What good is your right to challenge the IRS’s position if you have no idea what it is?!

Today we welcome first time guest blogger Mandi Matlock. Mandi splits her time between private practice where she is an associate at Mondrik & Associates and Texas RioGrande Legal Aid where she founded the low income taxpayer clinic. I know Mandi through her work in the clinic.  Because she has a significant background in consumer law, she brings a perspective to tax law issues informed by her other practice knowledge.  In addition, she is the chapter author in Effectively Representing Your Client before the IRS of the chapter on the special tax issues faced when disaster strikes.  This post picks up on an issue identified by the National Taxpayer Advocate in her annual report and examines the problems created when the IRS fails to explain why it is disallowing a claim for refund.  Keith

National Taxpayer Advocate Nina Olson released her Annual Report to Congress this January expounding on her oft-repeated mantra that the continued erosion of taxpayer service does not bode well for future tax compliance or for public trust in the fairness of the tax system. In this blog post, we take a look at the Annual Report’s Most Serious Problems #17, which focuses on how deficient refund disallowance notices are harming taxpayers.

The Service’s specific problem here starts with that tiny little subsection endcapping Section 6402. It says that when the Service disallows a refund claim, it “shall provide the taxpayer with an explanation for such disallowance.” IRC 6402(l). How hard could that be, right?

Well, scrutinizing the Service’s efforts closely through the lens of the Taxpayer Bill of Rights, as the National Taxpayer Advocate did in her Annual Report, it turns out the Service has more than a little trouble complying.

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How Does the Service try to Meet its Obligations?

The Service uses of a patchwork of over 50 different claim disallowance notices, some of which are required by statute, to notify taxpayers of its decision to deny or partially deny a refund claim. In an obvious attempt to comply with 6402(l), various subsections of the IRM require these claim disallowance notices to contain specific reasons for the disallowance and an IRC section where possible.

The Annual Report categorizes the claim disallowance notices it reviewed as either statutory or non-statutory. The statutory notices are those the Service is required by statute to send by certified or registered mail to commence the two-year statute of limitations for challenging the denial by filing a refund suit in a United States District Court or the Court of Federal Claims. They include stand-alone notices such as Letters 105C and 1364 as well as any number of so-called combo-notices, such as Letter 3219 or even a Statutory Notice of Deficiency issued during an examination in which a refund claim is pending.

The non-statutory notices alert the taxpayer that a refund claim was denied, but have no effect on the statute of limitations for filing a refund suit. They include Letter 569 (SC), the initial letter from Examination proposing to deny or partially deny a claim for refund, and Letters 2681 and 2683 from Appeals sustaining a prior decision to deny a refund claim. Non-statutory notices may be sent before or after a statutory notice a statutory notice of claim disallowance. For example, Appeals may issue a non-statutory notice informing a taxpayer of its decision to sustain the denial of a refund where Examination has already sent a statutory notice of claim disallowance. There are some instances where the non-statutory notice is the only notice ever sent (i.e., cases where the taxpayer has signed a waiver of his or her right to statutory notice of claim disallowance).

TAS also included in its review what it called “no consideration” letters, which notify a taxpayer IRS will not consider his or her refund claim because it is somehow deficient. It makes sense to include these no consideration letters in the review because they work to deny refund claims in cases where the no consideration letter itself is so deficient the taxpayer has inadequate information with which to respond and remedy the defects in the original refund claim.

The Treasury Inspector General for Tax Administration found in a recent report that half of IRS letters and nearly two thirds of IRS Notices were not clearly written and did not provide sufficient information. Need we invoke the horror of the old CP-2000 Notices that rambled on with multiple pages of irrelevant and confusing explanations for items of income and equally irrelevant and confusing exceptions to the irrelevant items of income? You get the picture. But do refund claim disallowance notices suffer from similar logorrhea?

The Annual Report Gives Appeals and Examination an “F”

The IRS falls short in its efforts to comply with the letter and spirit of Section 6402, according to the Report, thereby interfering with at least two of the rights guaranteed under the Taxpayer Bill of Rights: the right to be informed and the right to challenge IRS’s position and be heard. The Taxpayer Advocate Service reviewed a sample of refund disallowance notices and found shortcomings running the gamut from notices providing no explanation at all(!) to notices providing lengthy, confusing explanations that nevertheless failed to supply adequate specific information from which a taxpayer could determine how to respond. Oh my!

What good is the gleaming new guaranteed right to challenge the IRS’s position if you have no idea what that position is?! How will you prepare your reply and exercise your right to be heard if you can’t figure out what the issue is in the first instance? Don’t even think about calling IRS for clarification. IRS projects it will be able to answer fewer than half of taxpayer calls in FY 2015. Those taxpayers who do manage to get through will be speaking with an IRS employee who most likely has no access to a copy of the correspondence because IRS does not keep copies of the most frequently used claim disallowance letters.

What specifically did the Annual Report find with respect to refund claim disallowance notices? Letters 105C and 106C variously failed entirely to state the specific reason for the disallowance, failed to state clearly and understandably the specific reason for the disallowance, failed to provide information adequate to permit a taxpayer to dispute the disallowance, or some combination of the three. TAS determined 92% of 105C letters reviewed failed to satisfy the purpose of 6402(l). 65% did not provide information necessary to respond. More than half did not adequately explain the reason for the disallowance. Almost a third contained sections that were not written in clear, plain language. The Report also finds fault with Appeals’ use of Letters 2681 and 2683, neither of which is designed to provide an explanation at all.

Specific examples cited in the report include notices that provided inapposite information, failed to identify which item of income was being disallowed, failed to identify which dependent, credit, or other tax benefit was being disallowed, and failed to correctly state the amount of the claim being denied.

How Far Should the Service Go?

But how much disclosure is too much disclosure? This is the perennial struggle of consumer rights advocates. Have you tried to struggle through your Cardholder Agreement for one of your credit cards lately? How about your home loan closing documents? Now consider that these documents are the streamlined – yes streamlined – products of decades of legislation and regulation intended to benefit consumers by mandating clear and conspicuous information in a format that consumers can understand. In short, as disclosure experts lament, better writing on its own cannot simplify complex concepts.

While proponents of increased disclosure view it as a means to empower consumers and increase market transparency, detractors complain disclosures are inaccessible to uneducated consumers in any event, and still other commentators take the cynical view that businesses gleefully agree to increased disclosure to avoid substantive reform and lull consumers into complacency with white noise. A recent New York Times piece sheds some light on that interesting debate.

Thank goodness the issue of disclosure in this context presents a much simpler paradigm. For example, while the Annual Report highlights certain notices’ “complicated descriptions” of refund statutes, the criticism remains largely on the Service’s failure to provide the underlying dates the Service relied on to deny the refund claims as untimely. Thus a recipient of one of these notices who may understand the Service’s complex description of the law still cannot adequately respond because he or she doesn’t know what basic facts IRS relied on. While the underlying legal issue can at times be so complex as to frustrate efforts to explain it in clear language accessible to all taxpayers, the Service can start by always including the taxpayer’s specific facts that were operative in the IRS’s decision-making process.

The Report heaps praise on the Innocent Spouse Unit and holds up its denial and no consideration letters as models of clarity the Service should look to in revising the Examination and Appeals correspondence and procedures. I think we can all agree the innocent spouse law is complex. And yet the IS Unit manages to explain it while also providing adequate information for taxpayers to understand its decision and how to respond. A great example of the Service striking the right balance!

We agree with the NTA that IRS can get refund claim disallowance notices right the first time. In view of the statutory mandate and the equally important Taxpayer Bill of Rights, it must!