Electronic Trial Sessions in the Tax Court: New Procedures for Expert Witness Reports and Unagreed Exhibits

One of the Designated Orders from the week of March 30 included a short order from Judge Gale. The order raises a specific issue under Rule 143(g), along with some broader issues regarding compliance with Tax Court filing requirements while the Court’s mailroom remains closed due to the COVID-19 pandemic.

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It’s common knowledge, among practitioners at least, that merely because you file something with the Tax Court doesn’t mean the Tax Court will consider it as evidence in the case. Pro se petitioners often run afoul of this rule when they attach various substantive proof to their Tax Court petition. The Court will lightly chide them for doing so, and remind them not to do it again. The substantive rationale is that this evidence must first be presented to the opposing party for objection, and then either stipulated to or moved into evidence

Much like anything else, expert witness reports are subject to this rule. But Rule 143(g)(2) provides that the expert witness reports must be “submitted” to the Court “not later than 30 days before the call of the trial calendar on which the case shall appear . . . .” Ordinarily, this means that a party will mail the expert report to the assigned judge and to opposing counsel.

However, as we all know, the Tax Court’s mailroom has been closed since March. Petitioner’s counsel in this case saw their expert report filing deadline coming up. And while the Guralnik and 7508A extensions apply to Tax Court petitions, they don’t necessarily apply to submission deadlines like this. Ultimately, the judge needs to review the report prior to the trial session (albeit this particular one was cancelled). Harsh consequences follow under Rule 143(g)(2) if a party doesn’t comply: “An expert witness’s testimony will be excluded altogether for failure to comply with the provisions of this paragraph . . . .” There’s an exception for reasonable cause combined with lack of prejudice, but best not to risk it. So, what to do?

Petitioner adopts a somewhat innovative solution: rather than mailing the report to the Court, knowing that no one will review it, he decided to submit the expert’s report electronically by filing it as an attachment to Petitioner’s status report.  Ordinarily, this would run afoul of the same prohibition mentioned above—and indeed, as the Court acknowledges, it does. However, Judge Gale understands the parties’ predicament due to the mailroom’s closure. So he directs the Clerk to re-characterize the filing as the “Report of Brent M. Longnecker, Petitioners’ Proffered Expert” and to serve a copy of the report on Respondent. And, like those ordinary orders directed to pro se petitioners, he notes that that the report is not received into evidence. Finally, he prospectively permits Respondent to file their own expert report in a similar manner.

What should practitioners do in a similar situation? The course of action in Smith seems to be a model that works in the face of ambiguity. I think it’s important for practitioners to fully disclose (1) the requirements that the Tax Court rules impose and (2) the limitations that the Tax Court’s closure and technological limitations impose upon the normal manner of proceeding. Ordinarily though, there are few other situations where a party must disclose substantive proffered evidence to the Court before trial.

The Court, however, in its recently enacted electronic trial session procedures, has indicated that parties planning to call an expert should file “a Motion for Leave to File an Expert Report, with the expert report attached (lodged)”. Rule 143 doesn’t contemplate this motion, so I suspect it’s a new one.  Indeed, this language is different than the ordinary language in the Standing Pretrial Order, which centers on the language of Rule 143 and requires submission of the proffered expert report directly to the assigned judge.

Moreover, as the Tax Court moves its trial sessions online in response to the COVID-19 pandemic, this situation does raise broader concerns for how the Court will handle proffered evidence moving forward. How will the Court allow for Petitioners, especially pro se Petitioners, to present evidence to the Court? How will Chief Counsel allow for the electronic transmission of proposed evidence? (Potentially Chief Counsel will have less of an issue with mailroom closures, thereby mooting this problem to some extent).

Certain initiatives may help. The Court already relies heavily on stipulations, and electronic hearings will likely only give it stronger reasons to do so. Indeed, the electronic trial session procedures reinforce this idea.  Additionally, while the Court ordinarily suspends e-filing during the trial session (a lesson I first learned the hard way!), the Court indicates in the procedures that it will not do so for remote trial sessions. So, perhaps the Court can provide a mechanism to lodge evidence electronically.

Indeed, the electronic trial session procedures indicate that unagreed trial exhibits not in the stipulation of facts should be “marked and filed as Proposed Trial Exhibits.” This is again in contrast to the Court’s previous standing pretrial order that requires only an exchange of such documents with opposing counsel. So how do we lodge the documents with the Court? Helpfully, on the Court’s electronic filing system, a new option now exists called “Proposed Trial Exhibits.”

It seems like the Court has done quite a bit of work to implement technology and policy changes to accommodate taxpayers and the IRS alike. It should be commended for its relatively nimble planning in response to a fast-moving global pandemic. It will be interesting to see how these changes play out in practice, as well as contemplate how the Court might improve access to justice through implementing some of these procedures after this crisis abates.

Protective Orders, New Matters and Other Issues: Designated Orders 4/13/20 to 4/17/20

There were 5 designated orders during this week from the Tax Court that covered a variety of topics.  The orders themselves were fairly short but covered some interesting points of litigation.  There is no major spotlight here, but each will get some degree of coverage.

Protective Orders

Docket Nos. 24373-18, 13826-19 (consolidated), Martin Lewis & Trina Lewis, v. C.I.R., Order available here.

The petitioners felt they needed a protective order in Tax Court because they have Tax Court cases for tax years 2014 and 2015 yet there is also a revenue agent that issued a summons to Mr. Lewis for calendar years 2012 through 2018.  The IRS objected to the motion for a protective order.

What is going on?  To begin, the deficiencies in the Tax Court cases relate to disallowed captive insurance premiums paid to Cedar Insurance, Ltd in 2014 and 2015.  Cedar Insurance is a micro-captive insurance company domiciled in Nevis.  It was formed and managed by Retained Risk Manager, LLC.  The payments were deducted by the petitioners as a flow through from a Subchapter S Corporation, Lewis, Kaufman, Reid, Stukey, Gattis, & Co., PC.  That is a CPA firm where Mr. Lewis was the managing shareholder.

Following the petitions filed in the Tax Court cases, an IRS revenue agent served a summons on Mr. Lewis requesting him to appear before her in the matter of the IRC section 6700 investigation of Retained Risk Manager, LLC, for 2012 through 2018.

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Rule 103 is the Tax Court rule concerning Tax Court protective orders.  The petitioners cited that rule and to Universal Manufacturing v. Commissioner, but the controlling case, as cited by the IRS, is Ash v. Commissioner.  Rule 103 allows the Tax Court to issue orders to protect persons from annoyance, embarrassment, oppression, or undue burden or expense resulting from the use of the Court’s discovery procedures.  Ash allows where Tax Court litigation commenced and an administrative summons would concern another taxpayer or a different tax year, the court would not exercise their inherent power.  They will exercise their power when a petitioner can show there is a lack of independent and sufficient reason for the summons.

With the IRS objection, they included the declaration from the revenue agent, which explains that she is seeking information from Mr. Lewis unrelated to the Tax Court cases.  Also, she has not communicated with IRS counsel of record and he will not attend the summons interview.

The Court was satisfied the summons is independent of the litigation and will hold the respondent to that representation.  If circumstances change or the petitioners have new evidence, the Court may consider the matter anew.  The petitioners’ motion was denied without prejudice.

Takeaway:  I was first surprised as an LL.M. student to learn that there are times that departments in the IRS work toward independent purposes.  With the many departments in the IRS, there are certainly times that they work toward different results or have mixed motives.  This certainly may be one of those times, but I do not blame the Lewises for thinking something smells fishy at the IRS and taking preventative measures against any harassment.

New Matter?

Docket Nos. 13382-17, 13385-17, 13387-17 (consolidated), Adrian D. Smith & Nancy W. Smith, et al., v. C.I.R., Order available here.

The adjustments in these consolidated cases are due to a partnership-level examination of Adrian Smith + Gordon Gill Architecture, LLP, for tax years 2008 through 2010 concerning the disallowance of credits for research activity under IRC section 41.  The petitioners, partners of the LLP, filed a motion to shift the burden of proof, requesting an order shifting the burden of proof with respect to any new matters raised by the IRS regarding reasonable compensation under IRC sections 162 or 174.  The IRS filed their response.

The petitioners argue that the IRS had the sole issue raised during their examinations of whether the research conducted under the sample contracts was “funded research” under IRC section 41(d)(4)(H).  They claim the presentation of expert opinions on reasonable compensation requires different evidence compared to the contractual analysis of funded research that prompted the case.  Their argument is that the issue of reasonable compensation is beyond the scope of the notice of deficiency and constitutes a new matter.

Under precedent, the IRS determination of deficiency is presumed correct and the taxpayer bears the burden of proving it incorrect.  An exception to that rule applies when the IRS raises any new matter in a proceeding.  When the notice of deficiency fails to describe the basis on which the IRS relies to support the deficiency determination and that basis requires the presentation of evidence different than what is necessary to resolve the notice of deficiency’s determinations, the new basis is treated as a new matter where the IRS bears the burden of proof.

Additionally, the objective language in the notice of deficiency remains the controlling factor.  A new position taken by the IRS is not a ‘new matter’ if it “merely clarifies or develops [the] Commissioner’s original determination without requiring the presentation of different evidence, being inconsistent with [the] Commissioner’s original determination, or increasing the amount of the deficiency.”

In the Court’s review, the judge agrees with the IRS argument that the reasonableness of petitioners’ compensation was not a new matter.  The Court notes the objective language of the notices of deficiency at issue were broad, stating that the expenses claimed by the LLP did not qualify for the credit for increasing research activities under code section 41.  The indication to the petitioners was that they would have to provide evidence that it did qualify, leading to the need to provide evidence on how the compensation meets the reasonable research expenditures requirements of code section 174(e). 

The judge states the IRS reasonable compensation argument does not require the presentation of new evidence but merely clarifies or develops the original determination in the notices.  The issue of reasonable compensation is consistent with the original determinations in the notices of deficiency and it does not increase the amount of the deficiencies.  As a result, there is no new matter and the motion to shift the burden is denied.

Takeaway:  I can understand the side for the petitioners here if they were focused on “funded research” in examination and the IRS turns to “reasonable compensation.”  However, the judge believes that the notice of deficiency is broad enough regarding research activities that “reasonable compensation” does not constitute a new matter. 

Other Issues

Docket No. 7421-19, Little Horse Creek Property, LLC, Little Horse Creek, LLC, Tax Matters Partner v. C.I.R., Order available here.

This case is about a charitable contribution deduction claimed by an LLC for a conservation easement.  The IRS filed a motion for partial summary judgment, urging alternative grounds for denying the claimed deduction.  The IRS reasoning is based on contentions including an allegedly impermissible donor improvements clause.  Soon after, they filed a motion to stay proceedings asking that discovery and other pre-trial proceedings be stayed pending resolution of the motion for partial summary judgment.

The petitioner went ahead and filed two requests for admissions, with due dates in April and May of this year.  Both sets of requests were directed primarily to matters the petitioner believes are relevant to the proper disposition of the donor improvements issue.

The petitioner next filed a timely response to the motion to stay proceedings, contending that responses to its requests for admissions will support its defense against the motion for summary judgment and will support a potential cross-motion for summary judgment on one or more issues.

The Court desires to have all relevant material at the same time, to enable the Court to determine whether there exist any genuine disputes of material fact.  Accordingly, they deny the IRS motion to stay proceedings that would relieve the IRS from responding to the two sets of requests for admissions.  They grant the IRS motion to stay proceedings that will defer other forms of discovery until after the disposition of the IRS motion for partial summary judgment and any cross-motion from the petitioner on the donor improvements issue.

Docket No. 18748-18, Pengcheng Si v. C.I.R., Order available here.

After a trial in this case, the Court decided for the IRS and sustained the disallowance of deductions for other expenses, meals and entertainment, and legal and professional services.  Mr. Si filed a motion for reconsideration regarding the legal and professional services.

The legal and professional expenses are from a qui tam action filed in 2009 against a former employer under the False Claims Act that did not conclude until 2018.  Mr. Si paid $19,737 to an attorney in 2015 for legal work and the action underlying those fees was dismissed with prejudice in 2018, with no indication of any award or settlement proceeds paid in 2015.

The Court previously held that IRC section 62(a)(20) prevents deductions in excess of proceeds includible in gross income from an action brought under the False Claims Act.  Since there were no proceeds paid, the deduction is disallowed.  As the motion for reconsideration does not address that statute, it is denied.

Docket No. 25068-17L, Kent Trembly v. C.I.R., Order available here.

This case was on the docket for Omaha, Nebraska, for April 20 before the Tax Court cancelled their dockets due to COVID-19.  The IRS had filed a motion for summary judgment, but the petitioner has not been responsive.

Giving the petitioner the benefit of the doubt, the Court presumes that he thought the cancelled trial setting meant he did not need to respond to the motion.  The Court gave him an extension in this order to May 1 to respond. 

Since then, petitioner’s counsel withdrew so things are not looking good.  The Court gave Mr. Trembly an extension until June 12 to file a response and ordered that he register by June 5 for electronic access.

 

Litigation Lessons: What Does the IRS Really Think About Your Case, and When Does That Matter? Designated Orders: April 20 – 24 and March 23 – 27 (but not really)

The Tax Court might not be open for mail, but it is still churning through cases. The designated orders for the week of April 20 – 24, 2020 provide some helpful lessons for practitioners that remain engaged with IRS Counsel. Particularly, they provide some insight on when it is appropriate to ask the IRS to better explain their adverse position. I did not find the March 23 – 27 orders to be as illuminating (there were only two) and they can be found here and here for posterity.

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When Does Greenberg Express Leave the Station? Smith v. C.I.R., Dkt. # 13382-17 (here)

There are a lot of instances when it appears that petitioners are concerned about the IRS reasoning or motives in a Notice of Deficiency and try to use discovery in court as a way to get a clearer picture. A lot of these maneuvers are expressly disallowed by Greenberg (for refreshers on Greenberg see posts here and here) and possibly on evidentiary grounds of relevancy. Sometimes, however, the reason behind the discovery presents a bit of a gray zone. This case shows one such gray zone that may prove helpful to practitioners.

The easy cases are where you want to prove that the IRS “picked on you” in exam. Those are not allowed, as the motive behind the audit is pretty much irrelevant in a deficiency proceeding. A step towards the gray-zone is the argument that the notice of deficiency should be invalid on procedural grounds -either of the APA Qinetiq variety (covered here) which are unlikely to succeed, or on Scar grounds which are also difficult.

Smack in the middle of the gray-zone, however, is where you are using discovery to understand the legal reasoning of the IRS’s position -not necessarily saying you were treated unfairly in the moments leading to the issuance of the notice of deficiency, but that it is unclear what the IRS believes the issues to be. In some contexts this isn’t going to work. The above-order, however, shows where discovery may be appropriate: so-called “contention interrogatories.”

In the above order, petitioners want to know why the IRS thinks they aren’t entitled to a credit under IRC § 41. I’m going to go out on a limb and say (1) the SNOD was not particularly detailed on that point, and (2) there were supporting documents that have been submitted purportedly to show entitlement to the credit. Actually, the second point can be surmised from the order: the IRS (and Judge Gale) refer to numerous “Bates numbered documents” submitted by petitioner pertaining to the credit. More on them later.

So petitioners think they’ve provided enough documentation to get the credit, and the IRS thinks otherwise. Why get the court involved to settle that in discovery, instead of waiting for trial where the court will make exactly that determination on the basis of the evidence?

Because, understandably, petitioners want to be completely clear on why the IRS doesn’t think entitlement to the credit has been proven just yet in order to prepare for trial. Is it that the documents don’t say what petitioners think they say? Is it that the IRS doesn’t trust the veracity of the documents? Is it an evidentiary issue at all? Clarification on these points would certainly help in preparation for trial, and ultimately help an orderly trial take place. Thus, petitioners serve 15 interrogatories on the IRS to better clarify their “factual or legal position” as reflected in the notice of deficiency.

The IRS screws up in a few ways in their response. One is easily remedied: they don’t sign and swear to the interrogatory responses, rendering them procedurally defective under Tax Court Rule 71(c). The other screw up is less easily remedied: the court finds that almost half of the responses, as a matter of substance, are insufficient. This was generally for generically referring to witness testimony (without saying who the actual witness would be) or generically referring to submitted documents (without referencing the Bates number of the document) for the IRS’s continued disagreement with petitioners. Ultimately, Judge Gale orders the IRS to fix the procedural issues and file supplemental answers to the interrogatories that actually answer the interrogatories.

Again, I think this gets close to (but avoids) being framed in a way that Greenberg would preclude. When the IRS denies a credit in a notice of deficiency, their reasoning for denying it doesn’t really matter that much: as we all know,  “Credits are a matter of legislative grace, INDOPCO, yada yada yada.” So anytime the IRS puts a credit at issue, and for whatever reason, it is on you to show you should get it.

But here petitioners aren’t really saying “we want you to explain why your notice of deficiency is correct” (inappropriately putting the burden of proof on the IRS). They are saying “we want to know what, after everything we’ve submitted, is still in contention” (keeping the burden on petitioner, but giving them the ability to better prepare to meet that burden in litigation).

I’d advise practitioners to consider integrating these sorts of “contention requests” in their general litigation checklists. I’ve never served interrogatories on the IRS.  But I have raised the issue of what remains in contention in informal discovery (sometimes Branerton, more often with IRS Appeals).

My clinic frequently has to prove the elements of a qualifying child under IRC § 152(c). Sometimes we have what I would consider pretty compelling documentary evidence for each element. Yet Appeals sits on it or appears not to have looked closely at what we’ve sent, finally asking for still more documents from a given checklist that “proves” an element (usually residency) after weeks of remaining unresponsive. In these instances my clinic often sends a fax to Appeals laying out the evidence we’ve already provided, why we think it is more than sufficient to demonstrate each element of qualifying child status, etc. and conclude with a request of our own: If this isn’t good enough, please kindly tell us why and what exactly is in contention. Not “what else would you like us to provide?” (there will always be something, and we’ve usually gone over that with Appeals by this point). But “Here is our case. We think it stands for itself. Tell us why not.” The three times my clinic has done this in the last two years the next communique from IRS Appeals was a full concession.

When it isn’t clear why the case isn’t being wrapped up, sometimes it can be helpful to bluntly ask. Maybe the IRS has a good reason you haven’t considered and the development of the case is assisted by them telling you. Or maybe they’re cynical and just don’t believe you. With the latter, I’ve found IRS Appeals to be less likely to stick with that if they would need to write it on paper as their reason for failing to settle.

Take (Judicial) Notice: Continuing Life Communities Thousand Oaks LLC v. C.I.R., Dkt. #  4806-15 (here)

This was a very brief order (less than 2 pages) but provides an interesting and widely applicable lesson on the concept of “judicial notice.” In law school evidence classes we learn that you can ask a court to “take judicial notice” of certain facts. We then forget how it works shortly after the final exam, relearn for the bar, and then largely forget again, remaining perhaps dimly aware that asking courts to “take judicial notice” is something we lawyers can do. It sounds nice, but when is it applicable, and what does it actually do?

The Federal Rule of Evidence on point is FRE 201. Among other things, it provides that the court can take judicial notice only of “adjudicative” and not “legislative” facts. What is the difference between the two? One key thing to keep in mind is that adjudicative facts pertain only to the particular case at issue, whereas legislative facts are more directly related to “legal reasoning and the lawmaking process.” The Notes of the Advisory Committee provide a detailed explanation, replete with citations to law review articles and musings from Professor Kenneth Davis, who apparently “coined the terminology.” Apologies to my law school evidence professor if that was covered in class.

One may be forgiven for thinking that, even with the explanations provided by Professor Davis, the difference between adjudicative and legislative facts isn’t always crystal clear. In this case, petitioner’s counsel asked the Tax Court to take judicial notice of the arguments IRS Counsel advanced on brief in a different case, apparently at odds with the argument they were making in the instant case. Is that allowed?

Judge Holmes says “no.” The court can (and does) take judicial notice of facts from court records in certain circumstances -namely in instances involving collateral estoppel. (See my post here for a quick refresher on collateral estoppel.) But in matters of evidence, it is always important to consider the purpose for the evidence being put forth -the same statement could be inadmissible hearsay, or not, depending on what it is being used to show (my thoughts on that in the context of the penalty supervisory approval form can be found here).

In this instance, the purpose for taking judicial notice of the arguments made by IRS counsel in other cases with a different taxpayer is certainly not for establishing collateral estoppel. Rather, it seems to be with the intention of showing that the argument in the instant case is less persuasive because the IRS doesn’t always hold tight to it in other cases with other parties. Judge Holmes isn’t biting, finding that it isn’t properly an adjudicative fact in this context. But one of the bigger reasons may be a matter of practicality: as Judge Holmes cheekily notes, “the Commissioner seems to be involved in a very large percentage of cases tried in our Court […] and cannot reasonably be expected to express the nuances of his positions in each case in ways that are entirely consistent across litigation.”

In short, asking the Tax Court to “notice” that IRS Counsel has argued something different in brief in a different case is probably not going to happen. Note, however, that it is a slightly different matter if it was not something argued on brief, but published guidance that the IRS now appears to be taking an inconsistent approach to (see the end of my article on Feigh discussing Rauenhorst here). Note also that while asking the court to take “judicial notice” of inconsistencies across government litigating positions might not be availing tactic, that doesn’t mean it is inappropriate to bring those inconsistencies to the court’s attention by in brief or even oral argument. Imagine, for example, that the government argued that dismissal of an innocent spouse case in tax court on jurisdictional grounds is not completely unfair because the taxpayer could always full-pay and go to district court. It would perhaps cut against that argument were the government to argue, in district court, that there is fact no refund jurisdiction for innocent spouse cases in district court after all. Now where have I seen that… (posts here and here).   

Reverberations from Procedurally Taxing Jurisdictional Victories: 4 Whistleblower Orders from Judge Carluzzo (orders here, here, here, and here)

Lastly, I’d like to conclude on a high-note: the fruits of Keith and Carl’s “Quest Against Jurisdictional Restrictions.” The juiciest fruit from that quest has been from their involvement in Meyers v. C.I.R. See PT coverage here, among others. Because Myers found that the whistleblower statute IRC § 7623(b)(4) is not jurisdictional and could be subject to equitable tolling, Judge Carluzzo issued four nearly-identical designated orders denying the IRS motions to dismiss for lack of jurisdiction and instead ordering that they file an answer. Obviously this doesn’t mean that any of the whistleblowers will succeed on the merits but if they do that would be justice done that would otherwise have been denied (indeed, that their cases will be heard at all could be seen as a win for justice).

Productivity during the Pandemic: Designated Orders April 6 – 10, 2020

I was a bit surprised, but happy to see five orders designated during my first week back from maternity leave. A sign that the Court really is still working despite its physical closure and canceled trial sessions. It makes things feel a little more normal in a time when they are anything but normal. In the only order of the five that I don’t discuss (here), the Court grants the IRS’s summary judgment motion in a whistleblower case where it found no abuse of discretion.

Docket No. 25285-17, Kathy Trembly v. CIR (Order Here)

Since the Court is still working, it expects petitioners and practitioners to continue to work as well- which is the message it sends by designating this first order. The IRS’s Office of Chief Counsel has also communicated that they are ready to resolve cases even though trial sessions are canceled through June 30, 2020.

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This case was originally calendared for the Omaha trial session on April 30 before that session was canceled on March 17. About a month before the cancellation order was served on the parties, however, the IRS filed a motion for summary judgment and the Court ordered petitioner to respond by March 13th. The petitioner did not respond by that date and still had not responded at the time of this order.

Nebraska is one of the few states that did not issue a formal stay-at-home order, but the state did take other precautions such as closing non-essential businesses, closing some schools, and limiting large gatherings, but all of those things happened after March 13th.

The Court directs petitioner to the language in the cancellation order which states that it expects the parties to continue working toward a resolution, which requires resolving the summary judgment motion.

The Court tacitly acknowledges the odd times we are living in and exercises its discretion to waive any consequences to petitioner for failing to respond and extends the time she has to respond until May 1st. Petitioner’s counsel withdrew his representation after this order was issued, which could suggest any number of things during these unusual times.

Docket No. 6344-18, Paul D. Rice v. CIR (Order Here)

In an effort to conduct business as usual, millions of employees around the world have gone from working at their employer’s office to working at home. In this designated bench opinion an employee-petitioner, in pre-COVID-19 times, tried to deduct employee business and home office expenses. He was mostly unsuccessful because he didn’t prove that his employer didn’t have a reimbursement policy. The Court allowed his home office deduction, but it was less than the standard deduction that the IRS had already allowed.

The order itself is somewhat unremarkable, but it got me thinking -as I write this from my daughter’s nursery turned home office- that had the TCJA not done away with unreimbursed employee expense deductions, there would have likely been surge of opportunities and attempts to deduct these types of expenses this year.

I brought a lot of supplies and equipment home from my office, but still incurred some expenses (in addition to the obvious increase in electricity costs) in an effort to work as efficiently as possible. 

I won’t dive into the requirements under section 280A since it is irrelevant in these circumstances, but a lot of people who are required to work from home during this time would have met the principal place of business and convenience of the employer requirements for home office deductions, at least temporarily.

During this time, for many of us in the tax and academic worlds, working from home is necessary for our employer’s business to properly function and needed to allow us to properly perform our duties. Hopefully, many employers will reimburse their employees for the expenses they incur to work from home. There’s a good chance, however, that some aren’t willing or able to do it – at least not until the dust settles and we know what the post-COVID-19 world looks like. 

Docket No. 27571-10, Sandra M. Conrad v. CIR (Order Here and Here)

Two orders were designated for this case which involves a liability that resulted from a section 72(t) early withdrawal penalty. The IRS moved to vacate the Court’s original decision (here) and the first of the two orders grants that motion.

In the original case, petitioner had argued that the age and disability exceptions for the penalty violate the equal protection clause of the Fifth Amendment to the Constitution. The Court applied a rational-basis test and concluded that the exceptions bear a reasonable relationship to a legitimate Government purpose. It found that Congress created the penalty to dissuade people from using retirement savings for non-retirement purposes, and the penalty and its exceptions rationally relate to the “objective of encouraging taxpayers to save for periods of their lives when they might not be able, or wish, to work.”

The Court’s reason for vacating its decision, however, is not because it is reconsidering petitioner’s constitutional argument. Rather the Court vacates the decision to allow the parties to determine the petitioner’s correct liability, since the amount may be impacted by an NOL carryback she can utilize. The second order of the two changes the language in the Court’s decision to sustain respondent’s position rather than the deficiency amount and directs decision to be entered under rule 155. 

As a separate but related matter fitting with this pandemic-themed post, the section 2202 of the CARES Act provides an exception to the early withdrawal penalty for individuals impacted by COVID-19, specifically for those who have been diagnosed with the virus, have a spouse or dependent diagnosed, or who experience adverse financial consequences from the virus, such as being laid off, furloughed, or unable to work due to being sick or lacking childcare. This exception seems to fit with the other exceptions that rationally relate to Congress’s objective, since many people are unexpectedly finding themselves in a period of their lives during which they are unable to work.  

 

Hints of Coronavirus, Interlocutory Appeal, and Nonresponsiveness: Designated Orders 3/9/20 to 3/20/20

I am going to be writing about 2 weeks in my report on designated orders for March.  The first week is a week that I am covering for Samantha Galvin as she nears the end of her maternity leave (which I trust was not your typical maternity leave).  The second week is my normal week in the rotation to review designated orders.  The first week had 9 orders (with 2 additional consolidated orders) and the second week had 3 (with 5 additional consolidated).

I thought it would be better to group the orders thematically rather than chronologically.  The orders cover a broad range of topics that include first hints of coronavirus scheduling issues, interlocutory appeal, non-responsiveness (both on the petitioner and respondent sides), tax protestor-style arguments, Collection Due Process and more.

First Coronavirus Issues

Docket No. 23069-16, Kevin John, Sr. & Whitney S. Witasick v. C.I.R., Order available here.

In this case, two issues are involved.  First, the IRS filed a motion for leave pursuant to Rule 41(a) regarding computational errors in the original notice of deficiency.  Second, the petitioners responded with a motion to continue, stating that the IRS surprised them with this motion so close to trial and that if the Court grants the motion, they will need to hire counsel.

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With regard to the IRS motion, the Court is troubled since the motion was filed more than 3 years after the notice of deficiency.  The case is facing its sixth continuance and the IRS motion came only 18 days prior to (the since cancelled) trial.

The petitioners moved for a continuance to the April 14 docket.  In their email with IRS counsel, they mention a continuance for trial until October; however, IRS counsel only agreed to a continuance to an April 14 trial.

The continuances for trial in this case were starting to be affected by the coronavirus issues (alluded to as “reasons unrelated to the pending motions in this case” for cancellation of the March 16 Philadelphia trial session).  In fact, this order was issued two days after the first Tax Court press release that cancelled trial sessions because of coronavirus issues (that press release cancelled trial sessions for March 16 through April 3).  That was the first of three press releases issued by the Tax Court, ultimately cancelling the rest of the then-currently scheduled trial sessions for the year, which were trials scheduled through July 3.

The IRS motion for leave to file first amendment to answer is granted.  The petitioners’ motion for continuance is denied.  The parties are to file a joint status report on or before May 11.  If the parties have not settled, they are to report on the preparation of the stipulation of facts and preparation for trial.

Interlocutory Appeal

Docket No. 19493-17, Belair Woods, LLC, Effingham Managers, LLC, Tax Matters Partner v. C.I.R., Order available here.

The subject matter in this case involves a charitable contribution deduction claimed by Belair Woods for a conservation easement.  The Tax Court has issued two opinions already in order to address issues in the case.  Within the second of the opinions, the Court held that the IRS met the supervisory approval requirements of Internal Revenue Code section 6751(b)(1) regarding penalties asserted under Code section 6662(c),(d) and (h).  Belair Woods filed a motion to certify for interlocutory appeal regarding the supervisory approval issue and the IRS filed a response objecting to the motion.

For those of you (like me) who do not work often with interlocutory appeals, they are appeals filed regarding a ruling by a court made before the trial has concluded.  Such an appeal asks for appellate review regarding an aspect of the case before the trial’s conclusion.

Here is the law regarding Tax Court interlocutory appeals as provided within the order (where you can find citations) – Internal Revenue Code section 7482(a)(2)(A) permits certification of an interlocutory order for immediate appellate review only if there is the conclusion that “a controlling question of law is involved with respect to which there is a substantial ground for difference of opinion and that an immediate appeal from that order may materially advance the ultimate termination of the litigation.”  Certification of an interlocutory order for immediate appeal is an exceptional measure that courts employ sparingly.  Before certifying such an order, the trial judge must confirm that the order involves a “controlling question of law” and that “substantial ground for difference of opinion” exists for the correctness of the determination underlying the order.  The judge must also decide whether an immediate appeal will “materially advance the ultimate termination of the litigation.”  To decide those factors, the Court must weigh policies favoring the “avoidance of piecemeal litigation and dilatory and harassing appeals.”  A “controlling question of law” must be a pure issue of law that “the court of appeals ‘can decide quickly and cleanly without having to study the record.’”  A “controlling question” is not simply “a question which if decided erroneously would lead to a reversal on appeal.”  Instead, it is one that is “serious to the conduct of the litigation.”  The requirement that an immediate appeal “materially advance the ultimate termination of the litigation” means the resolution of the controlling legal question “would serve to avoid a trial or otherwise substantially shorten the litigation.”

The Court does not believe the supervisory approval issue involves a “controlling question of law” or that immediate appeal of the issue would “materially advance the ultimate termination of the litigation.”  The supervisory approval is not serious to the overall conduct of the litigation and only relates to the penalties.  It is not ultimately relevant to the decision whether Belair is entitled to the deduction for the easement.

The immediate appeal would also not avoid or meaningfully shorten the litigation.  In fact, it would do the opposite.  Witnesses involved in the tax preparation would likely need to testify twice with regard to the charitable contribution deduction at trial and also the supervisory approval issue at interlocutory appeal.  Thus, the interlocutory appeal would protract, not shorten, the proceedings needed to resolve the issues.

The Court denied the Belair Woods motion to certify for interlocutory appeal.

I do not have much to add as I agree that the interlocutory appeal would extend the proceedings.  I presume Belair Woods was taking a desperation move to see if the interlocutory appeal could get the penalties removed.

Nonresponsive Respondent

  • Docket Nos. 13382-17, 13385-17, 13387-17 (consolidated), Adrian D. Smith & Nancy W. Smith, et al., v. C.I.R., Order available here.

The petitioners filed a motion to compel responses to interrogatories regarding their first set of 15 interrogatories to the IRS.  The case is about the research credit under Internal Revenue Code section 41 and the interrogatories ask the IRS to explain what aspect of the four-part test the IRS asserts they are not able to meet with regard to the research credit.

The Court reviews the responses and finds that the IRS was not sufficiently responsive in 14 of the 15 interrogatories.  They have a deadline of one week to provide full, complete and responsive answers or they may be precluded from introducing evidence that would have been responsive to petitioners’ interrogatories, or other sanctions as the Court may deem appropriate.

  • Docket Nos. 27268-13, 27309-13, 27371-13, 27373-13, 27374-13, 27375-13 (consolidated), Edward J. Tangel & Beatrice C. Tangel, et al., v. C.I.R., Order available here.

In this case, also about the research credit, the IRS did not respond to informal discovery.  The petitioners then served 22 interrogatories (with subparts) and 19 requests for production of documents connected to those interrogatory requests.  The IRS generally objected to the discovery requests, asserting they were unduly burdensome, called for legal conclusions, and exceeded the 25 interrogatory limit.

In 2018, the Court issued an order directing the parties to select a sample of research and experimentation projects for trial.  The parties agreed on 14 sample projects.  The petitioners asked the IRS to revisit the discovery responses by focusing on the 14 projects, but the IRS indicated their answers had not changed.  In 2020, the petitioners sent second sets of interrogatories and of requests for production of documents.  This time, the interrogatories were 15 questions limited to the 14 projects.

The IRS responded that no response was required to the interrogatories because petitioners exceeded the number of interrogatories, “the Commissioner is not required to prepare a statement of every fact or detail known to him,” and “petitioners bear the burden of proving their entitlement to the research credit.”  As they said no documents were identified in the interrogatories, they declined to identify or produce any documents.

In the Court’s analysis, the interrogatories did not exceed the limits of Rule 71(a).  The IRS is not required to state every fact known or a statement of legal authorities upon which they rely.  However, it is necessary for each party to know the position of the other party.  The discovery requests are designed to inquire into the IRS contentions.  The IRS response is insufficient to allow the petitioners to reasonably prepare for trial.

The order grants the petitioners’ motion in part, requiring the IRS to complete their supplemental responses to the interrogatories with respect to the 14 projects in a month’s time.  The motion is denied in part that the IRS is not required to disclose the legal authorities upon which they rely and they are not required to explain how each document relied upon relates to their contentions.

Even though these cases have different judges, both of these cases involve nonresponsive IRS counsel during the discovery phase regarding research credit cases set for trial in Chicago.  Maybe I am wrong, but that looks like a pattern to me.

Non-Responsive Petitioners

  • Docket No. 25051-17S, Sandra Adams Griffin v. C.I.R., Order of Dismissal and Decision available here.
  • Docket No. 2524-19, Justin Alexander Boyte v. C.I.R., Order of Dismissal and Decision available here.

In both of these cases, Judge Gale documents how the petitioners were contacted and did not respond to the Motion to Dismiss or appear in court for trial.  The judge granted the IRS motions to dismiss and dismissed the cases for failure to properly prosecute, deciding the respective deficiencies against the petitioners.

Collection Due Process Cases

  • Docket No. 14883-19 L, R. Dianne Varick, v. C.I.R., Order and Decision available here.

This case is based on Ms. Varick owing $71,961.21 for 2015.  She submitted a timely Form 12153 for a Collection Due Process hearing regarding proposed levy action.  She expressed interest in an installment agreement of $1,000 per month.  Ms. Varick submitted the requested Forms 433-A and 433-B.  In the telephone hearing, the settlement officer determined that an appropriate minimum payment for Ms. Varick would be $1,050 per month.

Ms. Varick protested, saying she could not pay that amount.  She said she could not even afford the $1,000 per month, but felt obligated to offer at least that amount.  She submitted a revised 433-A.  The settlement officer recomputed the amounts and found that Ms. Varick had disposable income of $1,913 and could pay an installment agreement amount of $1,100 per month.  Ms. Varick again stated she could not afford the amount.

The notice of determination followed, which led to the petition to Tax Court.  Upon the judge’s review, the amount proposed by the settlement officer had been within $100 of the amount proposed by Ms. Varick.  There was found to be no abuse of discretion, the IRS motion for summary judgment was granted, allowing them to proceed with the levy.

I admit to having mixed feelings here.  On the one hand, I think they might have been able to come to a compromise on the installment agreement.  On the other, if Ms. Varick looks to be able to afford the higher installment agreement on paper she might have protested the proposed installment agreement too much.

  • Docket No. 11424-19 L, Research Scientific Services LLC v. C.I.R., Order and Decision available here.

This is a Collection Due Process case regarding a business based on forms 940 and 941.  The aggregate employment tax liabilities, including interest and penalties, exceeds $200,000.  Mr. Moffatt, an officer of Research Scientific Services LLC and its representative, thought his negotiations on his individual tax issues also applied to his business tax issues.  That is the ultimate mix-up.

Mr. Moffatt is now on a payment plan regarding his individual tax issues.  He would like to resolve the business tax issues and the Court mentions potential for the LLC to have collection alternatives like an installment agreement or Offer in Compromise.

Mr. Moffatt, on behalf of the business, did not submit missing tax returns, a completed Form 433-B, or provide supporting documentation in relation to the Collection Due Process hearing.  As a result, the settlement officer did not have abuse of discretion.  The IRS motion for summary judgment was granted and the levy action is sustained.

While I feel sympathy for Mr. Moffatt, it sounds like he mismanaged the business, but it wound up with the correct result in court.

Tax Protestors?

Docket No. 7073-19, Ryan Foster v. C.I.R., Order available here.

Docket No. 7196-19, Jo Ann Sharp & Randall W. Sharp v. C.I.R., Order available here.

Docket No. 7077-19, Jo Ann Sharp v. C.I.R., Order available here.

What we have here are a series of similar orders from Judge Copeland.  In each, the petitioner(s) filed a motion for summary judgment.  In those motions, they list seven points that mostly focus on Internal Revenue Code section 280E.  The arguments allege violations that the IRS violated the constitutional rights of the petitioners with regard to the Fifth Amendment, Sixteenth Amendment, Eighth Amendment, and Fifth Amendment to the United States Constitution, among other arguments.

What follows that is an analysis regarding motions for summary judgment.  The motions were not supported by affidavits or declarations made on personal knowledge or by documents.  Without the supporting statements or documents, factual assertions in a summary judgment motion are not admissible evidence.  The motions were all denied without prejudice.

My take on these matters is that these were frivolous tax protestor-style arguments that the Court quickly denied.

Petitioner Motion to Dismiss for Lack of Jurisdiction

Docket No. 9095-19, William Michael Shumer & Susan Elaine Shumer v. C.I.R., Order available here.

The petitioners filed a motion to dismiss for lack of jurisdiction regarding their 2016 tax year notice of deficiency.  Their first argument, which is about the notice, does not get very far.  They do not argue whether it was timely filed or dispute whether they received it.  No, they state that the IRS employee did not have authority to sign the notice.  That argument is quickly dismantled – the notice of deficiency is not required to be specially signed by an authorized agent.

For their second argument, the petitioners argue regarding an IRS letter they received before filing the petition that the IRS determined they owe no additional tax.  The petitioners are concerned regarding their prayer for relief, where they requested the Court abate all penalties and determine they are due a refund of $75,325.27.

The Court denies the motion to dismiss.  Also, the penalty and refund issues are ripe for trial; the case was scheduled at that time for trial June 15 in Knoxville, Tennessee.

On its face, I would say this unrepresented couple sounds confused by the process.  It did not help anything if the IRS actually sent a letter like they claim.  In my practice, I have seen contradictory letters from the IRS.  It does not help anyone’s understanding of matters when the IRS mails out contradictory messages.

Can You Put a Price on Political Influence? Designated Orders, February 24 – 28, 2020

We don’t usually introduce designated order posts because the team of authors is a part of PT team.  I am making an exception here because I have been following the case that Caleb discusses since he was in law school.  I have written several posts about this taxpayer because he received a tremendous amount of ink from the Philadelphia Inquirer when I was teaching at Villanova.  So, I followed his political demise and criminal trial over a long period of time in my local press.  Then, after following the long arc of the criminal case the matter moved into its tax phase resulting in a jeopardy assessment followed by what must be the slowest jeopardy determination ever. 

This is one of the first cases I blogged back when we started in 2013.  Imagine a jeopardy assessment case where the IRS makes the rare determination of the need to move past the normal assessment process of notice of deficiency followed by a Tax Court hearing in order to quickly make an assessment, file notices of federal tax lien and preserve the government’s position in the taxpayer’s assets.  This is a jeopardy case the IRS took four years to put together.  Now imagine it’s almost seven years after the IRS finally put its jeopardy case together (that’s eleven years after starting to work on the jeopardy case!) and the Tax Court has just denied summary judgment.  The trial and the decision on the liability remain in the future.  That the Tax Court now has its most efficient jurist on the case provides some hope for an outcome before the case reaches an age where it would enter middle school.  I am curious what has happened to the taxpayer’s assets after the district court declined to allow the jeopardy assessment.  If you want to read more about this remarkably slow moving case and my thoughts about the case from several years ago, read the posts here, here, here and here, before starting Caleb’s excellent explanation of the designated order the court entered last month.  Keith

There were three designated orders the week of February 24, 2020, but one stole the show: an order pertaining to former Pennsylvania state Senator Vincent J. Fumo (here). (The remaining two orders can be found here and here.)

Aside from the natural allure of political intrigue (one may fairly say, corruption), the Fumo order was particularly compelling because of its discussion of “collateral estoppel.” For those who remember “collateral estoppel” as something learned in a first-year Civil Procedure course, briefly re-learned for the bar, and then filed away in their brain under “never useful again: going into tax law,” this order may change your mind. Procedurally Taxing has definitely raised the issue before in numerous contexts (see here, here, and here).

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To understand how collateral estoppel plays out in this case, one must first understand the nature of Mr. Fumo and his previous run-ins with the law. For those unfamiliar with the workings of Pennsylvania state politics, a quick google search will bring up numerous stories of varying length and detail on the rise and fall of Mr. Fumo in the halls of political power. At the apex of his power, he certainly seemed to carry a lot of influence. 

And then came the fall. Charges of defrauding both the Pennsylvania State Senate and the non-profit Citizens Alliance for Better Neighborhoods. Mr. Fumo harmed both of these parties in numerous ways, including using their money and services for personal purposes (rather than the public interest purposes he presumably presented). But he also made sure these parties spread the wealth (in self-serving ways), by ensuring payment of “excessive salaries to employees who were promoted solely because of loyalty to [Mr. Fumo].” The Feds brought an indictment with 139 different counts, of which Mr. Fumo was convicted of 137. 

When you have that many indictments, with that powerful a person, you can all-but guarantee there is going to be a lot of litigation. And this case is no exception. For those with Westlaw access, a look at the “history” tab in U.S. v. Fumo gives a taste with 17 separate entries from the district court and court of appeals (3 of which principally concern a party related to the Fumo matter, the aide who destroyed email evidence.). For our purposes, the court decisions that matter most pertained to money, including: (1) a finding that Mr. Fumo had to pay restitution, and (2) a finding against issuing a forfeiture judgment of the property “derived from proceeds traceable to the commission” of the offenses.

As it turns out, the IRS thinks that the first court finding entitles them to summary judgment and Mr. Fumo thinks that the second issue entitles him to summary judgment, both on theories of collateral estoppel. Cross motions ensue, both of which are denied. Let’s see why.

Judge Lauber neatly lays out the test for the application of collateral estoppel in Tax Court: (1) final judgment by court of competent jurisdiction, (2) identical issues from suits, (3) the assertion of collateral estoppel can only be asserted against parties to the prior judgment, (4) the parties must have actually litigated the issues, which were “essential” to the prior decision, and (5) the controlling facts and applicable rules need to be unchanged from the prior litigation. See Atkinson v. C.I.R., T.C. Memo. 2012-226. Oh, and if there are any special circumstances that warrant it, the Court can decide against applying collateral estoppel. 

So where does that go awry here? Let’s start with the easier of the two motions: Mr. Fumo’s.

To Mr. Fumo’s mind, the summary judgment in his favor is appropriate because the IRS is collaterally estopped “by the District Court’s decision not to enter a judgment of forfeiture, from asserting that petitioner received gross income.” Pretty simple, really: if the District Court already ruled I don’t have gross income, you can’t argue I have a deficiency based on omitted income. But is that what the District Court really said in its denial of forfeiture?

Judge Lauber focuses on the “identical issues” prong in dooming this motion. Is the inability to find “proceeds traceable to” specific criminal actions the same as saying there is an inability to find “income” as defined by the Internal Revenue Code? Not quite. One (proceeds) is fairly narrow and demanding, whereas the other (gross income) is extremely broad. The U.S. suit lost its motion for a judgment of forfeiture because they couldn’t sufficiently link specific property to the criminal acts. It is doubtful that the District Court found (or even considered) whether Mr. Fumo’s criminal activity had resulted in “accessions to wealth, clearly realized, over which [Mr. Fumo has] complete dominion.” Commissioner v. Glenshaw Glass Co. 348 U.S. 426 (1955).

Petitioner’s summary judgment motion denied. What about the IRS’s summary judgment motion? This one is a bit less of an easy call.

The IRS really wants collateral estoppel to apply in two ways: (1) to preclude Mr. Fumo from relitigating the fact that he misappropriated benefits from his victims, and (2) to preclude Mr. Fumo from relitigating that the misappropriations constitute taxable benefits as a matter of law.

One of these is a far heavier lift than the other. Or maybe they both are heavy lifts, and it really just depends on exactly what the IRS wants to do with the preclusion. Judge Lauber agrees that “collateral estoppel will prevent [Mr. Fumo] from relitigating numerous facts that were indisputably litigated and resolved against him in the criminal case.” But exactly what facts, and more importantly what legal conclusions they bring about, are not as well defined at the moment. Particularly, the Tax Court is wary of using collateral estoppel (at this point) to get to the heart of what the IRS is asking: preclusion from disputing “the amounts of unreported income[.]” Because ultimately, for summary judgment to make sense here, the IRS would be looking for a knock-out blow: preclusion on issue that the proceeds were taxable, and preclusion on the amount of the proceeds. But do they have enough in the District and Appellate Court records to get there?

Probably not. One overarching issue is Mr. Fumo’s particular brand of corruption. This isn’t a politician just taking bags of money under the table. This is a politician using his influence for personal benefit, often through jobs and salaries that went to other people (loyal to him, of course). The tax consequence of theft or embezzlement is usually straightforward, and the restitution judgments usually align one-to-one with the taxable income. 

Beyond that, the amount of Mr. Fumo’s benefit (to say nothing of his taxable benefit) was clouded even in the deciding courts, because there was a co-defendant. The court of appeals originally suggested up to 96% culpability to Mr. Fumo. The district court, however, ended up at 75% culpability for the restitution award (originally, they only found 50%). How the IRS came to the numbers on their Notice of Deficiency from the restitution award isn’t immediately clear either. The court ordered restitution in the amount of $4,083,802 and the IRS ultimately determined unreported income of $2,133,956, and later amended their answer to increase the amount to $2,304,364. Lots of moving parts and not a lot of science to the numbers, as far as this admittedly poor mathematician can tell. (The IRS says they changed the numbers based on a “different averaging computation,” but that honestly sounds like “fancier guess-work” to me.)

Ultimately, however, the biggest issue remains the nature of the benefits and how inappropriate it is for a summary judgment motion. Judge Lauber sums it up: “there may be disputes of material fact as to whether petitioner derived a dollar-for-dollar benefit from the additional salary received by employees for whom he secured promotions for higher positions.” And where there is a (genuine) dispute of material fact, summary judgment does not result. Collateral estoppel is sure to apply in this case on some (probably many) facts, but at this point not enough to pin-point the amount of taxable income -which is never what the District Court was concerned with in the first place. Assuming Mr. Fumo did not candidly report some of his ill-gotten gains on his tax return, he will owe something: exactly how much, however, may well require yet another trial.

Tax Litigation in the Discovery Phase – Business Records and Responding to Discovery Requests: Designated Orders 2/17/20 to 2/21/20

The week I reviewed for February included three orders.  The first order is a routine look at Collection Due Process.  The next two bring a theme of discovery in Tax Court.  The second order is about authentication of foreign bank records in Tax Court.  The third looks at how the Tax Court reviews discovery requests and responses.

Routine Collection Due Process

Docket No. 25954-17 L, Gary L. Shaw v. C.I.R., Order and Decision available here.

Overall, this order deals with a common theme for Collection Due Process cases in the Tax Court.  The petitioner did not file the requested income tax returns (tax years 2012 and 2016-2018).  While he requested an Offer in Compromise and checked the box for “I Cannot Pay Balance,” he did not submit either of the requested forms (656 or 433-A).  The judge found that because the petitioner was not compliant, the rejection of his proposed collection alternatives was justified and the Appeals Office did not abuse their discretion.

If repeating this helps out someone with their Collection Due Process case, I will say again that in order to advance with the IRS procedurally it is necessary to provide them the paperwork they request.

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Foreign Bank Records

Docket No. 13531-18, George S. Harrington v. C.I.R., Order available here.

At issue in this case is whether Mr. Harrington is liable for deficiencies and fraud penalties due to his alleged receipt of unreported income during 2005-2010.  The IRS filed a motion in limine in order to seek admission into evidence of business records from the United Bank of Switzerland (UBS) to prove the truth of the matters asserted.  Mr. Harrington objected on grounds of hearsay and authentication.

Now, dealing with low income Kansas taxpayers does not mean I regularly focus on Swiss bank accounts so I found it interesting to learn about interactions between the United States and Swiss governments.  In 2009, the U.S. Department of Justice came to an agreement with the Swiss government concerning “accounts of interest” held by U.S. citizens and residents.  Pursuant to the agreement, the IRS submitted to the Swiss government, under the bilateral tax treaty between the two nations, a request for information concerning specific accounts they believed that U.S. taxpayers owned.  The Swiss government directed UBS to turn over to the IRS information in UBS files concerning bank-only accounts, custody accounts in which securities or other investment assets were held, and offshore nominee accounts beneficially owned indirectly by U.S. persons.  The Swiss Federal Office of Justice was to oversee UBS’ compliance with those commitments.  The U.S. Competent Authority received from the Swiss government information concerning numerous U.S. taxpayers.

Regarding Mr. Harrington, the IRS received 844 pages of information concerning UBS accounts in September 2011.  That material included bank records, investment account statements, letters, emails between Mr. Harrington and UBS bankers, summaries of telephone calls, and documentation concerning entities through which assets were held.

Were the UBS documents business records?  They were 844 Bates-numbered pages accompanied by a “Certification of Business Records” by legal counsel for UBS.  The certification states the records were made at or near the time of occurrence of the matters set forth by people with knowledge of those matters, they were kept in the course of UBS regularly conducted business activity, and were “made by the said business activity as a regular practice.”  The legal counsel signed under penalty of perjury.  The court admitted the documents into evidence as self-authenticating foreign business records.

Mr. Harrington argues that legal counsel cannot certify the UBS records were business records because she is not as the Federal Rules of Evidence state a “custodian of records or other qualified witness.”  The Court points out that the requirement for a qualified witness is to be familiar with the record-keeping procedures of the organization.  Legal counsel for UBS meets that requirement.

Mr. Harrington argues against the records as being part of UBS regularly conducted business activity and questions the admissibility of emails, letters, third party communications, and summaries of client contacts.  The Court notes that UBS performed client services beyond those in connection with checking accounts.  The bank helped to create trusts, corporations, and other entities to hold client investments, solicited client goals for investments, and attempted to manage the investments in order to meet those goals.  The Court finds it consistent that the bank retained records of communication with clients in their business activity.

Mr. Harrington argued that email is informal and less trustworthy than other business records.  The Court noted that it would be normal for UBS to communicate by email with their clients in the United States and around the world.

Finally, Mr. Harrington argued that the 844 pages produced also referred to additional documents.  Since UBS produced to the IRS all documents they could locate in their files pursuant to the U.S.-Swiss agreement and under supervision of the Swiss Federal Office of Justice, the Court did not see why that was problematic.  Mr. Harrington could explain why that was so or produce further documents into evidence, but he did not.

The Court granted the IRS motion in limine admitting into evidence the foreign business records.

Discovery Requests and Responses

Docket Nos. 13382-17, 13385-17, 13387-17, Adrian D. Smith & Nancy W. Smith, et al., v. C.I.R., Order available here.

To begin with, this order is 38 pages, which is at greater length than the average designated order (for example, the other two this week were 4 pages each).  The nature of these consolidated cases is not discussed in the order because it focuses on discovery requests from the IRS to the petitioners and how responsive the petitioners’ responses have been.  Since the order is lengthy, I tried to summarize as best I could to provide the procedural issues without listing items that are more important to the parties of the case.

Basically, the IRS has sent to the petitioners several sets of interrogatories and requests for production of documents.  The IRS later submitted a report to the Court stating that the petitioners have not been responsive to specific interrogatories and requests for production of documents.  Based on those failures, the IRS seeks an order imposing sanctions against the petitioners.

In reviewing the specific interrogatory responses, the Court finds that the response to one is satisfactory while the responses to the other three are unsatisfactory.  In reviewing the specific responses to the requests for production of documents, the Court finds that the two responses in question are unsatisfactory.

There is lengthy discussion regarding the details and analysis of the responses to those four specific interrogatories and two specific requests for production of documents.  The petitioners relied on Tax Court Rule 71(e) regarding sufficiency of business records to answer interrogatories.  The Court finds their reliance on Rule 71(e) inadequate.  As an example regarding interrogatory one, it is unsatisfactory because requests regarding years 2008, 2009, and 2010 received business records concerning 2007 and 2008 (but did not provide information on 2009 and 2010).  Another example is that the response regarding contractors for the second interrogatory is not complete or adequate.  Basically, partially responsive is not responsive.

The Court also notes additional litigation that involved the petitioners where the courts imposed sanctions because the petitioners were not compliant concerning orders regarding discover requests (CRA Holdings US, Inc. v. United States and United States v. Quebe).

Turning to the requests for production of documents, the Court does not find either sufficiently responsive.  With regard to the second response, the Court finds it was not in good faith.  This is because the petitioners responded first with 12 pages.  Their supplemental answer references over 25,000 pages of previously produced documents.  The Court that the response was not in good faith.  As a result, the Court partially grants sanctions.

At the end of this designated order, there are 4 pages mainly made up of the 16 individual paragraphs regarding the specific court orders in this case.  The range of court orders includes deadlines and other miscellaneous orders.  The sanctions granted with regard to the 12 pages produced by the petitioners are that the petitioners may not introduce at trial extrinsic evidence as to whether the alleged research conducted under the six sample contracts was “funded research.”

Overall, this order provides a thorough examination of whether specific discovery requests in Tax Court are responsive or not.  The order would be worth reviewing by anyone wanting to learn more on the subject.

From Redactions to Reasonable Cause: Designated Orders 1/20/20 to 1/24/20

This week in review for January brought a group of orders with no common theme.  Two orders concern incorrect filings by petitioners, another deals with the Court’s jurisdiction for a petition, one is based on the statute of limitations in a TEFRA proceeding, and the final one is a bench opinion dealing with a taxpayer’s reasonable cause and good faith for a substantial understatement penalty.

Petitioners Needing Filing Help

Docket No. 19551-19S, Eric Bukhman & Marina Bukhman v. C.I.R., Order available here.

To begin with, I want to continue to give support for the Tax Court’s assistance with petitioners.  Many of the petitioners are pro se and need assistance with filing matters.  The Court is quite patient with them and helps them through matters.  One example is the Bukhmans.  They filed their petition without signatures.  Chief Judge Foley gave them until February 14 to ratify the petition by submitting their signatures to the Court.  The Clerk of the Court even provides them a tailored form to ratify their petition.  In fact, they did so on February 5.

Docket No. 11485-17S, Charles Easterwood & Ann M. Easterwood v. C.I.R., Order available here.

That does not explain what happened with the Easterwoods.  They are represented by counsel so there is no excuse about being pro se.  In fact, the Court directed the IRS to respond to its order.  Instead, petitioners’ counsel responded.  Included in the response was a copy of the Notice of Deficiency that did not have the taxpayer identification numbers redacted.  In the order, the response from petitioners’ counsel was stricken and the IRS was ordered they no longer needed to respond.  Caleb Smith wrote about the subsequent order directing petitioners’ counsel to refile the response with proper redactions.

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I am going to take a moment to examine proper Tax Court filing.  Certainly, making sure the petitioners sign the petition is an obvious first step.  However, petitioners and counsel do not always think about redacting.  It is necessary to review the documents thoroughly because the IRS likes to put social security numbers on nearly every page.  Additionally, it is worth looking at the bar codes to see if the taxpayer’s number is embedded within the barcode number.  Next, do not forget about the scannable bar codes or QR codes that the IRS uses.  Is the taxpayer’s information included there?  I am not sure.  I do not want my client’s information to be publicly available so I redact all of those items.  Yes, I feel like I am using whiteout at the level of a conspiracy theorist, but at least I am actively protecting my client.

Let me take another moment here to speak to the IRS.  Since they are in charge of drafting these documents that then need to be filed with Tax Court, is it possible to change the specific forms such as the Notice of Deficiency that give taxpayers the ability to petition Tax Court?  By removing the taxpayer identification numbers, there would no longer be the need for pro se taxpayers or counsel to redact forms.  There would also no longer be the problem for the Tax Court to decide how to grant access to forms that may or may not have been correctly redacted when filed.  I am suggesting that the solution to this issue for petitioners and the Tax Court could start at the source.  Just saying.

Missing the Mark

Docket No. 8400-19, Laurence Harvey Edelson v. C.I.R., Order of Dismissal for Lack of Jurisdiction available here.

Mr. Edelson filed a petition with the Tax Court on May 23, 2019, alleging he never received a notice of deficiency for tax years 2005-2008 and 2010-2017.  He also stated he never received a notice of determination for those same years.  He did not attach any documents with his petition.

What is the history?  The IRS sent notices of deficiency for 2005 (on September 4, 2007), 2006 and 2007 (on May 25, 2011), and 2008 (on February 7, 2011).  There was a notice of determination for 2005 issued December 2008.  Mr. Edelson and the IRS agreed to an installment agreement for 2006-2008 tax years.  The IRS did not send notices of deficiency or notices of determination for 2010-2017.

The IRS filed a motion to dismiss for lack of jurisdiction because the 2005-2008 tax years were not timely and there were no notices of deficiency for the other years.  The Court granted the motion because they lacked jurisdiction for those tax years based on the reasons cited above.

Has the Statute of Limitations Run?

Docket No. 22295-16, 22296-16 (consolidated), Ramat Associates, Wil-Coser Associates, a Partner Other Than the Tax Matters Partner, et al., v. C.I.R., Order available here.

These consolidated cases are TEFRA cases that involve Ramat Associates (Ramat), a Delaware limited liability company.  By a Notice of Final Partnership Administrative Adjustment (FPAA), the IRS adjusted certain partnership items of Ramat’s for the 2006 tax year and determined an accuracy-related penalty.  By a second FPAA, the IRS did the same for the 2007 and 2008 tax years.

The petitioner moved for judgment on the pleadings in both consolidated cases and moved for partial summary judgment in docket # 22296-16 with respect to tax year 2008.  Both motions are based on the notion that the period of limitations has run for the assessment of taxes and penalties resulting from the adjustments made in the FPAAs.  The IRS objected.

Petitioner’s argument is based off IRC section 6229(a), which provides the period for assessing tax with regard to partnership and affected items shall not expire before three years after the later of the date on which the partnership return is filed or the last day for filing such return without regard to extensions.  Section 6229(d) tolls that period if, within the period, the IRS mails an FPAA to the partnership’s tax matters partner.

The IRS instead relies on IRC section 6501(a), saying section 6229 is not a stand-alone statute of limitations, but extends 6501(a) in certain circumstances.  Section 6501 controls the statute of limitations at the partner level for the assessment of any tax flowing from the adjustments in the case.  Section 6501(a) “provides, generally, that the amount of any tax imposed shall be assessed within three years after the return was filed, unless extended or another exception applies” while 6229(a) describes the minimum period for the assessment any tax attributable to partnership items.

The Court agrees with the IRS argument and states the IRS pled facts in sufficient detail to establish a genuine dispute as to a material question of fact whether the section 6501(a) period of limitations has lapsed for the assessment of any tax resulting from the adjustments in the FPAAs.  The Court denied both of the petitioner’s motions.

Penalties for the Taxpayer?

Docket No. 13072-18, Floyd X. Proctor v. C.I.R., Order of Service of Transcript available here.

In this bench opinion, Judge Gustafson examines a taxpayer’s reasonable cause and good faith to determine whether he should be liable for the penalties the IRS imposed.

The IRS issued a notice of deficiency to Mr. Proctor based on his adjustments to income and deductions reported on his Schedule C.  The IRS also assessed timely filing penalties and accuracy-related penalties.  The parties settled regarding the tax deficiencies, but still at issue before the court were the different penalties.

Mr. Proctor has a high school education and worked for the Department of Defense (“DOD”).  In 2011, he formed an LLC and bought a dump truck.  In 2014 and 2015 (the years at issue), he operated a trucking business in addition to his DOD employment.

The 2014 tax return was filed about 9 months late and the 2015 tax return about 11 months late.  Mr. Proctor takes responsibility for the late filings, saying he was not paying attention, was negligent, and he is not trying to get out of being at fault.

Mr. Proctor testified that he connected with a man named Mr. Charles who did similar work and advised him regarding tax filing for their occupation.  Mr. Proctor used Tax Act software for the two returns.  Mr. Proctor showed Mr. Charles the Forms 1099 issued and received, the cancelled checks, invoices, and receipts for trucking expenses.  Mr. Proctor did not realize he had not received all Forms 1099 for his trucking activity income (probably missing his snow-plowing income).  As a result, Mr. Proctor under-reported his income for those years.  Also, he reported expenses which he agreed by stipulation should be reduced.

Judge Gustafson is convinced that the deductions were not deliberately faked.  He is persuaded that Mr. Proctor believed he prepared his tax returns correctly, with serious and forthright efforts.  Accordingly, the judge believes Mr. Proctor did his reasonable best to prepare a correct tax return.

When the IRS examined Mr. Proctor’s returns, he provided bank statements and other financial information.  The IRS informed him that his returns were in error.  Mr. Proctor hired an accountant who prepared profit and loss statements for the trucking business.  After those statements were supplied to the IRS, the IRS prepared the statutory notice of deficiency.  Before communicating the penalty determination to Mr. Proctor, the individual who made that determination obtained written approval from his immediate supervisor.

In reviewing the case, Judge Gustafson finds that Mr. Proctor is liable for the section 6651(a)(1) timely filing penalty since Mr. Proctor admits his lateness was due to his neglect.

Next, Judge Gustafson turns to the accuracy-related penalty for Mr. Proctor.  As a reminder, the 6662(a) penalty is an accuracy-related penalty of 20 percent of the portion of the underpayment attributable to the taxpayer’s negligence or disregard of rules and regulations.

Is his understatement substantial?  Yes, it meets the requirement of exceeding $5,000 and it exceeds by more than 10% the tax liability Mr. Proctor should have reported on his return.

Regarding negligence, that means there must be a “failure to make a reasonable attempt to comply with the provisions of the internal revenue laws or to exercise ordinary and reasonable care in the preparation of a tax return.”  Negligence was not addressed based on the review of reasonable cause below.

For the IRS burden of production, they met their burden because the understatements were substantial and there was compliance with the supervisory approval requirements of section 6751(b).

Section 6664(c)(1) provides that no penalty shall be imposed under sections 6662 or 6663 regarding an underpayment if shown there was reasonable cause and the taxpayer acted in good faith regarding that underpayment.  Those are based on facts and circumstances, including “the experience, knowledge, and education of the taxpayer” (26 C.F.R. sec. 1.6664-4(b)(1)).  For experience, the judge states Mr. Proctor had no experience in keeping books or filing returns for a business.  For knowledge, he had little help in return preparation.  Mr. Proctor had modest education.

For determining reasonable cause, “the most important factor is the extent of the taxpayer’s effort to assess the taxpayer’s proper tax liability” (id).  Judge Gustafson holds that Mr. Proctor made a serious and good-faith effort to comply with his tax filing requirement and report his correct liability.

Judge Gustafson held that Mr. Proctor had reasonable cause and showed good faith so he was not liable for the accuracy-related penalty.

In my view, this was a fair decision for Mr. Proctor.  He received some relief regarding the accuracy-related penalty due to his situation, yet still owed the penalty due to his late filing.  He also had the tax due in his settlement with the IRS.  Sounds like the definition of a compromise to me.