granted in favor of the IRS.  Petitioners previously did not file requested tax returns or the Form 433-A financial statement and did not receive an installment agreement.  Takeaway:  It is necessary to respond to IRS requests in a timely fashion.  Failure to provide the 433-A means no installment agreement with the IRS.

 

Litigating Your Innocent Spouse Claim in Bankruptcy

If you were interested in yesterday’s post concerning the mismanagement over a period of years of the account of Mr. Fagan, please read the comment posted yesterday by Bob Kamman.  Bob took the time to call Mr. Fagan and get the kind of background details not possible to find by just reading the opinion.  Based on the information from Mr. Fagan, his efforts to fix the problem in TAS, Appeals and Chief Counsel where he was working face to face with a real human were totally unsuccessful.  This is the type of case I expected Senator Roth to find in his hearings before the 1998 legislation.  These cases exist because sometimes accounts get badly mangled.  I did not expect to see Chief Counsel litigating such a case.  From the comments it appears that accounts management was not the only place badly managed on this case.

In March, the bankruptcy court for the Southern District of Texas ruled in In re Pendergraft that it had jurisdiction under Bankruptcy Code 505(a) to determine whether Jane Pendergraft qualified for relief from her joint and several liability under IRC 6015(f).  The IRS strenuously objected to the bankruptcy court’s decision that it had the power to decide she qualified for innocent spouse relief.  It views the Tax Court as the exclusive avenue for obtaining such relief.  The case, which maybe the first case to decide this issue – at least the first one to decide the case favorably to the taxpayer, deserves attention because it may open up opportunities for relief in a forum previously unused for this purpose and because the of policy tensions that support the bankruptcy court’s decision even if the language of the statute may not.

read more...

Section 505(a) of the bankruptcy code offers taxpayers in bankruptcy the opportunity to contest their tax liabilities in that forum instead of the more traditional forums of Tax Court, district court, or Court of Claims.  The reason that Congress granted this power to the bankruptcy court is that sometimes the tax liability needs to be final in order to the bankruptcy case to move forward.  The time frame for deciding a tax case in the other forums does not necessarily match the time frame for the bankruptcy case.  By giving the bankruptcy court the ability to decide the tax matter, Congress allowed it to control the timing.

The reasoning behind the grant of jurisdiction to the bankruptcy court to hear the tax matter extends to the determination of innocent spouse status; however, the decision of whether someone is an innocent spouse does not turn on whether the tax is due, i.e., the merits of the liability, but rather whether this person claiming innocent spouse status should be relieved of the liability even though it is due.  The IRS argues that this distinction precludes the bankruptcy court from deciding the innocent spouse issue because its authority under section 505(a) covers determining the merits of the liability and does not extend to the issue of innocent spouse status even though such a determination would clearly have an important outcome on a taxpayer’s bankruptcy case and whether the debtor could confirm a plan.

The facts of the case are not unusual for an innocent spouse argument.  Mrs. Pendergraft, who was 66 at the time of the decision, married Mr. Pendergraft in 1988.  During the period of their marriage, they split household responsibilities with Mr. P taking on “exclusive responsibility for the financial activities of the homestead, including the preparation and paying of taxes.”  Mrs. P operated a private psychotherapy practice part time and took primary responsibility for child care and household maintenance.  For the years 2001-2006, the Pendergrafts failed to file tax returns or to pay the taxes.  Mrs. P alleged that she did not know of the failures and signed returns for each year expecting her husband to file them.

She learned of the problem when the IRS levied on her separate bank account in 2008.  Although Mr. P initially denied knowledge of the problem he eventually confessed to her he had forgotten to pay the taxes for one year.  He later informed her that he had retained attorneys and accountants to fix the IRS problem, that the agreement required they pay the IRS $10,000 a month for an extended period, and that he would make sure all future returns were timely filed.  She alleged that he may have misappropriated money she gave to him between 2008 and 2016 to deal with the IRS and that he caused the IRS to mail all correspondence to his office address preventing her from learning of ongoing problems.

In late June 2016, she attended a meeting with their attorney in which she alleges that she learned for the first time that their income and property taxes had not been paid for 15 years and that they faced criminal prosecution.  According to her, this attorney advised her that she must join her husband in filing for bankruptcy in order to prevent the IRS from seizing their house and from prosecuting them.  I note that if the attorney gave such advice, it incorrectly described the effect of bankruptcy on possible criminal tax prosecution.  Bankruptcy code section 362(b)(1), one of the exceptions to the automatic stay, provides that bankruptcy has no impact on criminal prosecution.  By October of 2016, she had obtained permission of the bankruptcy court to proceed with divorce and in November she asked the bankruptcy court to determine that she qualified as an innocent spouse.  The IRS filed a motion to dismiss the request for an innocent spouse determination arguing ‘that a bankruptcy court’s jurisdiction is limited by the fact that it is a judicial offer of the district court, that the structure of 26 U.S.C. 6015(f) vests the determination of innocent spouse relief strictly in the IRS and tax courts, and that the United States has not consented to being sued on the innocent spouse issue in bankruptcy court.”

The bankruptcy court looked at section 6015(e)(1)(A) which allows a court to grant innocent spouse relief if the IRS fails to make a determination within 6 months.  The bankruptcy court pointed to the language of the statute providing that the remedy available in Tax Court for innocent spouse determinations is “[i]n addition to any other remedy provided by law.”  Bankruptcy section 505(a) is another “remedy provided by law.”  The bankruptcy court looked at applicable 5th Circuit law on the application of section 505(a) which it found supported the court’s ability to make an innocent spouse determination.  The court acknowledged the case law cited by the IRS finding bankruptcy court an inappropriate forum for innocent spouse determinations.

The bankruptcy court rejected the authorities provided by the IRS for three reasons: 1) the case law did not address 5th Circuit precedent interpreting 505(a); 2) the plain language of the statute; and 3) a decision by the bankruptcy on this matter would not lead to inconsistent judgments or conflict with basic principles of judicial economy.

Having decided that it can decide the innocent spouse issue, the bankruptcy court then determines that it must wait for the IRS to make a decision.  It required Mrs. P to submit to the IRS Form 8857 and indicated that it will make a decision if the IRS fails to do so in six months (not adopting the four-month rule for claims for refund as the shortened time period in 505 cases) or after the IRS makes an adverse decision.  It is possible, of course, that the IRS will decide in her favor in the administrative process.  If it does not, watch this case as I expect the IRS will not give up this issue at the bankruptcy court level.  We looked quickly at the bankruptcy case  and did not see any developments yet on this issue.

 

 

Accounts Management not Well Managed

The work done by the IRS Accounts Management function serves an important but often overlooked role.  This part of the IRS must keep the IRS books and records straight.  With hundreds of millions of accounts to manage, keeping the data correct on each account provides a challenge.  The recent Summary Opinion in the Collection Due Process case of Fagan v. Commissioner, T.C. Summary Opinion 2017-61 provides a glimpse of what happens when things go wrong.  Without having the transcripts for a 20-year period, it is not possible to tell exactly how things went wrong over that two decade period but the IRS messed up the account to a sufficient degree that the judge holds for the taxpayer on the issue of payment, finding that the IRS simply did not properly keep its books.

In addition to my description of the case in this post you might look at the Comment provided on August 12, 2017, by Bob Kamman which provides further insight on this case.  As we have mentioned several times before, a number of people write comments on our posts which provide additional detail and insight on the cases discussed.  Bob’s comment is someone unusual in that he commented on the case before the post went up.  We might have asked him to let us use the comment as a guest post had this post not already been drafted.  In addition to reminding readers to check out the comments section of the blog, we also remind you that we welcome guest posts.

read more...

Mr. Fagan worked as a lawyer in Buffalo for many years before retiring to Florida for the easy life.  He thought he had resolved his tax problems before he went into retirement and, no doubt, did not enjoy learning that tax issues that arose about a decade before he retired continued to plague him after he reached the Sunshine State.  Based on the description in the opinion, his tax problems may have started with a divorce in the mid-1990s.  Anyone who practices in this area knows that divorce frequently serves as a trigger for tax problems.  Life breaks out of settled routines and the many moving parts occurring during a divorce often have a way of washing over into tax issues.  Additionally, divorce can make it difficult for the IRS in managing a taxpayer’s account.  Liabilities reflected on a joint account may transition from the master file account holding the joint liability and get split into mirrored accounts in the non-master file system.  I cannot tell if the divorce played a role in Mr. Fagan’s tax account problems but, if it did, I would not be surprised.

Mr. Fagan owed some individual income tax liabilities starting in 1996 and he owed some employment tax liabilities arising from his law firm.  He ended up in a CDP case in the Tax Court.  In that case he reached a settlement with Chief Counsel’s office that the decision document in the case memorialized.  The decision document binds the parties.  It required Mr. Fagan to make installment payments of $2,125 for twelve months which he did.  Once he did that, the IRS should have removed all of the liabilities covered by his first CDP case.  For reasons unexplained, and maybe unknown, it did not.

When Mr. Fagan filed his 2011 return, he had a liability of $2,346.46 and he asked the IRS to apply $2,900 he had overpaid as a result of the IRS misapplication of payments on his account.  The IRS did not do this.  In 2013, he received notice of more taxes and interest for the years covered by the first CDP case.  He convinced the IRS that its notice was incorrect.  While he convinced the IRS of the incorrectness of that notice, the IRS seized $8,700 of his funds and he convinced the IRS to return that money as incorrectly seized.  The opinion recounts several other missteps by the IRS because it could not get the account corrected.

In his second CDP case, which relates to the $2,346 liability for 2011, he does not contest the liability but argues that the IRS misapplied payments which, had they been properly applied, would have satisfied this liability.  The Court makes a point of saying that Mr. Fagan is “not claiming an overpayment or credit.”  Of course, if he were claiming an overpayment, the Court would tell him that it has no ability to order the overpayment because of its decision in Green-Thapedi.  From the facts presented, it appears that Mr. Fagan may have had an overpayment of the difference between $2,900 and $2,346.  The decision does not go there because of the expression that he did not request an over payment of this difference.

The IRS, having made numerous account errors spanning almost a decade, did not concede this $2,346 case and avoid the embarrassment of exposing its inept account management in this case but instead insisted on arguing that it could apply overpayments in whatever manner it saw fit.  While the IRS position is essentially correct, it misses the point here.  The Court finds “we agree with petitioner that his payments cover the amount due for 2011 and that it was an abuse of discretion for respondent to pursue collection.”

So, Mr. Fagan completely wins this CDP case.  Will this be the end of his problems?  Perhaps the next case we read about Mr. Fagan will be his suit against the IRS for unauthorized collection if it continues to make errors in his account.  This is the kind of case I would occasionally see when I worked in Chief Counsel’s office and someone’s account got badly messed up.  When you have an account that is badly messed up, there are a few wizards at the Service Centers in accounts management that can fix it; however, if you do not get to one of those wizards and the account continues to be handled by one employee after another who fails to take the time and effort to do the spade work to fix all of the problems in the account, then you get a problem such as Mr. Fagan had.  What I cannot understand here, and it may be because of a lack of information, is why Chief Counsel moved forward with this case to the point of obtaining such an embarrassing opinion.

 

Summer Reading: Tax Compliance And Small Business Taxpayers

The Wall Street Journal ran an interesting article last week, Number of Americans Caught Underpaying Some Taxes Surges 40% [$]. The main point in the story is that with the increase in the gig economy many more Americans are left on their own to pay estimated taxes. Many are not complying. The WSJ reported that from 2010 to 2015 there was an increase of about 40% in the number of people penalized for underpaying estimated taxes.

read more...

It is easy to understand why. Without the benefit of withholding that comes with traditional paychecks and in many cases also without information reporting that can remind people that Uncle Sam is looking, there are many challenges to staying on the right side of the tax law.

A report last year from the American University Kogod Tax Policy Center called Shortchanged: Tax Compliance Challenges of Small Business Operators Driving the On-Demand Platform Economy gives the issue a deep dive.

The Kogod Report is terrific. It is well researched. It provides background on the rapid growth of this segment of the economy, with companies like Uber, Airbnb, Etsy and many others pushing Americans into the uneasy tax perch of small business owners. One of the main points in the study is that the tax code is a 20th century code poorly matched with the 21st century economy. Add to the mix a 20th century mode of tax administration and many Americans are ill-equipped to keep records and understand how the law applies to their situation. This all leads to a major tax administration headache.

What I found most interesting in the report is the survey it conducted of about 50 small business owners. While the survey is not meant to be a statistically reliable sample (and in fact may reflect a greater sophistication as all responders were in the National Association of Self Employed) it did provides some insight into many challenges this group faces:

At best, these small business owners are shortchanged when filing their taxes; at worst, they fail to file altogether. Approximately one- third of our on-demand platform operator survey respondents didn’t know whether they were required to pay quarterly-estimated payments and almost half were unaware of any available deductions, expenses or credits they could claim to offset their tax liability. These taxpayers face potential audit and penalty exposure for failure to comply with filing rules that are triggered by relatively low amounts of earned income. Compounding this problem is inconsistent reporting rule adoption that results in widespread confusion among taxpayers

I tip my cap to one of the headings in the report (They Got 1099 Problems and Withholding Ain’t One). The Report and the WSJ article tell of one of the main shortfalls in the US tax reporting system for platform players. Essentially reporting is only required if payments are made via credit card or debit card, and the aggregate number of transactions to one service provider exceeds 200 and the payments exceed $20,000. Absent exceeding both requirements then companies that process credit card payments on behalf of individuals in the gig economy are not required to issue a 1099. Of course, the absence of a 1099 does not mean that the service provider does not have to report income but the absence of reporting leads to either mistakes or intentional non reporting.

Some of the platform players in the economy, like Uber, issue a 1099 even if the service provider does not meet both the 200/20K tests (an earlier WSJ article talks about this; see The Blind Spot in a Sharing Economy: Tax Collection $).

As the report discusses, employment and income tax liabilities, with penalties, can snowball. Not surprisingly, the National Taxpayer Advocate has been on this issue; for example, her testimony last year before the House Committee on Small Business touches on these issues, and lots more, including employee classification issues. She also adds a number of proposals to increase compliance, including changing estimated tax and backup withholding rules for taxpayers with poor compliance history and an increase in IRS education efforts to get people on the right path.

Tax administrators, scholars and legislators have taken note. IRS has put up the Sharing Economy Tax Center on its web page, and there are legislative proposals to change the 200/20,000 rule to trigger mandatory reporting at lower thresholds. UC Hastings Law Professor Professor Manoj Viswanathan has a new article called Tax Compliance in a Decentralizing Economy that addresses some of these issues (I have not yet read though am looking forward to it). Our blogging colleague BC Law Prof Diane Ring at Surly Subgroup also discusses the sharing economy in a post today highlighting worker classification issues. With her BC colleague Shu-Yi Oei Diane co-authored Can Sharing Be Taxed, an article that was in Wash U Law Review last year that also looked at the sharing economy, including reviewing some of the compliance problems implicated in today’s post.

As the Kogod Center reports, it is likely that this part of the economy will grow rapidly in the next few years so one can expect a great deal more attention on the issue.

 

 

IRS Takes Pugnacious Attitude toward Mr. Mayweather

On July 5, 2017, well-known boxer Floyd Mayweather filed a Tax Court petition seeking Collection Due Process (CDP) relief.  Mr. Mayweather’s petition uses the Tax Court’s form petition and parts of the petition are handwritten.  My clinic uses the form petition but most of our cases do not involve $22 million.  The use of the petition for a case of this dollar amount shows the ability of the form to serve taxpayers at all ends of the income spectrum.  The form gets the job done and wastes little energy.

The petition attaches the determination from Appeals as the instructions provide.  The determination offers a couple of interesting side notes to discuss.  First, the notice of determination sent to a taxpayer, like a statutory notice of deficiency, contains the Social Security Number of the petitioner.  Petitioners receive instruction from the Tax Court in the form package to redact the SSN.  The Court will get the SSN on the special form it has devised for that purpose and putting the SSN on that form keeps the number from the public eye.  Leaving it on the determination letter without redacting it opens the petitioner up to things that happen when the SSN gets in the wrong hands.  We try to be diligent in the clinic to find and redact the social security information of the taxpayer on every page of the notice we attach.  Programs exists that will allow you to perform the redaction in a cleaner form than might be available if you just use a marker.  Don’t miss this important step in filing a petition.

In addition to the redaction issue which is present in every case, the CDP notice of determination contains the misleading guidance on when to file the Tax Court petition that we have discussed previously.  Carl Smith has carefully tracked Tax Court orders over the past two years.  Because of his work, we know of seven cases in which the language in the CDP notice of determination has caused taxpayers to petition on the 31st day which has caused them to be dismissed for lack of jurisdiction.  With Carl’s help, the Harvard clinic is litigating some of these cases and arguing that the notice has misled the petitioner in to filing late.  We have blogged about this before.  Look carefully at the wording in the second paragraph.  The IRS should change this wording and avoid misleading taxpayers into losing their Tax Court opportunity.

Enough diversions, let’s talk about Mr. Mayweather’s little $22 million dollar problem.

read more...

Maybe you and I wish we earned enough to have a $22 million tax problem.  It’s hard to imagine.  We know the amount because the IRS filed a notice of federal tax lien (NFTL).  The NFTL provides an exception to the normal rules regarding disclosure of a taxpayer’s information.  In order for the IRS to protect and secure its interest in a delinquent taxpayer’s property, Congress authorized the IRS to make the liability public.  When the IRS does file a NFTL against a celebrity, the news media usually picks it up and the celebrity is held up to a mild form of public shaming or at least notoriety.  Several news outlets, here, here, here, and here together with many others did the honors in covering the NFTL filed against Mr. Mayweather.

In 2015, Mr. Mayweather made a lot of money in a fight.  When a foreign fighter gets paid in the United States, 30% is paid to the IRS.  When a US citizen fights, the fighter gets the entire purse with no withholding so it is up to the fighter to make the appropriate estimated payments.  I presume that insufficient estimated payments were made on the $100 million paid to Mr. Mayweather for his fight in 2015, but I do not know that for certain.  I am told that a fighter earns the money in one of these fights as soon as the opening bell rings and that the money is frequently paid on the night of the fight.  The payments to Mr. Mayweather go to a corporation that he controls which would then distribute money to him.  I am also told that someone from the IRS attends these major fights in an effort to ensure that the IRS gets its take from the purse.  The fact that Mr. Mayweather does not seek to contest the liability in the CDP context suggests that he agrees with the amount.  Now, the question is how will he pay the tax and what will the IRS do about it if he does not.

I assume without knowing that some breakdown in communication between Mr. Mayweather and the IRS may have occurred before the IRS sent the notice of intent to levy.  It is also possibly based on their respective positions taken in the CDP case that what I am calling a breakdown was an offer from Mr. Mayweather to fully pay the liability with a short term installment agreement following certain liquidity events with the IRS rejecting that proposal and demanding immediate payment by liquidating assets or borrowing money.  The notice of determination speaks only about sustaining the levy action and not about the NFTL.  The newspaper stories would only know the amount of the liability because of the filing of a NFTL.  I cannot tell why the NFTL was not a part of the CDP case.

With the focus on levy, the parties each took their respective corners in the CDP hearing.  From the IRS corner came a pronunciation that Mr. Mayweather had sufficient income and equity in assets to fully satisfy the liability.  From the Mayweather corner came the position that although he did have enough assets to satisfy the liability, it did not make financial sense to liquidate or borrow on those assets when he would soon have a liquidity event and was about to have another fight with a proposed payday that would more than satisfy the outstanding liability.  The proposed purse for Mr. Mayweather from the upcoming fight is purported to be between $100 and $200 million.  Mr. Mayweather offered to fully pay the liability with a short term installment agreement.  Without knowing more, it’s hard for me to argue with the logic of a short delay in these circumstances.

In pre-CDP days, the IRS would simply have issued a levy on the fight promoter or whoever makes payment of the purse to the fighters after a fight.  I doubt the Revenue Officer in pre-CDP days would have exhausted too much effort trying to persuade Mr. Mayweather to liquidate his assets because the RO could tie up the purse and doing so would solve the problem in the easiest, most efficient manner.  Because the timing of the CDP notice and the upcoming fight allow Mr. Mayweather to keep the IRS from levying on the purse unless it can show jeopardy, the statute gives him the upper hand while the CDP matter awaits final disposition.  By filing a relatively simple form (Form 12153) followed by the filing of the Tax Court petition (using the simple form provided by the Court), Mr. Mayweather wins this fight for the low cost of $60 and some attorney’s fees.

Unless the IRS wants to find that jeopardy exists, its hands are tied.  The championship fight will occur even before the answer is due in the Tax Court CDP case.  The Settlement Officer must have known this yet did not want to enter into an agreement allowing for a short term installment agreement.  Now, Mr. Mayweather can make the installment payments he proposed while the CDP case is pending in Tax Court without having to pay the fee for an installment agreement.  The savings in the installment agreement fee will more than make up for the $60 fee he paid to file his petition.  I would like to know what the SO thought would happen with the issuance of this notice of determination.  The taxpayer couched his request as a short term installment agreement.  It sounds similar to a forbearance request because it essentially requests the IRS to wait to a date certain for full payment.  A short term installment agreement or a forbearance request provides a type of resolution where the taxpayer has the ability to full pay upon the occurrence of an event sometime in the near future.  The IRS gains little by forcing a taxpayer to sell or lien assets when a big payday is coming up.  There may be more than meets the eye here but agreeing to take the taxes through a short term installment agreement seems in everyone’s interest.

Although the filing of the CDP petition essentially allows Mr. Mayweather to win this fight over the timing of the payment and structure the payment in a manner convenient to him, the IRS does not lose here if it gets the $22 million.  I hope the purse is large enough to fully pay the 2015 liability and the tax on the new winnings.  I wish Mr. Mayweather well in his upcoming fight with a person other than the tax man.  If his tax issues cause him to want to assist others at a different end of the income spectrum in their fights with the tax man, I know a clinic willing to accept a share of the purse and put it to use providing representation.

 

 

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).

read more...

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.