Promoting, Not Discouraging, Tax Compliance

Imagine you are Jane or Michael, a 14 year old who just entered the work force for the first time. In 2014 you earn $1,000 babysitting for your neighbor or cutting the grass.  You are proud of your earnings and newfound financial independence.  Like most of your friends you open a bank account and you decide to start saving your earnings for college, or maybe law school, or even retirement.

While thinking about your earnings and plans to save, you research the tax aspects of your employment as well as aspects of retirement planning, including Social Security benefits. At first after going to the library and checking out books on the tax law, you are surprised to learn that your self-employment earnings are subject to self-employment tax, but you are somewhat consoled when you read on the IRS website that “[y]our payment of these taxes contributes to your coverage under the Social Security system.”  However, while researching Social Security, you subsequently learn that you need 40 quarters of Social Security credits to qualify and that you must earn $1,200 in 2014 to qualify for one quarter of credit.  You are disappointed when you realize that you did not reach this level of earnings in 2014 but you vow to earn a little more in 2015 so you can start building credit for Social Security.


The next night at the dinner table your family is talking tax policy and the self-employment tax comes up. Your pesky older brother rails against his landscaping job because they want to treat him as an independent contractor rather than an employee.  He complains that even though independent contractors seem to have a great advantage because they do not pay Social Security tax if they earn less than $400, he still wants to be an employee taxed on the first dollar.

This makes you wonder why independent contractors get to pass on self-employment taxes up to $400 of earnings and how this will impact your $1,000 earnings. After some research you learn that Congress initially did not make self-employed individuals pay self-employment tax if their earnings from self-employment would not allow them to get credit for a quarter of self-employment earnings; however, in 1978 Congress indexed the earnings necessary to receive one quarter of credit to inflation but it did not index the starting point for self-employment taxes.  So, you must pay self-employment tax on your earnings of $1,000 (about $150) but you get no, zero, nada credit from Social Security for this payment.

Thousands of teenagers similar to Jane and Michael (perhaps tens of thousands), as well as other very low-income earners, face this each year in the Untied States. These individuals, after carefully doing their research, realize that they must pay tax for something billed as insurance and for which they will receive no benefit.  Many of the people faced with this situation are just entering the workforce and many may not have even reached the age of majority, making this a tax on the unrepresented.  The dilemma facing the Janes and Michaels is whether they should pay this tax and be good citizens as they enter the work force because Congress mandated that they pay it.  Should they stand up and rail against the system Congress created or should they quietly let the matter slip because in many instances the IRS has not received a Form 1099 or other indication of the income and enforcement action is unlikely.

To research the behaviors of teenagers faced with this dilemma, I have quizzed my law school students for the past several years. I assume that law students would comprise a very law abiding segment of this group because they face the bar review committee and must demonstrate compliance with the laws and possess high moral character and fitness to practice.  They do not want to put on their bar applications that they have unfiled returns and unpaid taxes.  Because my students have a heightened interest in tax leading them to take a tax clinic course, I assume that on tax matters they demonstrate even a higher standard of tax compliance than ordinary law students.

My first discovery in quizzing this group was that students who end up in my law school class seem, by and large, to never have earned money by babysitting or cutting grass – or at least they decline to admit it in an open classroom. As a group, only a small percentage of them ever worked in self-employed positions.  This lack of self-employment as an entry into the work force may stem from generational changes from when I grew up or may result from the demographics of those who can afford to attend my law school.  I realize that my job as a paperboy from ages 12-17 no longer exists for that age group.

Never having been self-employed, these students have no worries in regard to the self-employment tax and generally demonstrate a complete lack of knowledge about the self-employment tax.

Second, among the minority of students who have held self-employed positions, the percentage of these students reporting self-employed earnings as teenagers hovered right around the percentage I expected – absolute zero. I had one student several years ago who worked for a law firm the previous summer and earned about $6,000–$7,000.  He seemed dazed as he left the class to learn that he had a $1,000 bill for self-employment tax for his summer’s work.  Being the messenger made me slightly uncomfortable in that situation.  Unlike my fictional Jane and Michael, most teenagers in America do not seem to know about their self-employment tax filing obligations.  I do not attribute the failure to pay the tax to a desire on the part of my students to cheat on their taxes but primarily due to ignorance.  I also did not note a clamor to rush to file the missing back tax returns for those coming to the realization of their little known failure to file problem.

All of this background leads to the point of this article allegedly about tax procedure – why do we have a tax imposed for the purpose of providing benefits but which does not? Do we have the expectation that the IRS would/could/should administer this law?  Why do we want to teach people as they enter the work force that they can ignore tax laws?  Does this lead to later non-compliance?  Would tax procedure be better served by laws that the tax administrator could administer and the taxpayer could see some benefit even if it is 50 years in the future?

We will argue in this column for procedures that work, laws that support them and laws that promote compliance. The requirement to pay self-employment taxes even when earnings do not contrubute to Social Scurity credits is a poorly designed law that at best benefits from a lack of understanding and likely promotes non-compliance. Most of the non-compliance in this post’s example likely results from ignorance rather than willfulness but do we want to promote non-compliance in any manner? Don’t we want to introduce our young citizens into a tax system that is rational and just? The current model does precisely the opposite.




Announcement To Our Readers

As we approach our 300th post on Procedurally Taxing, we wanted to let you know about some developments. We started the blog in the summer of 2013. As I stated in our first post Welcome to Procedurally Taxing, it has been our goal to “be a site that readers can trust to learn about important developments.” We also wanted to “highlight…less obvious developments and provide analysis and context reflective of our many years of practice in the area.”

We have tried hard to keep up with the at times unforgiving pace of developments as well as the competing demands on our time; not just our day jobs but personal demands as well. The past year for us has seen weddings (Les); grandchildren (Keith); and first days of school (Steve’s daughter).

In addition to the many hours Steve, Keith and I spend on the blog, we have been fortunate to connect our readers with some terrific guest bloggers drawn from the ranks of the top academics and practitioners who have written dozens of posts on important issues ranging from the APA, the Affordable Care Act and Circular 230, to name a few.

Our readership and subscribers have grown steadily almost every month, and our posts both current and past provide a useful and (still) free source of guidance for practitioners, academics and taxpayers. While our readers through email subscriptions, social media links and search engine finds have brought our blog out of the small blog ranks, we have decided that for some of the posts we publish the topics may serve a broader audience than we currently reach. For those posts we will blog initially through a partnership with Forbes. As many of our readers know, Forbes has a growing stable of talented tax bloggers, and we are proud to join their ranks. Nothing will change with our site, though for a handful of posts a month the initial publication will be through Forbes. When we post on Forbes we will let our readers know and send a direct link to the Forbes post. If you are an email subscriber to Procedurally Taxing, you will also receive those posts as you regularly do the day following publication at Forbes when the posts go up at our home blog site.

A brief word about our motivation for using Forbes to initially post some of our content. Principally, we work on the blog because we are committed to being a voice on issues of tax procedure and administration. We will not be receiving any compensation from Forbes as a result of our partnership just as we receive none from our current blog site. We are amazed and encouraged by the diversity of our current audience. We hope our posts are not only informative but also helpful in forming a debate a tax procedure topics that washes over from the representation of individuals to broader policy issues debated in various branches of government. Forbes, that is its resources and ability to push out content, potentially allows our posts to reach a wider audience and for some of our content we feel a broader audience may have interest in the topic.

That is not to say we are completely altruistic. Many of the topics we write about for the blog also make their way into other publications on which we work for compensation; for example, starting next year with the upcoming third edition of the Thomson Reuters IRS Practice and Procedure, both Keith and Steve will have authorship credit on select chapters they are working on with me in the update and rewrite of the treatise. We hope that in some way the blog, and its publication, will enhance our reputations and thus the book, and any other separate professional endeavor we each have.

In any event, we hope you are enjoying the blog and will continue to enjoy as we transition to this new chapter. We welcome your comments and look forward to the next 300 posts.

Summary Opinions for 10/17/14

141022cHot tubs, fraudulent credits, the Tax Court saving a marriage, and, of course, some tax procedure.



  • This is an old version of Frank Agostino’s newsletter, which was published about a year ago.  I had not read it before, and he just posted it to LinkedIn.  As always, the quality is great.  I particularly enjoyed the hot-tubbing with the IRS article, and will know not to get flattered if Mr. Agostino ever asks me to hot-tub in the future.  Great article for tax professionals, but also non-tax folks who deal with valuation disagreements.
  • United States v. Bostick is an interesting case from the District Court for the Northern District of Texas relating to the IRS seeking permanent injunctions against preparers engaging in a fraudulent credit scheme. The Court did not grant the government’s injunction to the extent requested by the Service, largely because it did not believe the practitioners would engage in this type of action again. There is also a discussion as to what standard preparers are held to under Section 6694(a) and (b), and the reasonable cause exception to that statute.  In discussing these aspects of the case, the Court, interestingly, noted that the government had “not presented any evidence…that persuades the court that tax preparers are held to the same standard as attorneys or are required in every instance to seek the advice of a tax attorney.”  I wonder what the standard is for CPAs?  Peter Reilly at Forbes has some coverage found here.
  • The Service issued Notice 2014-58, which provides additional guidance regarding the codification of economic substance doctrine under Section 7701(o).  The Notice provides a definition of “transaction”, and also provides additional guidance for the related penalty under Section 6662.  There has been strong coverage of the Notice, especially helpful are write ups by PWC and KPMG.
  • In Wang v. Comm’r, a taxpayer claiming innocent spouse failed the “knowledge/reason to know” requirement under Section 6501(b)(1)(C), although she argued that her husband hid information from her. Taxpayer and her husband had conflicting testimony on various aspects of the case, and the Court found that taxpayer was involved in her husband’s business in a meaningful way, was very well educated, and did speak with him regarding his legal troubles.  The Court concluded she should have known or inquired more about the tax issues.  Worth noting that husband was disbarred a few years before for misappropriating client funds – he attributed this to bookkeeping errors (hmm, seems suspect, I’m sure Mr. Agostino was all over that).  Also somewhat interesting, the taxpayer said she was only with her husband for the children, and she would divorce him if successful in the innocent spouse claim…Perhaps the Court did not want to be responsible for the failed marriage.
  • I’m working on Saltzman and Book chapter 5 right now, which deals with statutes of limitations, and I’m pretty sure Reinhart v. Comm’r is going to make it into the text in one or two places.  Service filed a lien after ten years following the assessment.  The primary issue was whether or not the Service could collect trust fund recovery penalties that accrued prior to my little brother being born and around the time President Bush I puked on the Japanese prime minister.  The Case has a good burden discussion, a good discussion of when a limitations argument can be made before the court when coming out of Appeals, the proper scope of review, and when the statute is tolled for a taxpayer out of the country.  We will have more on this case this week and next, so I’ll just highlight the issues for now.
  • More statutes of limitations, this time regarding the refund period for claims based on foreign tax credit carrybacks.  In Albemarle Corp. v. United States, the Court of Federal Claims held that although the taxpayer met the “all events” test under Section 461, and the dispute was settled and taxes paid within the 10 year period, under the “relation back doctrine” accruals related to the original refund year, which was outside of the ten year period.  McDermott Will & Emery has a write up here, which discusses the issues in greater detail.
  • In Hauptman v. Comm’r, the Tax Court confirmed the IRS’s rejection of an OIC predominately because the taxpayer had provided drastically different values for his assets to the Service and to other third parties; further, he failed to comply with the tax laws, and was not completely helpful in providing information and explanations.  He was also not the most endearing taxpayer.  First, Mr. Hauptman owed a boatload of money; some amount of millions.  He also just didn’t file tax returns or pay tax, largely because he didn’t feel like it.  Eventually, his business tanked, and he wasn’t as rich anymore, and then the Service started levying.  Probably the biggest take away from the case is that you shouldn’t expect the Service to rely on your numbers when you owe millions.  The IRS followed up with banks, lenders and business associates, who provided much higher values for the taxpayer’s companies and assets.  He said those were “puffed up”, but the Service should definitely trust the numbers he gave to them.

AICPA Suit Against IRS Voluntary Education and Testing Regime Thrown Out of Court

We have previously discussed the AICPA’s lawsuit challenging the IRS’s voluntary Annual Filing Season Program, as well as other major developments relating to preparers in a post last month. After AICPA sued, IRS filed a motion to dismiss the suit due to lack of standing. Yesterday Judge Boasberg of the DC District Court (the same District Court judge in Loving) held in favor of the IRS and granted its motion to dismiss in AICPA v IRS


The dismissal turned on the court finding that the AICPA did not have standing to sue the IRS. Standing rules are tricky when organizations rather than individuals bring the suit (recall that in Loving the plaintiffs were 3 previously unlicensed preparers).

I will briefly describe the basis for the court’s opinion, but first provide some background on standing generally, courtesy of Judge Boasberg.

Background on Standing

As the opinion cogently explains, standing rules are based on the constitution:

Article III of the United States Constitution limits the jurisdiction of the federal courts to resolving “Cases” or “Controversies.” U.S. Const. art. III, § 2, cl. 1. A party’s standing “is an essential and unchanging part of the case-or-controversy requirement of Article III.” Lujan, 504 U.S. at 560. To have standing, a party must, at a constitutional minimum, meet the following criteria. First, the plaintiff “must have suffered an ‘injury in fact’ – an invasion of a legally- protected interest which is (a) concrete and particularized . . . and (b) ‘actual or imminent, not ‘conjectural’ or ‘hypothetical.’” Id. (internal quotation marks and citations omitted). Second, “there must be a causal connection between the injury and the conduct complained of – the injury has to be ‘fairly . . . trace[able] to the challenged action of the defendant, and not . . . th[e] result [of] the independent action of some third party not before the court.’” Id. (alterations in original) (citation omitted). Third, “it must be ‘likely,’ as opposed to merely ‘speculative,’ that the injury will be ‘redressed by a favorable decision.’” Id. at 560-61 (citation omitted). A “deficiency on any one of the three prongs suffices to defeat standing.”

The standing rules differ when an organization (such as the AICPA) brings a suit. Here is how the DC District framed the standing rules with organizations:

 Here, Plaintiff does not claim injury to itself, but to its members. When an organization is suing on behalf of its members, it must establish “representational” or “associational” standing. To do so, it needs to show that “(1) at least one of [its] members has standing to sue in her or his own right, (2) the interests the association seeks to protect are germane to its purpose, and (3) neither the claim asserted nor the relief requested requires the participation of an individual member in the lawsuit.” American Library Ass’n v. FCC, 401 F.3d 489, 492 (D.C. Cir. 2005) (citing Hunt v. Washington State Apple Advertising Comm’n, 432 U.S. 333, 343 (1977)).

For good measure, the court framed the standing issue in a way that favored the IRS:

Finally, because the agency program at issue here is not directed at Plaintiff or its members, but at third-party uncredentialed tax preparers, a “heightened showing” is required to establish standing. Renal Physicians, 489 F.3d at 1273. “[W]hen the plaintiff is not himself the object of the government action or inaction he challenges, standing is not precluded, but it is ordinarily substantially more difficult to establish.”

AICPA Argument and Court’s Analysis

The AICPA’s argument was based on “three theories of standing here, claiming that its members: (1) “employ individuals [i.e., uncredentialed tax preparers] who will be injured by the additional regulatory burdens created by the AFS Rule”; (2) “will be directly injured by the AFS rule because it requires firms to ‘take reasonable steps’ to ensure that their newly regulated employees comply with Circular 230”; and (3) “will suffer injuries because the rule will cause confusion among consumers.”

The court proceeded to find fault with the three respective theories. With respect to the first theory, that its members will be injured due to employee costs, the court rejected that basis because under federal standing law employers do not have standing based on employee costs. Moreover, that employers may choose to incur some of those costs directly was not enough to bring the harm to the level needed under federal standing law because those would be voluntarily incurred and not traceable to the  IRS’s program.

As to the second theory, that the member firms will be directly injured by the AFS rule due to the reasonable steps needed to ensure Circular 230 compliance, the court also dismissed that as more properly attributable to Circular 230, and not the voluntary program. Perhaps hinting at a future suit, the order states that “[a]ny objection AICPA wishes to make to the “reasonable steps” obligation, see Opp. at 22-23, must be raised in a challenge to Circular 230 rather than to the Program.”

Finally the order dismissed the notion that the AFS program would cause confusion as speculative. With blunt language, the court described the likely motivation for the suit:

Beneath its amorphous rhetoric about confusion, the crux of Plaintiff’s concern is apparent: its membership feels threatened by the specter of increased competition from previously uncredentialed preparers who choose to complete the program.

While in certain circumstances, increased competition can lead to standing (so called “competitor standing”), the court did not find that to be the case here because “an aspiring litigant must show “an actual or imminent increase in competition” resulting from the challenged regulatory action.” Here, AICPA failed to show that.

Parting Thoughts

This is a major though perhaps temporary legal victory for IRS. There are other developments that portend for some difficult times ahead for IRS as it attempts to target preparers for additional oversight as a way to reduce the tax gap. Judge Boasberg (and others, including Mike Desmond in a guest post on Procedurally Taxing) suggests that future challenges to IRS under Circular 230 are possible. This seems especially likely in light of the Ridgely v Lew descision that invalidated Treasury Circular 230 10.27 insofar as it prevents the charging of contingent fees for refund claims practitioners charge for preparing and filing refund claims after an original filing and before the Service has commenced an audit.. In addition, the class action challenge to the user fees that IRS charges for PTINs is still ongoing. Nonetheless, this opinion, for the time being, allows the IRS to proceed with its ambitious plans for the upcoming filing season.



Hurray! A Tax Court Judge Decides an Innocent Spouse Case Without Discussing Rev. Proc. 2013-34

Today we welcome back Carl Smith who writes about a recent innocent spouse case that raises interesting issues that connect back to general administrative law principles, including whether in equitable relief cases the Tax Court should continue to cite and discuss relief factors that the IRS has only promulgated through a revenue procedure rather than through more traditional APA notice and comment procedures.

Last week, Judge Halpern issued an opinion in an innocent spouse case, Varela v. Commissioner, T.C. Memo. 2014-222. Neither the facts of the case nor its ultimate holding are novel.  But, the opinion may be important for how the court got to its ultimate holding.  Unusually, the judge decided that the taxpayer-wife was an innocent spouse under section 6015(b) — and that holding her liable would be “inequitable” under subsection (b)(1)(D) — both without citing or discussing Rev. Proc. 2013-34, 2013 C.B. 2013-2 C.B. 397.  As I have written before (see below), I hope this becomes a trend.  For, in deciding a taxpayer’s entitlement to section 6015(b) or (f) relief, there is no need or wisdom in the courts’ relying on continually-changing IRS non-regulation guidance on what is “inequitable”.  The courts can rely on their own case law on what is “inequitable” that was generated in the 27 years during which the courts decided this identical issue under the predecessor innocent spouse statute at former section 6013(e) — a time in which there was no similar Rev. Proc.  Although IRS non-regulation guidance keeps changing, what is “inequitable” does not.


Much of the background (and citations) for this blog post is condensed from an article that I wrote for Tax Notes in 2011, and I suggest that readers interested in detail and citations go to that article. See Carlton M. Smith, “Innocent Spouse: Let’s Bury That ‘Inequitable’ Revenue Procedure”, 2011 TNT 114-6 (June 14, 2011)[free link not available].  I don’t want to turn a blog post into a law review article.

Rev. Proc. 2013-34 is the fifth and most recent IRS non-regulation guidance addressing the issue of what is “inequitable” under section 6015(b) or (f).  It has many predecessors going back to 1998:  Notice 98-61, 1998-2 C.B. 756 (issued only months after section 6015 was enacted as part of the IRS Restructuring and Reform Act of 1998); Rev. Proc. 2000-15, 2000-1 C.B. 447; Rev. Proc. 2003-61, 2003-2 C.B. 296; and Notice 2012-8, 2012-1 C.B. 309.

Prior to the enactment of section 6015 in 1998, there had been an innocent spouse provision at former section 6013(e) that also contained, as one of a few requirements for relief, that it be “inequitable” to hold the taxpayer liable.  Section 6013(e) was adopted in 1971, and its legislative history contained a few sentences on what Congress thought were among the things the courts should consider in the equity determination.  In regulations promulgated under section 6013(e), the IRS basically just quoted those sentences from the legislative history, without further elaboration.  For the next 27 years, courts issued opinions deciding what factors went into the equity determination and the weight of the factors (such as that lack of significant benefit was the most important factor).

When section 6015 was enacted in 1998 to replace section 6013(e), the new statute contained a modified version of section 6013(e) relief at new section 6015(b) — one which also required the court to decide, among other issues, whether holding the spouse liable would be “inequitable”.  Section 6015 also contained a new provision at section 6015(f) that allowed for relief, if relief was not available under subsections (b) or (c), merely on a showing that holding the spouse liable would be “inequitable”.  There were initially procedural reasons why a taxpayer would prefer seeking relief under (b) (e.g., filing an election under (b) would prohibit IRS collection during the IRS’ consideration, while filing a request under (f) would not), but Congress later eliminated these procedural distinctions, thereby making (b), as a practical matter, unnecessary anymore, since any taxpayer who qualified for relief under (b) had proved more than she needed to prove to qualify under (f).

In 2002, the IRS promulgated regulations under the new subsection (b) that lifted the sentences from the 6013(e) regulations on what was to be considered in deciding the equity issue (sentences that were derived from the 1971 legislative history of section 6013(e)).  The regulation adopted provides (at section 1.6015-2(d)):

All of the facts and circumstances are considered in determining whether it is inequitable to hold a requesting spouse jointly and severally liable for an understatement. One relevant factor for this purpose is whether the requesting spouse significantly benefitted, directly or indirectly, from the understatement. A significant benefit is any benefit in excess of normal support. Evidence of direct or indirect benefit may consist of transfers of property or rights to property, including transfers that may be received several years after the year of the understatement. Thus, for example, if a requesting spouse receives property (including life insurance proceeds) from the nonrequesting spouse that is beyond normal support and traceable to items omitted from gross income that are attributable to the nonrequesting spouse, the requesting spouse will be considered to have received significant benefit from those items. Other factors that may also be taken into account, if the situation warrants, include the fact that the requesting spouse has been deserted by the nonrequesting spouse, the fact that the spouses have been divorced or separated, or that the requesting spouse received benefit on the return from the understatement.

But this regulation also went on to add:  “For guidance concerning the criteria to be used in determining whether it is inequitable to hold a requesting spouse jointly and severally liable under this section, see Rev. Proc. 2000-15 (2000-1 C.B. 447), or other guidance published by the Treasury and IRS (see § 601.601(d)(2) of this chapter).”  Thus, the regulation attempted to bootstrap anything the IRS said in a Revenue Procedure about what is “inequitable” as additionally required for getting relief.

The regulation under new section 6015(f) does not even contain the above-quoted sentences about inequity lifted from the section 6013(e) regulations, but merely contains a similar cross-reference to Rev. Proc. 2000-15 or other published guidance for a determination of what is “inequitable” for purposes of subsection (f) relief.  See Reg. 1.6015-4(c).

Beginning with Notice 98-61 and most recently appearing in Rev. Proc. 2013-34, the IRS has issued a series of non-regulation guidance explaining to how it will evaluate what is “inequitable” under subsection(f) (including a safe harbor).  The IRS lists a series of factors — which have changed over the years, both in their detail and whether the factors are positive, negative, or neutral in effect.  I think it is natural for the IRS to have given guidance to its own employees making innocent spouse determinations.  I would expect that guidance to be based on case law or the regulations and to appear in the IRS Manual.  I have never understood, though, why or how the IRS can expect to have issued guidance — without following the Administrative Procedure Act for regulations – that it expected to bind or govern how the courts should rule on this equity issue.

In the first section 6015 cases that came before the courts (starting in 2000), the courts quickly observed that, in light of the identical word “inequitable” in the two statutes, judicial precedent on what was inequitable under section 6013(e) governed what was “inequitable” under section 6015(b) or (f).  The early opinions from the courts on section 6015 usually don’t even cite any Rev. Proc., but simply cite to earlier judicial opinions decided under section 6013(e).  However, over time, the courts started citing and discussing the various Rev. Procs. when deciding what  was “inequitable”.  Eventually, the courts began almost slavishly just citing the Rev. Procs. — only differing from the Rev. Procs. when it deviated from long-standing section 6013(e) judicial precedent (as it did on a few occasions).

In virtually every Tax Court opinion in recent years, the judges have cited the relevant Rev. Proc. to decide the issue of what is “inequitable”.  But, starting around 2011, with the Tax Court opinion in Pullins, 136 T.C. 432, 438-439, the Tax Court has noted it isn’t bound by the Rev. Proc.  However, as in Pullins, the court has continued to cite and discuss the Rev. Proc. in nearly every subsequent opinion.

A few other significant events happened in 2011:  First, in Mayo Foundation v. U.S., 562 U.S. 44, the Supreme Court held that it was not going to create a system of administrative review good for tax law only.  Realizing that guidance like Rev. Procs. do not go through APA-appropriate pre-issuance notice and comment, in early May (only two days after Pullins was issued), the Department of Justice announced at an ABA Tax Section meeting that it was no longer going to argue for Chevron deference to I.R.B. guidance like Rev. Ruls. and Rev. Procs.  See Marie Sapirie, “DOJ Won’t Argue for Chevron Deference for Revenue Rulings and Procedures, Official Says”, 2011 TNT 90-7 (May 10, 2011).  In my view, this further undermined the need for the courts to discuss the Rev. Proc. in deciding a 6015 case.  The IRS was no longer arguing that the Rev. Proc. had any legally-binding weight.  Finally, and least relevant, in June 2011, I published my article criticizing courts giving any weight to the innocent spouse “inequitable” Rev. Proc.

Judge Halpern, the author of last week’s Varela opinion, is one of the Tax Court judges who is known to care a lot about administrative law.  Perhaps for that reason, when he wrote the Varela opinion, he, unusually, did not cite the current Rev. Proc. (i.e., 2013-34) or any of the many factors as listed therein, but merely decided the inequity issue in the following paragraph:

Finally, section 6015(b)(1)(D) provides that innocent spouse relief is appropriate when, in the light of all the facts and circumstances, it is inequitable to hold the requesting spouse jointly and severally liable. Factors we consider include (i) whether there has been a significant benefit to the spouse claiming relief and (ii) whether the failure to report the correct tax liability on the joint return results from concealment, overreaching, or any other wrongdoing on the part of the other spouse. See Alt v. Commissioner, 119 T.C. 306, 314-315 (2002), aff’d, 101 Fed. Appx. 34 (6th Cir. 2004). Intervenor concealed the fact that the withdrawn funds were inappropriately taken from JL Unique, and petitioner did not learn of intervenor’s withdrawal of the funds until 2010, during the couple’s divorce proceedings. Moreover, while the funds were used to pay household expenses for the family, we are convinced that petitioner did not receive a benefit that is traceable to the funds beyond ordinary support.

The Alt case cited by Judge Halpern was an early innocent spouse case under 6015 that also, under 6015(b), determined what was “inequitable” without citing either Notice 98-61 or Rev. Proc. 2000-15.

It is my hope that this Varela opinion starts a trend for other judges of the Tax Court to follow — abandoning discussing the Rev. Proc. and instead just citing case law to determine what is “inequitable” under both (b) and (f).


A Combo Notice of Deficiency Claim Disallowance Highlights Tax Court Refund Jurisdiction

What happens when a claim for refund is pending during an audit that has yet to culminate in a notice of deficiency? A recent Tax Court order in McCormack v Commissioner (and timely post on the order by Lew Taishoff) highlights a procedure where IRS issues a denial of a refund claim and a statutory notice of deficiency in one combined letter. The combination document, if timely petitioned, triggers Tax Court deficiency and overpayment jurisdiction. Neither the blog nor Judge Holmes had previously considered the procedure, and it highlights the Tax Court’s overpayment jurisdiction as well as its general deficiency jurisdiction.

Here are facts, as recounted by Judge Holmes:


  • Oct. 21, 2011 – petitioners file their 2010 Form 1040, U.S. Individual Income Tax Return,and pay the balance due. The amount shown on their return is presumably assessed.
  • Aug. 24, 2012 – petitioners file a claim for a refund for their 2010 tax year.
  • May 3, 2013 – respondent issues the notice both determining a deficiency and disallowing the claim for a refund.
  • July 30, 2013 – petitioners file their petition in this court.

Judge Holmes was confused about the combined May 3 notice, stating that it “puzzled the Court because it had never before seen such a notice, and thinking this might not be a deficiency case at all it issued an order to the parties to show cause why the case shouldn’t be dismissed for lack of jurisdiction.”

The parties apparently pointed to IRM and Section 6512. The IRM , which Judge Holmes cited to in the order, explains the following:

If the examination of a return and the claim for refund filed for the same year result in a deficiency and the taxpayer does not exercise any appeal rights, a notice of deficiency is issued. The following actions will be taken regarding the claim for refund issues. The taxpayer will be notified in the notice of deficiency that the claim has been considered. Immediately after the summary of the tax liability, or as an attachment to such forms, the following paragraph will be included: 
”In making this determination of your (list year) tax liability, consideration has been given to your claim(s) for refund filed on (date). This is your notice of claim disallowance. If you choose not to petition the Tax Court, but still want to contest the disallowance, you may do so by filing such a suit with the United States District Court having jurisdiction or the United States Court of Federal Claims. The law permits you to do this within two years from the date of this letter.

Judge Holmes also explained that Section 6512 “contemplates treating the disallowed claim for a refund as a claim under our overpayment jurisdiction, so there is no problem with our jurisdiction. See IRC §6512(b)(3)(C)(i).”

The order also helpfully cites a Tax Court case from a few years ago, Fisher v Commissioner, which illustrated the Tax Court’s concurrent overpayment and deficiency jurisdiction. In that case, the taxpayer properly petitioned the Tax Court, both opposing the proposed deficiency and claiming a refund. IRS eventually conceded that the statute of limitations on assessment had expired and moved to dismiss for lack of jurisdiction the refund aspect of the case. In other words, IRS argued that subsequent actions can deprive the Tax Court of its refund jurisdiction. The Court declined, noting that “our jurisdiction does not depend on respondent’s ability to assess a deficiency.”

In light of the above, in McCormack, Judge Holmes stated that he “learned something new” and that the order to show cause was now discharged. This order highlights a little known nook of Tax Court jurisdiction, and I immediately thought of my days as clinic director, where many of my clients had filed original returns that also operated as refund claims due to refundable credits, such as an EITC. Those cases, however, are somewhat different procedurally. Typically, IRS when auditing refundable credit returns will not issue formal refund claim disallowances, but will disallow the credit exclusively through a notice of deficiency. The definition of deficiency includes the amount of disallowed EITC, so taxpayers when filing petitions to Tax Court can invoke traditional deficiency jurisdiction to trigger the possibility of an overpayment. We describe the evolution of the definition of deficiency in revised Saltzman Book Chapter 10.3[1] as follows:

In 1988, Congress enacted Section 6211(b)(4) to ensure that the term “deficiency” encompasses disallowances of refundable credits, essentially by treating the excess of refundable credits over tax imposed as a negative amount of tax. Thus, even a return with no liability but a disallowed refundable credit will result in there being an excess of tax imposed over tax shown on the taxpayer’s return.[citation omitted].

By IRS using deficiency procedures exclusively in refundable credit cases and not including the claim disallowance language from IRM stat notices, taxpayers who whiff on timely filing a petition ostensibly have an unlimited amount of time to file a refund suit in federal district court or the Court of Federal Claims. In the next few weeks I will discuss this a bit more and dig even deeper into some of the nooks and crannies of Tax Court jurisdiction when it comes to refundable credits, an area that is in need of some attention and possible reform.

Summary Opinions for 10/10/14

Summary Opinions only touches on a few items this week, but they are all interesting and somewhat important.  More jurisdiction questions, both in the whistleblower context and on failure to exhaust administrative remedies.  Plus interest abatement, penalty abatement, and more on the Elkins case and the Yari case.


  • Whistleblower cases are sort of like the IRS’s version of the Beatles’ Ringo songs.  Sort of quirky and entertaining, but not their best work.  If you have frequently read the Whistleblower opinions over the last few years, I think it would be understandable if you thought the Service was intentionally trying to thwart the program (were the Beatles trying to stop Ringo’s continued singing by giving him garbage?), or perhaps just incompetent (see Ringo’s singing), or nowhere near sufficient assets are allocated to the program (seems like the Beatles mailed a few of those Ringo songs in).  A recent Tax Court jurisdiction case, Ringo v. Comm’r, can be added to those prior cases.  In Ringo, the Service’s Whistleblower Office sent the petitioner a letter stating he was ineligible for an award under Section 7623, and not much else.  Petitioner disagreed, and appealed the determination to the Tax Court.  A few months later, the IRS sent a second letter saying, “just kidding, we are considering your claim”.  The Service then responded to the petition by filing a motion to dismiss for lack of jurisdiction, which Ringo did not oppose.  The Court, however, relying on law related to stat notices found that its jurisdiction is based on the facts at the time of the petition, and jurisdiction continues “unimpaired” until a decision is entered. (contrast this with CDP cases, which as Keith discussed here the parties can dismiss without the need for a decision) The Court found that the letter constituted a determination under Section 7623(b)(4), providing it with jurisdiction.

I think this is the correct result, and a good policy.  There could be negative implications in the Whistleblower context, and perhaps others, if the Court held the Service could divest the Court of jurisdiction simply by stating it was actually still reviewing the matter.  First, the Service could use this to prolong matters.  Second, and more troubling, the Service could start issuing such letters in all close situations, or even more broadly, so it wouldn’t have to deal with the matter until the taxpayer proved it was willing to go to court, or to attempt to thwart valid claims, only to retract the letter once the matter goes to court. In Ringo, none of this seems to have mattered much, because the petitioner appears to not have objected to the dismissal of the case, but other’s may want to force the issue, and it is better to not have a holding stating the Tax Court lacks jurisdiction.  For a far more succinct recitation of the facts and holding, check out Prof. Tim Todd’s write up on the Tax Litigation Survey blog.  Lew Taishoff also has a good post on the case found here.

  • The Tax Court had an interesting interest abatement holding in Larkin v. Comm’r.  I found two aspects interesting, and the case a little challenging to work through.  The quick facts; an incorrect overpayment in a later year was due to an incorrectly carried forward NOL, which should have been carried back.  The taxpayer amended the returns, resulting in a liability in the later year, and a larger overpayment in the prior carryback NOL year. Initially, my mind jumped to interest netting, which gets to the first interesting aspect of the case.  One argument the taxpayer made was that the Service failed to credit the prior year overpayment against the later year liability, as requested, and instead issued a refund, which it thought would have negated interest on the later year’s underpayment.  The Court found this argument moot, although the Service did not.  The Court stated, “[i]t appears that both parties may have assumed that a credit…would, no matter when it was administratively credited against the [later] liability, have been treated as if it had been paid at least as early as the due date of the [later return] and would therefore have precluded the accrual of any interest…But that is not the case.”  The Court looked to Section 6601(f) relating to the satisfaction of tax by credit, which it found precluded the erroneous assumption.  I have not had time to review this, so I am not saying the Court was correct on this point.  The main text of the holding does not fully flesh the point out, but I think Footnote 8 helps to explain the Section 6601(f) issue, stating:

Under section 6611(f)(1), for interest purposes the overpayment of 2003 tax was “deemed not to have been made prior to the filing date for” the loss year (2005), i.e., not before April 2006; and under subsection (f)(4)(B)(i)(I), the 2003 overpayment was “treated as an overpayment for the loss year”, i.e., for 2005. However, under subsection (f)(4)(B)(i)(II), the return for the loss year (2005) was treated as if “not filed before claim for such overpayment is filed”, i.e., in May 2008. That is, the 2003 overpayment was deemed to arise in April 2006, when the 2005 return was due; but the 2005 return (due in April 2006) was treated as not filed before May 2008 (and therefore as late), and the refund was made less than 45 days thereafter on July 9, 2008.

 The second major point I found interesting was the Court’s review of ministerial acts for abatement under Section 6404.  The taxpayers claimed that the IRS gave them erroneous advice regarding amending a different year, which was incorrect and the return was not processed.  The taxpayers claimed this caused delay in proper filing, resulting in interest.  The Court noted some evidentiary issues that made the taxpayers’ claim fail, but also stated that direction regarding amending prior returns, at least in this case, were “providing an interpretation of Federal tax law” which was not a ministerial or managerial act subject to Section 6404 abatement.

  • I’m not certain who is the “Chief Idea Guy” at Procedurally Taxing; probably Keith, maybe Les, definitely not me.  If we had such a position, our ideas would generally be tax related – at least the good ones.  In Suder v. Comm’r, that was not the case for Mr. Eric Suder who was CEO and CIG of his company Estech Systems.  His good ideas had something to do with telephones.  Not tax planning. Estech did some incorrect research credit tax planning, which resulted in an underpayment, which the Service assessed accuracy related penalties on.  The taxpayer argued reliance on a professional, and honest misunderstanding of law.  The reliance holding was fairly straightforward.  It is, however, less frequent that you see a misunderstanding of the law argument successfully made.  The Court held that the taxpayer had an honest misunderstanding of the tax law related to reasonable compensation under Section 174(e), which was reasonable under the facts and circumstances, and that this area was very complex.  It did seem like some of the pertinent facts and circumstances were that they relied on their longtime accountant to provide them with their misunderstanding, which makes it overlap with professional reliance.
  • In US v. Appelbaum the District Court for the Western District of North Carolina had the opportunity to review various procedural issues in a case involving Section 7433 damages claim following the Service attempting to claim Section 6672 penalties for not paying over a bankrupt company’s taxes.  Mr. Appelbaum, like almost all applicants for damages under this Section, failed to exhaust the administrative remedies under Section 7433, which allowed the District Court to provide its opinion on whether or not that requirement was jurisdictional.  Following Galvez and Hoogerheide, the Court found it was not a jurisdictional requirement, but failing to comply with the statute resulted in the taxpayer failing to state a claim upon which relief could be granted.  Regarding the counterclaim, it appears the taxpayer alleged latches, but not as some sort of equitable argument regarding the Section 7433.   I was initially excited to see “equitable” language following a determination that failure to exhaust administrative remedies was not jurisdictional (Courts don’t usually get to whether an equitable argument could prevail).  Unfortunately, it was a separate claim, which makes sense, since latches would not be the first equitable argument you would think should apply in that context.
  • Jack Townsend’s thoughts on the Elkins’ art valuation case can be found here.  We touched on that in the last SumOp, and this case is popping up everywhere.  Jack has a great discussion regarding burden of proof, which should be reviewed.  I’m thrilled that my family has a way to discount the value of our Star Trek commemorative plates.  The estate tax on those was going to be a bear when my folks died.
  • More on the Yari case, which considers the 6707A penalty in the context of an amended return; Les previously blogged on the case here.  This content is from David Neufeld, and was reproduced from the Leimberg Information Services, Inc. tax newsletter. In the post, Neufeld takes aim at the Tax Court holding in the case, and makes a spirited argument in favor of the taxpayer’s view that the penalty should be pegged to the amended return, and not the original filed return.

Ford v US: Sixth Circuit Resolves Interest Dispute and Brings Attention to Jurisdictional Issue

Earlier this month, the Sixth Circuit issued an opinion in Ford v US, a case I originally wrote about late last year when the Supreme Court remanded the matter to the Sixth Circuit. The case considered whether Ford was entitled to receive overpayment interest on about $875 million of deposits it made that it subsequently requested the IRS treat as advance payments.  It had made its deposits when IRS had audited Ford and had preliminarily determined that Ford had a sizeable liability. While Ford and IRS both eventually agreed that Ford overpaid its taxes, rather than underpaid, IRS and Ford disagreed on when the payments Ford made should generate overpayment interest.

In addition to the underlying issue as to when Ford was entitled to interest, the case has significant jurisdictional implications, as precedent outside the Sixth Circuit requires that disputes regarding the overpayment of interest are to be made in the Court of Federal Claims and not in federal district courts.


On remand, the Sixth Circuit addressed the merits after it addressed the jurisdictional issue that generated the remand. Here is a bit more factual context:

Ford Motor Company remitted hundreds of millions of dollars to the United States Treasury after the Internal Revenue Service (IRS) notified Ford that it had underpaid its taxes in prior years. Ford designated the funds as “deposits in the nature of a cash bond” but later asked the government to convert its remittances into “advance tax payments,” which are treated differently under the IRS’s revenue procedures. When the government subsequently reexamined its computations and determined that Ford had overpaid its taxes in the relevant timeframe, the United States refunded Ford’s payments with interest. But the government refused to pay Ford any interest for the period during which the United States held Ford’s money as deposits—before the remittances were converted to advance tax payments. Ford demands about $450 million in additional interest from the government.

The jurisdictional issue before the Sixth Circuit was whether the district court had jurisdiction under 28 U.S.C. § 1346(a)(1), which vests the district courts with jurisdiction to hear claims “for the recovery of any . . . sum alleged to have been excessive or in any manner wrongfully collected under the internal-revenue laws.” The district court and the Sixth Circuit had previously not addressed this jurisdictional question, but the Supreme Court remanded for the appellate court to consider that, as well as whether the jurisdictional issue had any impact on the merits, and whether courts should view Section 6611 (the provision authorizing interest on overpayments) as a waiver of sovereign immunity.

A little backtracking may be helpful to appreciate how the case came back to the Sixth Circuit. Initially, the district court found in favor of the government in part because the district court deferred to Revenue Procedure 84-58 (since superseded); when Ford appealed, the US abandoned its argument that the Revenue Procedure was entitled to regulatory deference. The Sixth Circuit still held in favor of the government though, in part relying on the strict statutory construction canon applicable to waivers of sovereign immunity.

In opposing the cert petition Ford filed after it lost initially in the Sixth Circuit, the government argued for the first time that § 1346(a)(1) did not confer jurisdiction on the district court because “Ford did not seek to recover money already paid; rather, it demands interest that the IRS steadfastly refuses to pay.” The government maintained that “the only general waiver of sovereign immunity that encompasses [Ford’s] claim is the Tucker Act, 28 U.S.C. § 1491(a), which requires that suit be brought in the United States Court of Federal Claims.” It was that issue –which had not been briefed before—that triggered the Supreme Court’s remanding of the matter back to the Sixth Circuit.

Why does this matter? The Sixth Circuit is an outlier on this issue, as many other courts push these cases to the Claims Court and generally accept the government’s jurisdictional view. There is, however, a prior Sixth Circuit case, Scripps v US, that concluded that district courts have jurisdiction under 28 USC 1346(a)(1) to hear disputes about interest overpayments. In deciding the matter this month, despite its outlier status, the Sixth Circuit declined to accept the “government’s interest to poll the Sixth Circuit en banc to reconsider its view that the district court originally had jurisdiction under 28 USC 1346(a)(1).” To that end it discussed its view of the jurisdictional precedent in the Sixth Circuit:

In Scripps this court held that §1346(a)(1) confers jurisdiction on the federal district courts to adjudicate claims for overpayment interest because the term “recovery of any sum” in that statute includes suits to obtain overpayment interest. 420 F.3d at 597 (citing Flora v. United States, 362 U.S. 145, 149 (1960)). We concluded that our interpretation of § 1346(a)(1) was consistent with Library of Congress v. Shaw, 478 U.S. 310, 314 (1986), where the Court held that the United States is immune from any suit to obtain interest in the absence of express congressional consent to an award of interest. We noted that 26 U.S.C. § 6611, which specifically permits taxpayers to sue the government for overpayment interest, constitutes an express congressional waiver of the government’s immunity from suits to recover interest. Scripps, 420 F.3d at 597

On remand, the Sixth Circuit clarified its view as to how Supreme Court precedent treated interest claims against the federal government. Parsing Supreme Court cases such as Library of Congress v Shaw 478 US 310 (1986), the Sixth Circuit explained that waivers of sovereign immunity have two components: one jurisdictional one and one substantive:

Shaw thus appears to require two waivers of sovereign immunity in the context of a suit against the government to obtain interest—one jurisdictional waiver establishing the right to bring suit in an appropriate court, and a second substantive waiver expressly authorizing an award of interest.

While the Sixth Circuit in Ford backtracked and held that Section 6611 is not a jurisdictional waiver, it stated that it is a substantive waiver provision, subject to a court’s strict construction of the statute. Nonetheless, the Sixth Circuit clarified that the strict construction did not automatically forestall recovery of interest:

Because sovereign-immunity waivers must be strictly construed, the government contends, any doubts about whether Ford’s deposits constituted “overpayments” under § 6611 must be resolved in favor of the United States. Properly interpreted, however, Shaw does not stand for the proposition that any ambiguity in the scope of a statutory interest provision must be resolved in the government’s favor. It stands instead for the proposition that a litigant may not sue the United States to recover interest unless Congress has expressly authorized suits for interest.

After disposing of the jurisdictional issue and whether the matter involved sovereign immunity, the court went on to the merits. Not surprisingly it stuck to its guns and held (again) in favor of the government. It did so by using the “the usual tools of statutory interpretation to determine whether “the date of the overpayment” under § 6611 was the date Ford remitted its deposits, as Ford contends, or the date the IRS converted its deposits into advance tax payments, as the government contends.” To that end, it considered a dictionary definition of payment as “the act of paying or giving compensation: the discharge of a debt or an obligation.”

The heart of the issue according to the Court was that Ford’s intent when it remitted the money to the IRS, and that it could have designated the remittance as a tax payment but it chose not to:

That definition focuses on the purpose with which a person or entity sends the funds: A remittance is a payment when it is given to discharge a debt or obligation. …

According to IRS revenue procedures in effect at the time, both cash-bond deposits and advance tax payments stopped the government from charging interest on an estimated tax underpayment while the IRS finalized its tax assessment (as long as the deposit was eventually posted against the assessment.) But the revenue procedures treated deposits and advance tax payments differently in one important respect: A taxpayer could demand the immediate return of a deposit anytime, while an advance tax payment would be returned only through the IRS’s formal refund process, which take’s time. See Rev. Proc. 84-85 § 4.02.1. So when Ford sent its remittances, it faced a tradeoff: If a taxpayer remitted a cash-bond deposit but subsequently demanded the deposit’s return, the IRS would not pay the taxpayer any interest for the period during which the government held the funds.When a taxpayer demanded a refund of an excessive advance tax payment, by contrast, the IRS allowed the taxpayer to recoup interest. Thus the revenue procedures forced taxpayers to choose: immediate access without interest, or interest without immediate access.

Considered in this context, Ford’s purpose comes more sharply into focus, see Dolan v. U.S. Postal Serv., 546 U.S. 481, 486 (2006) (“Interpretation of a word or phrase depends upon reading the whole statutory text, considering the purpose and context of the statute, and consulting any precedents or authorities that inform the analysis.”), and belies any claim that Ford’s purpose in remitting the cash-bond deposits was to discharge its estimated tax obligations. Ford could have designated its remittances as advance tax payments and instructed the IRS to apply its remittances against any tax liability ultimately assessed. Both parties agree that would have been a “payment” because such a remittance would have been made for the purpose of satisfying the estimated tax deficiency. Yet Ford chose instead to designate its remittances as deposits. Ford is a sophisticated taxpayer, and its designation of the remittances was not accidental. A taxpayer’s deliberate decision to designate its remittance as a deposit rather than an advance tax payment directly evidences an intent not to make a “payment.” That purpose is determinative.

(emphasis added; citations omitted)


This is a tough result for Ford. For other taxpayers, Steve has written about Section 6603 and interest on deposits before (and as we discuss in revised Saltzman/Book Chapter 6; the Ford dispute predates 6603). That provision allows taxpayers to get interest on deposits when the deposit is made for a disputable tax. What is potentially of more moment in this case, however, is whether other courts may follow the Sixth Circuit’s approach and allow federal district courts rather than the Court of Federal Claims to hear overpayment interest disputes. It is possible this will return to the Supreme Court, but at a minimum I would not be surprised to see other circuits wrestling with this issue.


For an excellent earlier post discussing the Supreme Court remand last December, see Jack Townsend’s post Ford Wants Overpayment Interest While Its Remittance Was Held as a Deposit