The Taxpayer First Act changed the scope of review in innocent spouse cases. Rather than allow parties to introduce evidence at trial, as we have discussed (see for example Christine’s post Taxpayer First Act Update: Innocent Spouse Tangles Begin) the TFA restricts the parties to the administrative record. TFA contains two exceptions: when there is evidence that is newly discovered or was otherwise unavailable. There is considerable uncertainty surrounding this new rule, as well as how the Tax Court will define and apply the newly discovered and otherwise unavailable exceptions.
This past March in Fatty v Commissioner, Judge Holmes issued a bench opinion in an S case that gives an early nonprecedential look at the otherwise unavailable exception.
The case itself is a fairly straightforward application of the equitable relief factors arising from an approximately $7,000 reported liability attributable to the withdrawal of funds from Mrs. Fatty’s retirement account. At the time the then-married Mr. and Mrs. Fatty used the money to pay for expenses associated with the purchase a house. They later divorced, and pursuant to the divorce agreement Mrs. Fatty, who retained ownership of the home, was responsible for the tax liability.
Despite Mr. and Mrs. Fatty entering into and complying with an installment agreement (with Mrs. Fatty paying the monthly amounts) Mr. Fatty sought relief from the joint and several liability. Mrs. Fatty intervened and the case went to trial.
In normal deficiency cases, and in innocent spouse cases prior to the TFA changes, at trial, Mr. Fatty would have the opportunity to testify and introduce other evidence. In setting up the opinion, Judge Holmes summarized the TFA changes:
Until recently, the scope of review in a Tax Court case involving a request for innocent spouse relief is also de novo. People would come, they’d introduce evidence, and I as a judge would look at it with fresh eyes. Congress has more recently changed that scope of review. Now I am supposed to look at what is called the administrative record. The administrative record consists of all the documents and the evidence that the IRS looked at when Mr. Fatty first applied for relief.
Judge Holmes also explained the two exceptions to the TFA record rule:
I am supposed to look only at the administrative record, with two exceptions. And those two exceptions are evidence that is newly discovered or evidence that was previously unavailable. This is a change in the law, and the Fattys are one of the first cases to come after this change in the law.
Here is where the opinion gets interesting. As I mentioned, the TFA does little to expand upon what either exception means. As a practical matter, these exceptions will likely be important, especially with pro se taxpayers who may fail to develop a case before the centralized and correspondence based IRS innocent spouse unit.
In Fatty, Judge Holmes takes a very generous view of the meaning of otherwise unavailable, offering one approach that takes into account the absence of trial like procedures in IS administrative determinations:
However, in this particular case, I just assumed that testimony given under oath and subject to cross-examination, like the testimony given by both Mr. and Mrs. Fatty, is this newly available evidence, because when Mr. Fatty applied for innocent spouse relief, he wasn’t able to give sworn testimony and neither he nor his wife were subject to cross-examination
This approach, if adopted in other cases, leaves open the possibility for witness testimony, given the absence of sworn testimony and the right of cross examination in administrative IS determinations.
To be sure, it is hard to read too much into this: this is just a bench opinion in an S case and the language discussing the exception is a bit garbled. Judge Holmes notes the limits: “As I said, I’m not deciding this for all cases in the future. This is an S case.” Yet for practitioners this is an important early development. It provides a convincing approach to allow parties to testify despite the TFA record rule limiting the scope to the record below. We will see if the Tax Court adopts it, or whether other Tax Court judges apply it in future nonprecedential opinions.
What about the Fattys’ case? As with many Judge Holmes opinions he transparently discusses his approach, which is refreshing in a case implicating a multi-factor balancing test.
What I look at, and what I think is the appropriate fulcrum, is the extent to which the economic immunity of a household that files a joint return has been broken down by the actions of the non-requesting spouse in a way that didn’t allow the requesting spouse’s reasonable exit from having joint returns and a joint liability.
The opinion notes that the parties equally enjoyed the benefits of the income and explains that the IRS is not bound by the parties’ divorce agreement. After walking through the factors and emphasizing that Mr. Fatty had remedies under state law if Mrs. Fatty failed to pay on the agreement and the IRS collected from him, Judge Holmes held that Mr. Fatty was not entitled to relief.