Speidell v US is Latest Rebuke to Challenge to IRS Ability to Investigate Legal Marijuana Businesses

Section 280E disallows deductions for business activities concerning controlled substances which are illegal under federal law. State law increasingly allows the selling of marijuana for medicinal and recreational purposes. Federal law classifies marijuana as an illegal controlled substance. This tension between state and federal law means that taxpayers engaged in the legal selling of marijuana are unable to deduct expenses that would otherwise be deductible for federal income tax purposes. This leads to the bogarting of the ability to pay principle, and effectively penalizes taxpayers who operate legal state law marijuana businesses.

Over the last few years as part of civil tax audits IRS has investigated a number of dispensary taxpayers. At times IRS used its vast summons powers to gather information from third parties like financial institutions and state marijuana regulatory bodies. In many of these cases, the dispensaries and their individual owners have challenged those efforts, in part by arguing that the IRS could use the information to assist in the possible prosecution for violations of federal law. The courts, applying the Supreme Court’s Powell factors, have rejected challenges and found that IRS had a legitimate purpose in seeking the information from the businesses themselves and from third parties. The courts have generally held that was no abuse of process or bad faith because there was no evidence that the IRS was seeking the information to place the dispensaries and their owners in jeopardy of federal criminal investigations.

The latest case that upheld the IRS’s summons’ power over state law marijuana dispensaries is Speidell v US out of the Tenth Circuit, which has taken the lead on these cases given Colorado’s budding and booming marijuana business. The case breaks no new ground, but is a useful reminder that the IRS has broad latitude to use its summons power, and, despite the inequity in Section 280E, challenges to IRS audits of these businesses face an uphill struggle. 

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As a refresher, under Powell the IRS must establish (1) that the investigation will be conducted pursuant to a legitimate purpose, (2) that the inquiry may be relevant to the purpose,'(3) that the information sought is not already within the IRS’s possession, and (4) that the administrative steps required by the Internal Revenue Code have been followed.

As the Speidell opinion notes the district court held that (1) the IRS had a legitimate purpose in issuing the summonses because there was no pending criminal investigation (2) the information sought was not already in the IRS’s possession (3) the IRS followed the required administrative steps; and (4) there was no showing of an abuse of process or bad faith because the summonses had a valid purpose, did not violate the Fourth Amendment’s right to privacy or Colorado law. 

In Speidell, the circuit court addressed some wrinkles that distinguish the case from prior marijuana business challenges to IRS investigations. In rejecting the challenge the district court had treated the government’s response to the petitions to quash the summonses as a motion to dismiss; it should have treated the government’s efforts as a motion for summary judgment.  The Tenth Circuit held that the distinction made no substantive difference, nor did the lower court’s citation of the 1985 Tenth Circuit opinion Balanced Financial Management that referred to the burden in establishing the Powell factors as “slight.”  On appeal, the plaintiffs argued that the lower court and recent similar Tenth Circuit opinions in Standing Akimbo v US and High Desert v US failed to apply the Supreme Court’s 2014 decision in US v Clarke, which recalibrated the standards that parties must satisfy to challenge the Powell factors.  In failing to apply Clarke or treat the government’s actions as a summary judgment motion, the appellants argued that the lower court improperly sided with the government.

The Speidell court disagreed: 

The Appellants argue that the rules announced in our 1985 Balanced Financial Management decision, which rules impose a “slight” burden on the IRS and a “heavy” burden on the taxpayer, are incompatible with normal summary judgment standards and the Supreme Court’s 2014 ruling in Clarke. Although Standing Akimbo does not directly address this issue, the panel in that case was clearly aware of Clarke and continued to apply Balanced Financial Management principles. See Standing Akimbo, 955 F.3d at 1154–55, 1157, 1160–61, 1163, 1166 (citing both Clarke and Balanced Financial Management). High Desert embraces a similar analysis. See 917 F.3d at 1181–84, 1187, 1191, 1194 (same). In any event, we need not decide whether this point in Standing Akimbo and High Desert is dictum or a holding. As discussed below, even if we eschew descriptions like “slight” and “heavy” and apply traditional summary judgment standards, the Appellants simply have not submitted proof sufficient to create a genuine dispute of material fact. The Appellants thus fall short even if we assume arguendo that Balanced Financial Management has been displaced by Federal Rule of Civil Procedure 56 and Clarke

The opinion discusses further the relationship between its precedent and Clarke, noting that Clarke at its core emphasizes the need for credible evidence. Bare allegations of improper purpose under pre or post Clarke law are insufficient for evidentiary hearings at the summons enforcement stage. Even if there was some gap between the precise language in pre-Clarke Tenth Circuit law and the standard for all courts to apply following ClarkeSpeidell held that any tension between the two was “indirect” and Clarke did not overturn its precedent. 

Conclusion

There is more to the opinion, including an interesting discussion of the lower court’s treatment of one of the individual owner’s untimely petition to quash the summons, principles of sovereign immunity, and the relationship of the constitution’s Supremacy Clause to the legitimacy of the IRS investigation.  At one level, the opinion highlights the difficulties parties face when fighting IRS and its vast summons powers. At another level, however, the opinion flags the need for Congress to update the federal tax laws to reflect the growing importance of the legal marijuana business. Help for these businesses is unlikely to come in summons enforcement cases; it will come in legislation that carves out the 280E prohibitions from the sale of substances that are allowed under state law. A recent Politico article Why the Next Congress is Unlikely to Legalize Marijuana suggests that this may not be high on the agenda next year, with the Senate the main stumbling block. 

US v Sanmina: Attorney Client Privilege and Work Product Protections

US v Sanmina involves a long running discovery dispute. At issue is whether a taxpayer’s disclosing two memoranda created by in house tax counsel led to the waiver of various privilege claims. The Ninth Circuit held that Sanmina did not expressly waive work-product protection merely by providing the memos to outside counsel but it impliedly waived the privilege when it subsequently used the counsel report to support a worthless stock deduction that IRS was reviewing in audit. The important opinion highlights waiver in the context of both attorney client privilege and work-product protection. 

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Facts and Procedural Background

I have previously discussed the discovery dispute here and here. On its 2009 tax return, Sanmina had claimed about a half billion in a worthless stock deduction in one of its subsidiaries. The purportedly worthless subsidiary had two related party receivables with an approximate $113 million book value. Notwithstanding the healthy book value, Sanmina claimed that the FMV of the receivables was zero.

IRS examined Sanmina’s tax return and sent an information document request for documents that supported the deduction. Sanmina gave to IRS a valuation report from DLA Piper (DLA Report), its outside counsel. That report (not surprisingly) supported the taxpayer’s view that the receivables had no fair market value.

Included in the DLA Report was a footnote that referenced but did not describe internal memos that Sanmina’s in house tax counsel had prepared, one in 2006 and the other in 2009.

IRS asked for those two in house memos; Sanmina resisted, leading the IRS to summons them and bring an enforcement action when Sanmina did not comply.

In 2015, the district court held that both in house memos were protected by attorney client and work product privilege and that the “mere mention” of the memos in the DLA Report did not amount to the party’s waiving the privilege.

The government appealed, and in 2017 the 9th Circuit remanded the case “for the district court to review the 2006 and 2009 memos in camera to determine whether the documents requested by the government are privileged to any degree” and “retain[ed] jurisdiction over this appeal.” 

After some more procedural wrangling the 9th Circuit modified its remand, leaving the district court to decide (1) whether the memoranda are privileged in the first instance and (2) whether such privilege was waived. 

On remand the district court reviewed the documents in camera and in a more detailed discussion explained that the memoranda are protected by the attorney-client privilege and attorney work-product doctrine but also found that the privileges were “waived when Sanmina disclosed the memoranda to DLA Piper to obtain an opinion on value, then turned over the valuation report to the IRS.” 

Sanmina appealed that finding, and while both parties for purposes of the appeal agreed that the documents were covered by the attorney client privilege and work product protection they disagreed as to whether Sanmina’s disclosing either the in house memos to DLA Piper or the DLA Report to the IRS resulted in a waiver of either the attorney client privilege or work product doctrine.

Ninth Circuit Agrees With Lower Court on Existence of Privilege But Not on Work Product Waiver

With that by way of background, we can address the main takeaways from the most recent opinion. A starting point to the opinion is the 9th Circuit’s reminder that, because the parties agreed that the memos were subject to both attorney client privilege and work product protection, to order disclosure the court had to find that there was waiver of both privileges. 

The Court Finds that There Was a Waiver of the Attorney Client Privilege When Sanmina Gave the Memos to DLA Piper

This is a key part of the opinion. In reaching its conclusion that there was a waiver, the opinion notes that there are several ways to waive the attorney client privilege, including by express and implied waiver. An express waiver occurs when a party voluntarily discloses documents to third parties. 

Even in the absence of an express waiver, a court can find an implied waiver when a party puts the lawyer’s performance at issue during the course of litigation. As the opinion notes, implied waiver rests on a fairness principle, which

is often expressed in terms of preventing a party from using the privilege as both a shield and a sword. . . . In practical terms, this means that parties in litigation may not abuse the privilege by asserting claims the opposing party cannot adequately dispute unless it has access to the privileged materials. 

Closely related to implied waiver is subject matter waiver, where “voluntary disclosure of the content of a privileged attorney communication constitutes waiver of the privilege as to all other such communications on the same subject.” 

The district court had found that Sanmina’s providing the two in-house memos to DLA Piper amounted to an express waiver, based on its finding that Sanmina had sought non legal advice from DLA as to the valuation of the stock rather than legal advice.  

Whether a party engaging tax counsel is seeking legal advice or non legal advice comes up in a variety of contexts. Even assuming one can cleanly draw a line where tax advice crosses to legal advice, an engagement such as the one with DLA Piper often spans multiple purposes, especially when the tax position is intertwined with valuation issues. The 9th Circuit addressed the subtleties of that inquiry, and noted that courts both within and outside the circuit have approached a “dual-purpose” inquiry differently, with some courts looking to see if the primary purpose of the relationship was for legal advice and others having “transported the ‘because of’ test from the work-product context, and looked to “the totality of the circumstances” to determine “the extent to which the communication solicits or provides legal advice or functions to facilitate the solicitation or provision of legal advice.” 

After acknowledging that there was no decided path in the Ninth Circuit to resolve the issue, the opinion was able to sidestep it, essentially concluding that it could find no clear error with the lower court’s finding that Sanmina’s engagement with DLA had a non legal purpose:

Despite some evidence that Sanmina may have had a “dual purpose” for sharing the Attorney Memos to DLA Piper, the district court’s finding that Sanmina’s purpose was to obtain a non-legal valuation analysis from DLA Piper, rather than legal advice, was not clearly erroneous because it was not “illogical, implausible, or without support in the record.” 

Waiver for Attorney Client Privilege Differs From Waiver of Work Product Protection

After deciding that there was an express waiver for attorney-client privilege purposes, the opinion disagrees with the lower court’s approach that had essentially analyzed waiver with respect to attorney-client privilege and work product in the same way. As the opinion notes, because there was no dispute that the in house memos were both attorney-client communications and protected attorney work product, to order disclosure the court had to find that Sanmina waived both privileges. 

That allowed the panel to discuss how express waiver differs in the context of attorney work-product, with the circumstances warranting an express waiver in the work product context more narrow. The key is that unlike in attorney client privilege waiver analysis, in work product cases it is not sufficient to disclose to a third party; that third party must also be an adversary. The Sanmina opinion explored the distinction: 

[T]he overwhelming majority of our sister circuits have espoused or acknowledged the general principle that the voluntary disclosure of work product waives the protection only when such disclosure is made to an adversary or is otherwise inconsistent with the purpose of work-product doctrine—to protect the adversarial process. 

In framing the issue the court looks to United States v. Deloitte LLP, 610 F.3d 129, 140 (D.C. Cir. 2010): 

Addressing whether Deloitte was a “potential adversary” to Dow, the D.C. Circuit framed the relevant question as “not whether Deloitte could be Dow’s adversary in any conceivable future litigation, but whether Deloitte could be Dow’s adversary in the sort of litigation the [work-product documents] address.” Id. at 140. In concluding “that the answer must be no,” the court noted that, in preparing the work product, “Dow anticipated a dispute with the IRS, not a dispute with Deloitte,” and the work product concerned tax implications that “would not likely be relevant in any dispute Dow might have with Deloitte.” Id

While it was easy for the Sanmina opinion to conclude that DLA Piper was not an adversary (after all it engaged DLA to help with its tax reporting), the opinion notes that courts have expanded the inquiry to see if the work product could be considered disclosed because the actions substantially increased the chances that an adversary would obtain the documents.

The opinion helpfully situates this latter inquiry as part of a “conduit” analysis. In other words, a party cannot avoid a finding that there was an express waiver of the attorney work product doctrine if it was reasonable to expect that the third party would not keep the documents confidential and disclosure to the third party increased the odds that an adversary would get access to the documents. Leaning on the DC Circuit, the court frames the conduit inquiry as follows:

As to the “conduit to an adversary” analysis, the D.C. Circuit noted that its prior applications of the “maintenance of secrecy” standard have generally involved “two discrete inquiries in assessing whether disclosure constitutes waiver.” The first inquiry is “whether the disclosing party has engaged in self-interested selective disclosure by revealing its work product to some adversaries but not to others.If so, “[s]uch conduct militates in favor of waiver” based on fairness concerns. The second inquiry is “whether the disclosing party had a reasonable basis for believing that the recipient would keep the disclosed material confidential.” 

The government argued that DLA should be viewed as a conduit because the DLA Report “was intended for disclosure to interested tax authorities” and any “expectation of confidentiality was therefore absent.”  

In the Ninth Circuit’s view the government take on the conduit analysis was lacking because it failed to focus on the underlying in house counsel documents: 

The relevant inquiry, however, is not whether Sanmina expected confidentiality over the DLA Piper Report. It is whether Sanmina “had a reasonable basis for believing that [DLA Piper] would keep the [Attorney Memos] confidential” In the process of producing its valuation analysis. Deloitte, 610 F.3d at 141. That Sanmina shared the Attorney Memos with DLA Piper to obtain a valuation report for the IRS does not necessarily mean that Sanmina knew or should have known that the resulting DLA Piper Report would disclose or make reference to its attorney work product. If anything, Sanmina’s enlistment of DLA Piper’s assistance in anticipation of litigation with the IRS indicates a “common litigation interest” between Sanmina and DLA Piper insofar as the Attorney Memos are concerned. 

What About the Disclosure of the DLA Report to the IRS?

The above discussion focuses on Sanmina’s possible waiver arising from its providing the in house memos to DLA Piper. A separate issue is whether Sanmina’s turning over the DLA Report to the IRS itself constituted a waiver of the work product protection. This issue turns on whether the DLA Report, which identifies and cites to the existence of the memos in a footnote but does not describe their contents, is enough to conclude that there is waiver of work product protection over the identified documents. 

The opinion notes that the position that disclosure requires some elaboration on the content of documents is both intuitive and supported by case law. Yet that was not enough for the court to conclude that there was no waiver. To fully analyze the issue, the opinion draws on the differences between express and implied waivers:

As we have recognized in the attorney-client privilege context, there is a difference between express and implied waivers. This framework is also applicable in the context of work-product protection, where an express waiver generally occurs by disclosure to an adversary, while an implied waiver occurs by disclosure or conduct that is inconsistent with the maintenance of secrecy against an adversary. 

Drilling down deeper into the issue, the court sets out the relevant task for the court: 

Thus, the focal point of our waiver inquiry is whether, under the totality of the circumstances, Sanmina acted in such a way that is inconsistent with the maintenance of secrecy against its adversary in regard to the Attorney Memos. More broadly, we must ask whether and to what extent fairness mandates the disclosure of the Attorney Memos in this case.

The key consideration is the relationship between the party seeking to maintain the confidentiality and the overall adversary process. On this last point the opinion highlights that Sanmina could have chosen to substantiate its worthless stock deductions with documents or evidence that did not reference the attorney memos, but it chose to reveal their existence when it gave the IRS the DLA Report:

Assuming that Sanmina reasonably expected confidentiality over the Attorney Memos when sharing them with DLA Piper, this expectation became far less reasonable once Sanmina decided to disclose to the IRS a valuation report that explicitly cited the memoranda as a basis for its conclusions. In doing so, Sanmina increased the possibility that the IRS, its adversary in this matter, might obtain its protected work product, and thereby engaged in conduct inconsistent with the purposes of the privilege.

After finding that the actions amounted to waiver, the court then refined its analysis even further, noting that the next step is to focus on the scope of the waiver “which must be ‘closely tailored . . . to the needs of the opposing party’ and limited to what is necessary to rectify any unfair advantage gained by Sanmina from its conduct.” 

That led the court to distinguish between differing parts of the in house counsel memos: 

Based on Sanmina’s overall conduct, Sanmina has implicitly waived protection over any factual or non-opinion work product in the Attorney Memos that serve as foundational material for the DLA Piper Report. However, the IRS provides no reason why the scope of this implied waiver should encompass the opinion work product contained in the Attorney Memos. Besides its general argument the Attorney Memos are needed to understand the DLA Piper Report, the IRS does not explain why the “mental impressions, conclusions, opinions or legal theories” of Sanmina’s in-house attorneys are specifically at issue or critical to its assessment of the deduction’s legal validity. Hickman v. Taylor, 329 U.S. 495, 508 (1947). 

As such, the court held that the IRS was not entitled to parts of the in house memos that contained the internal lawyers’ discussion of the legal issue, as that “may potentially undermine the adversary process by allowing the IRS the opportunity to litigate ‘on wits borrowed from the adversary’ in a future legal dispute with Sanmina. Hickman, 329 U.S. at 516 (Jackson, J., concurring). 

Conclusion

The opinion closes by ordering disclosure of the factual portion of the lawyers’ memos, all to be accomplished by a remand that will require the district court to determine which portions of the memos involve factual work product.  Sanmina will still be able to keep from the IRS its lawyers’ mental impressions, opinions, and legal theories.  As Jack Townsend has discussed in a recent blog post, the opinion highlights the difference between factual and opinion work product, and it remains difficult to force disclosure of true legal analysis. The devil, however, is in the details, and the district court will have to carefully distinguish between fact and legal analysis. Perhaps that too will lead to more litigation—all of course as predicate to a possible challenge to the merits of the deduction. 

Clients’ Identities and the IRS Summons Power

The recent Fifth Circuit case of Taylor Lohmeyer v U.S. explores the limits of the attorney-client privilege in the context of the IRS using its John Doe summons powers seeking the identity of a law firm’s clients the firm represented with respect to offshore transactions. The case provides a useful opportunity to explore the general rule that the attorney client privilege does not extend to client identity and fee arrangements, as well as a limited exception that would allow the privilege to exist when disclosure of the client identity would effectively disclose the nature of the client communication. 

In this post, I will summarize the circuit court opinion, as well as highlight briefs addressing the law firm’s request for a rehearing en banc.

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Taylor Lohmeyer involves the IRS’s serving a John Doe summons on the law firm seeking the identity of “John Does”, who were U.S. taxpayers

who, at any time during the years ended December 31, 1995[,] through December 31, 2017, used the services of [the Firm] … to acquire, establish, maintain, operate, or control (1) any foreign financial account or other asset; (2) any foreign corporation, company, trust, foundation or other legal entity; or (3) any foreign or domestic financial account or other asset in the name of such foreign entity.

According to a declaration by an IRS revenue agent, the IRS sought the information because it was familiar with a taxpayer who used the firm’s services in an effort to avoid US income tax:

[The prior IRS] investigation “revealed that Taxpayer-1 hired [the Firm] for tax planning, which [the Firm] accomplished by (1) establishing foreign accounts and entities, and (2) executing subsequent transactions relating to said foreign accounts and entities”. Additionally, “[f]rom 1995 to 2009, Taxpayer-1 engaged [the Firm] to form 8 offshore entities in the Isle of Man and in the British Virgin Islands” and “established at least 5 offshore accounts so [Taxpayer-1] could assign income to them and, thus, avoid U.S. income tax on the earnings”. “In June 2017, [however,] Taxpayer-1 and his wife executed a closing agreement with the IRS in which they admitted that Taxpayer-1 … earned unreported income of over $5 million for the 1996 through 2000 tax years, resulting in an unpaid income tax liability of over $2 [m]illion.”

In seeking to quash the summons, the law firm argued that the identity of its clients was protected by the attorney client privilege because the identifying information itself was tantamount to disclosing confidential client communication.

In finding that the exception did not apply and rejecting the law firm’s petition to quash, the Fifth Circuit relied on general precedent that explored the exception in cases that did not involve the IRS, as well as the few cases exploring the exception in the context of IRS investigations. The Fifth Circuit framed the discussion by noting that the few cases that have allowed shielding clients’ identity do so by not expanding the reach of the attorney-client privilege; the cases emphasize that the exception is a subset of the privilege itself. As such a client’s identity is shielded “only where revelation of such information would disclose other privileged communications such as the confidential motive for retention”. Citing In re Grand Jury Subpoena for Attorney Representing Criminal Defendant Reyes-Requena, 913 F.2d 1118, 1124 (5th Cir. 1990), the opinion emphasized that:

the privilege “protect[s] the client’s identity and fee arrangements in such circumstances not because they might be incriminating but because they are connected inextricably with a privileged communication—the confidential purpose for which [the client] sought legal advice”. Reyes-Requena II, 926 F.2d at 1431 (emphasis added).

The firm argued that the IRS’s request for client identities was “connected inextricably” with the purpose for which its clients sought advice. In rejecting that argument, the opinion explored the Third Circuit case of United States v. Liebman, 742 F.2d 807  (3d Cir. 1984). In Liebman, the Third Circuit sought the identity of a law firm’s clients.  The IRS had issued a John Doe summons to the firm seeking the identity all clients who paid fees over a three-year period in connection with the acquisition of certain tax shelters.

The Third Circuit held that the identity of the clients was protected by the attorney client privilege:

If appellants were required to identify their clients as requested, that identity, when combined with the substance of the communication as to deductibility that is already known, would provide all there is to know about a confidential communication between the taxpayer-client and the attorney. Disclosure of the identity of the client would breach the attorney-client privilege to which that communication is entitled

Liebman and Taylor Lohmeyer are facially similar. One key difference though was that the affidavit of the revenue agent in Liebman tipped the IRS’s hand and revealed that the IRS itself linked the identity of the clients with the specific legal advice that the firm itself gave to the clients:

The affidavit of the IRS agent supporting the request for the summons not only identifies the subject matter of the attorney-client communication, but also describes its substance. That is, the affidavit does more than identify the communications as relating to the deductibility of legal fees paid to Liebman & Flaster in connection with the acquisition of a real estate partnership interest, App. at 116a-121a. It goes on to reveal the content of the communication, namely that “taxpayers … were advised by Liebman & Flaster that the fee was deductible for income tax purposes.” App. at 117a. Thus, this case falls within the situation where “so much of the actual communication had already been established, that to disclose the client’s name would disclose the essence of a confidential communication ….” See United States v. Jeffers, 532 F.2d 1101, 1115 (7th Cir. 1976) (and cases cited therein).

The Fifth Circuit in Taylor Lohmeyer highlighted this distinction. Unlike in Liebman, 

the “agent’s declaration did not state the Government knows the substance of the legal advice the Firm provided the Does. …Rather, it outlined evidence providing a “reasonable basis”, as required by 26 U.S.C. §7609(f), “for concluding that the clients of [the Firm] are of interest to the [IRS] because of the [Firm’s] services directed at concealing its clients’ beneficial ownership of offshore assets”. The 2018 declaration also made clear that “the IRS is pursuing an investigation to develop information about other unknown clients of [the Firm] who may have failed to comply with the internal revenue laws by availing themselves of similar services to those that [the Firm] provided to Taxpayer-1”. (Emphasis added.)

Following the adverse circuit court opinion, the Taylor Lohmeyer firm has filed a petition for an en banc rehearing. The American College of Tax Counsel Board of Regents submitted an amicus brief in support of the petition (disclosure: Keith and I are members of the ACTC but did not participate in the amicus filing). 

In submitting its petition, the Taylor Lohmeyer firm emphasized that the panel failed to explore fully circuit precedent, especially United States v. Jones, 517 F.2d 666 (5th Cir. 1975), which it believed supported the privilege applying even in the absence of a declaration that did not definitively tie the request to the firm’s substantive legal advice. The ACTC brief’s main substantive point emphasizes that the summons request should be thought of as covered by the exception flagged in Liebman because the summons is “premised upon the IRS’s purportedly knowing the motive of clients in engaging Taylor Lohmeyer.” (page 11). The ACTC brief states that “[b]ecause the summons at issue requires the Firm to provide documents that connect specific clients with specific advice provided by the Firm, compliance with the summons effectively requires testimony by the Firm regarding that advice.”

In essence both briefs minimize the importance of explicit substantive tax issue that the agent identified in his declaration in support of the summons in Liebman and ask the court to consider the context of the request in Taylor Lohmeyer, which in their view inexorably links the request to the substance of the advice. 

Some Concluding Thoughts

There is more to the briefs, including a detailed discussion of circuit precedent in the petition and the ACTC’s distinguishing of the Seventh Circuit’s United States v. BDO Seidmananother case the Fifth Circuit relied on, and a policy argument alleging that an undisturbed Taylor Lohmeyer opinion will “impose a discernible chill over the attorney-client relationship between taxpayers and tax counsel.” But the key part of the briefs is the point that courts should consider the overall context of the IRS request and not limit the privilege to circumstances when an agent says aloud in a declaration what was driving the request for the client identities.

My colleague Jack Townsend blogged this case when the Fifth Circuit issued its opinion this past spring, and we are discussing it in the next update to the Saltzman and Book treatise (Jack is a contributing author). As he noted in his blog, in Taylor Lohmeyer the IRS request for information “was not connected to ‘identified specific, substantive legal advice the IRS considered improper;’ rather, the request asked for documents of clients for whom the Firm established, maintained, operated or controlled certain foreign accounts, assets or entities, without limitation to any specific advice the Firm rendered, so that it was ‘less than clear . . . as to what motive, or other communication of [legal] advice, can be inferred from that information alone.’

The ACTC suggests that even without the agent’s declaration explicitly referring to the legal advice the law firm purportedly provided the request itself implicates the legal advice in such a way that the identity itself should be protected. This approach, if accepted, would extend the exception in tax cases in a way that other courts have not embraced, at least not in cases that solely focus on the tax consequences of the unknown clients. 

I Do Not Have What You Want: The Affirmative Defense of Non-possession In Summons Enforcement Proceedings

I am prepping to teach tax procedure in Villanova’s Graduate Tax Program.  Most of the students in our program are full time tax professionals, both accountants and lawyers. Few of the students in the GTP specialize in tax procedure, so I try to teach the course with an eye toward what practitioners may find useful. One topic that generates intense interest is the IRS’s broad power to seek access to a taxpayer’s books and records, including its power to issue an administrative summons to compel a taxpayer to turn over records or documents. There have been lots of interesting developments in the summons world in the last few years. An area that generates lots of litigation, and occupies a large chunk of the material in the summons chapter in the Saltzman and Book IRS Practice and Procedure, is the various affirmative defenses that can be raised when fighting an IRS enforcement proceeding in district court.

A defense that has occasionally succeeded is that the summoned party claims and establishes that they do not have what the IRS is seeking. After IRS establishes a prima facie case that a court should order enforcement, a summoned party can establish non-possession of documents as an affirmative defense.  I previously wrote about this issue, and discussed the difficulty in proving non-possession in Summons Enforcement For Undisclosed Offshore Accounts: The I Don’t Have Em Defense Is Not an Easy One to Win.  The recent case of United States v Santoso  in a federal district court in Maryland is a nice example of a successful non-possession defense.

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In Santoso, the US was seeking three categories of documents: (1) ownership of entities and structures, (2) non-taxable sources of income, and (3) professionals that Santoso had engaged. After the IRS initially established a prima facie showing that the petition should be enforced, and a determination that Santoso had submitted sufficient evidence of non-possession to warrant a hearing, the court had an evidentiary hearing to allow for the possibility that she could meet the burden of proving that she did not have what the IRS sought.

The caselaw in this area establishes that to succeed in using this affirmative defense the party must demonstrate not only that she does not possess the documents, but also that she has taken reasonable steps to obtain them if they are within her control. Moreover, conclusory statements or self-serving testimony alone is not going to get over the hurdle. 

In finding that Santoso met her burden and established non-possession the opinion notes the following:

  1. She submitted two sworn statements and testified under oath about both her non-possession and efforts to track down what the IRS wanted; 
  2. She established that she obtained bank statements, hospital bills and tuition records, as well as reviewed emails that spanned a decade, as part of her effort to find responsive documents; 
  3. She authorized her attorney Andrew Feldman to contact people and entities who potentially had documents that might be responsive;
  4.  She provided testimony and documentary evidence establishing Feldman’s efforts, all of which resulted in no further documents, especially with respect to the taxpayer’s late mother and her estate documents.

 The latter two points seemed to matter a great deal in this case, as the opinion discusses in some detail the correspondence between Santoso’s attorney and the third parties. The correspondence between the attorneys and third parties, some of which was met by responses stating that the parties did not want to get involved or did not have information that was requested, showed to the judge a good faith effort to comply with the summons.  

The government argued that she could have done more to conduct a diligent search and that there were likely other records that related to transfers that the IRS believed that she received from her mother’s estate that were in her constructive control. As to the latter point, the court noted that she testified that she did not inherit anything from her mother’s estate, which suggested that she had no right to compel production of documents pertaining to the estate. In concluding that her search and efforts were diligent enough, the court noted that while the efforts were unsuccessful, it appeared to the judge that she was “sincere” in trying to obtain information the government sought:

While there may always be additional steps that could be taken, the actions taken by Santoso and her attorney, as described above, can hardly be considered inaction. Moreover, although there is a relative dearth of authority regarding what a taxpayer must do to show that she has taken “all reasonable steps” to identify and obtain documents, what has been established is that she must make more than a pro forma demand and cursory search for records….The actions taken by Santoso and Feldman are certainly more than that.

Conclusion

It is not easy to establish non-possession as an affirmative defense. It is helpful when one can demonstrate a significant amount of time and money spent trying to get what the IRS is seeking. This case should be in the practitioner’s toolkit.

Ninth Circuit Rejects IRS’s Approach to Notifying Taxpayers of Third Party Contacts

Under Section 7602(c)(1), IRS must provide the taxpayer with “reasonable notice in advance” before it contacts financial institutions, employers or other third parties. The IRS has argued that Publication 1, its Your Rights as a Taxpayer publication, suffices for these purposes. There had not been a published circuit court opinion on the issue until last week’s Ninth Circuit opinion in JB v United States. While the JB opinion is careful to note that its holding is context specific, it holds that Publication 1 did not constitute reasonable advance notice in the case at issue. The opinion also questions whether Publication 1 could constitute reasonable notice in any context.

I will summarize the facts and the court’s approach, and also suggest why this opinion has broad implications.

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The taxpayers JB and PB are an elderly couple; JB is an attorney who as state-appointed counsel represented capital defendants in California. In 2013, they were lucky enough to be selected for a National Research Project (NRP) IRS audit for the 2011 tax year. The NRP audits are extensive line by line reviews of all items on a tax return. The letter that notified the taxpayers that they were selected for audit described the NRP audit process and asked the taxpayers to contact a revenue agent. The packet also included Publication 1.

The taxpayers requested to be excused from the NRP audit due to JB’s age and poor health. In particular they passed on declarations from a doctor that the audit would “worsen his hypertension and contribute to hypertensive retinopathy, a deteriorating eye condition, as well as his serious hearing loss.” (I am no doctor and am not sure how hearing loss connects to the audit but that is not really relevant for this opinion).

IRS refused and the taxpayers filed suit to stop the audit. In the meantime the NRP audit went forward and two years later in 2015 the IRS issued a summons to the California Supreme Court seeking “copies of billing statements, invoices, or other documents . . . that resulted in payment to” J.B. In seeking that information, IRS did not separately notify the taxpayers about its contacting the court.

JB and PB filed a suit in district court to quash the summons arguing that IRS failed to give them reasonable advance notice. The government essentially argued that IRS did comply with its notice requirements, pointing to the Publication 1 that IRS had sent to the taxpayers two years before when it notified them of the NRP audit. That publication included the following:

Potential Third Party Contacts

Generally, the IRS will deal directly with you or your duly authorized representative. However, we sometimes talk with other persons if we need information that you have been unable to provide, or to verify information we have received. If we do contact other persons, such as a neighbor, bank, employer, or employees, we will generally need to tell them limited information, such as your name. The law prohibits us from disclosing any more information than is necessary to obtain or verify the information we are seeking. Our need to contact other persons may continue as long as there is activity in your case. If we do contact other persons, you have a right to request a list of those contacted. Your request can be made by telephone, in writing, or during a personal interview.

The district court held that the IRS’s sending Publication 1 did not adequately give notice and concluded that “the advance notice procedure cannot be satisfied by the transmission of a publication about the audit process generally.”  As the Ninth Circuit summarized, the district court “instructed that ‘advance notice should be specific to a particular third party,’ reasoning that ‘the implementing regulations contemplate notice for each contact, not a generic publication’s reference that the IRS may talk to third parties throughout the course of an investigation.’”

The Ninth Circuit affirmed the lower court but ostensibly charted a more nuanced course. In so doing, it explored case law rooted in procedural due process jurisprudence that considers what constitutes notice; that law generally requires a context-specific inquiry that is inconsistent with the IRS position in this case:

We reject a categorical approach to this question. We conclude that “reasonable notice in advance” means notice reasonably calculated, under all the relevant circumstances, to apprise interested parties of the possibility that the IRS may contact third parties, and that affords interested parties a meaningful opportunity to resolve issues and volunteer information before third-party contacts are made.

The opinion then goes on to explain why in this case Publication 1 was insufficient:

In this case, the sole notice that the government provided J.B. and P.B. that it might contact the California Supreme Court is Publication 1. The IRS sent J.B. and P.B. Publication 1 as part of its initial, introductory letter to the couple explaining that they had been selected for an audit; an audit the couple sought to stop. The Publication did not accompany a specific request for documents, nor is there any evidence that the IRS revisited the notice later in the audit when it knew that J.B. and P.B. had requested an exemption from the research audit and had not provided documents for the audit. More than two years elapsed between when the IRS sent Publication 1 to J.B. and P.B., and when the IRS subpoenaed the billing records and invoices from the California Supreme Court. We do not think that an agency that actually desired to inform a taxpayer of an impending third-party contact would consider Publication 1 adequate notice in these circumstances.

In rejecting the IRS position the court staked out a position that requires the IRS to deliberate and weigh the government’s interest with the individual’s privacy interests, including whether the taxpayer has a reasonable opportunity to give the information the IRS wants so as to avoid the potential embarrassment and loss of privacy that accompanies third-party notifications.

In the context of this case it was easy for the court to conclude that the IRS came up short:

  • This was an NPR audit that is intended to assist the government with its understanding of the tax gap,
  • There was a two-year delay between the audit notice and the summons,
  • The information requested from the court might include privileged information relating to the taxpayer’s legal work representing capital defendants, and
  • The taxpayers and IRS had extensive contact that could have been a vehicle for additional notice by virtue of the lawsuit that the taxpayers brought to stop the audit.

This opinion has implications that go to heart of the IRS’s approach to all third party contacts. Buried in footnote 15 is the following:

Although we limit our holding to the facts of this case, we are doubtful that Publication 1 alone will ever suffice to provide reasonable notice in advance to the taxpayer, as the statute requires. We think it unlikely that the broad and colloquial language in the “Third-Party Contacts” paragraph of Publication 1, which states that the IRS may “sometimes talk with other persons,” gives the taxpayer reasonable advance notice that the IRS intends to subpoena, under threat of penalty, third-party documents.

Thus, the Ninth Circuit strongly suggests that the IRS revisit its approach to third party contacts on a systemic basis. In setting out its views the Ninth Circuit was mindful that this might add significant time and expense, but in its view this is an issue for Congress, not the courts:

We understand that one result of adopting a context- specific rule may be to make it more difficult for IRS officers, and district courts, to determine whether § 7602(c)(1)’s advance notice requirement is satisfied in any given case. But, to the extent such an administrability problem develops, the responsibility lies with Congress, not the courts. We cannot ignore the text of a statute that hinges the adequacy of notice on a determination of reasonableness. Nor can we ignore the congressional mandate to provide taxpayers faced with a potential third-party summons with a meaningful opportunity to respond with the relevant information themselves so as to maintain their privacy and avoid the potential embarrassment of IRS contact with third parties, such as their employers.

The upshot was the Ninth Circuit affirmed the quashing of the summons. The opinion will likely prompt changes to IRS practice, at least in Alaska, California, Hawaii and Arizona, and perhaps an effort to get Congress to revisit the issue.

Eleventh Circuit Upholds Enforcement of Summons Relating to Law Firm and Its Clients (And Sweeps in the 1980 Miracle on Ice)

The Eleventh Circuit opinion in Presley v US ostensibly is about how IRS can summons a bank for information relating to deposits from a law firm’s clients. The opinion starts with a recounting of the 1980 Winter Olympics, when the US Olympic hockey team, against heavy odds, beat the Soviets.  Drilling into the details, the opinion includes the average age of the US team (22), links to the E.M. Swift’s Sports Illustrated article on the win, references the 2004 Disney movie Miracle, and how one of the players (Jack O’Callahan), was so moved by Coach Herb Brooks’ pregame speech that he could recount it decades later.

What is the connection between the power of the IRS to gather information from third parties and the Miracle on Ice?

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Writing for a unanimous panel, Judge Rosenbaum contrasts the uphill battle that the US hockey team faced from the battle that the plaintiffs faced:

But forget about tough odds the U.S. hockey team faced, Plaintiffs face-off with something even more formidable…

According to the opinion, more formidable than the Soviet team is the considerable power that the IRS has to get information via its summons powers. The opinion nicely summarizes the statutory framework and Supreme Court guidance that stack the deck heavily in favor of the IRS.

The facts are straightforward. The plaintiffs are a lawyer and his law firm, and they sought court protection to avoid their bank’s compliance with summonses the IRS issued in connection with an exam of Presley’s individual income tax liability.

As the opinion discusses the IRS summonses sought records “pertaining to any and all accounts over which [each Plaintiff] has signature authority,” including bank statements, loan proceeds, deposit slips, records of purchase, sources for all deposited items, and copies of all checks drawn.

Presley objected to the bank’s turning over information related to their clients’ trust and escrow accounts, arguing essentially that his clients’ Fourth Amendment expectation of privacy would be violated if the IRS obtained the information about the clients’ financial transactions with the law firm.

The opinion starts by describing that there is some uncertainty whether the law firm, rather than the clients, can make the Fourth Amendment argument. After all, it is the clients whose privacy interests are at stake. This is akin to a standing dispute; i.e., does the law firm have standing to make the case that its clients’ privacy interests may be violated?

The opinion is able to sidestep that issue, noting that unlike traditional Article III standing disputes, Fourth Amendment standing is not jurisdictional, meaning that the opinion can effectively decide the matter on the merits without weighing in on whether technically Presley can in fact make the argument.

Getting to the merits, Presley argued that in light of the clients’ privacy interests in the financial information the IRS must show probable cause to enforce the summons. The court disagreed, noting that probable cause would only be required if the clients had a reasonable expectation of privacy in the financial records.  The opinion says that there is no such expectation, referring to what is known as the third-party doctrine and citing to the 1976 Supreme Court case US v Miller (also involving an IRS summons and a bank):

[A] party lacks a reasonable expectation of privacy under the Fourth Amendment in information “revealed to a third party and conveyed by [that third party] to Government authorities, even if the information is revealed on the assumption that it will be used only for a limited purpose and the confidence placed in the third party will not be betrayed.”

Presley tried to distinguish Miller, because unlike in that case, there was an intermediary between the clients and the bank, i.e., the clients transferred money to the law firm, which then made deposits on behalf of the clients. The court found that distinction insignificant:

Nor does it matter that Plaintiffs’ clients gave their records to Plaintiffs rather than directly to the bank. Plaintiffs conveyed their records, such as checks for deposit in Presley Law’s escrow or trust accounts, knowing that the firm would, in turn, deposit these items with the Bank. So if Plaintiffs cannot escape Miller directly, Plaintiffs’ clients cannot avoid its application indirectly. In short, Miller precludes us from holding that Plaintiffs’ clients have a reasonable expectation of privacy in the summoned records.

There were two other issues of note in the opinion. Presley also argued that even if there was no Fourth Amendment requirement that the government show probable cause to ensure enforcement, the Florida constitution had a heightened privacy protection for these circumstances. The Eleventh Circuit declined to consider the impact of the Florida constitution on the reach of IRS summons powers, noting that state laws that “conflict with federal laws by impeding the ‘full purposes’ of Congress must give way as preempted,” a doctrine known as the Supremacy Clause. That has come up before in tax cases, as courts have enforced IRS summonses despite, for example, state law doctor-patient privileges.

Once dispelling with the argument that the IRS had to establish heightened probable cause to justify the summonses, the opinion rested on a traditional application of the Powell factors, which in effect is a proxy for the Fourth Amendment protection that an IRS search met the lesser standard that it not be unreasonable. Noting that Presley did not claim a conflict with Powell, and that there was no claim that the IRS was using the summons power as a subterfuge to investigate the clients or violate attorney-client privilege, the opinion found “no reason to discern why the summons should not be enforced.”

As a final argument, Presley argued that the district court failed to comply with the so-called John Doe summons procedures under Section 7609(f). That requires the IRS to go to a district court in an ex parte hearing when it seeks information about unnamed third parties. We have discussed that a few times in PT, and I discuss it heavily in Chapter 13 of Saltzman and Book, including in the context of the IRS investigation of crypto currency users.

Here, while the IRS sought information that included information about unnamed third parties (the clients), the main targets were the law firm and Presley himself, who were named on the summons and who did receive notice of the IRS actions. Moreover, the plaintiffs in Presley conceded that their clients were not the subject of the IRS investigation, unlike in the Bitcoin dispute where IRS has been trying to gather information to allow it to determine whether Bitcoin customers were complying with federal tax laws.

For good measure, additional Supreme Court precedent, Tiffany v US, allows the IRS to effectively issue dual purpose summonses that could also provide information about unnamed third parties, provided that the IRS complies with the notice provisions under Section 7609(a)—which it did here.

Taken together, the defenses that the government mustered were more formidable than Vladislav Tretiak, and the bank will have no choice but to comply with the summons and I doubt there will be a Disney movie about this story.

Summonsing Records for the French Taxing Authority

A couple years ago, I wrote a post about the efforts of the IRS to assist the Danish tax agency to collect from a taxpayer in the United States. That case involved a levy on the taxpayer’s assets. Recently, another one of the five countries that have collection treaties with the IRS had an opinion issued based on the efforts of the IRS to assist it in collecting taxes due to France. In the case of Hanse v. United States, No. 1:17-cv-04573 (N.D. Ill. March 5, 2018), the court analyzes the treaty provisions in the context of a summons enforcement case. The application of the summons laws in this case results in an order that the information sought be provided to the IRS/France.

I wrote a post almost four years ago on the failure of tax administration to negotiate collection provisions into every tax treaty and not just have it in five treaties that happen to have been written at a time when someone thought this was a good idea. In a global economy, it still seems like a good idea. We have passed laws seeking to ensure that we know about the income of U.S. citizens around the world and leaned on other countries to cooperate in helping the IRS know of the income. To complement that effort, the IRS needs to have the treaty tools to collect when assets exist overseas and it cannot obtain personal jurisdiction over the taxpayer. The absence of collection language in our tax treaties makes it difficult, and at times impossible, for the IRS to collect from taxpayers who park their assets in the vast majority of countries since the IRS lacks a mechanism for reaching those assets.

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France is investigating the potential wealth tax and income tax liabilities of Mr. Hanse for the years 2013-15. The French tax authorities sent to the IRS an exchange of information request seeking information in connection with its investigation. France particularly wanted information about two transfers by Mr. Hanse totaling over 500,000 €. The request stated that Mr. Hanse was a French citizen and that the French tax authorities had exhausted the remedies domestically available for gathering the information. The IRS did not have the information requested. The U.S. competent authority determined that the request was proper under the treaty provisions. So, the IRS served a summons on the party to whom the funds were transferred, a third party in the US, and sent notice to the taxpayer at the address provided by the French authorities.

The taxpayer timely filed a petition to quash the summons raising three objections: 1) the IRS failed to comply with the administrative steps necessary for a valid summons under the IRC because it contacted third parties without providing advanced notice under IRC 7602(c)(1); 2) France could not obtain the information through its own laws so it should not use the treaty to accomplish what it could not do if this were an entirely domestic situation; and 3) the summonsed party is a law firm and some of the materials requested by the summons required protection from disclosure by the attorney client privilege.

The IRS moved to dismiss and attached to its motion affidavits from the competent authority and the revenue agent serving the summons. The court decided to treat this as a motion for summary judgment which is normal in most contexts, though not as normal in a summary proceeding such as a summons enforcement.

Before addressing the first argument, the court notes that the IRS must meet the four elements of the Powell test. We have discussed those elements before. A similar notice argument was addressed in a recent post written by Les. The court notes that the burden on the IRS with respect to the summons remains the same whether the summons involves a “normal” U.S. taxpayer or is done at the request of a treaty partner. Here, the court finds that the affidavits allow the IRS to meet its burden under the Powell test, which it acknowledges is not a heavy burden.

Good Faith of French Investigation

The taxpayer argues that French law would not allow the French authorities to obtain the information sought through the summons and, therefore, those authorities should not circumvent French law and obtain the information just because the U.S. laws do permit the gathering of the information. The court takes this as a challenge to the “legitimate purpose” element of the Powell test. This is where a treaty summons gets a little interesting. Looking at prior case law involving other treaty summonses issued on behalf of France, the court finds that to satisfy the Powell test it need not look at the good faith of the treaty partner but only at whether the IRS acted in good faith in issuing the summons. Since the taxpayer did not challenge whether the IRS issued the summons in good faith and the court saw no indication of bad faith, it finds that this challenge fails.

Compliance with IRC

Petitioner challenges the issuance of a summons to a third party where the IRS has not provided the taxpayer with a notice pursuant to IRC 7602(c)(1). We have written very little about IRC 7602(c), which is a provision that came into the code in the 1998 Restructuring and Reform Act. Les addressed it in an earlier post and notes at least one case that has held the taxpayer should receive specific notice of contact of third parties. Most issues involving this code section, which requires the IRS to notify taxpayers before it contacts thirds parties about them looking for information, concern the IRS position that Pub 1 generically informs them of the possibility that the IRS might do this (thus satisfying the statutory requirement) versus the need, in the view of some taxpayers, for the IRS to specifically tell them who it intends to contact.

Here, the IRS neither generically nor specifically informed the taxpayer of its intent to contact a third party by serving the summons. The taxpayer argues that this failure makes the summons unenforceable. The IRS argues that the protection of IRC 7602(c) does not extend to the taxpayer because it “does not include the liability for any tax imposed by any other jurisdiction.” 26 C.F.R. 301.7602-2(c)(3)(C). The court agrees with the IRS. This creates an interesting exception for taxpayers whose summons cases arise under treaty language

Attorney Client Privilege

I recently wrote on another summons case in which the taxpayer sought to keep the IRS from information based on the attorney-client privilege. The court here notes that a blanket assertion of attorney-client privilege does not work and that the taxpayer needs to assert the privilege on a document by document basis. Because the taxpayer did not support the privilege claim with “any facts from which the Court could find a privilege attaches to the documents that are requested in the summons” the court rejects his privilege argument.

Conclusion

Some aspects of the treaty summons differ from a “normal” summons in their application because of the interplay of the code with non-US taxpayers. Here, the summons gets enforced and presumably France gets the information it needs in order to move forward with its tax investigation. Only a handful of these cases have been reported, suggesting either that countries do not need to resort to the treaty very often in order to complete their investigations or that investigators do not use this tool as effectively as they might. As the global economy continues to push through borders, we should expect more of these cases and there could be many more if we negotiated different treaty language regarding collection.

 

 

 

Clash Between Claim of Attorney Client Privilege and Summons Power

In an unpublished opinion in United States v. Servin (No. 2-16-cv-05615), the Third Circuit upheld the enforcement of a summons against a Pennsylvania attorney. This case does not break new ground but serves as a reminder of the power of the IRS summons and the limitations of the attorney-client privilege. Mr. Servin did receive some relief from the summons so his efforts in contesting it were not entirely without success.

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Mr. Servin must owe a decent amount of taxes since his case is in the hands of a revenue officer. Today, taxpayers often must owe in excess of $100,000 to have their case handled by a revenue officer, although that amount can vary based on location and other factors. I have commented before that having a revenue officer assigned to your case is like getting concierge service because you have a knowledgeable individual to work with to resolve the issues rather than having to deal with the Automated Collection Site (ACS); however, my comment was somewhat tongue in cheek because having a revenue officer assigned to your case, particularly if you are not working to resolve the matter, can cause a taxpayer many problems as the knowledgeable revenue officer uses the powerful collection tools at the disposal of the IRS. Here, the taxpayer feels the effect of having his account assigned to a revenue officer rather than to ACS.

This case involves a collection summons which seeks to obtain from him information that would allow the IRS to collect the outstanding liability. Specifically, the revenue officer wants from him information about which clients owe him so that the revenue officer can send a levy to these individuals and businesses in order to collect the outstanding taxes Mr. Servin has not voluntarily paid. The summons requests Mr. Servin’s current client list, including names and addresses of all of the clients and a list of his cases that will be settling or have settled within a specified time period, including names and addresses of the parties to the case (who would also be persons the revenue officer would levy.) Undoubtedly, having levies served on all of your clients and opposing parties would not enhance Mr. Servin’s business. Preventing that from happening would protect his business and professional interest, in addition to client confidentiality which is why we have this summons case on which to report.

Mr. Servin does not contest that the IRS meets the general Powell standards for issuing the summons. The meet the Powell requirements, the government must show that the summons: (1) is issued for a legitimate purpose; (2) seeks information that may be relevant to that purpose; (3) seeks information that is not already within the IRS’s possession; and (4) satisfies all administrative steps required by the Internal Revenue Code. United States v. Powell, 379 U.S. 48, 57-58 (1964). He argues narrowly based upon the defense of attorney-client privilege. Unfortunately for Mr. Servin, the Third Circuit has pre-existing precedent on the issue of using the attorney-client privilege to protect client identities from summons enforcement in the case of United States v. Liebman, 742 F.2d 807 (3d Cir. 1984). The precedent does not favor the outcome he seeks. The Third Circuit precedent is similar to precedent that exists in other circuits.

The general rule does not permit an attorney to protect client names and addresses from summons enforcement based on attorney client privilege. The Third Circuit finds that Mr. Servin fails to identify any circumstances that would cause his case to fall out of the general rule and allow him to shield his client information. The Pennsylvania Rules of Professional Conduct do not prevent this disclosure despite his desire to use those rules and his citation to them.

He does win a partial victory because the court modifies the summons to eliminate the name of individuals that have not yet settled but will settle in the future. This victory reflects the concerns that the IRS limit its intrusion into client information of an attorney. The IRS does not often or lightly summons attorneys for client information. The revenue officer who wants to summons an attorney must persist in order to obtain permission to do so. Summonsing an attorney results in reviews by both Chief Counsel and Tax Division lawyers before the summons is allowed. IRM 5.17.6.14 & 15 discusses some of the special issues related to summonses issued to attorneys. The reason that the IRM requires much higher level of review of summonses issued to attorneys stems from the very matter at issue in this case. The IRS recognizes the sensitivity of client information and does not want to let revenue officers run loose in seeking this information. So, it wants a review before it seeks enforcement. The IRS also does not like to issue summonses that it does not enforce since doing so undermines the authority of its summonses. This causes it to require review of summonses in sensitive areas.

Here, the revenue officer seeks information that the attorney cannot protect. The summons victory may cause Mr. Servin to full pay the liability in order to avoid having levies issued to many of his clients. If so, the summons itself may serve as a very valuable collection tool. If it does not cause Mr. Servin to full pay the liability, his clients and many individuals in his community may be about to learn about their attorney’s tax compliance or tax dispute. It is possible that he could still contest the liability and prove that he does not owe. It’s hard, however, to unring the bell and explain to a host of people that he did not owe when they receive a levy seeking payment of the liability which is why this is a very sensitive matter even if the names are not protected by attorney-client privilege.

The discussion of the relationship between Pennsylvania’s Rules of Professional Conduct serves as an important reminder that those rules too have limits, especially when they run into a valid investigation of an attorney’s conduct. PA Rule of Professional Conduct 1.6 is broader than the attorney client privilege; it provides that “A lawyer shall not reveal information relating to representation of a client unless the client gives informed consent, except for disclosures that are impliedly authorized in order to carry out the representation.”

Servin claimed “in the absence of the client’s informed consent the lawyer must not reveal information relating to the representation – moreover a presumption exists against such disclosure.”

The opinion notes however that the Rules of Professional Conduct are not relevant in the court’s consideration of whether to enforce a summons; rather those rules relate to a state’s possible disciplinary proceedings against a lawyer. Comments to PA Rule 1.6 specifically provide that the scope of the rule is limited by substantive law, and numerous PA cases provide that the Professional Conduct Rules do not govern or affect the application of the attorney-client privilege.