Tax Court Order Rejects APA Claim That IRS Precluded from Asserting Penalty in Answer

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One of the issues we have looked at from time to time is the relationship of the Administrative Procedure Act (APA) to procedures embedded in the Internal Revenue Code. It is an issue we are currently working on as we finish the rewrite of Chapter 1 in Saltzman and Book, which among other topics addresses the relationship of the APA to certain IRS administrative procedures that generally fall under the broad administrative law category of informal adjudications (recall that agencies perform two broad functions in the administrative state: adjudicating and rulemaking). That relationship is complex, in part because when you mix the murkiness of administrative law with the labyrinth of tax procedure you wind up often with head scratching questions without any clear answers.

I came across an order from late December 2014 in the case of Illinois Tool Works v Commissioner that involved an interesting APA issue. Illinois Tool Works argued that under the APA the IRS’s failure to assert a penalty in its notice of deficiency meant that IRS was barred from asserting a penalty in pleadings. Judge Lauber took the APA-issue head on in an order denying Illinois Tool Works’ motion to strike the pleadings.

In this post, I will briefly describe the facts, Illinois Tool Works’ argument, and Judge Lauber’s approach to the issue.



The order lays out the facts:

In a notice of deficiency dated February 11, 2014, the IRS determined a deficiency of $70,174,594 for the 2006 taxable year. This deficiency is attributable to respondent’s determination that a transfer of funds to petitioner from a foreign subsidiary constituted a taxable dividend. The notice of deficiency did not assert a penalty under section 6662(d).

Petitioner timely petitioned this Court, contending that the transfer of funds in question constituted a nontaxable return of capital. Respondent filed his answer on July11, 2014. In paragraphs 3 and 7 of the answer, respondent alleges that, “pursuant to the provisions of I.R.C. § 6214(a), an increased amount [is] due from [p]etitioner, on the grounds that petitioner is liable for the accuracy-related penalty under I.R.C. § 6662(a) for the 2006 tax year in the amount of $14,034,919.”

In response to the answer Illinois Tool Works moved to strike the paragraphs asserting the 20% accuracy-related penalty. In its motion to strike it noted that neither exam or Appeals proposed to assert the penalty with respect to that issue, though exam  proposed the penalty with respect to an issue that was resolved.

General Principles

In support of its motion, Illinois Tool Works looked to administrative law principles:

Citing the Administrative Procedure Act (APA) and Mayo Found. for Med. Educ. & Research v. United States, 562 U.S. 44 (2011), petitioner argues that the assertion of a penalty for the first time in an answer is impermissible as a matter of law because such assertion would be inconsistent with what petitioner describes as a prior “determination” by respondent not to assert that penalty. As such, the delayed assertion of the penalty would supposedly be analogous to a disfavored “post hoc rationalization” by the agency. M Motor Vehicle Mfrs. Ass’n v. State Farm Mut. Auto. Ins. Co., 463 U.S. 29, 50 (1983); SEC v. Chenery, 332 U.S. 194, 196 (1947).

SEC v Chenery generally stands for the proposition that the courts are not supposed to allow agencies to argue a new reason for their determination, or justify agency actions based upon arguments or issues that were not properly made below.

The Chenery issue has been popping up in a number of Tax Court matters. Steve mentioned it last year in a Sum Op discussing a Judge Holmes order in Renka v Commissioner; I discussed it in a post last year considering Bergdale v Commissioner, which involved a CDP case where the taxpayer argued that under Chenery the IRS should not be allowed to argue that the determination should be sustained on the basis that the taxpayer failed to submit a Form 656 because that was a new legal theory not made in the CDP determination.

In my Bergdale post, I referred readers to Professor Steve Johnson’s outstanding 2014 article Reasoned Explanation and IRS Adjudication. One of the points Professor Johnson makes (page 1773) is that while it is clear that administrative law principles apply to tax, “administrative law is about nuance, and it must be adapted to the issues, agencies, and circumstances of the particular situation at hand. (citing to the 2004 Supreme Court case of Hamdi v. Rumsfeld where the Court emphasized the importance of context in applying administrative law to military proceedings).

The point Johnson makes is that yes we are in a post-Mayo world where there is no question that tax lawyers ignore administrative law principles at their own peril. But tax procedure is also nuanced, and there are many differing kinds of determinations that IRS makes. Context matters.

I point readers to the article at around page 1823 where he discusses the legal issues surrounding the application of the APA and general administrative principles to deficiency proceedings. I think Professor Johnson sensibly concludes both on policy and legal grounds that the reasoned explanation requirement (and by extension Chenery) should not apply to deficiency determinations. Other determinations (such as CDP cases) involve differing contexts, and the legal and policy justification for applying general administrative law principles or particular provisions under the APA may be much stronger as I have argued in Tax Notes in an earlier article CDP and Collections: Perceptions and Misperceptions [free link not available] criticizing the Tax Court’s conclusion in Robinette that certain provisions of the APA did not apply to CDP proceedings.

The Order’s Resolution of the Matter

Judge Lauber resolves the issue in large part by looking at how the context of the situation does not support precluding the IRS from asserting the penalty in its pleadings.

First he notes that Tax Court Rule 52 provides that the Court may strike any pleading that is insufficient or frivolous. As the Order describes, the Tax Court “does not favor motions to strike pleadings.”

He then goes on to consider how the Chenery argument “clearly proves too much.”

Our Rules explicitly permit respondent to assert an increased deficiency or “new matter” in his answer, Tax Court Rule 142(a), and Congress has specifically granted this Court jurisdiction to hear such claims. Section 6214(a) provides the Court with jurisdiction to redetermine a deficiency greater than that set forth in the notice of deficiency, “and to determine whether any additional amount, or any addition to the tax should be assessed, if claim therefor is asserted by the Secretary at or before the hearing or rehearing.” On petitioner’s theory, such a determination would be impermissible because it would be inconsistent with a supposed prior “determination” by respondent– embodied in the notice of deficiency–that a smaller deficiency was correct or that the new matter should not be asserted. That is clearly not the law. In this and in other respects, the specific procedures that Congress has ordained for this Court in the Internal Revenue Code may differ from the more general rules embodied in the APA.


We are in the early phases of determining how some administrative law principles and parts of the APA apply to IRS determinations. We will see other creative arguments where taxpayers seek to use general administrative law principles to determinations. While Mayo has heralded in a new phase in opening the door in tax cases to those principles, the hard work is just beginning as we struggle to see how and whether those principles will influence the varied types of IRS’s adjudicative determinations.

Judge Lauber’s approach in a case involving a possible penalty imposition in a deficiency case sensibly resolves the matter, as the context here would make applying Chenery in the way Illiniois Tool Works’ argued inconsistent with the specific approach that Congress and the Court have long applied. I am sure, however, that the Tax Court and circuit courts will have much more to say about applying the APA and general administrative law principles.

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Professor Book is a Professor of Law at the Villanova University Charles Widger School of Law.


  1. Carl Smith says

    There is another issue about 6214(a) allowing the IRS to assert additional tax during a Tax Court case: Does 6241(a) apply to penalties covered by section 6751(b)? Section 6751(b) provides that for most penalties (i.e., all other than late-filing, late-payment, estimated tax, and ones “calculated through electronic means [that is, without discretion]”), no penalty 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 of such higher level official as the Secretary may designate”. I would argue that 6751(b) — which was adopted in 1998 in part to prevent raising penalties as bargaining chips — contains a temporal limitation that precludes penalties from being asserted after the initial determination was made in a notice of deficiency, say, not to impose an accuracy-related penalty. This is not an APA issue, but one of what Congress meant by 6751(b): Does it trump 6214(a) when the additional “tax” sought in a Tax Court case is a penalty covered by 6751(b)?

    Frank Agostino has several cases involving 6751(b) now in front of various Tax Court judges in which this and other arguments are being litigated about the meaning of 6751(b). I expect rulings on some of these issues in published opinions later this year.

  2. Even if one could marshal a great § 6751(b) argument, I wouldn’t put it past the Tax Court to invalidate the law, not the penalty.

    The Commissioner already has the burden of production regarding all penalties. If in the Tax Court he asserts a penalty not included in an NOD, then he raises a new matter. His raising that new matter would require him to bear the burden of proof. In that event, would the Tax Court not rule that any § 6751(b) failure is “harmless error” because (a) the taxpayer receives the benefit of the burden of proof shift and (b) the Commissioner satisfied that burden?

    Further, § 6751(b)(1) is not clearly worded. That law reads:

    “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.”

    A Tax Court construction of § 6751(b)(1) would result in it deciding “what the meaning of ‘is’ is”. The law could be read to apply only to assessable (or defaulted) penalties; it mentions “assessed” and “assessment,” not “asserted” or “assertion,” and not “proposed” or “proposal.” Yes, an assessment comes after any Tax Court proceedings. Should the law, then, not include words such as “is (or has been) personally approved….”?

    That question raises what would be the Tax Court’s trump card against § 6751(b)(1). The Tax Court conducts its deficiency proceedings de novo. I could see the Tax Court holding that the congressional purpose behind § 6751(b)(1) is met when the Court itself, rather than some mere IRS supervisor, “personally approves” the asserted penalty “in writing”.

    As for Frank Agostino’s efforts, may he raise the § 6751(b) issues “now” better than he did “then.” See, e.g. Chai v. Commissioner, T.C. Memo. 2015-42, *25-26 (March 11, 2015) (refusing to address § 6751(b) argument because petitioner’s counsel raised the issue “for the first time in his posttrial brief” and therefore consideration “would prejudice” the Commissioner).

  3. Bob Kamman says

    The underlying policy question is whether the Tax Court exists to provide an independent forum for taxpayers, or to give IRS a second bite of the apple.

    Reminds me of the time one of my clients asked the Taxpayer Advocate for help and the Taxpayer Advocate instead assessed the employee half of FICA tax on a disputed 1099 item.

  4. George Smith says

    “The underlying policy question is whether the Tax Court exists to provide an independent forum for taxpayers, or to give IRS a second bite of the apple.”

    Not 100% sure of the question, my description of TC is its an informal process where by commissioner and taxpayer can adjudicate certain specific matters (see IRC), however, that adjudication is not in compliance with the requirements of the APA and due process clause of the Constitution. Its a free bite at the apple for the taxpayer and possibly a second bite at the apple for the commissioner dependent on the specific facts of the case. TC is a “court” in name only, its a informal process in which they have some limited judicial functions or ability, it is not “judicial review” as specified in the APA and for good reason. Its just a part of the agency, even the federal government lists it as a part of Treasury at times. The Supreme Court has called it an Article I tribunal, which seems right to me, its really just an extension or part of the agency itself….I see nothing wrong with it, but it is an informal process, Thompson exposed the agencies fraud/problems in Thompson v. Commission 2004 (011630-03) as the agency was not even properly adjudicating under its informal rules.

    I would recommend everyone get a full copy of the ruling and transcript of Thompson, as a Pro Se litigant was not only easily able to defeat a penalty but the deficiency as well which the commissioner claimed over 6 digits was owed. No wonder the Clerk of TC has tried to bury the case, they are really just an extension of the agency.

  5. Norman Diamond says

    Here’s the docket sheet:

    It’s interesting that Respondent had no counsel ^_^

    A search for Kenneth Thompson and IRS corruption found probably a different Kenneth Thompson, the acting IRS commissioner of inspection when Congress investigated corruption in the IRS in 1989:

    I guess they will never change.

  6. Norman Diamond says

    Tax Court told me that for a case as old as Thompson the documents have probably already been destroyed.

    They’ll look to see if they still have the Order and Decision (document 0015), and I asked also if they can look for the Motion for Summary Judgment (document 0011) and Bench Opinion (document 0008). They charge a fee of $25.00 per box for searching boxes in the warehouse if they still have those documents; I don’t know if they charge for searching when they no longer have the documents. The fee for copies is $0.50 per page.

    Should I ask for a transcript too? Aren’t transcripts expensive (when they haven’t been destroyed yet)?

  7. Norman Diamond says

    Hey! I’ve just now read George Smith’s comment on this page:

    Sure the corruption and cat-and-mouse games and coverups of identity theft etc. etc. should be reasons for victims to win, but was Kenneth Thompson really a victim?

    “Thompson exposed the problem/scam with the process in Thompson v. Comissioner (2004), in which a pro se refused to file tax returns, refused to give information and stood his ground, and easily won.”

    He refused to file? And did he refuse to give all kinds of information, or only refuse to give protected information as allowed by US v. Sullivan and Garner v. US? If he refused to file it sounds like he made a blanket refusal. How did he win? Was he up against some spectacularly massive corruption worse than the usual?

    I’m not a tax protestor. I filed. In the rare cases when I owed US tax, I overpaid and the IRS refunded the excesses. As typical for 99% of us who are or were part of the US’s diaspora, my US tax was nearly always zero (because earned income was below the FEIE limit and income tax rates in countries of residence were higher than in the US), but I filed anyway. I wrote honest declarations because differences between IRS instructions and facts in countries of residence (and sometimes differences between IRS instructions and IRS instructions) make it impossible to produce true and correct numbers on forms preceding the zeroes at the bottom. The IRS refused to state its case against me until the IRS filed its answer in Tax Court. When the IRS and judge explained that illegal honesty impedes administration of US taxes, I overpaid the settlement but still expected withholding to be refunded. Later TIGTA reported to Congress that Monica Hernandez stole identities, and later I learned that she likely embezzled withholding from my Forms 1099, so I’m still fighting.

    So sure I’d like to see the corruption that Kenneth Thompson encountered. But he was refusing to file? How did a non-filer win? Is he really such a hero?

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