Three Circuits to Consider the CDP Issue of a Prior Opportunity to Contest Underlying Tax

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Today we welcome back frequent guest blogger Carl Smith writing about a CDP issue that has drawn our attention previously, here, here and especially here.  The issue concerns the ability of a taxpayer in a CDP case to raise the merits of the underlying tax liability when the taxpayer has had the opportunity to discuss the issue with Appeals prior to the CDP hearing but the opportunity did not offer the prospect of anything more than an administrative hearing, i.e., no judicial review.  In this context, denying the taxpayer the opportunity to raise the merits of the liability in the CDP hearing before the Tax Court seems wrong.  Yet, so far the Tax Court has agreed with the IRS that a taxpayer cannot raise the merits if the taxpayer had the prior hearing opportunity with Appeals even though that opportunity did not offer the chance for judicial review. 

A couple of months ago after my most recent post on this issue, I received an interesting message from Chaim Gordon, a PT reader and former Tax Court clerk who now practices with the Washington office of Venable, LLP.  Chaim comments: 

Lewis, and the commentary on it, have focused on the issue of whether the opportunity referred to in I.R.C. § 6330(c)(2)(B) includes an opportunity to dispute the underlying liability administratively.  In my view, this issue is beside the point because Lewis is wrong for a more fundamental reason:  it misreads I.R.C. § 6330(c)(2)(B). 

The relevant language of I.R.C. § 6330(c)(2)(B) (emphasis added) is as follows:  “The person may also raise at the hearing challenges to the existence or amount of the underlying tax liability for any tax period if the person did not receive any statutory notice of deficiency for such tax liability or did not otherwise have an opportunity to dispute such tax liability.”  For some reason, the Tax Court has been reading the word “or” as an “and”, but it has never explained why it has done so.  The statute as written makes sense and contemplates relief in one of two scenarios:  (1) If a taxpayer does not receive a notice of deficiency, the taxpayer can raise the underlying liability in a subsequent CDP hearing.  (2) If the taxpayer received a notice of deficiency but could not then contest the liability (however that concept is understood) for other reasons (e.g., a medical emergency precludes the taxpayer from filing a petition with the Tax Court), then the taxpayer also has the right to raise the underlying liability in a subsequent proceeding.  From what I have seen, the error here can be traced to the preamble of the relevant regulations, but the regulations themselves do not require this result.  

In our back and forth concerning this post and Chaim’s comment, Carl agreed that Chaim raises a valid concern about this issue but commented further that: 

There is Supreme Court case law for the proposition that “or” may be interpreted as “and.”  The problem may also be an APA one:  In its preamble to the regs., the IRS did not explain why it was reading “or” as “and”. 

A more fundamental problem with the reg. is any deference to its validity.  In Lavar’s post, he pointed out that the Tax Court should not be deferring to a reg. that purports to limit its possible jurisdiction.  Lavar cites non-tax cases for this exception to the deference rule.  But, there is now a more on point cite.  Note that just last week, the Tax Court explicitly said in footnote 2 to Bongam v. Commissioner that the 6330 reg. — to the extent that it purports to limit Tax Court jurisdiction — is not entitled to deference.  The footnote reads: 

The Treasury Regulations appear to specify notice by certified or registered mail as the preferred form of notice. See sec. 301.6330-1(e)(3), Q&A-E8, Proced. & Admin. Regs. (“Taxpayers will be sent a dated Notice of Determination by certified or registered mail.”). Respondent does not argue that these regulations limit our jurisdiction. See Harris v. Commissioner, 32 T.C. 1216, 1217 (1959) (“[O]ne litigant cannot write into the law limitations on the jurisdiction of the Court as to the other party by his own regulations.”). 

This is a long lead in to Carl’s excellent post bringing us up to date on this issue as it heads into the Circuit Courts for further testing.  Keith

In June 2015, Judge Carluzzo issued orders in three related Tax Court Collection Due Process (CDP) cases brought by the same lawyer.  The cases are Our Country Home Enterprises, Inc., Docket No. 7688-14L, Christofer Iames, 10306-14L, and Keller Tank Services II, Inc., 11611-14L.  In each case, the Judge issued an order and decision granting summary judgment to the IRS and later denied a motion to vacate that order.  Each case has been appealed to a different Circuit: respectively, the 7th, 4th, and 10th.  Each case involves a notice of determination allowing the IRS to levy to collect section 6707A penalties assessed for failing to identify listed transactions in which each taxpayer had invested.

Under Smith v. Commissioner, 133 T.C. 24 (2009), the Tax Court has no deficiency jurisdiction to consider section 6707A penalties, but such penalties can be considered by it in CDP.  However, section 6330(c)(2)(B) provides that a CDP hearing cannot involve challenges to the underlying liability where the taxpayer either did not receive a notice of deficiency (the situation here) or otherwise have a prior opportunity to contest the underlying liability (the issue in dispute).  It appears that each case will involve a contest to the implementing regulation that says that a prior conference at Appeals (other than a conference prior to the issuance of a deficiency notice) prohibits a challenge to the underlying liability in either a CDP Appeals hearing or a Tax Court CDP case.  In each of the three cases, the taxpayer had a conference with Appeals over section 6707A penalties before notices of intention to levy were issued.  Therefore, relying on the statute and its interpreting regulation, the Tax Court precluded the taxpayers from raising any challenge to the underlying liability in a CDP appeal before the court.

In my view, these were strange holdings, since even if the implementing regulation was valid in the normal case, here, in each case, the taxpayers made constitutional challenges to section 6707A.  How can an Appeals conference deal with a constitutional challenge to the facial validity of the statute?

The outcome of these appeals could also affect CDP cases involving the section 6672 penalty — a penalty similarly assessed without a notice of deficiency and as to which Appeals Office conferences are offered around the time of assessment.

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Here is a quote from the heart of each June order in the three cases:

[A]ccording to petitioner, the underlying liability should be abated because ‘the assessment is based upon, including but not limited to, an unexplained determination that the related transaction is a listed transaction and a provision of the Internal Revenue Code that is unconstitutional as a deprivation of due process.’

According to respondent’s motion, petitioner is precluded from challenging the existence or the amount of the underlying liability in this proceeding because he had a prior opportunity to do so. See sec. 6330(c)(2)(B). The underlying liability was assessed on July 2, 2012, following a conference with respondent’s Appeals Office (Appeals). Relying upon section 6330(c)(2)(B), section 301.6320-1(e)(3), Q&A-E2, Proced. & Admin. Regs., and Lewis v. Commissioner, 128 T.C. 48 (2007), which upheld the validity of that regulation, respondent argues that because Appeals had considered the underlying liability prior to petitioner’s request for section 6330 review, petitioner may not in this proceeding challenge the existence or the amount of that liability.

According to petitioner, Lewis is not controlling because: (1) the case was superseded, if not overturned, by Yari v. Commissioner, 143 T.C. 7 (Sept. 15, 2014); and (2) the version of section 301.6320-1(e)(3), Q&A-E2, Proced. & Admin. Regs. considered in Lewis has since been amended, and the version in effect here is invalid. For the following reasons, we disagree with petitioner on both points. Unlike the situation before us, Yari did not address the taxpayer’s entitlement to challenge the existence or the amount of the taxpayer’s section 6707A liability. Focusing on an amendment to section 6707A, in Yari the Court established the proper method for computing penalties under that section. Because of the timing of the amendment that changed the manner in which liabilities under that section are computed, and consistent with the agreement of the parties, the Court noted that Appeals consideration of the taxpayer’s liability independent of the then ongoing section 6330 administrative hearing was not a prior opportunity to challenge that liability within the meaning of section 6330(c)(2)(B).

Here, there was no intervening change to the statute giving rise to the underlying liability. That liability was considered by Appeals prior to the section 6330 proceedings, and therefore, consistent with section 301.6320-1(e)(3), Q&AE2, Proced. & Admin. Regs., as construed in Lewis, petitioner has had a prior opportunity to challenge the existence or the amount of the underlying liability and he may not do so here.

Furthermore, the Court’s reasoning in Lewis with respect to the validity of the version of section 301.6320-1(e)(3), Q&A-E2, Proced. & Admin. Regs., there under consideration has equal application to the amended version that is applicable here. The amendment, which seems to be an acknowledgment of existing practice, expands, rather than limits, taxpayer rights under section 6330. We find it curious that petitioner would now argue for the invalidity of the regulation upon that ground. Petitioner’s argument that Lewis has no application here is rejected. It follows that petitioner may not, in this proceeding, challenge the existence or the amount of the underlying liability.

Observations

Last year, Lavar Taylor did a guest post, linked above, presenting his argument for why Lewis and the regulation are wrong and the Tax Court should be able to consider the underlying tax in a CDP hearing unless the taxpayer had a prior judicial opportunity to contest the liability (not merely an Appeals conference).  The three cases in the Circuit Courts may lead to some guidance on this subject.

Also in the wings is a pending appeal in the D.C. Circuit in Onyango v. Commissioner, 142 T.C. 425 (2014), where a taxpayer who usually did not pick up any of his mail at one of his addresses was held to have received a notice of deficiency sent to that address and thereby lost his chance of contesting the underlying liability in a CDP case.  Keith previously posted on Onyango.  Onyango has been fully briefed as to whether such behavior precludes the Tax Court from considering the underlying liability in a CDP case. (In the appeal, Onyango has also raised some medical reason why he did not pick up his IRS mail, but that portion of the appeal is sealed.)  Oral argument in the Onyango case has not yet been scheduled.  The opinion in Onyango will doubtless provide appellate guidance as to some of the circumstances under which a taxpayer is precluded from contesting underlying liability in a CDP case.

 

Comments

  1. CDP Maniac says:

    Carl,

    Have you seen this case?

    Valentine C. Anyanwu v. Commissioner; T.C. Summ. Op. 2015-56; No. 6011-14S L

  2. Carl Smith says:

    Yes. Les blogged on it on Oct. 13, 2015. The case involves penalties against a preparer under 6695(c). There is no discussion in the case about an Appeals conference, and so the Tax Court considers the underlying tax liability in that CDP case. What is your question about the opinion?

    • CDP Maniac says:

      It is the same type of case as the three listed in today’s post yet this taxpayer was given a de novo review of the underlying liability. He did not receive a NOD and although there is no mention of an appeal in the opinion, he may have been given a chance to have an appeal.

      • Carl Smith says:

        The Tax Court has not yet been willing to state one way or the other that a person who merely was offered (but did not have) an Appeals conference had a prior opportunity to contest the underlying liability for purposes of 6330(c)(2)(B).
        Footnote 9 of Lewis reads:

        We reserve judgment today on whether an offer for a
        conference with Appeals is sufficient (and if so, what
        information would be required to be included in such an offer) to
        preclude subsequent collection review consideration if the
        taxpayer declines the offer without participating in such a
        conference. We note, however, that we read sec. 6330(c)(2)(B) to
        allow a taxpayer who has had neither a conference with Appeals
        nor an opportunity for a conference with Appeals to raise the
        underlying liability in a collection review proceeding before
        Appeals and this Court.

        So, merely offering an Appeals conference over 6695 ,without actually having the conference, may not be enough to preclude considering the underlying liability in CDP. In Anyanwu, there is no mention of either an Appeals conference or an offer of an Appeals conference, so, I assume, the IRS did not argue that the taxpayer was precluded from making the challenge to the penalties in CDP, and, therefore, it was not improper of the Tax Court to consider liability for the penalties in the court’s CDP proceeding.

        • CDP Maniac says:

          Carl,

          My understanding is that the Office of Appeals is not an Office created by statute; that is is merely an office created by the IRS to hear disputes. As it is not statutory, the IRS could theoretically abolish it at any time. If that were to happen, the taxpayer would never have an opportunity to dispute the tax (absent the SNOD) and so therefore the taxpayer would easily qualify to dispute the tax in the CDP Hearing. I read A. Lavar Taylor’s post and agree that the IRS regulation is in error and that Tax Court’s deference to it is in error as well. In fact, the more closely I read Taylor’s PT post, the sillier the Lewis holding looks.

  3. When the many posters and commenters here (especially Chaim Gordon, whose (1) and (2) “scenarios” make no sense) construe the I.R.C. § 6330(c)(2)(B) CDP liability challenge provision, each forgets six important words:

    “District Court of the United States.”

    Ten years ago, Congress removed those words from I.R.C. § 6330(d)(1); today, though, they are essential to a correct construction of the CDP liability challenge provision.

    In CDP’s first 7 years, one sought judicial review of an IRS Office of Appeals Notice of Determination in one of two ways:

    1. If the tax (or penalty or tax addition) in issue was one subject to deficiency procedures, then the CDP appeal went to the U.S. Tax Court; and

    2. If the tax (or penalty or tax addition) in issue was NOT one subject to deficiency procedures, then the CDP appeal went to a U.S. District Court.

    The reason for that appeals distinction was simple. In CDP cases where the taxpayer could challenge his liability, the challenge would be heard by the tribunal that had original jurisdiction over those tax types.

    In short, the Tax Court would consider CDP challenges to those liabilities that comprised its usual workload: income, gift, and estate taxes (and related penalties and tax additions).

    For their part, the District Courts would consider CDP challenges to those liabilities that comprised their usual workload: essentially, every other tax, penalty, and tax addition.

    Contrary to the Tax Court, the District Courts exercised their jurisdiction over those tax liabilities one could only “pay first, litigate later.” And here is where the CDP liability challenge posters and commenters go awry:

    The law does not require a notice of deficiency for a solely “pay first, litigate later” liability–such as each penalty this post discusses or references. For that reason, the “fact” that the taxpayer did not receive a notice of deficiency for his “pay first, litigate later” liability is irrelevant to whether he has a CDP tax liability challenge right.

    What is relevant is whether the taxpayer had a “prior opportunity” to dispute his “pay first, litigate later” tax liability. That prior opportunity comes to the taxpayer as an invitation to discuss the tax liability with the IRS Office of Appeals. One may accept, or ignore, it. Either way, that opportunity will later preclude the taxpayer from challenging his tax liability in a CDP hearing.

    I have already explained that simple CDP concept to this enlightened audience. Yet my explanation has fallen on the deaf ears of those who prefer to engage in fruitless CDP litigation.

    At bottom, if the IRS Office of Appeals has invited a taxpayer to confer about it, then the taxpayer cannot judicially challenge his “pay first, litigate later” tax liability unless he…………

    ……..pays first, litigates later.

    ‘Nuff said?

  4. Norman Diamond says:

    Jason T. provided some crystal clear reasoning:
    ‘In CDP cases where the taxpayer could challenge his liability, the challenge would be heard by the tribunal that had original jurisdiction over those tax types.
    In short, the Tax Court would consider CDP challenges to those liabilities that comprised its usual workload: income, gift, and estate taxes (and related penalties and tax additions).
    For their part, the District Courts would consider CDP challenges to those liabilities that comprised their usual workload: essentially, every other tax, penalty, and tax addition. ‘

    But then:
    ‘The law does not require a notice of deficiency for a solely “pay first, litigate later” liability–such as each penalty this post discusses or references.’

    The penalties this post discusses are related to income taxes, are they not?

    Sections 6665 and 6671 both require related penalties to be assessed and collected in the same manner as taxes. Assessing in the same manner as income tax requires a notice of deficiency before assessment, does it not?

    These cases raise a constitutional issue, right? The Supreme Court recognized in Flora that “pay first, litigate later” imposes hardship, which is the reason Tax Court is available.

    Imagine if the IRS’s penalty of $5,000 was imposed on my wife when her income was equivalent to US$2,000 per year. The IRS’s penalties of around $35,000 were imposed on me when my income was equivalent to US$50,000 per year, give or take around 20%. Nothing prevented the IRS from imposing $5,000,000 in penalties if it wished. The IRS already partially collected. Don’t tell me we could afford to “pay first, litigate later”. Even though our US income tax was $0.00 on that income, I cannot figure out how our income tax related penalties were exempt from notices of deficiency (and exempt from examination conferences and exempt from audits).

    • No dice, N.D.

      No penalty that this post discusses or references is subject to deficiency procedures. Only one part of the CDP liability challenge problem troubles our posters and other commenters. That part is the I.R.C. § 6330(c)(2)(B) “did not otherwise have an opportunity to dispute such tax liability” language, not the “did not receive any statutory notice of deficiency for such tax liability” language.

      Yes, the 6707A penalty cases raise a constitutional issue. And Carl asks a good question when he queries, “How can an Appeals conference deal with a constitutional challenge to the facial validity of the statute?” Indeed, its own procedural regulations bar the IRS Office of Appeals from considering a constitutional issue.

      But the Appeals conference still provides a prior opportunity to dispute a “pay first, litigate later” penalty. If the taxpayer wishes to have the constitutional issue considered, then he must (dare I say it?)…”pay first, litigate later.”

      Carl and Lavar Taylor argue:

      “[T]he Tax Court should be able to consider the underlying tax in a CDP hearing unless the taxpayer had a prior judicial opportunity to contest the liability (not merely an Appeals conference).”

      Their argument is a clever one. They demand a “prior judicial opportunity to contest the liability.” But they know that, for the penalties at issue, any prior judicial opportunity could come only if the taxpayer “pays first, litigates later.” Yet, they would no doubt argue, “pay first, litigate later” cannot be a “prior judicial opportunity” to contest the liability.

      Translation: the taxpayer should not have to “pay first, litigate later” those taxes that are determined under the “pay first, litigate later” only regime. Ah, but the Collection Due Process laws never abrogated that long-standing regime.

      Besides, Carl and Lavar’s scheme would tilt the CDP liability challenge playing field all one way. The would-be “pay first, litigate later” taxpayers would always get to challenge their liabilities at a CDP hearing because they are never given a prior judicial opportunity to contest their liabilities. Meanwhile, the notice of deficiency taxpayers could lose their right to challenge their liabilities in a CDP hearing if they so much as not check their mail on a regular basis. (See the Onyango case that Carl mentions at the end of his post). That imbalance does not strike me as collection due process for all.

      As you say, “pay first, litigate later” can cause financial hardship. And, as you say, the Tax Court was created to alleviate that hardship–but only as to a few tax types. And “pay first, litigate later” does not equal hardship:

      Some penalties (such as the § 6672 Trust Fund Recovery Penalty that Carl mentions) are divisible penalties; those penalties usually require payment of only a nominal sum before one can litigate the entire liability. Other penalties (such as those imposed by §§ 6700 and 6701) require only a 15% payment before litigation.

      As for your apparent personal tax matters, federal penalties can approximate one’s reported income. Ask anyone who has been subject to an FBAR penalty. Or to a Tax Court imposed § 6673 penalty. Or to a few § 6702 penalties.

      From your comments, though, I gather that you have no need to inquire.

  5. Norman Diamond says:

    Jason T. wrote: “No penalty that this post discusses or references is subject to deficiency procedures.”

    I understand the statement but not the reasoning. Surely you notice how this contradicts your previous statements which I commended as crystal clear. What is it about some income tax related penalties that makes them schizophrenic, assessed and collected in the same manner as income taxes except not assessed and collected in the same manner as income taxes?

    “Some penalties (such as the § 6672 Trust Fund Recovery Penalty that Carl mentions) are divisible penalties; those penalties usually require payment of only a nominal sum before one can litigate the entire liability.

    Which could still be hardship, because the IRS could allege that someone participated in an abusive tax shelter even though the person didn’t.

    “Other penalties (such as those imposed by §§ 6700 and 6701) require only a 15% payment before litigation.”

    Which could still be hardship, for example if the IRS had asserted $5,000,000 in penalties against me, as there is nothing to stop them from doing so.

    I agree with your desription of your opponents:
    ‘Their argument is a clever one. They demand a “prior judicial opportunity to contest the liability.” But they know that, for the penalties at issue, any prior judicial opportunity could come only if the taxpayer “pays first, litigates later.” Yet, they would no doubt argue, “pay first, litigate later” cannot be a “prior judicial opportunity” to contest the liability.’

    Yes, especially if they do not have the amount of money needed to pay first, litigate later.

    ‘Translation: the taxpayer should not have to “pay first, litigate later” those taxes that are determined under the “pay first, litigate later” only regime. Ah, but the Collection Due Process laws never abrogated that long-standing regime.’

    Right, part of the CDP laws violate the 5th Amendment. The Supreme Court’s observation in Flora that Tax Court is available to avoid hardship needs to be reinstated.

    I am well aware that non-income tax related penalties such as FBAR (title 31) can exceed a person’s assets let alone their income. I was not aware that CDP might be involved in them, but Tax Court isn’t.

  6. Larry Kars says:

    Great blog.

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