What to Do After Receiving a Notice of Claim Disallowance

The National Taxpayer Advocate wrote a blog post last month highlighting a potential trap for the unwary who receive a notice of claim disallowance and think that they have worked out or are working out a resolution.  In oversized bolded letters, she stated:

If you are working with the IRS or the IRS Independent Office of Appeals (“Appeals”), do not make the mistake and assume that working toward a resolution equates to the IRS’s ability to pay a refund or allow a credit once the IRC § 6532 statute has expired.

The NTA made this statement because IRC 6514(a)(2) “prohibits the IRS from paying the refund or allowing the credit” if more than two years has passed from the notice of claim disallowance.  In order to preserve the right to obtain payment beyond the two-year period, the taxpayer must either file suit or ensure that they and an authorized IRS employee sign a Form 907, Agreement to Extend the Time to Bring Suit.

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The NTA felt it necessary to write the post highlighting this issue because of the significant and unusual delays the pandemic has caused.  Taxpayers might think they have worked something out with the IRS to resolve an issue after the notice of claim disallowance, but unless the IRS actually takes action within the two years to pay the refund or allow the credit, the taxpayer can lose out.  In the current climate, matters can take more than two years to resolve.

The advocate lays out the problem in stark terms as she describes the administrative process of contesting a claims disallowance letter:

Once the notice of claim disallowance is received, a taxpayer needs to send a protest to the issuing office contesting the disallowance. This assumes the taxpayer understands the notice and the requirements, as these notices are not always clear. (See the National Taxpayer Advocate 2014 Annual Report to Congress, Refund Disallowance Notices Do Not Provide Adequate Explanations.) With the delays in processing correspondence, these protests may sit for many, many months before being addressed. Once assigned, the IRS employee assigned to the case needs to obtain the administrative file, bundle it with the taxpayer’s protest, and send it to Appeals for consideration. Unfortunately, the backlog adds more delays to this process. Once a protest is assigned to Appeals, it still needs to be assigned to an Appeals Officer and worked, which could be an additional six to 12 months. If the issue involves whether the claim was timely, and the Appeals Officer concludes that it was, the case may be transferred back to Exam for a determination on the merits of the refund claim. If the IRS and the taxpayer do not agree on the merits, the taxpayer can file another protest with Appeals to contest the merits of the underlying claim and the process starts all over. It is not surprising that this process may take over two years to be resolved, exceeding the two-year period in which a refund could have been issued (or a credit allowed).

While the Form 907 extension exists to remove the pressure of the two-year time period in this circumstance, executing that form may not always solve the problem.  The blog also points out that representatives must ensure that their power of attorney designates the Form 907 as an act within their scope of representation.  Of course, the IRS must agree to the Form 907.  A taxpayer cannot unilaterally execute a binding extension agreement.  Look to IRM 8.7.7.3.3(1) to find the reasons that will cause the IRS to agree to extend the time.

The NTA also points out that sometimes no one at the IRS has the case under assignment.  In that situation the taxpayer will struggle to find someone at the IRS willing and authorized to sign Form 907.  For this reason, the NTA suggests starting the process of getting the Form 907 filed 4-6 months before the running of the two-year period. 

If a taxpayer cannot obtain the necessary signature as the two-year period approaches, filing a refund suit may provide the taxpayer’s only option.  The NTA states the IRS could extend the time period by exercising its authority under IRC 7508 as it has done for several pandemic-related matters; however, it has not done so for the two-year period for refund.

Be aware that filing a refund suit has slightly different timing rules than the filing of a petition in Tax Court.  The timely mailing is timely filing rule of IRC 7502 does not apply.  Carl discussed this in a post a few years ago.  A recent unpublished opinion of the Federal Circuit also addresses this issue.  In Weston v. United States, No. 22-1179 (Fed Cir. 2022), an unpublished opinion [appearing in Tax Notes Federal on April 14, 2022], the Fed. Circuit affirmed the dismissal of a pro se complaint for Lack of Jurisdiction for late filing under the 2-year rule of 6532(a).  No new law was made, and there was no way the taxpayer could have won her case under 6511, anyway.  The taxpayer filed joint 2012 and 2013 returns with her deceased husband in mid-2017 – more than 3 years late.  The returns showed overpayments.  The claims were timely under 6511(a) (filed on the same day as the returns), but would be limited to zero under 6511(b)(2)(A).  The IRS sent her notifications of claim disallowance on April 4, 2018 (for 2013) and April 11, 2018 (for 2012).  She mailed a complaint to the Court of Federal Claims on April 11, 2020, which arrived at the CFC and was filed on April 20, 2020.  Of course, the 2013 disallowance 2-year period ran before she mailed.  But, she argued for timely filing for the 2012 year because of timely mailing of the complaint.  She lost because 7502 applies to filings with the IRS and the Tax Court, but not with any other court. 

The NTA’s post provides a good reminder of yet another hurdle created by the pandemic.  Don’t let this hurdle prevent your client from obtaining a refund.

Momentum Possibly Building for IRS To Provide Online Filing Options For Taxpayers

IRS has not been in the business of directly providing taxpayers with the ability to e-file tax returns. Of course, taxpayers whose incomes are below a certain threshold can use the Free File program provided by IRS and Free File, Inc. (FFI), a consortium of tax preparation companies. 

We have discussed Free File, and its failings, many times before. In this post, I highlight some recent developments in this space, developments that I believe make the case for a robust and user-friendly government based online tax portal that will be free, secure, and make lives easier for taxpayers.

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GAO Report on Free File

Last month the GAO released its latest report on Free File, IRS Free File Program: IRS Should Develop Additional Options for Taxpayers to File for Free. The report  (1) describes demographic characteristics of Free File users; (2) evaluates IRS’s oversight of taxpayer experience provisions; and (3) identifies key challenges and alternative approaches that may exist for IRS to help taxpayers file online at no cost.

It paints a bleak picture of Free File, finding “that the vast majority of taxpayers eligible for the program used other filing methods, which they may have paid to use.” For tax year 2020, approximately 4.2 million or about 4 percent of eligible taxpayers used Free File.

GAO offers recommendations to improve Free File, which IRS agreed with. GAO also recommends that IRS “identify and develop additional options for free online filing by the time the current Free File agreement expires.” IRS did not agree with that recommendation.

Research Paper on Benefits of IRS Populated Tax Returns

A recent paper Automatic Tax Filing: Simulating a Pre-Populated Form 1040 by Lucas Goodman,  Katherine Lim,  Bruce Sacerdote & Andrew Whitten (Lucas and Andrew are at Treasury’s Office of Tax analysis) details just how beneficial the provision of prepopulated returns would be for taxpayers:

Our baseline results indicate that between 62 and 73 million returns (41 to 48 percent of all returns) could be accurately pre-populated using only current-year information returns and the prior-year return. Accuracy rates decline with income and are higher for taxpayers who have fewer dependents or are unmarried. We also examine 2019 non-filers, finding that pre-populated returns tentatively indicate $9.0 billion in refunds due to 12 million (22 percent) of them.

Dylan Mathews at Vox discusses the paper in his article Over 60 million Americans have taxes so simple the IRS could do them automatically.  In addition to saving current filers vast amounts of time and money, a true simple prepopulated return option would open the doors to the millions of nonfilers who miss out on benefits due to burdens that our current tax system fails to address:

Pre-populated returns could also help people who aren’t currently filing taxes. In the US, many people are not required to file an income tax return, usually because they earn too little money to trigger that requirement or because the money they do get is from a partially exempt source like Social Security. But those people often would benefit from filing a return because of benefits like the earned income and child tax credits. Those credits are refundable, meaning that you don’t have to have a positive income tax burden to receive them; the earned income tax credit (EITC) in particular is designed to mostly go to low-income people who don’t earn enough to owe income taxes.

As the Vox piece highlights, the paper notes that “7.2 million tax units who aren’t required to file are owed refunds, averaging some $411 each. Those units would be likelier to get their refunds under a pre-populated filing system.”

To be sure, as the Vox piece highlights, the paper discusses why a majority of taxpayers would not be able to exclusively rely on a pre-populated return. Schedule C filers, itemizers and others in a complex tax system such as ours would render a pre-populated system unable to satisfy all of the individualized filing responsibilities under our current system.  Yet such a system could help those taxpayers meet their responsibilities and would be a game changer for the millions whose returns could be accurately, and easily, done with information that the IRS already has at its disposal

CRS Study on History of Free File

If you want to know how we are in this mess, unlike citizens of many other countries, in The Internal Revenue Service’s Free File Program (FFP): Current Status and Policy Issues the Congressional Research Service details the history of how IRS decided decades ago that it should not be in the business of directly providing online filing options.  It discusses the two sources for FFI, RRA 98, which directed the IRS to get to 80% e-filed individual returns within ten years, and a 2001 OMB Task Force to implement President George W. Bush’s E- Government Initiative.

The CRS briefing discusses how IRS, in reaction to the OMB Task Force, unsuccessfully tried to develop a digitized version of Form 1040 that could be accessed through WhiteHouse.gov. A lack of resources led then Treasury Secretary Paul O’Neill to ask IRS Commissioner Charles Rossetti to partner with the private sector so lower-income taxpayers could e-file for free. That directly led to the government/private sector partnership, the Free File Alliance.

Further background on the origins and evolution of IRS’s involvement with Free File are in many of the NTA’s annual reports to Congress, including for example the discussion of the most serious problems from 2018 Annual Report, The IRS’s Free File Offerings Are Underutilized, and the IRS Has Failed to Set Standards for Improvement.

The back story as to why IRS failed to develop its own system is interesting.  A 2001 Washington Post article, IRS Told Its Efforts May Step on Toes Of Private Industry, discusses Republican efforts to ensure that the IRS did not offer a true government housed online filing portal.

Those 2001 efforts to jettison a true government housed online filing portal were championed by then Congressman Randy “Duke” Cunningham of California, whose district was home to Intuit. Representative Cunningham, who later pleaded guilty to conspiracy and tax fraud, was called by the San Diego Tribune in Corruption and lava lamps: The saga of Randy ‘Duke’ Cunningham as “not just the most corrupt member of Congress when he was convicted in 2005. He also was one of the more colorful Capitol Hill criminals — in a most sad and tawdry way.” (As the Tribune piece discusses, Trump pardoned Cunningham in one of his last acts as President).

Intuit Agrees to Pay $141 Million to Settle Charges Based on Deceiving Customers

Last week the New York Attorney General announced a 50 state agreement with Intuit for the company to pay $141 million to customers who paid for return filing services that they should have received for free as part of Free File.

The accompanying press release from the AG’s office discusses Intuit’s actions:

“Intuit cheated millions of low-income Americans out of free tax filing services they were entitled to,” said Attorney General James. “For years, Intuit misled the most vulnerable among us to make a profit. Today, every state in the nation is holding Intuit accountable for scamming millions of taxpayers, and we’re putting millions of dollars back into the pockets of impacted Americans.

The attention on Intuit’s unfair practices were detailed in a 2019 Justin Elliott and Paul Kiel Pro Publica series Inside TurboTax’s 20-Year Fight to Stop Americans From Filing Their Taxes for Free.

The NY Attorney General press release discussed the states’ findings, which were mostly initially detailed in the Pro Publica piece:

The OAG’s multistate investigation found that Intuit engaged in several deceptive and unfair trade practices that limited consumers’ participation in the IRS Free File Program. The company used confusingly similar names for both its IRS Free File product and its commercial “freemium” product. Intuit bid on paid search advertisements to direct consumers who were looking for the IRS Free File service to the TurboTax “freemium” product instead. Intuit also purposefully blocked its IRS Free File landing page from search engine results during the 2019 tax filing season, effectively shutting out eligible taxpayers from filing their taxes for free. Moreover, TurboTax’s website included a “Products and Pricing” page that stated it would “recommend the right tax solution,” but never displayed or recommended the IRS Free File program, even when consumers were ineligible for the “freemium” product.

Conclusion

Most can agree that the current system does not serve taxpayers well. There is disagreement as to whether the solution is likely to come from a different arrangement with the private sector (such as a government contract with software providers to offer services to taxpayers, as the NTA recommended in Legislative Recommendation Number 4 in the 2021 Purple Book) or a true government sourced online platform as Senator Warren has proposed in The Tax Filing Simplification Act. (To watch an interesting exchange from this past February between the Senator and NTA, see here).

For now, the system is broken, with millions of taxpayers wasting time and money filing returns that should be seamlessly uploaded and more readily processed with accurate information. The only winners in the current system are the private sector companies still phishing money from unsuspecting taxpayers and those who want to make tax filing as painful as possible to weaken trust in government and further erode support for the IRS.

Rare Discharge in Bankruptcy for Taxpayers with a Return Filed After an SFR Assessment

We welcome back guest blogger Ken Weil. Ken is one of the top national experts on the intersection of personal bankruptcy and taxation, and today we are fortunate to publish his analysis of an unusual loss for the government on the issue of dischargeability following a substitute for return assessment. Keith covered a previous case on the issue here. Christine

In Golden v. United States (In re Golden), Bankr. E.D. Cal. Adv. Proc. No. 21‑2012, Docket No. 60 (Golden), the taxpayer‑debtors Nicole Golden and Stephen Alter (the Taxpayers) argued successfully that their return was an honest and reasonable attempt to satisfy the requirements of the tax law.  The bankruptcy court discharged their tax obligation even though the Taxpayers had filed their return after the IRS initiated the substitute‑for‑return process, issued a notice of deficiency (NOD), and assessed tax based on the NOD.  This note calls that type of an assessment an “SFR assessment.”

As far as the author knows, Golden marked only the second time a court using a subjective‑test analysis discharged tax due on a return filed after an SFR assessment (and was not reversed on appeal).  Golden also extended the IRS’s streak of unsuccessfully arguing that the tax due on a document filed after an SFR assessment is per se nondischargeable.

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1. Applicable Law

In the First, Fifth, and Tenth Circuits, the rule is that tax due on a late‑filed return is always nondischargeable, even if the return were filed only one‑day late.  McCoy v. Miss. Tax Comm’n (In re McCoy), 666 F.3d 924 (5th Cir. 2012); Mallo v. IRS (In re Mallo), 774 F.3d 1313 (10th Cir. 2014); and Fahey v. Internal Revenue Service, 779 F.3d  1 (1st Cir. 2015).  The one‑day-late rule has been discussed extensively in Procedurally Taxing.  See K. Fogg, Debtors Still Trying to Fight Against One Day Rule (October 24, 2019), which cites prior discussions.  In shortened form, these three circuits reason that the language in 11 U.S.C. §_523(a)(*) requires that, for a document to be considered a valid return, it must satisfy all applicable nonbankruptcy law requirements, including applicable filing requirements and timely filing is an applicable filing requirement.  This note focuses on Golden and not the propriety of the one‑day‑late rule.

Outside of those three circuits, to determine whether a document filed late will be considered a valid return, the IRS and the other circuits follow the Beard test, which is a four‑part test.  Beard v. Comm’r, 82 T.C. 766, 775‑778 (1984), aff’d, 793 F.2d 139 (6th Cir. 1986).  The Ninth Circuit uses the Beard test.  Smith v. United States Internal Revenue Serv. (In re Smith), 828 F.3d 1094, 1096 (9th Cir. 2016), and United States v. Hatton (In re Hatton), 220 F.3d 1057, 1060-1061 (9th Cir. 2000).  As Golden arose within the Ninth Circuit, it will have no impact on those courts bound by the one‑day‑late rule.

Under the four‑part Beard test, for a late‑filed document to be considered a valid return

  • there must be sufficient data to calculate the tax liability;
  • the document must purport to be a return;
  • there must be an honest and reasonable attempt to satisfy the requirements of the tax law; and
  • the taxpayer must execute the return under penalty of perjury.

The most contentious part of the Beard test is whether the taxpayer made an honest and reasonable attempt to satisfy the requirements of the tax law.  That was the key question in Golden.

The Eighth Circuit stands alone in using an objective test to determine whether the taxpayer made an honest and reasonable attempt to satisfy the tax law.  Colsen v. United States (In re Colsen), 446 F.3d 836 (8th Cir. 2006).  Under the objective test, the inquiry into the validity of the document at issue is limited to the four corners of the document.  The IRS accepts that an objective test is used in the Eighth Circuit.  IRM 5.9.17.8.1(3) (12-09-2016).  The other “non-one-day‑late circuits” use a subjective test, and the Golden court used a subjective test.  Golden p.19 (“this court looks to the totality of circumstances”).

2. Factual Background

The tax year at issue in Golden was 2008.  The Taxpayers extended the return’s due date to October 15, 2009.

With the onset of the Great Recession in 2008, the Taxpayers experienced financial difficulties, including loss of a rental property through foreclosure.  In 2010, Golden took over operation of the jointly owned business from Alter.  Golden took an additional, unspecified amount of time to take over the tax responsibilities. 

The financial difficulties led to marital difficulties.  In February 2010, Golden separated from Alter.  At that time, the Taxpayers’ children were aged four and six.

On March 8, 2011, the Taxpayers filed their 2009 tax return.  On March 10, 2011, the Taxpayers’ accountant completed the 2008 return and the Taxpayers signed the return.  This was approximately 15 months after the extended due date for the 2008 return.  Thereafter, the Taxpayers held off filing the 2008 return in hopes of putting together the money to pay off the taxes and to understand the IRS’s position better.

On March 14, 2011, the IRS issued its NOD for 2008.  The NOD asserted a deficiency of $276,506.  The document signed by the Taxpayers asserted a liability of approximately $23,000.  The difference in the two amounts appears to have been primarily expenses incurred in running the Taxpayers’ business that were not accounted for in the NOD.

The Taxpayers did not respond to the NOD, and, on July 28, 2011, the IRS assessed the tax due as reported in the NOD.  From issuance of the NOD to assessment, 136 days elapsed.  On August 10, 2011, the Taxpayers filed a document that they asserted was their 2008 return.  From issuance of the NOD to the filing of the document that purported to be the return, 149 days elapsed.  From assessment to filing, 13 days elapsed.  From the extended due date to filing, approximately one year and ten months elapsed.

On February 11, 2013, the IRS reduced the assessed tax to the $23,000 number reported as due by the Taxpayers.

On April 30, 2014, the Taxpayers filed for relief under Chapter 13 of the Bankruptcy Code.  This was approximately two years and eight months after the Taxpayers filed the document purporting to be their 2008 return.  This was approximately four years and six months after the extended due date of the 2008 return.

The Taxpayers successfully completed their Chapter 13 plan.  They full paid their secured and priority tax claims of over $58,000 and made a small distribution to their unsecured creditors.

3.  Briggs, Sr.

Prior to Golden, the only case known to the author that discharged tax reported on a document filed after the SFR assessment was Briggs, Sr. v. United States (In re Briggs, Sr.), 511 B.R. 707 (Bankr. N.D. Ga. 2014), aff’d, Briggs, Sr. v. United States (In re Briggs, Sr.), N.D. GA. No. 15-2427‑MHC  (June 7, 2017) (“District Court Briggs, Sr.).  In that case, Mr. Briggs thought his business partner had filed his return.  Mr. Briggs had signed the return and sent it back to his business partner, as was his annual custom.  The business partner did not file the return, and an IRS SFR designation ensued.  The IRS mailed the NOD to the business partner’s address and not Mr. Briggs’s address.  Upon learning of the nonfiling and SFR assessment, Mr. Briggs filed a document purporting to be his return, and it was found to be a valid return. 

The United States argued in Briggs, Sr. that any document filed after the SFR assessment is per se not a return under §_523(a)(*).  Yet, in its appeal brief to the district court, the United States conceded that no appellate court had adopted the per se rule.  District Court Briggs, Sr. at p.8.  The District Court Briggs, Sr. opinion is now almost five years old.  In the ensuing five years, the author is unaware of any appellate court that has adopted the per se rule, i.e., an appellate court outside of the one-day-late circuits and the Eighth Circuit.

4. Facts used by the Court to find for the Taxpayers

At Golden p.20‑21, the Court explained why it thought the Taxpayers had made an honest and reasonable attempt to comply with the tax law. 

  • The Taxpayers did not “belatedly” accept responsibility for filing a return, and they did not “attempt to present inaccurate or fabricated information.”
  • Taxpayers “provided solid and accurate information” to the IRS.  Taxpayers used the “assistance of a tax professional” to present accurate information.
  • Taxpayers did not try to “walk away” from the debt.  They spent five years in “bankruptcy purgatory” in order to obtain a discharge.
  • The Taxpayers’ “corrective actions were not merely filing a ‘me too’” 2008 return that “parroted the assessed tax” with a goal of two years later filing for bankruptcy and asserting the tax debt should be discharged.
  • The IRS presented “no identifiable bad faith reason for the failure to file” the 2008 return sooner.
  • Although “beset” with financial and marital problems, the Taxpayers acted properly to substantially pay their tax obligations.

Without discussion, the Court rejected the per se rule.  Golden at p.3 (where the government argument is set forth) and p.19 (where the Court makes clear that the Hatton rule applies; the Court looked at the totality of circumstances to determine whether the Taxpayers acted honestly and reasonably in the filing of their return).

5. Lagniappes

Golden will be a tough case for the IRS to win on appeal.  Ninth Circuit case law is clear that a subjective test applies so de novo review is unlikely.  The government will need to prove clear error.  See District Court, Briggs, Sr. at p.4 (burden is on the government to show that the bankruptcy court’s findings were clearly erroneous).  The United States might question, even under a “totality of the circumstances” test, how much weight should be given to actions taken after the document is filed, e.g., completing a Chapter 13 plan.  Regardless, sufficient facts exist to support the Court’s holding.  For example, the Court found that “the personal and financial maelstrom is the reason for Plaintiff‑Debtor stumbling with respect to the 2008 federal tax return.”  Golden at p.21.  Kudos to the Taxpayers’ attorney for taking on this battle and winning.

In Golden, the IRS again argued for a per se rule.  Even though such a rule would make life easier for the IRS, the IRS should put that argument to bed.  It has been singularly unsuccessful.  Golden notwithstanding, the IRS still has a de facto per se rule.  It is very difficult for a taxpayer to prove that a document filed after the SFR assessment was an honest and reasonable attempt to comply with the tax law.

One other note, if you represent a client with a non‑filed return and a NOD has been issued and the 90‑day period has not run, strongly consider filing a Tax Court petition.  Section_523(a)(*) of the Bankruptcy Code provides that a return includes “a written stipulation to a judgment or final order entered by a nonbankruptcy tribunal.”  The Tax Court filing and subsequent final order will keep the bankruptcy‑discharge option open, and, perhaps, prevent an expensive discharge litigation.

Default Judgment

A recent case in which the defendants lost for not responding to a suit filed against them by the IRS caught my eye.  Default judgments are a dime a dozen but this one involved an injunction against a return preparer.  I have recently picked up a case involving a ghost preparer which caused me to take a second look at this case seeking an injunction against the preparer.

Default judgments also represent the flip side of filing a late petition showing that timeliness matters not only in filing the suit but also in responding.  Since we have written so much recently about the importance of timely filing, focusing on the importance of timely responding also deserves a moment in the spotlight.  Don’t get excited, however, if you want to obtain a default judgment against the government.  That is not allowed and for many good reasons.

In United States v. Erica McGowan et al, No. 2:21-cv-10624 (E.D. Mich.), the IRS filed suit on March 22, 2021, seeking:

to obtain (i) an injunction barring Defendants “from engaging in the business of preparing federal tax returns and employing any person acting as a federal tax return preparer” and (ii) an order “requiring Defendants to disgorge to the United States their receipts for preparing federal tax returns making false or fraudulent claims.”

Apparently, one or more of the defendants proved difficult to locate, causing the IRS on June 17, 2021 to seek additional time to serve them.  Service occurred the same day as the motion, making the answer due date July 8, 2021 – 21 days after service.  Defendants failed to file an answer and the IRS obtained a default judgment on August 6, 2021, setting up this case to set aside that judgment.

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On September 1, 2021, defendants filed a motion to set aside the default judgment arguing, inter alia, that the failure to timely file an answer did not result from their culpable conduct.  A reason given for the failure was the mistaken belief that defendants had 60 days to file an answer.  The magistrate judge to whom this motion was assigned was unmoved by this argument because (1) the summons specifically stated the period was 21 days and (2) the defendants did not file an answer within 60 days.

The court looked at three factors in deciding whether to set aside the default judgement:

(1) whether the party seeking relief is culpable; (2) whether the party opposing relief will be prejudiced; and (3) whether the party seeking relief has a meritorious claim or defense.

In order to get to a consideration of factors (2) and (3), the moving party must demonstrate a lack of culpability.  Here, the court found that they could not as it reviewed the determination of the magistrate judge.

Defendants argued that the magistrate judge focused exclusively on their failure to show excusable neglect and did not mention the separate bases for relief of mistake or inadvertence.  The district court, agreeing with the magistrate, pointed out that defendants failed to raise these alternate grounds in its motion.  Having failed to raise them in its argument to the magistrate judge, it could not raise them on appeal.

Defendants then attacked the magistrate judge’s definition of culpability, arguing that the court must find “an intent to thwart judicial proceedings or a reckless disregard for the effect of its conduct on these proceedings.”   Sixth Circuit law, however, does not allow relief from a default judgment where the default results “from a party’s or counsel’s carelessness or ignorance of the law.”  

Defendants next argued that the court should balance the factors necessary for overcoming a default judgment and not stop upon a finding of culpability.  Here again, the district court found that the law clearly created a barrier if the moving party could not overcome the issue of culpability.

In the opinion in this case we don’t even get to learn what the defendants did that caused the IRS to seek the injunction in the first place.  That information can be found in the petition.  The defendant’s motion contains some explanation but their attempt to raise the merits of their possible defense falls to their failure to show good cause for not answering the complaint. 

Twenty one days is not a long time.  It’s even less than the short period allowed for responding to a Collection Due Process notice; however, ignoring the complaint creates a result that proves impossible for the defendants here to overcome.  They needed an excuse similar to the type of excuse we have spoken of in recent posts regarding the late filing of Tax Court petitions and they did not have it.  The case provides another example of the importance of acting on time.  Even if defendants have the greatest reasons for arguing against an injunction barring them from filing tax returns, their failure to respond within the necessary time period keeps them from raising those arguments.

Join the Center for Taxpayer Rights for a Celebration of Keith Fogg’s Career on the Occasion of his Retirement

Readers of Procedurally Taxing know how vital Keith Fogg’s analyses and commentary is to improving the state of tax procedure and administration in the United States.  One only has to read his most recent series of posts about the Boechler case here and here and here and here and here to realize that Keith is a tireless advocate who does not rest on his laurels.  He is always thinking about how to build on victories and how to work around losses.  And those readers who know Keith personally know how generous and unstinting he is with support, friendship, and humor. 

So it may come as a surprise for readers to learn that Keith is retiring from the Harvard Federal Tax Clinic on June 30th of this year.  We didn’t want this occasion to pass unnoticed.  The Center for Taxpayer Rights, of which Keith serves as President, is hosting a virtual celebration of Keith’s career.  Now you can share your appreciation by raising a toast to Keith and sharing some reflections about what his support and friendship mean to you.

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The celebration will be held on Tuesday, May 10th, 2022, from 5 pm to 7pm EDT via zoom.  You can register for celebration and receive the Zoom invite here.

If you can’t attend, you can still share your reflections by registering.  We will then send you a link to a drop box location where you can upload a short (2 to 3 minute) video of your comments which we will share with Keith during our celebration.

I can personally attest to the impact Keith has had on my life, starting with a conversation I had with him in January 1993, shortly after I incorporated The Community Tax Law Project (CTLP), the first independent low income taxpayer clinic in the country.  CTLP was just a vision in my mind; I was working on my LLM at Georgetown, and one of the deans there mentioned that I should speak with Keith Fogg, who taught the bankruptcy and insolvency class in the LLM program and who was the district counsel for the Virginia-West Virginia district.  So I cold-called Keith.  He didn’t know me at all, but he took my call, listened to me talk about my ideas for the clinic, and agreed completely about the need for representation of low income taxpayers before the IRS and in the courts.  The only doubt he raised was, where would the funding come from?  (Note, as the Center’s president, he still asks that question; we did address that concern, somewhat – see IRC § 7526.)

Fast forward a week or two, and Keith had finagled an invitation for me to meet with the VA-WVA IRS district leadership – the District Director, the Deputy District Director, the chief of exam, the chief of collection, the district chief of appeals, the customer service director and education director, even the chief of criminal investigation.  The District Director committed to putting posters up about CTLP in the walk-in office (when it was truly open for walk-ins) as well as including stuffer letters in appeals initial letters.  All that from one phone call!

I can truly say that had Keith hung up on me that first day, or been too busy to take a call from an unknown person, or just failed to see the need, a lot of things would have happened differently in my life.  Or at least at a more slow pace, and we all know that timing is everything.  Lucky for all of us, Keith not only did listen, but he actively supported CTLP and the concept of clinics writ large.  The tax system is much improved because of that one simple act in early 1993 and all the other acts of generosity and integrity Keith has done over the years.  On top of all that, I’m fortunate to have had Keith’s friendship over the years.

So, if you’d like to share your “Keith stories,” join us in our celebration of Keith Fogg on May 10th.

Keith has asked that folks wanting to recognize his career make a contribution to the Center for Taxpayer Rights.   You can donate to the Center here. Hope to see you on May 10th to raise a glass to Keith!

What’s Happening in Myers and Whistleblower Cases After the Decision the Statute is a Claims Processing Rule

In 2019 the D.C. Circuit held in Myers v. Commissioner, 928 F.3d 1025, that the language creating the Tax Court’s basis for jurisdiction to hear whistleblower cases did not create a jurisdictional filing deadline.  It also held the time period subject to equitable tolling.  So, can the subsequent history of Myers provide insight into how the Tax Court will handle equitable tolling cases in Collection Due Process cases (CDP)?  No, it cannot because the Court held off on looking into equitable tolling waiting for the outcome in Boechler, but the post-Myers cases do provide insight into what happens when no one raises the issue of late filing.

Since the Myers decision, it does not appear that the Tax Court has issued any other rulings on whistleblower cases deciding an equitable tolling issue.  This signals how rarely equitable tolling issues present themselves. The IRS Whistleblower Office Annual Report to Congress (of which the most recent report posted to IRS.gov is for FYE 2020; see https://www.irs.gov/pub/irs-pdf/p5241.pdf) says in Table 3 on page 24 that there were 118 IRC 7623(b) claims in litigation as of 9/30/20, but then confusingly notes:  “There are closed claims that are in litigation. Table 3 identifies only open claims.”  Does that mean that Tax Court cases are not in the 118 or are in the 118?  This probably means that the 118 cases in litigation are pending Tax Court cases.  The Tax Court has reported to Congress that during FYE 2021 there were 63 whistleblower (WB) cases filed.  https://www.ustaxcourt.gov/resources/budget_justification/FY_2023_Congressional_Budget_Justification.pdf

The benefit of Myers to taxpayers who file late, however, appears to be in prohibiting the Tax Court from issuing orders to show cause why a whistleblower case should be dismissed for lack of jurisdiction (LOJ).  This post will discuss four opinions below, each of which suggests that the Tax Court would have issued orders to show cause to dismiss for lack of jurisdiction due to late filing, had the filing deadline been jurisdictional.  This provides a window into what will happen with late filed CDP cases where the IRS does not raise the timing of the filing.    In Myers any benefit from the D.C. Circuit opinion as confirmed by the Supreme Court in Boechler will come from the application of equitable tolling.

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Looking at the whistleblower cases decided since the Myers decision, Carl Smith found the following cases:

(1)  In Whistleblower 15977-18W, T.C. Memo. 2021-143 (12/29/21), the taxpayer lost on summary judgment because the Tax Court upheld a determination by the WB office that the WB did not provide specific enough information.  (Query whether the more recent D.C. Circuit case, Li v. Commissioner, would have required the Tax Court to dismiss this case for LOJ because the WB office did not appear to take any action on the claim beyond asking SB/SE to look into the claim.  There is no mention of any proceeding done against the taxpayer.)  The WB office issued a notice of determination to the WB on Oct. 16, 2017.  The WB, who lived overseas, may not have received the notice of determination until after the 30 days to petition expired.  In any event, the WB petitioned the Tax Court on Aug. 16, 2018.  The IRS did not raise to the Tax Court that the case should be dismissed for late filing.  Here’s footnote 3 from the opinion:

Petitioner resided outside of the United States when the petition was filed.  In Myers v. Commissioner, 928 F.3d 1025, 1036-1037, 442 U.S. App. D.C. 110 (D.C. Cir. 2019), rev’g and remanding 148 T.C. 438 (2017), the Court of Appeals for the D.C. Circuit held that the 30-day period for filing a petition to initiate a whistleblower action is subject to equitable tolling. The D.C. Circuit is the appellate venue for this case. See sec. 7482(b)(1) (penultimate sentence). We thus follow its precedent. See Golsen v. Commissioner, 54 T.C. 742, 757 (1970), aff’d, 445 F.2d 985 (10th Cir. 1971). Consistently with Myers, we hold that we have jurisdiction to consider this case. And since neither party has questioned the filing of the petition after the 30-day period or addressed the subject of equitable tolling, we will proceed to consider the pending motions.

The Tax Court did exactly what it should have.  It no longer has the right to raise timeliness issues on its own.  This will happen more and more now that the CDP cases have entered the pool of cases subject to the claims processing rule. 

(2)  Similar is Damiani, T.C. Memo. 2020-132, where the court saw that, obviously, the petition was not timely filed.  Here’s a bit from the Damiani opinion:

The Office agreed with Mr. Wiggins’ recommendation and on June 14, 2019, issued a final determination letter rejecting petitioner’s claims. The letter stated in pertinent part that “[t]he claim has been rejected because the information submitted did not identify an issue regarding tax underpayments or violations of internal revenue laws.” The letter informed petitioner: “If you disagree with this determination, you have 30 days from the date of this letter to file a petition with the Tax Court.”

Petitioner petitioned this Court for review of the Office’s determination. Her petition was mailed from Germany, postmarked by Deutsche Post on July 31, 2019, and was received and filed by the Court on August 12, 2019. 

. . . .

Consistently with Myers, we hold that we have jurisdiction to consider this case. And since neither party has questioned the filing of the petition after the 30-day period or addressed the subject of equitable tolling, we will proceed to consider respondent’s motion for summary judgment.

(3) Also similar is Friedel, T.C. Memo. 2020-131.  Here’s a bit from the Friedel opinion:

The Office agreed with both recommendations and issued on April 30 and May 8, 2019, final determination letters rejecting petitioner’s claims. Each letter stated in pertinent part that “[t]he claim has been rejected because the IRS decided not to pursue the information you provided.” The letters informed petitioner: “If you disagree with this determination, you have 30 days from the date of this letter to file a petition with the Tax Court.”

Petitioner petitioned this Court for review of the Office’s determinations. His petition was mailed from Germany, postmarked by Deutsche Post on June 11, 2019, and was received and filed by the Court on June 24, 2019. 

. . . .

[S]ince neither party has questioned the filing of the petition after the 30-day period or addressed the subject of equitable tolling, we will proceed to consider respondent’s motion for summary judgment.

(4)  Also similar is Stevenson, T.C. Memo. 2020-137, where the court expressed concern that the petition might not have been timely, but did not actually find facts as to the 30-day deadline.  The court there wrote:

Section 7623(b)(4) provides that “[a]ny determination regarding an award * * * may, within 30 days of such determination, be appealed to the Tax Court (and the Tax Court shall have jurisdiction with  respect to such matter).” The Office issued its determination letter to petitioner on April 10, 2019. He signed his petition on May 2, 2019, but the mailing date is unclear. See sec. 7502(a). The petition was received and filed by the Court on May 13, 2019, more than 30 days after the date on which the Office issued the determination letter.

. . . .

Since neither party has questioned the filing of the petition after the 30-day period or addressed the subject of equitable tolling, we will proceed to consider respondent’s motion for summary judgment.

In all of these cases, the IRS successfully moved for summary judgment.  Perhaps the IRS was so confident it would win on summary judgment that it did not bother to raise the petition untimeliness issues. In the amicus brief the Tax Clinic at the Legal Services Center of Harvard Law School filed for the Center for Taxpayer Rights in Boechler at the cert. stage, we predicted this outcome.  It may well turn out that it is more important to taxpayers that the Tax Court can’t raise timeliness issues on its own if a deadline is not jurisdictional than that the taxpayers can also raise equitable tolling. 

As the recent post on the application of 7459 pointed out by detailing the number of dismissals in deficiency, CDP, innocent spouse, and WB cases, there will be more (1) cases in which the IRS just misses the late filing and so doesn’t raise the issue than (2) cases where the IRS will raise the issue and the taxpayer will argue for equitable tolling.  It may be that the WBs in each of the above cases had an equitable tolling argument (e.g., non-receipt during the 30-day period, like Ms. Castillo), but they never had to present one.

Boechler Challenge to Tax Court Position on IRC 6213

Hallmark Research Collective, Tax Court Dk. No. 21284-21, filed a petition on September 2, 2021, in response to a notice of deficiency. The IRS answered the case on November 10, 2021; however, the Tax Court in policing cases to determine if it had jurisdiction issued a show cause order on November 17, 2021, seeking a response from the parties regarding why it should not dismiss the case for lack of jurisdiction.

The parties responded to the show cause order and the Tax Court decided that it lacked jurisdiction because the petition in the case was filed one day late. On April 1, 2022, the Tax Court dismissed the case for lack of jurisdiction.

Yesterday, Hallmark filed a Motion to Vacate Order of Dismissal for Lack of Jurisdiction and accompanied the motion with a legal memorandum setting out in detail why IRC 6213 does not create a jurisdictional time period and why prior Tax Court precedent driving dismissal of its case should be overturned following the Supreme Court’s decision in Boechler. Hallmark also argues that the filing deadline is subject to equitable tolling, and Hallmark seeks to present evidence on that issue later in the case. Shortly after the filing of the motion, the Court issued an order giving the IRS 30 days to respond.

While the Tax Court dismisses many deficiency cases for lack of jurisdiction, Hallmark may be the first case to squarely raise the issue of jurisdiction after the Boechler decision. The legal memorandum goes into great detail to explain the reasons why the Court’s prior jurisprudence has lost its underpinnings.

The Tax Court will undoubtedly give the IRS the opportunity to agree with Hallmark before rendering a decision.  I anticipate that the Tax Court will endeavor to act swiftly because of the volume of dismissals each year and the impact of the jurisdictional decision on practice at the Court.

The legal memorandum provides an outline for others who may seek to challenge the Tax Court’s decisions regarding jurisdiction in deficiency cases and details of case dismissals in recent months in order to show the impact of the issue.

What Happens to Employees When the Employer Fails to Pay Over to the Government Withheld Taxes

In Plazzi v. FedEx Ground Package System, Inc., No. 1:21:-cv-12130 (D. Mass. 2022), three employees sued their employer because their withheld wages were not paid over to the government.  I do not remember seeing such a suit previously, but this is a matter that I discuss with my students each semester.  Most of us pay taxes through third-party intermediaries.  Understanding the relationship between the third-party intermediary and you, the taxpayer, and the government is important.  The case provides a nice analysis of what I explain to my students each semester.  In addition to explaining how the system works, the court dismisses the complaint, finding that it is barred by statute.  If you are looking for a good explanation of how the third-party intermediary system of tax payment works, this relatively short opinion offers it up.

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At some point each semester I ask the students if they have ever worked as an employee.  Almost all say yes.  I then ask what happens if their employer does not pay over the withheld taxes and how many of them checked to make sure their employer actually paid over to the government the taxes it withheld from their wages.  The students have almost never thought about what happens to their withheld wages and some have a concerned look as they begin to think about the possibility of the failure of their employer to send to the government the amount taken from their wages.  Usually, after a bit of mild prompting, at least one of the students will express the view that the responsibility for failing to pay over the withheld taxes should fall on the employer and not the individual.  We then discuss why it should work that way and a look of relief comes over those who began to have concerns.

Mr. Plazzi and the others who brought this suit had not had the opportunity to have such a discussion.  I understand why they would have concerns.  I am puzzled that they did not find a lawyer who could explain the way the system works to them before they went to the trouble to file the suit.

Major corporations like FedEx basically never fail to pay over the taxes they withheld.  So, I was a little surprised to see FedEx as the defendant in such a suit. The failure to pay over trust fund taxes regularly occurs in small businesses with cash flow problems usually run by an individual or a small group of individuals who are all in financially.  Executives of a major corporation should never put themselves in this position.

My surprise lifted as the court explained the facts.  Apparently, FedEx contracts with independent companies to deliver packages in some areas.  Learning this should not surprise me.  The US Postal Service does the same thing as do many other large enterprises.  Mr. Plazzi and his fellow plaintiffs worked for Eloah Delivery rather than directly for FedEx.  The court described the arrangement as follows:

Eloah was an “independent service provider” (“ISP”) of FedEx. ISPs typically handle three or more FedEx delivery routes and follow FedEx’s policies and procedures. FedEx maintains strict control over the way in which Plaintiffs and other delivery drivers working under ISPs perform their work. Delivery drivers hired by FedEx ISPs are classified as “employees” of the ISPs. For example, under its ISP Agreement with FedEx, Eloah agreed that it would “assign only Personnel, including officers and managers, that [Eloah] ensures are treated as employees of [Eloah] in the provision of Services under this Agreement.” Further, Eloah agreed under the ISP Agreement to “assume sole responsibility for payroll deductions and maintenance of payroll and employment records, and for compliance with Applicable Law, including . . . wage payment, final payment of wages, required withholdings from wages, deductions, overtime, and rest and meal periods.”

Like many small businesses, Eloah withheld taxes from its employees’ wages as required; however, it did not pay over the withheld taxes to the government.  Somehow, unexplained in the opinion, plaintiffs found out about this failure.  Plaintiffs argued that FedEx violated their rights under the Massachusetts Wage Act.  FedEx countered that their claim is barred by state and federal law.  In finding for FedEx, the court explained why such a claim is barred.

While I say that it was unexplained in the opinion how the employees knew the money was not paid over to the IRS, the opinion did provide an explanation of how they knew problems existed. 

Prado [the supervisor at the company] told Plaintiffs he was withholding taxes equaling twenty-three percent of their gross pay per week. Plaintiffs were under the impression that Prado was withholding all required state and federal taxes and that they would receive a W-2 tax form from the Internal Revenue Service (“IRS”) reflecting their gross wages following the 2020 calendar year. Plaintiffs never received their W-2 forms.

So, these employees have even more problems than not having their wages withheld.  They also appear not to have a statement sent to the IRS (or Social Security) reflecting the amount paid to them and the amount withheld.  If an employer never files these forms, employees struggle to get credit.  A procedure exists for creating a substitute W-2 but that usually relies on paystubs or a statement from the company.  This is a major procedural problem by itself which can be compounded where an employer insists on making wage payments through a platform like Zelle or a similar middleman.  The lack of receipt of W-2s may have played a large role in their decision to bring a case though it is not resolved through the decision.

The employees get credit for the withheld taxes regardless of whether the employer pays the money over to the government, though proving the money was withheld can, in situations like this, prove difficult.  Assuming the employees can establish their wages were withheld, any fight about the unpaid taxes becomes a fight between the government and the employer (and potentially any responsible persons under IRC 6672) and not a fight between the employees and the employer.  In explaining this, the court stated:

Employees, however, are barred from suing employers for failing to pay withheld taxes to the IRS: the Internal Revenue Code provides that “[t]he employer shall be liable for the payment of the tax required to be deducted and withheld . . . and shall not be liable to any person for the amount of any such payment.” 26 U.S.C. § 3403. “[T]his statute makes clear that while . . . the employer may be penalized by IRS for failure to pay the tax to it, suits against it by employees for taxes withheld from the pay of such employees are statutorily barred.” Chandler, 520 F. Supp. at 1156 (dismissing employee’s suit against employer for alleged conversion of money withheld from employee’s paycheck); see Bright v. Bechtel Petroleum, Inc., 780 F.2d 766, 770 (9th Cir. 1986) (citing Chandler, 520 F. Supp. at 1156) (affirming dismissal of claim seeking to recover withheld income tax as “statutorily barred”); Haggert v. Philips Med. Sys., Inc., No. 91-cv-30060-MAP, 1994 WL 673508, at *2 (D. Mass. Mar. 24, 1994), aff’d, 39 F.3d 1166 (1st Cir. 1994) (dismissing similar claim on same grounds). Similarly, Massachusetts law on tax withholding “tracks” the Internal Revenue Code and “is intended to replicate the effect of its counterpart in the federal code.” In re Nash Concrete Form Co., 159 B.R. 611, 615 (D. Mass. 1993).

So, it doesn’t matter to the employees that the employer failed to pay over the withheld taxes, but it does matter to employees that this withholding is documented.  They do not need to keep tabs on their employer or worry in any way about what happens to their money after it is withheld as long as they have the proper proof of withholding. 

This system of giving employees credit for any amount withheld makes perfect sense and explains why normally employees do not think about the issue.  Here, the shady method of making payroll and the apparent failure to send a year in statements puts these employees in an especially bad situation.

I am a bit troubled by the fact that the system also credits the responsible officers whose wages are withheld, but I guess that’s not a big enough concern for anyone to change the statute.  For anyone interested in my longer writings on the subject of trust fund taxes and what happens when the party holding the money in trust fails to pay it over, you can find my law review articles here, here and here.