Proving a Negative – The Use of IRC 6201(d)

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It has only been a short period of time since I wrote about IRC 6201(d) in a post about cash for keys but I return to it as we enter the filing season for a couple of reasons.  First, I have observed the importance of 6201(d) on a high percentage of the pro se cases heading to litigation in the Tax Court and second, a relatively easy fix at a lower level seems possible.

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On the Tuesday after Christmas I drove one of my sons back to DC from Richmond.  He works only a few blocks from the Tax Court.  After dropping him off, I spent the day in the Tax Court clerk’s office looking up the cases on two Tax Court calendars scheduled for Boston this spring so that I could identify cases I thought would benefit from the services of a clinic and personally reach out to those individuals.  Both the Tax Court and the Boston Chief Counsel’s office send notices to pro se taxpayers informing them of the existence of the potential for free legal services for pro se petitioners seeking to have their case heard in Boston; however, I find that the number of petitioners who respond to these notices is quite low.  I wanted to obtain data about their cases that would allow me to send them a personal letter from the clinic that addressed their specific tax problem to ascertain if that approach would increase the number of individuals who sought the services of our clinic.  Because the information about a Tax Court case is public, including the petition and the notice of deficiency which provide the taxpayer’s address, phone number and the issues in the case, obtaining the data in order to pursue the study proved no problem as long as I was willing to travel to DC to the Tax Court clerk’s office and look at the information there.

I provide this background because spending the day looking at all of the cases on a Tax Court calendar allows you to see how the IRS spends its resources.  Tax Court cases directly correlate to audit activity.  Some years ago when I fought a losing battle with the examination division in Richmond over the need to provide better descriptions in notices of deficiency, the data showed that only 3% of notices resulted in a Tax Court petition.  I doubt the percentage has changed much over the years.  That low percentage fostered the belief of the examination manager that spending extra time to provide a better description of the issue did not make sense.  Time has proven him correct and cases like QinetiQ support the decision of the IRS not to devote excessive energy to making the notice something which carefully details the issues; however, I began my time representing the IRS when review staffs reviewed every notice of deficiency and insured that they met certain standards.  Losing the high standards of hand-crafted notices provides an example of the same type of progress that exists in many other fields of endeavor where mass production overtook the more expensive means of producing a product.  Still, the loss of the hand-crafted notice still hurts if you had grown accustomed to a better product.

In my review of pro se cases on both a small and regular calendar, I expected a relatively heavy dose of earned income tax credit (EITC) cases since the IRS audit numbers for that type of case has held steady at relatively high numbers for many years.  To my surprise, I found far fewer EITC cases than anticipated.  Instead, I found far more cases involving taxpayers petitioning because they did not agree that the Form 1099 issued to them correctly reported their income.  Finding Form 1099 cases did not surprise me but the percentage did.  The percentage suggested to me that cases coming out of the automated underreporter unit (AUR) of the IRS where the IRS computer matches the data on the return with the date coming in from third parties has become perhaps the most common type of “examination” that the IRS performs and results in the most common type of Tax Court case for pro se individuals.

The current IRS strategy when the information on a return does not match the third party reporting information on a Form 1099 is to have the AUR unit send the taxpayer a letter informing the taxpayer of the mismatch and instructing the taxpayer to sign the consent form agreeing to an additional assessment based on the third party data or to provide the IRS with proof of the incorrectness of the data.  For the majority of taxpayers receiving this notice, the third party data probably correctly states the tax character of a source of income that the taxpayer either left off the return or reported in a manner that masked the income from the view of the computer.  In these cases, resolving the discrepancy proves relatively simple.

For a smaller percentage but still a high raw number, the taxpayer truly disagrees with the information on the Form 1099.  The disagreement could take several forms.  In the Bobo case blogged recently, the disagreement centered on the characterization of the income and not the amount.  Sometimes, the disagreement focuses on the amount reported and sometimes on the very existence of the transaction as it relates to the taxpayer.  In the clinic we regularly have clients who dispute correctness of the existence of the Form 1099 usually because the client became the victim of identity theft.  For these individuals, the position in the IRS letter essentially requests that they prove a negative.  We also have clients in the clinic who deny the correctness of a Form 1099 only to have an “ah ha” moment when additional data supports its correctness.  I do not mean to suggest that taxpayers always know the correct answer regarding Form 1099 or that the IRS should stop questioning them; however, a better way of resolving these cases may exist.  The current system seems to push too many down the road where higher resolution costs exist.

In response to the recent post, frequent commenter Bob Kamman suggested the following:

A successful strategy at the return-filing stage would involve IRS providing a disclosure form for taxpayers to dispute a 1099. IRS would then be required to include with Notices CP-2000 an admission that the dispute had been reviewed and either is rejected, or requires further information. This, of course, requires more resources at the first contact level, where it is so much easier to kick the problem up to a higher pay grade.

This suggestion provides a good option for resolving the issue at the lowest level and for providing the person preparing the return with an easy way to flag the problem with the Form 1099.  It would keep return preparers from forcing the data onto the return in an effort to save the taxpayer the grief of AUR correspondence and clearly alert the IRS to the problem with the Form 1099.  Taxpayers often have little or no leverage over the issuer of the Form 1099 and cannot get the person issuing the form to fix it or, in some cases, to even provide an explanation of the basis for issuing it.  Of course, in those instances in which a third party victimizes both the taxpayer and the issuer through identity theft, neither the taxpayer nor the issuer may have the facts necessary to understand what has happened.  The IRS has a better chance of getting information from the issuer of a Form 1099 than the taxpayer and could write regulations requiring the issuer to provide the backup data to the IRS upon request.

Assuming that the IRS does not leap to accept Bob’s suggestion and adopt a process that would seek to resolve the disputed Forms 1099 at the earliest stage, what should you do when trying to prove the negative?  This is where IRC 6201(d) comes into play and where a qualified offer can provide a benefit.  Section 6201(d) provides:

(d)Required reasonable verification of information returns

In any court proceeding, if a taxpayer asserts a reasonable dispute with respect to any item of income reported on an information return filed with the Secretary under subpart B or C of part III of subchapter A of chapter 61 by a third party and the taxpayer has fully cooperated with the Secretary (including providing, within a reasonable period of time, access to and inspection of all witnesses, information, and documents within the control of the taxpayer as reasonably requested by the Secretary), the Secretary shall have the burden of producing reasonable and probative information concerning such deficiency in addition to such information return.

One of the problems with 6201(d) concerns its focus on court proceedings, but knowing that the burden of production will shift at the court level should provide the IRS with adequate incentive to appropriate the burden of production into its administrative process.  When contesting the Form 1099 which the taxpayer states is wrong, the taxpayer must bring this to the attention of the IRS during the audit phase of the case.  If the taxpayer knows nothing about the Form 1099, as will frequently occur in an identity theft context, the taxpayer will have nothing to give to the IRS about the circumstance except the statement that they know nothing.  That statement should spur the IRS to seek data from the issuer.

If the case passes the stage of the 30-day letter and if the taxpayer expresses confidence in the incorrectness of the Form 1099, the case becomes a good one for the issuance of a qualified offer.  The qualified offer will give the IRS a relatively short period of time to gather data from the third party and make a decision whether to continue forward with the matter in a situation in which it will face potential attorney’s fees if it cannot meet its burden of production.  The failure to resolve Form 1099 disputes at the initial stages of return processing can put an expensive burden on taxpayers who become caught up in the controversy system.  If the IRS does not decide to create a verification system to help avoid legitimate contests regarding the correctness of Form 1099, taxpayers should utilize IRC 6201(d) to set the case up for a shift in the burden of production at the court stage and utilize the qualified offer process to provide incentives for the IRS to get the data from the third party as quickly as possible.

 

 

 

 

Comments

  1. Nancy Ryanb says:

    The only thing harder than proving the negative here is getting the taxpayers to seek our help early enough in the process to made the qualified offer a feasible option.

  2. Jack Townsend says:

    Keith, the IRM says that this production burden “creates a legal requirement to contact third parties to verify income” where the § 6201(d) conditions are met. IRM 4.12.1.6 (10-05-2010), Income Probes (Nonfilers); and IRM 4.12.1.25.1 (10-05-2010), Unreported income – Information Returns; IRM 4.10.4.3.6.2 (08-09-2011).

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