Extension of Time for Payment of Tax Due to Undue Hardship: Part 2

This is the second post based on the writings of Frank Agostino, Young Kim, and Yiwei Chen in an article in the Journal of Tax Controversy, a newsletter regularly published by Agostino and Associates. Part 1 can be found here. Keith

Form 1127 Overview

In order for a taxpayer to find relief from undue hardship, they must file a Form 1127. According to I.R.M. 5.1.12.26 for the IRS to grant relief on the basis of undue hardship, the taxpayer must prove that a payment on the original due date will cause “ a substantial financial loss” to the that taxpayer “more than an inconvenience.” I.R.M. 20.1.2.2.3.2 clarifies that taxpayers can use a Form 1127 to request relief to pay taxes classified as a deficiency, “providing the deficiency is not the result of negligence, intentional disregard of the rules and regulations, or fraud with intent to evade tax.”

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When the taxpayer files a Form 1127, in part 1 of the form they must indicated whether they are requesting an extension for the total amount calculated as deficiency, or the tax shown. In part 2, the taxpayer must provide “a detailed explanation of the undue hardship that will result” if their application is denied.

Part 3 of the form is where the applicant provides supporting documents to the IRS to support their claim for extension based on undue hardship. The taxpayer must provide a statement of both liabilities and assets at the end of the last month. The statement must show “book and market values of assets and whether securities are listed or unlisted.” In addition, the taxpayer must provide an itemized list of their income and expenses for each of the three months preceding the due date of the tax.

When completing a Form 1127, the goal of the taxpayer is to provide a convincing and compelling story as to why they are unable to pay their taxes on time due to their financial circumstances. This takes on the same tone as the cover letter a taxpayer should write when submitting an offer in compromise.  Taxpayers should explain unexpected events that may have occurred that resulted in their financial hardship such as the medical emergency or loss of a job. They must explain the current financial situation including all assets, income, and expenses. Critically, taxpayers should explain their effort to pay all of their taxes by the due date. For example, they may include in their explanation an attempt to set up a payment plan with the IRS. They must also include an explanation of their individual efforts (unique person to person) to improve their own financial circumstances. Taxpayers should explain that they understand the importance of paying their taxes on time, and how they plan to pay the full amount of their tax debt going forward. In addition, the taxpayer should provide any official documents which provide evidence of financial hardship. Some of these documents could include a job loss notice from their former workplace or medical bills that show unexpected expenses.

Form 1127: Part 1

When the taxpayer files a request for an extension, they must indicate the specific length of time they would need to pay their tax debt. As stated in I.R.C. §  6161(a) , an extension request should be “for a reasonable period not to exceed 6 months… from the date fixed from the payment thereof.” The IRS could consider a longer extension for longer than 6 months if a person is living abroad. This means that according to I.R.C. § 6072, if a person is requesting for the maximum extension, they should request it from the filing and payment due date. Under I.R.C. §  6161(b), a taxpayer can receive an extension of up to 18-months on a deficiency. As such, if a taxpayer needs the maximum amount of an extension on a deficiency, they should request from the date of the payment notice and demand up until the day which would mark 18 months. In certain “exceptional cases,” the IRS can grant another extension for a period of up to 12 months after the first extension.

The taxpayer must specify the amount for which they want the payment extension for. According to I.R.C. § 6161 it should be the “amount of the tax shown or required to be shown” on a tax return or to postpone a deficiency “any amount determined as a deficiency.” The general instructions of the Form 1127 instructs the taxpayer to file the form if they are trying to “postpone the full amount of tax shown or required to be shown… or an amount determined as deficiency.”

Form 1127: Part 2

The undue hardship burden is not an easy burden to meet because a general statement of hardship alone is not enough to satisfy. This means that the IRS can deny an extension on the basis of undue hardship unless that taxpayer could show undue hardship if they had to pay their taxes by the original due date. The instructions on the form state, “to establish undue hardship, you must show that you would sustain a substantial financial loss if forced to pay a tax of deficiency on the due date.” So, taxpayers planning to submit a form 1127 should not only to write a statement, but also submit supporting documents to provide evidence of their hardship.

Form 1127: Part 3

According to the instructions, the taxpayer must submit both a statement of their liabilities and assets at the end of the last month and an itemized list of their income and expenses for each of the three months preceding the tax due date. If this information is not included, the IRS will consider the form incomplete and will not consider extension for the taxpayer. Some other items to include as evidence would according to the article would be:

the total amount of liquid assets that the petitioner claimed would be available to pay the tax once the bank had approved the release of funds;

• whether any assets were available to pay some of the tax when it was due;

• when the petitioner expected that sufficient assets would become available; or

• whether the petitioner had explored other ways to obtain the funds, such as selling the real property before the payment due date

In addition, taxpayers are required to include the following documents in order to have the form processed properly. Should a taxpayer fail to provide such documents, the IRS would not be able to process the request extension. According to I.R.M. 5.1.12.26.2 the documents include:

• taxpayer’s name, address, and Tax Identification Number (TIN);

• whether the extension is being requested for a tax shown or required to be on a return, or for an amount determined as a deficiency;

• the due date of the return or the due date for paying the deficiency;

• the extension date proposed by the taxpayer;

• the tax liability for which an extension to pay is being requested;

• the form number relating to the tax;

• the calendar year or fiscal year of the tax;

• an explanation of the undue hardship that will result to the taxpayer if the extension is denied (see the discussion above);

 • a statement of the taxpayer’s assets and liabilities

Filing Form 1127

According to Treas. Reg. §§ 1.6091-2 when filing a Form 1127, an individual taxpayer should file it at a local IRS office which “serves the legal residence or principal place of business of the person required to make the return.” For a corporation, the form should be filed at the IRS office “that serves the principal place of business or principal office or agency of the corporation.”  This does not mean the taxpayer should send the form to the general attention of the closest IRS office.  The taxpayer needs to locate the address for the Collection Division Advisory Group that services their area of residence. You can find addresses and contact information for those offices in Publication 4235. The Advisory Group handles a host of discrete collection issues.  This is a logical place for the IRS to have the form filed since the Service Centers are not equipped to make the type of collection decisions necessary to grant a waiver.

The required documents must be filed by the due date for the tax returns in order to be considered timely filed, if not the IRS cannot process the form. According to I.R.M. 5.1.12.26.2(3), the post mark date of the application will be how the IRS determines whether or not the form was timely. This means that the form must be postmarked by the U.S. postal service either before or on the due date of their tax liability.

When the IRS considers whether or not the taxpayer has a case for undue hardship, they should approve or deny the request within 30 days according to Treas. Reg. § 1.6161(c). If the taxpayer is denied the request for extension on the basis of undue hardship, they will get a notice in writing stating the reasons for the denial (I.R.M. 5.1.12.26.3(2). Taxpayers wishing to dispute the decision must file an appeal within 10 calendar days of their denial.  Th request for an appeal must be in writing and submitted to the member of the advisory group that denied the request.

It is important to note that according to I.R.C. § 6601, if granted an extension of time for a taxpayer to file their tax returns, it still will not stop the accrual of interest on those unpaid taxes.

Conclusion

Taxpayers seeking relief on the basis of undue hardship must file a Form 1127, in a timely manner based on the tax return due date. When filing, they must indicate how long of an extension they are seeking as well as the amount of money they want the extension to be for. In order to have the form processed, taxpayers must provide a written statement of undue hardship that would be caused if they were to pay their taxes by the original due date, as well as number of supporting documents that support their claim. Taxpayers should receive a decision within 30 days of filing. If given a denial decision, the IRS will provide the taxpayer with a written explanation as to the reason for the denial and the taxpayer will have 10 calendar days from when the denial is mailed to file an appeal to that decision.

Extension of Time for Payment of Tax Due to Undue Hardship: Part 1

Frank Agostino, Young Kim, and Yiwei Chen published an article in the Journal of Tax Controversy, a newsletter regularly published by Agostino and Associates.  Agostino and Associates is a law firm in Hackensack, New Jersey that has been representing taxpayers facing tax controversies with federal, state, and local authorities in civil and criminal litigation for more than 25 years. Most readers of this blog know Frank because he gets into the middle of so many procedural matters.  Although the Graev issue may be his most famous issue at the present, Frank and his firm handle most of the issues discussed in this blog and handle them in ways that continually push the envelope finding or creating tax procedure issues overlooked by others.  Because we have never written about today’s topic and because it’s a timely topic for tax season, I asked Frank for permission to slightly modify and publish it here and he graciously granted permission.  Keith

Tax Day is the day on which tax returns are supposed to be submitted for most Americans; however, many taxpayers may seek an extension of time to file their taxes. The IRS still expects taxpayers to pay the taxes owed by Tax Day and those who do not pay by the date through withholding, estimated tax payments or specific payments should expect to receive a penalty for late payment. Though taxpayers are expected to pay their taxes by the original due date, there are penalty free extensions which the IRS can grant. Today’s post explores the less well-known extension to pay provisions which differ from and are in addition to installment agreements.  Tomorrow’s post will provide more detailed guidance on how to make the request for an extension of time to pay.

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First, the IRS has the general authority to grant an extension of time to pay tax liability according to 6161(a)(1) of the Internal Revenue Code.

The Secretary, except as otherwise provided in this title, may extend the time for payment of the amount of the tax shown, or required to be shown, on any return or declaration required under authority of this title (or any installment thereof), for a reasonable period not to exceed 6 months (12 months in the case of estate tax) from the date fixed for payment thereof.

Section 6161(a)(1) also provides that a viable exception when an extension can exceed 6 months is when a person lives abroad.

Under section 6161(b), unless a deficiency is due to negligence, intent to disregard or fraud, the IRS can extend the payment of a tax deficiency if the payment would result in the taxpayer facing undue hardship. In other words, 6161(b)(1) allows the IRS the ability to grant a longer extension to taxpayers who pay an incorrectly calculated amount of their taxes but who actually owe more based on IRS calculations.

Section 6161(b)(1) states:

Under regulations prescribed by the Secretary, the Secretary may extend the time for the payment of the amount determined as a deficiency of a tax imposed by chapter 1, 12, 41, 42, 43, or 44 for a period not to exceed 18 months from the date fixed for the payment of the deficiency, and in exceptional cases, for a further period not to exceed 12 months. An extension under this paragraph may be granted only where it is shown to the satisfaction of the Secretary that payment of a deficiency upon the date fixed for the payment thereof will result in undue hardship to the taxpayer in the case of a tax imposed by chapter 1, 41, 42, 43, or 44, or to the donor in the case of a tax imposed by chapter 12.

Second, most taxpayers can request an installment agreement if they are unable to pay their taxes by the original filing deadline. This would allow the individual taxpayer to pay their tax debt through a series of monthly payments, with interest on the unpaid balance.

Third, section 7508A of the Internal Revenue Code allows the IRS the ability to extend the time to pay in the event of certain disasters. Taxpayers should check to see if they qualify for an extension due to a disaster before trying to set up installments or seeking relief because of undue hardship.

Undue Hardship

If granted an extension by the IRS due to undue hardship, the taxpayer would receive an extension both for the amount a taxpayer voluntarily assesses, and any deficiency arising from IRS compliance, such as an audit or adjustment from say the IRS’s automated underreporter program. In other words, the taxpayer is granted the extension based on whether paying the whole amount calculated by the IRS would result in an undue hardship to that taxpayer. 26 CFR § 1.6161-1(b) does not provide an exact definition for undue hardship, however, it does state an extension “will not be granted upon a general statement of hardship.” In addition, 26 CFR § 1.6161-1(b) states that the term undue hardship, “means more than an inconvenience to the taxpayer”. For the IRS to recognize undue hardship, it must be evident that a “substantial financial loss” will occur were the taxpayer to pay the tax liability on the original due date without extension. For example, 26 CFR § 1.6161-1(b) shows, that the IRS will not force a taxpayer to sell property below its value just to make the taxpayer have enough funds to pay the tax liability on time. What specific circumstances would the IRS consider enough to qualify a taxpayer for a relief due undue hardship?

Though neither the Code nor Regulations previously mentioned give a definition of undue hardship, 26 CFR § 1.6161-1 et. suggests that the IRS will consider specific circumstances when evaluating. The IRS may consider:

1) serious illness or medical condition affecting the taxpayer or an immediate family member;

2) unemployment or a significant loss of income;

3) natural disaster or other unforeseeable events beyond the taxpayer’s control that have a significant impact on their financial situation;

4) divorce or separation, particularly if the taxpayer is responsible for paying support or alimony;

5) significant business hardship or a decline in the value of assets.

In evaluating undue hardship claims, courts have not adopted a uniform test and evaluate based on the facts and circumstances of each situation. In Estate of LeMeres v. Commissioner, 98 T.C. 294 (1992) the court ruled that the taxpayer faced undue hardship because “most of its assets were tied up in a closely held business” and that “sufficient funds with which to pay the estate tax…were not readily available.” In addition, the taxpayer acted “in good faith” in following their attorney’s erroneous advice that more than one six-month extension could be obtained. In addition, the court acknowledged the declining value of the petitioner’s assets due to the current economic situation. Based on the erroneous legal counsel, lack of liquid funds, and declining asset values, the court believed the case had enough evidence that undue hardship would befall the petitioner should they not be granted another extension.

In Babcock Center, Inc. v. United States, 111 A.F.T.R.2d 2013-1865 (D. S.C. 2013), the court rejected the taxpayer’s undue hardship case because if a taxpayer enjoyed a luxurious lifestyle in a way that the spending causes the “remainder of his assets and anticipated income will be insufficient to pay his tax” then that taxpayer cannot reasonably argue that he failed to pay the tax due to an undue hardship.

Conclusion

The IRS can grant penalty free extensions to the tax payment deadline due to certain disasters, through installment agreements, and due to proof of undue hardship to the taxpayer if the taxpayer were to pay the taxes owed. Undue hardship must be “more than an inconvenience to the taxpayer” but is granted by the IRS based on individual circumstances. For many taxpayers the process of seeking a payment waiver due to hardship requires filing of filing a form 1127, an extension based on undue hardship.  The preparation and filing of that form will be the basis for tomorrow’s post.

Procedural Challenges to Penalties: Section 6751(b)(1)’s Signed Supervisory Approval Requirement

The post today is brought to you by Frank Agostino, Brian D. Burton, and Lawrence A. Sannicandro. Frank Agostino, Esq. is a principal of, and Brian D. Burton, Esq. and Lawrence A. Sannicandro, Esq. are associates at, Agostino & Associates, a Professional Corporation in Hackensack, NJ. The guest posters are counsel of record in many of the current cases discussed in the post. Keith

Some tax practitioners may be of the mindset that the IRS’s procedural missteps will not do much to help a taxpayer avoid the imposition of penalties under the Code. This pessimism may be based, for example, on a long line of cases holding that that neither­­ IRM nor due process violations will ordinarily result in suppression of evidence concerning the collection of taxes. The Supreme Court has maintained a precedent that, “except in rare and special instances, the due process of law clause contained in the Fifth Amendment is not a limitation upon the taxing power conferred upon Congress by the Constitution.” Furthermore, the Third Circuit has held a court will not exclude evidence in a tax case “merely because there was official misconduct.” (Emphasis added.)

By 1998, however, Congress was overwhelmed with horror stories of the IRS committing due process violations as part of its daily practices. As most practitioners know, Congress responded to the IRS’s misdeeds by passing the IRS Restructuring and Reform Act of 1998 (“Act”). In passing the Act, Congress was especially concerned with respect to the timing and decision to impose penalties. Not surprisingly, many IRS employees used the threat of penalties as leverage in negotiations, a practice that some IRS employees continue to follow to this day. An important, but often overlooked, provision of the Act is section 6751(b)(1).

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That subsection provides:

(b) Approval of assessment

(1) In general

No penalty under this title shall be assessed unless the initial determination of such assessment is personally approved (in writing) by the immediate supervisor of the individual making such determination or such higher level official as the Secretary may designate.

(2) Exceptions

Paragraph (1) shall not apply to—

(A) any addition to tax under section 6651, 6654, or 6655; or

(B) any other penalty automatically calculated through electronic means.

Section 6751(b)(1) continues to be relevant today and, as this post will discuss, is being hotly litigated in the United States Tax Court (“Tax Court”) and the district courts. Specifically, practitioners have begun to question whether, in the absence of the requisite signed supervisory approval of an initial penalty determination, section 6751(b)(1) prohibits the assessment of the penalty. Before discussing the specific cases, we draw special attention to the following important caveat: the 6751(b)(1) challenge must concern a penalty, additional tax, or additional amount that is not calculated through electronic means or which is not imposed under sections 6651, 6654, or 6655.

The IRS’s noncompliance with section 6751(b)(1) is a systemic problem, as recently confirmed by the Treasury Inspector General For Tax Administration (“TIGTA”). TIGTA first flagged this noncompliance in late 2013 when it issued its Report entitled, “Improvements Are Needed in Assessing and Enforcing Internal Revenue Code Section 6694 Paid Preparer Penalties”. TIGTA’s study found that eight percent of the completed section 6694 preparer penalty case files randomly sampled did not contain the proper documentation that the manager had appropriately approved the penalty in accordance with section 6751(b)(1). In addition, the report also found that more than half of the preparer penalty case files contained procedural errors. Based on these findings, TIGTA concluded that approximately $454,643 in improper penalties may have been assessed against preparers under section 6694 for Fiscal Years 2009 through 2011. Prophetically, TIGTA recognized that “[t]he lack of proper approval could hinder the IRS’s ability to successfully litigate these penalty assessments in court if necessary.” While TIGTA’s study focused on preparer penalties, as recent cases confirm, the findings concerning noncompliance with section 6751’s signed supervisory approval requirement have far wider reach.

As TIGTA predicted, the first reported section 6751(b)(1) court opinion addressing the issue court challenge came soon thereafter, in a section 6672 trust fund recovery penalty (“TFRP”) case, United States v. Rozbruch (docket No. 11 Civ. 6965 (GWG)). There, the taxpayer moved to set aside a TFRP because there was no signed supervisory approval under section 6751(b)(1). However, the SDNY sidestepped the issue by finding that “IRC 6672 is a collection device and not a penalty” to which section 6751(b)(1)’s signed supervisory approval requirement would apply. The Rozbruch case is expected to be appealed to the U.S. Court of Appeals for the Second Circuit. That Appellate Court previously held that section 6672 “essentially provides penalties for breach of [the] trust imposed by section 7501.” Thus, the taxpayer in that case maintains that the TFRP is, as its name suggests, a “penalty” subject to compliance with section 6751(b)(1). There are also various test cases in which the section 6751(b)(1) issue is being litigated, in both the deficiency and partnership contexts.

An example of a partnership case involving a section 6751(b)(1) challenge is 15 West 17th Street, LLC v. Commissioner (Tax Court docket No. 25152-11). At issue there is a $64 million deficiency and a 40 percent gross valuation misstatement penalty (or, alternatively, a 20 percent accuracy-related penalty). The parties there appear to agree that the original Civil Penalty Approval Form, issued in 2011, did not include approval of the IRS’s alternative penalty determination concerning the section 6662(a) and (b)(1), (2) or (3) penalties. In an attempt to remedy the lack of signed supervisory approval, nearly three years after the Tax Court Case commenced, the IRS had the Revenue Agent Group Manager, who approved the initial Civil Penalty Approval Form, execute a “revised” Civil Penalty Approval Form to “correct the defect in the original form” and approve the section 6662(a) and (b)(1), (2) or (3) penalties at issue. One of the questions that the Court will hopefully address is whether the “initial determination” of a penalty is permitted to occur at any time prior to the “assessment” of the penalty – including as a litigation tactic after a court case has been commenced – or whether the “initial” determination of a penalty must occur earlier, for example, before the Notice of Final Partnership Administrative Adjustment (“FPAA”) or the notice of deficiency is issued, before the 30-day letter is issued, or perhaps even earlier. Highlighting the magnitude of the parties’ disagreement over this issue, the taxpayer and the government have cross-moved for partial summary judgment on the issue. The parties’ respective responses are due August 15th

A similar 6751(b)(1) deficiency test case is Graev v. Commissioner (docket No. 30638-08). There, the IRS asserted deficiencies exceeding $650,000 and gross valuation misstatement penalties exceeding $135,000. The notice of deficiency also asserts in the alternative, as in 15 West 17th Street, LLC, accuracy-related penalties under section 6662(a) and (b)(1), (2) or (3). The IRS has stipulated that the taxpayers are not liable for the gross valuation misstatement penalties. The underlying penalty approval form in Graev strongly resembles the one at issue in 15 West 17th Street, LLC in that they both approved the assertion of a gross valuation misstatement penalties but not the alternative 6662(a) and (b)(1), (2) or (3) penalties ultimately asserted against the taxpayers.

On April 14, 2014, the taxpayers moved for partial summary judgment with regard to the penalty issue on the ground that the IRS failed to comply with section 6751’s signed supervisory approval for the alternative accuracy-related penalty position. The IRS took the position that, for purposes of section 6751(b)(1), “the individual” who made “the initial determination” of the section 6662(a) and (b)(1), (2) or (3) accuracy-related penalties was an attorney in the Office of Chief Counsel – not the revenue agent originally assigned to this case (or any another individual in Exam or the Technical Services Unit) – and it was the attorney’s immediate supervisor that approved his determination, purportedly in compliance with section 6751(b)(1).

On July 16, 2004, the Court in Graev issued a detailed Order, stating that its assigned Judge “understand[s] respondent’s contention to be not that [the attorney] simply advised or recommended the penalty to IRS examination personnel who then made the determination (since advising and recommending are evidently not subject to section 6751(b)), but rather that [the attorney] was ‘the individual’ who made ‘the initial determination.’” The court noted that the Secretary is authorized to issue a Statutory Notice of Deficiency (“SNOD”) pursuant to Delegation Order 4-8 (Internal Revenue Manual Part 1.2.43.9 (Sept. 4, 2012); however, “that delegation does not seem to extend to the Office of Chief Counsel.” The Court posited that “[i]f, in fact, it was [the attorney] who made ‘the initial determination of such [sec. 6662(a) penalty] assessment’, then it would seem that there must be some delegation of authority to Chief Counsel to make such a determination.” However, as assigned judge [Judge Gustafson] “is unaware of any other delegation to Chief Counsel of the authority to determine a penalty liability in an SNOD; and respondent has not yet identified a relevant delegation of authority that would enable a Chief Counsel attorney to be ‘the individual’ who makes such a determination,” the Court ordered the IRS to file a response by August 4, 2014, “identifying any relevant delegation of authority to Chief Counsel and commenting on or correcting the foregoing tentative discussion.”

It remains to be seen whether the court will agree with the taxpayer’s or the government’s argument, but one thing is apparent, the Tax Court is taking the section 6751(b)(1) argument very seriously. In view of the fact that the IRS (and the Tax Court) have so strictly adhered to the Code’s substantiation requirements, one is hopeful that a similar strict compliance standard will be applied when interpreting a statutory provision clearly intended to protect taxpayer’s procedural due process rights. The taxpayer’s reply to the government’s response in Graev is due August 18, 2014.

Stay tuned…

 

From Sword to Shield – Reliance on RRA98 Section 1203 to Bolster a Taxpayer’s Credibility at Trial

By Frank Agostino, Jairo G. Cano, and Crystal Loyer

[Today’s post was written by Frank Agostino, Jairo G. Cano, and Crystal Loyer, all of Frank Agostino and Associates of Hackensack, New Jersey.  Frank was the recipient of the 2012 Janet Spragens Pro Bono Award from the ABA Tax Section for his work with the New York City Calendar Call program and his general work for unrepresented taxpayers.  He and his associates write today about a Tax Court case decided last month in which the taxpayer works as a Revenue Officer for the Internal Revenue Service.  We previously posted on the issues raised for IRS employees by Section 1203 of the Revenue Reform Act of 1998.  The Brewer case points out that the harsh punishment that awaits an IRS employee found to have met the criteria of 1203 can cause litigation in a case that might otherwise have settled.  This procedural aspect of the case draws our attention.]

In Brewer v. Commissioner, T.C. Memo. 2013-295, the Tax Court determined that James Brewer, an IRS Revenue Officer, was entitled to claim the First Time Homebuyer Credit in connection with his purchase of a principal residence in 2008.  The Tax Court based its decision on Mr. Brewer’s credible trial testimony.  What makes Mr. Brewer interesting is not that his credible testimony carried the day, but that no one at the IRS was willing to take responsibility for concluding that he was credible.

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To qualify for the First Time Homebuyer Credit, a taxpayer must prove that he purchased a home with the intent to use it as his principal residence.  The taxpayer must also prove that he did not have an ownership interest in another principal residence during the preceding three years.  When a taxpayer – such as Mr. Brewer – has an ownership interest in another property, the trier of fact must analyze the circumstances surrounding that ownership to determine if the other property was a principal residence.  Factors to consider include the taxpayer’s place of employment, where his family members reside, the address listed on his tax returns, driver’s license, automobile registration and voter registration card, the mailing address for bills and other correspondence, and the location of religious organizations and other social clubs attended by the taxpayer.

IRS computer systems include software to identify taxpayers who potentially do not qualify for the Credit.  If the taxpayer has claimed a mortgage interest or real estate tax deduction for another property, the IRS system will flag the tax return for further review.  This is what happened in Mr. Brewer’s case.  In such cases, the Internal Revenue Manual asks that the Revenue Agent secure a written “reasonable explanation that any prior year mortgage interest/real estate tax was for something other than a principal resident.1”  Throughout the examination and trial process, Mr. Brewer credibly explained that he purchased a condominium in Staten Island in 2005.  At the time he was engaged to his fiancée, a New Jersey resident.  He ultimately moved into his fiancée’s home and allowed his sister to live in the Staten Island condominium while she attended college.

Mr. Brewer eventually married his fiancée and purchased a home in New Jersey with his wife in 2008.  Because Mr. Brewer did not use the Staten Island property as a principal residence, his ownership interest should not prevent him from claiming the Credit.  Furthermore, the Staten Island property qualified as a second home whereby he could claim a deduction for both mortgage interest and real estate taxes.  Under these circumstances, Mr. Brewer qualified for the Credit and this case should not have extended beyond the cursory examination required by the computer system’s flagging of his return.  In other words, a written explanation of the circumstances surrounding Mr. Brewer’s ownership of the Staten Island property at the time he purchased the new home should have been sufficient for the IRS to close this case.  However, because Mr. Brewer is an IRS employee, those assigned to his case were, in a sense, obligated to hold him to a higher standard of review I.R.M. 21.6.3.4.2.11.6.1(6)(Oct. 1, 2011).

For starters, Section 1203 of RRA98 provides that the IRS must terminate the employment of any employee who engages in certain misconduct.  Specifically, the Internal Revenue Manual provides that as an Internal Revenue Officer, Mr. Brewer is expected to fully comply with all tax laws by accurately reporting and timely filing [his] federal, state, and local tax returns and fully paying their tax when due.  RRA 98 sections 1203(b)(8) and (b)(9) provide for the removal of IRS employees who willfully fail to file any return or who willfully understate federal tax liability respectively.

Given this requirement, an outside observer might view the IRS’s reliance solely on Mr. Brewer’s statements as self-serving and improper.  Therefore, absent anything more to substantiate his testimony, Mr. Brewer was forced to proceed to trial.  At trial, Mr. Brewer acknowledged his understanding the Section 1203 requirements.  He observed that he was subject to termination if he provided untruthful testimony during the trial.  Indeed, Judge Wells acknowledged: “[w]e find petitioner to be reasonable and honest and his testimony to be credible and persuasive.  We note that petitioner testified that he could be dismissed from his position as a revenue officer with the IRS if he gave untruthful testimony.”  Brewer v. Commissioner, T.C. Memo 2013-295 at 10; fn. 6.

At the conclusion of the case, impartiality and common sense prevailed and Mr. Brewer received the tax benefits he deserved.