Theatrical Scene Design
Theatrical Scene Design THE 250
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Accounting 432732 Outline Chapter 1 Omit H arary vBlumenthal Para Technologies Trust amp In Re Withrop Drake Thies 101 Introduction 0 Federal tax controversies de ned disputes between taxpayers and the Internal Revenue Service 0 Entities involved in the tax controversy process Joint Committee on Taxation US Congress writes legislative histories of enacted provisions Treasury Department issues regulations interpreting the Internal Revenue Code Department of Justice litigates all civil cases except Tax Court and all criminal cases 102 A Self Assessment System of determining taxes 0 The tax gap irole of withholdinginformation matching Opportunities for fraudicash basis transfer pricing complex law selfinterest and dishonesty Withholdingiform 941 professional payroll processing services Information MatchingiForms 10997DIVINTMiscBRG Income Form 1098 Deductions Review Mutual Fund Redemption and Independent Contractor Examples 103 Internal Revenue Service Organization 0 Review Lederman and Mazza Chart on page 6 IRS Chart Goes Here Reorganization Plansiunderway since 2000 orientation toward groups of taxpayers Four operating divisions7Wages amp Investment Small BusinessSelfemployed Large and Mid Size Business Tax Exempt and Government Entities 2001 tax law changes and terrorist activities reduce likelihood reorganization will be complete in the near future 0 W amp 174 segments 1 Communication Assistance Research amp Education CARE 2 Customer Account Services CAS Returns amp Payments 3 Complianceicommonly encountered issuesifiling status dependency exemptions tax credits and deductions 4 W amp I Headquarters Atlanta GA 0 LMSBiorganized into ve industry segmentsiRetailers Food amp Pharmaceutical Natural Resources Heavy Manufacturing amp Transportation Communications Technology amp Media TEGEipension plans and tax exempt organizations Internal support servicesiAgency wide information systems7Web site for formspublicationstechnology Agency wide shared servicesifacilities procurement and personnel Functional DivisionsiChief Counsel US Treasury TC Cases Counsels are present in the operating divisions on the national level and onboth the area and territorial levels Operating Appealsidispute resolution to settle refunddeficiency claims Criminal Investigation amp National Taxpayer Advocate o The Oversight Boardi9 members 3 internal 6 external 104 Rulemaking Authority of the Treasury Department and the IRS 0 7805 a provides that the Secretary can prescribe all needful rules and regulation for enforcement of this code Rules can be procedural 301 or interpretive 1 or 20 etc IRS publishes internal procedural regulations IRS manual and guidance Rev Rulings Rev Procedures PLR s TAM sGCM s as well as its litigation position 105 Overview of a Federal Tax Controversy 0 Review Overview Chart on page 13 Discuss Revenue Agent s Report and Form 870 Statute of Limitations Also point out assessment and collection of the deficiency D0 Problems 1 2 amp 1 3 Overview Chart goes here 106 Ethical Restrictions on Tax Practice 0 Attorneys certi ed public accountants and enrolled agents may all practice before the tax court Tax practitioners must be sensitive to a number of different types of rules 1 Preparer Penalties 2 Specifically Applicable RulesiCircular 230 Review the highlights on page 2934 Tax Court rules also apply 3 Generally Applicable Ethics RulesiABA AICPA 0 Ethical Issues 1 Tax Flaming False Opinionsione that ignores 0r minimizes serious legal risks or misstates facts or the law knowingly or though gross incompetence The lawyer who knowingly accepts as true the facts which the promoter tells him when the lawyer should know that a further inquiry would disclose these facts are untrue also gives false opinion US v Benjamin 328 F 2d 854 CA2 1964 Attorneys cannot escape criminal liability on a plea of ignorance when they shut their eyes to what as plainly to be seen In the past lawyers have protected their clients and themselves in litigation by claiming that communications between them were privileged Review Taxday article on KPMG 1 1003 Ethical Considerationspage 16 ABA has set of general guidelines also AICPAgenerally perceived as toothless Circular 230 has its own set of requirements 2 Return Preparation Preparer defined 7701a367 person who prepares for compensation all or a substantial part of an income tax return or refund claim employer also covered Do Problem 1 5 6694a 250 penalty for a tax preparer who knew that there was not a realistic possibility that a reported position would be claimed 6694 b 1000 penalty for willful understatement of the client s tax liability or with intentional disregard of the rules and regulations Rev Ruling 8655 describes other important penalties in the law and analysis section 6107a Tax return preparer has an obligation to furnish a completed copy of the tax return of the taxpayer 6107b Prepare has an obligation to retain a copy of the return or a list of taxpayers for whom returns have been prepared 6695b imposes an obligation to sign the returniobligation falls on the individual with primary responsibility for the overall substantive accuracy 6109a4 provides that any return or claim for refund prepared by an income tax return preparer shall bear such identifying number for securing proper identification including employer 6060 any person who employs an income tax return preparers to prepare a return or claim for refund other than for that employer must contain a record concerning each preparer so employed 6695f penalty of 500 on income tax return prepares who endorse or otherwise negotiate refund checks that are issued to taxpayers 7216 imposes a criminal penalty for unlawful disclosure or use of return information by persons who prepare or provide services in connection with preparation of returns 3 Tax Controversies Attorneys CPA s Enrolled Agents amp Enrolled Actuaries Practice before the Internal Revenue Service comprehends all matters connected with a presentation to the Internal Revenue Service or any of its of cers or employees relating to a client s rights privileges or liabilities under laws or regulations administered by the Internal Revenue Service Such presentations include preparing and filing necessary documents corresponding and communicating with the Internal Revenue Service and representing a client at conferences hearings and meetings o Subpart B of Circular E presents the duties and prohibitions Duties include 1 submitting records or information upon a proper request by a duly authorized IRS officer or employee 2 advising a client promptly of any noncompliance error or omission in any tax return affidavit or other legally required document if the representative is aware of the noncompliance error or omission and 3 exercising due diligence in preparing or assisting in the preparation of any documents in determining the correcting of oral or written representations made by him to clients ProhibitionsiReview highlights from pages 30 and 31 1 6 7 8 9 Subpart C of Circular 230 provides the rules applicable to disciplinary proceedings and provides for suspension and disbarment proceedings Practice before the Tax Courtialmost entirely attorneys others by examination D0 Problem 1 8 107 Tensions Between Tax Lawyers and Accountants N Why do Lawyers and Accountants Fight What is the AICPA s position with regard to the CPA s role in tax practice What ethical issues does this position raise How does the AICPA position raise con icts with the legal profession CPA s and law firms have been accused of overly aggressive tax planning Do you feel these criticisms are warranted What changes may we expect in tax practice What Tax Advice Privilege To what extent does 7525 extend the attomeyclient tax privilege to tax cases Continuum of services for tax advisers can be seen as continuum between tax return preparation and litigation Tax planning is in between Return preparation is not privileged and litigation is protected An IRS examination is not litigation and 7525 sent the message that all tax discussions with the IRS are adversarial Under Circular 230 the Treasury sees the privilege as an exception to the general obligation to turn over all requested records Based on the Adlman case a taxpayer who is about to undertake a transaction the IRS may well question can take the position that documents created in analyzing that transaction are a litigation work product and therefore subject to attorney client privilege The gray areaibetween business advice non protected and legal advice protected Accountants hoped to obtain protection for tax shelter advice but did not achieve it Subject Matter Waivervoluntary disclosure to a third party amp materials provided to a taxpayer for use in tax return preparation are not subject to attorney client privilege This legal right has been waived D0 Problem 1 10 Chapter 2 Tax Returns and the Examination Process Omit Beard pp 6069 Norwest Corporation pp 7584 Ash pp 8493 amp Crowley and Cockrell pp 1121 16 amp Cheshire 118 122 202 Tax Returns amp Tax Payments 1 Formal Requirements of a Return Sufficient return starts the running of the statute of limitations Blount 86 TC 383 1986 Document must be on a proper form 6011 supply enough information to permit the IRS to calculate the tax contain the taxpayer s name address and ID and be properly signed under penalties of perjury 6061 Review MBA professor example The taxpayer must compute the tax unless he makes a special election under 6014 lt 10000 gross incomeamp other requirements to have the IRS compute the tax 500 frivolous return penalty when the return omits information on which the substantive correctness of the selfassessment may be judged or 2 contains information that on its face indicates that selfassessment is substantially incorrect if the conduct is due to a frivolous position or desire to impede the administration of the tax laws Review Mickey Mouse example Filing Tax Returns Individual Returnsi3 mos 15 days Corporate2 mos 15 days Partnerships amp Fiduciary3mos and 15 days Tax exempt4mos amp 15 days 7503 if the last day falls on a Saturday Sunday of Legal Holiday ling is timely if made on the next day that is not a Saturday Sunday or legal holiday E 4 V39 Returns are generally considered led when received by the IRS also if the requirements of 7502 are met ie mailed or sent to a private delivery service prior to due date 7502 c reduces risk to taxpayer by sending the return by registered or certi ed mail Note that the taxpayer cannot send estimated payments by private delivery service Also the taxpayer should send each return and estimated payment separately Review Tower amp Tower practices Service Centers are the places for ling most documents remittances go to a separate location Return instructions will show where to send It is critical that the taxpayer conform to the instruction requirements since the IRS may have dif culty tracing a return or deposit that is send to the wrong locale Electronic Filing goal is to have only 20 of returns on paper by 2007 However these will generally be the most sophisticated retums Filing Extensions Form 4868 individual gets an automatic 4month extension Note that this mitigates the failure to le penalty but not failure to pay Review Form 4868 Additional extension of 90 days is available if the taxpayer can show reasonable cause Generally this is not a problem File on Form 2688 Application for Additional Extension of Time to File Corporations can obtain a 3month automatic extension by ling Form 7004 Amended Returns The taxpayer has the option of amending his return is he discovers a mistake on the original return If led before the due date the amended return is considered the tax return for that year If led after the due date the IRS has the discretion to accept or reject the amended return note the statute of limitations remains with the original return Tax Payments Payment is due on the original due date of the return can be check or money order in US funds or by debit or credit card There may be an extension of the payment date related to undue hardship but this is not common Note that the withholding and estimated tax requirements results in the payment of the tax in a timely fashion Example Dot Com AMT Incentive stock option issues The taxpayer should note on the check ID of the payor and the speci c purpose of the payment 203 Examinations l 7602 al The IRS has very broad authority to examine any books papers records or other data which may be relevant in determining the correctness of any tax return 6201 IRS is authorized to make inquiries determinations and assessments of all taxes under the internal revenue laws 7602a2 gives the IRS summons power which enables the IRS to compel a taxpayer to produce records or testify under oath IRS examination personnel are authorized to serve summons 2 Audits Audit lottery amp the raising of revenueiIRS selects returns that raise revenue Note the coordinated examination program CEP where an IRS agent or agents are permanently assigned to a corporation DIF formula is used select returns for audits as well as claim or refund and information return matching program and the infection process Three types of auditsicorrespondence office and field Correspondenceimost common conducted by mail Usually involve revenue items Form 1099 or withholdings estimated tax payments or credits Office auditiconducted at district office Taxpayer meets with auditor brings specific information and documentation Usually involve large and unusual itemized deductions Field auditsiconducted by revenue agents at the taxpayer s place of business Issues are not as clear Partnership Audit Procedures Under TEFRAienables the IRS to audit a partnership without auditing each partner Note that this applies to partnerships with more than 10 partners IRS sends a notice of its adjustment determination called the FPAA to the Tax Matters Partner and within 60 days to each notice partner Partner whose name appears on the return The TMP is the general partner designated to the IRS as such or general partner having the highest profits interest at the end of the tax year The TMP has 90 days to petition a trial court notice partners have another 60 days This information is important since individuals commonly invest in tax shelters E 4 which are subject to audit adjustment Taxpayers and their accountants should be cautious when taking on return ling responsibilities Audit Strategy Correspondence auditirespond quickly and concisely in order to limit the scope of the audit Of ce auditilimited in scope eld audit revenue agent may use own discretion Pages 98100 discuss some useful strategies in dealing with an audit Note that if the IRS examiner requests to see books and records he should issue a Form 4564 IDR form is important because it allows attorney to evaluate the request and negotiate its scope and reveals the issues the examiner is considering Do Problem 22 amp 25 Reconstructing Income when the Books and Records are Incomplete Many methods are available note that the IRS is not con ned to a single approach Most common are the net worth and speci c items methods Others include bank transaction bank deposits source and application of funds and T account Net worth methodicompares net worth at beginning and close of the taxable year Expenditures difference Increase in Net Wealth Increase in Net Wealth 7 Non Tax Sources Unreported Income Speci c Items methodiFocuses on a speci c receipt or receipts not included in the taxpayers return Schwarzkopf246 F2d 731 CA3 1957 What method did the IRS use to reconstruct income What were Schwarzkopf s principal argument and defense Did the Court of Appeals agree with the IRS Cooper TCM 87431 What methods did the IRS use to reconstruct income What was Cooper s defense Did the IRS prevail Do Problem 26A 204 Joint Returns and Several Liability 1 6013 d 3 In general husband and wife are jointly and severally liable for any tax year in which they led a joint return Congress enacted innocent spouse provisions to alleviate the burden on a spouse that did not engage in an activitygiving rise to an understatement of the tax and who was unaware of the understatement The original code provisions 6013 e resulted in numerous problems of interpretation and in 1998 Congress amended and recodi ed the provisions as 59 6015 This section re ects a major overhaul in both eligibility and procedures for obtaining relief Spouses who are divorced legally separated or are no longer living together can elect proportionate liability Revenue Procedure 2000 15 provides guidance in seeking innocent spouse relief The taxpayer may elect innocent spouse status by ling form 8857 Taxpayers in community property states must consider the laws of those states in allocating income and expenses Taxpayers who le MFS can reduce the likelihood of liability for income received by one spouse without the direct knowledge of the other Do Problem 24 Chapter 3 Access to IRS Information versus Con dentiality of Taxpayer Information Omit United States Department of Justice v TaxAnalysts pp 129143 Church of Scientology pp 150154 Dianalre v US pp 160165 Martin 165171 Ward 171176 301 Introduction The Tension between Con dentiality and Disclosure Some code section provisions favor taxpayers privacy interests while others favor full disclosure by the IRS to the public 302 Access to IRS Information 1 Disclosure Under the Freedom of Information Act Descriptions of the agency s organizational structure and operations procedural rules available forms and statements of general policy and interpretations eg publication of temporary amp nal regulations Information made available by an agency for public inspection and copying or for sale eg nal opinions administrative staff manuals and instructions to employees that might affect a member of the publiciCCH publishes this information Do Problem 34 Records of the agency Taxpayer must request this information according to published rules Records includes statistical studies gt revenue agent s report IRS has the burden of justifying failure to make agency records available for inspection 552 b of 5 USC Nine exemptions are available but three are particularly important to tax practice 1 Ex 371RS may withhold information if that information is speci cally exempted from disclosure by another statute eg 6103 seeks to ensure the con dentiality of a taxpayer s return and tax return information 2 Ex 571RS may refuse to disclose interagency or intraagency memoranda that would not be available by law to a private party in litigation with the IRS e g attorneyclient privileges 3 Ex 7iapplies to records or information compiled for law enforcement purposes Using FOIA during the Tax Controversy Process The IRS secret law iPLR s Determination Letters Chief Counsel Advice and Action of Decision memoranda are available under 6110 or FOIA Also available the Internal Revenue Manual IRS legal analysis of important issues If the taxpayer wishes to obtain materials that were prepared by the IRS during an audit of the taxpayers own return the taxpayer must make an individual FOIA request Access is limited while the examination is progress once the examination is concluded and the IRS has issued a 30day letter the taxpayer may submit a FOIA request seeking access to all materials contained in the taxpayers administrative le This information would be particularly helpful in settling the case in sthe Appeals division The administrative file will normally contain a copy of the agent s working files including workpapers notes intraagency memoranda affidavits and interview transcripts The file also contains all records compiled by the agent during the audit including records obtained from third parties Requesting Information Under FOIA Reg 601702c presents requirements for the request Must be in writing signed by the requesting taxpayer address to the appropriate IRS disclosure office The requesting part must reasonably describe the records sought Note that a Power of Attorney Form 2848 must be included and for partners a notarized statement that he is a member of the partnership Do Problem 31 Review Sample Power of Attorney Form 2848 0 Once the FOIA request is received by the IRS the agency normally has 10 days in which to notify the requesting part of its initial determination to grant or deny the request Requests by the IRS for additional time are common If the IRS denies the request a noti cation is sent to the requesting party notifying him of the denial 0 Access to Written Determinations Under 6110 As mentioned earlier the IRS is required to make available written determinations such as general consul memo PLR s 303 Preserving Taxpayer Con dentiality 6103 1 Disclosure Provisions Under 6103 A con dentiality provision limiting the circumstances under which and to whom the IRS may disclose information about the taxpayer The taxpayer s return is broadly defined to include any tax or information return amended return declaration of estimated taX claim for refund as well as any supporting schedules and attachments The formulation encompasses virtually all information collected by the IRS as part of an audit of the taxpayer s return 2 Rice v United States 166 F3d 1088 CA10 1999 What was the nature of Rice s conviction What action did Rice subsequently take against the US what was the nature of his complaint Did the Court of Appeals agree Why or Why not Exceptions under 6103 Permitting Disclosure 6103 ce ile may disclose returns and return information to a third party designated by the taxpayer to receive the information and to a person having a material interest in the return or return information Taxpayer may obtain a copy of his own return each spouse may obtain a copy of a jointly filed return a partner may obtain a copy of a partnership return 6103 ijkl authorizes the IRS to exchange taxpayer information with various federal state and local agencies These agencies are entitled to use this information for several specified purposes such as administering state tax programs enforcing child support payments and conducting criminal investigations Remedies for Unlawful Disclosure Under 6103 7431 affords an aggrieved taxpayer a cause of action against the United States for damages for disclosure of return or return information Provision includes not only unauthorized disclosure but also unauthorized inspection Penalty is 1000 actual damages court costs and attorney fees Do Problem 37 Insert answer to Problem 37 here Chapter 4 Settlement of Tax Disputes Omit Federal Tax Litigation Civil Practice and Procedure Second Edition by Junghans and Becker pages 1977199 and Kretchmar vs US 9 Cl Ct 191 1985 Pages 207217 402 Settlement Opportunities After IRS Examination of the Taxpayer s Return According to many tax practitioners the earlier a case is settled the better Many variables are time sensitive representation fees ling fees other litigation costs IRS interest charges compounded on a daily basis increased risk of assessment of additional de ciencies Quali ed settlement olTer from the taxpayer 7430 c4E made in writing at some time beginning on the date the 30day letter was sent and ending 30 days before the date the case is rst set for trial The offer must remain open 1 until the government rejects the offer 2 the trial begins or 3 the 90Lh day after the offer was made A quali ed offer may be made before litigation is instituted Therefore as early as the date the 30day letter was mailed a taxpayer may make a written settlement offer to the IRS that may result in an eventual award to the taxpayer of administrative cost and litigation fees if the IRS rejects the offer and subsequently fails to obtain a higher amount in court Options at the Conclusion of the Examination At the conclusion of most of ce and eld audits the revenue agent who conducted the examination will discuss his ndings with the taxpayer or his representative before submitting a formal report The revenue may conclude that there are no changes to the taxpayer s liability No Change Report or more commonly propose adjustments to the taxpayer s liability The taxpayer normally is given an opportunity at the conclusion of the examination to reach a compromise with the agent or his supervisor This is a very important stage in the processing of a tax case many settlements are reached that might not be possible ifdiscussions were deferred until after formal reports have been written or issued 20 o If the settlement negotiations at the examination level have stalled because of disagreement over a single issue the taxpayer might consider availing himself of the IRS s Early Referral Program 1 Agreed Cases 0 If the taxpayer and the revenue agent can reach a mutually acceptable agreement at the conclusion of the examination the taxpayer normally will be asked to sign Form 870 Waiver of Restrictions on Assessment and Collection of De ciency of Tax Review Form 870 on pages 185 Insert Form 870 here 21 The taxpayer waives his right to receive a statutory notice of de ciency which will prevent the taxpayer from later contesting the liability in Tax Court The taxpayer can still challenge the adjustment by paying the liability and making a claim for refund in either the Court of Federal Claims or US District Court 2 Unagreed Cases If the taxpayer and the revenue agent cannot come to an agreement the agent normally will prepare and submit to the taxpayer a preliminary notice of de ciency called a 30day letter Review sample 30day letter on pages 187 and 188 Insert Sample 30 day letter here 22 0 Options available to the taxpayeril agree to the proposed adjustments and sign the form 870 waiver2 contest the revenue agent s ndings to the IRS Appeals Division The taxpayer is generally granted 30 days in which to request a conference 3 If the taxpayer elects not to pursue an appeal or otherwise fails to respond he will receive from the IRS a statutory notice of de ciency 90day letter which authorizes the taxpayer within 90 days after the notice of de ciency is sent to le a petition with the tax court to redetermine the amount of the proposed liability The taxpayer may decide to forgo the 30 days letter and instead receive the statutory notice of de ciency and le a petition with the tax court Settlement at the IRS Appeals Division 85 of the large cases handled by the Appeals Division are settled Taxpayers other recourse is to the courts If the amount of the adjustment exceeds 10000 the taxpayer is required to le a written protest to obtain Appeals consideration Review contents of protest letter on page 192 Taxpayer has three options in ling a protestil a skeletal protest 2 an agent s report responsive protest and 3 a comprehensive protest The taxpayer should consider ling a skeletal protest that meets the minimum requirements for ling a protest when there is concern for the continued involvement of the agent at the examination level An agent s report responsive protest is often utilized when a taxpayer s facts or laws are weak and the strategy is to attack the error or misrepresentation in the agent s report thereby limiting the focus to those items A comprehensive protest is one where the taxpayer develops fully all of the factual and legal arguments to be presented at the appeals conference This concept is generally used when a taxpayer believes he has a strong probability of prevailing on the issues and is not concerned with agent or appeals of cer having time to analyze the taxpayer s position The protest should concentrate on the facts of each issue When development of the facts is dif cult or impossible because they do not exist in recorded form or involve an element of intent or business purpose a taxpayer should give consideration to the use of af davits When developing the technical aspects of an argument the taxpayer should cite supporting cases and as importantly distinguish unfavorable cases 23 The taxpayer will obtain a better negotiating position by preparing a comprehensive protest that details the taxpayer s factual and legal arguments Note the relationship between the contents of the protest and the work papers prepared to support the tax treatment of a proposed transaction There are risks associated with a comprehensive protest Detailed factual assertions not previously considered during the audit might cause the Appeals Officer to return the case to the revenue agent for further investigation Between the Protest and the Conference Taxpayer Strategies 0 Many taxpayer representatives appear at conferences unprepared because several features of the conferences mislead them The conference is a fairly informal meeting between the appeals officer the representative Rules of evidence do not apply and there is no formal structure to the conference In addition while the appeals officer serves in effect as judge during the conference representatives frequently forget that the officer also will be serving an adversary during the proceeding The officer s judgelike role occurs mainly after the conference when the hazards of litigation are balanced to determine an acceptable settlement During the conference the appeals officer will be a staunch advocate of the IRS s position The representative can best protect the taxpayer s interests by preparing for the conference as though it were a trial a The taxpayer should be interviewed thoroughly This means asking questions that will elicit all unfavorable information from the client and ensure that the facts are not being hidden or distorted After the interview all records and documents should be reviewed to check the accuracy of the taxpayer s statements Note that new evidence cannot be presented at the appeals conference b Investigation of the facts should be followed by legal research c After preparing the case settlement proposals should be prepared The proposals should be structured issue by issue because the appeals officer is not permitted to trade concessions on one issue for concessions on another Procedure at a conference varies between appeals officers but is always informal Generally the parties begin discussing the issues gradually find their areas of agreement and disagreement and work their way towards discussing specific settlement possibilities In most cases all this is done in one conference though sometimes the officer will refer the case back for additional fact finding 24 403 The IRS guidelines say the conferences are to be informal to promote frank discussion and mutual understanding Appeals officers must handle cases objectively with a goal of reaching a decision based on the merits of the issues in dispute and not with the attitude that settlements must be made All physical evidence that supports the taxpayer s position should be brought to the conference Evidence should be brought even when the taxpayer believes it would not be admissible in court because the rules of evidence do not prevail at an appeals conference Even if the taxpayer and the Appeals Officer are unable to resolve all issues efforts should be made to resolve as many issues as possible Before agreeing to a full or partial settlement however the taxpayer should carefully consider how the settled issue might affect the taxpayer s exposure for past and future taxable years Note that a taxpayer negotiating a nondocketed case before the Appeals Division may request mediation if conventional methods fail Mediation is a negotiation technique in which the parties are assisted by a neutral and objective third party mediator who does not have decisionmaking authority 7 Disposing of a Case at Appeals If the taxpayer and the Appeals Division can reach a mutually acceptable settlement the parties normally memorialize that settlement by signing Form 870 AD Form 870AD is similar to Form 870 with the addition of a statement to the effect that if the agreement is accepted by the IRS the IRS agrees not reopen the case for the taxable years involved except in specified circumstances In return the taxpayer agrees to the assessment of any settled liability and commits himself not to file a claim for refund for the taxable year at issue Do Problem 43 Closing Agreements A statutory closing agreement under 7121 is intended to provide the taxpayer with absolute finality with respect to a particular issue or item Once executed the formal closing agreement prevents either party from reopening the case absent a showing of fraud malfeasance or the misrepresentation of a material fact Closing agreements are limited to specific situations that are much narrower than the situations in which Form 870 or 870AD might be used to settle a case See Forms 866 amp 906Revenue Procedure 68l6ioutlines appropriate uses of closing agreements Do Problem 42 25 404 Settlement of Court Cases Many cases are settled after being docketed in court The judge as a stipulated decision enters a Tax Court case that is settled by agreement of the parties 26 Chapter 5 Restrictions on Assessment of Tax Omit Colestock 102 TC 380 1994 10235 239 Badracco 464 US 386 1984 pp 239 247 Houlberg TCM 1985497 pp2497256 Fredericks 126 F 3d 433 CA3 1997 pp 2562709 amp Gill 306 F2d 902 CA5 1962 pp 272 274 502 Types of Assessments Summary Assessments 6201 a authorizes the IRS to immediately assess and collect any tax computed and shown to be due on a taxpayer s original tax return as well as any additional taxes computed and shown to be due on a subsequently led amended return The IRS is not required to send the taxpayer a notice of de ciency In addition the Code authorizes the IRS to summarily assess any additional tax due as a result of a mathematical error or clerical error made by the taxpayer on the return However before so doing the IRS must notify the taxpayer of the alleged error and include an explanation of the basis for recomputation The taxpayer is given 60 days from the date the notice of assessment is sent to contest the error by ling a request for an abatement of the assessment Whether or not the IRS agrees to reassess the tax must be made pursuant to de ciency procedures The statute de nes mathematical or clerical error to include arithmetic errors inconsistent entries on the return omissions of information necessary to properly substantiate a return item anal deductions exceeding a statutory limit 59 621 3 g 2 This is a common problem in manually prepared returns Example The retired professor General Restrictions on Deficiency Assessments 62127Before assessing a de ciency in income estate and gift taxes and before assessing most penalties the IRS must rst send the taxpayer a notice of de ciency or statutory notice also called a 90 day letter Once the IRS sends the notice it cannot assess the tax during the 90 day or 150 day period following issuance of the notice commonly called the prohibited period This assessment delay gives the taxpayer an opportunity to contest the de ciency by petitioning the Tax Court the only court that grants taxpayers preassessment 27 review If the taxpayer petitions the Tax Court the prohibited period lasts until the Tax Court s decision becomes nal Jeopardy and Termination Assessments 6861 allows for immediate assessment where the IRS believes that assessment or collection ofthe tax will bejeopardized by delay 6861 a The IRS will send notice and demand for payment and if it has not already sent a notice of de ciency the IRS must mail one to the taxpayer within 60 days of the assessment Reg 30168611 sets forth the most commonly encountered conditions under which a jeopardy assessments may be made 1 the IRS believes the taxpayer is designing to depart quickly from the United States or to conceal himself 2 the IRS believes the taxpayer is planning to quickly place his property beyond the reach of the Government by concealing the property dissipating it transferring it to other persons or removing it from the country or 3 the IRS believes the taxpayer s financial solvency is imperiled Review Antique Collectors Case For these same reasons the IRS may make a termination assessment under 6851 For the most part the procedures are the same IRS bears the burden that it acted reasonably 7429 requires the IRS within five days of making an assessment to provide the taxpayer with a written statement of the information on which the IRS relied in making the assessment or levy The taxpayer has 30 days to request administrative review 7429 b provides for expedited follow up judicial review in the US District Courts A jeopardy assessment is employed when the IRS determines a deficiency after the end of taxable year to which the assessment relates A termination assessment in contrast is utilized when collection is put in jeopardy before the taxpayer s year has ended 503 The Statutes of Limitations on Assessment of Tax The general rule 6501 the IRS must assess tax within three years of when the return is filed An early return is deemed filed on the due date Rev Rul 81269 addresses issues associated with an early return and a changes to the due date caused by Saturdays Sundays and legal holidays Review A digressionArchdiocese of St Petersburg Case Exceptions to the ThreeYear Statutory Period 28 Request for prompt assessment Under 6501 d the executor of an estate or a liquidating corporation may make a request for prompt assessment that will shorten the limitations period to 18 months In the case of an estate the prompt assessment procedures apply to any tax other than estate tax for which a return is required and for which the decedent or the estate may be liable Substantial Omission of Items 6501e1A A substantial omission of items includes an omission from gross income of an amount properly includible there which is in excess of 25 percent of the amount of gross income stated in the return The sixyear statute does not apply unless an entire amount is omitted Do Problem 1B iaamp c omit parts b amp d False or Fraudulent Return 6501c1 3 The statute of limitations is unlimited if the taxpayer les no return a false return or a fraudulent return However the Tax Court permitted a three year limit in Bennett 30 TC 114 1958 in case in which a taxpayer fraudulently fails to file a tax return and subsequently files a nonfraudulent return In Badaracco 464 US386 SC 1986 the statute remained unlimited the taxpayer filed a fraudulent return and then an amended nonfraudulent return Do Problem 51B ii and 1C Tolling ofthe Statute ofI imitation on A 6401 The IRS must assess tax before the statute of limitations on assessments expires or any amount assessed must be refunded to the taxpayer Because the notice of deficiency is a prerequisite to assessment of a deficiency the notice must be sent before the statute of limitations on assessments The notice triggers a prohibited period and the statute of limitations is tolled during the period that the IRS is prohibited from assessing tax plus 60 days Determining the timeliness of an assessment therefore can require counting days fairly precisely If the taxpayer signs Form 870 permitting immediate assessment of the tax that cuts short the prohibited period That in turn will shorten the time period during which the statute is tolled Do Problem 51A 29 Extensions of Time to Assess the Tax It is often the case that the IRS is unable to complete an examination of the taxpayer s return during the prescribed assessment period If the assessment period is about to expire before an assessment is made the IRS commonly requests that the taxpayer sign a consent extending the general statute of limitations It is not uncommon in fact for the IRS to request seriatim extensions of the statute of limitations as each extension nears expiration Extensions can be made on Form 872 Consent to Extend the Time to Assess Tax or Form 872A Special Consent to Extend the Time to Assess Tax Form 872 the fixeddate consent provides for an extension for a nite period of time stated in the agreement typically one year Form 872A the openended consent is an unlimited extension of time which is terminated 90 days after either 1 the IRS receives a Form 872T from the taxpayer 2 the IRS mails a Form 872T to the taxpayer or 3 the IRS mails the taxpayer a notice of de ciency In the latter case the extension period will not expire until 60 days after the prohibited 90day period The fundamental question of whether a taxpayer should sign a consent does not lend itself to an easy answer Do Problems 52 504 Exceptions to the Statutes of Limitations The Statutog Mitigation Provisions l3l 11314 To prevent a double benefit to either the government or the taxpayer the statutory mitigation provisions allow reopening of a barred year in specified circumstances 30 Chapter 7 Notice of De ciency Omit Greenberg s Express Inc 62 TC 324 1974 pp 331335 Achiro 77 TC 881 1981 pp 340344 Nicholson TCM 93183 pp 344346 Mitchell 250 F3d 696 2001 pp 346350 Williams 935 F2d 1066 1991 pp 351353 Mulvania 769 F 2d 1376 CA9 1985 pp 353357 Scar 814 F 2d 1363 CA9 1987 pp 358370 701 Introduction Introductog Comments Most tax litigation begins with the letter from the IRS known as a notice of deficiency Review Sample Notice of De ciency shown on pages 326 and 327 D0 Problem 71 702 The Notice of De ciency The notice of deficiency is probably the single most important document in tax procedure The IRS assessment authority hinges on its timely mailing a legal valid notice of de ciency In addition because assessment is general a legal prerequisite for collection of tax a notice of deficiency is also a prerequisite for collection of any tax deficiency The notice of de ciency serves multiple functions in the tax controversy process First it is an indispensable prerequisite to Tax Court subject matter jurisdiction the Tax Court s authority over the case the taxpayer s ticket to the Tax Court Second the notice informs the taxpayer of the IRS legal claim and if the case is docketed part of the tax court pleadings Notice of Deficiency and the Burden of Proof The notice of deficiency traditionally has benefited from a presumption of correctness Effectively that has meant that the taxpayer bore the burden of going forward with evidence to rebut the IRS determination The taxpayer who fails to shift the burden of proof under 7491 likely remains subject to this provision 31 7491 a generally provides that the burden of proof with respect to a factual issue shifts from the taxpayer to the IRS where the taxpayer meets five requirements 1 The taxpayer produces credible evidence on a factual issue 2 The taxpayer has complied with all substantiation requirements 3 The taxpayer has maintained all the required records 4 The taxpayer has cooperated with the IRS s reasonable requests for witnesses information documents meetings and interviews and 5 If the taxpayer is a partnership corporation or trust it meets a net worth limitation Arbitra and Erroneous Notices of Deficiency If a notice s determination is based on alleged unreported income the taxpayer s situation is analogous to a naked assessment he would have to prove nonreceipt of income Anastasato 794 F2d 884 CA3 1986 Did the court recognize the Commissioner s deficiency determination is entitled to the presumption of correctness Did the taxpayer rebut the presumption by showing it was arbitrary and erroneous What did the Court of Appeals order the Tax Court to do ReviewFa1mington 1099 case The Role of the Notice of Deficiency and in the Burden of Persuasion Tax Court Rule 142 a1 The burden of proof shall be upon the petitioner except as otherwise provided by statute or determined by the Court and except that in respect of any new matter increases in deficiency and affirmative defenses pleaded in the answer it shall be upon the respondent Under this rule the IRS must avoid having lateraised issued characterized as new matter Proper drafting of the notice of deficiency or possible issuing a second notice may avoid the problem Do Problem 72 32 Invalid Notices of De ciency 6212 b1 In the absence of notice to the Secretary ofthe existence ofa duciary relationship notice of de ciency in respect ofa tax z39fmaz39led to the taxpayer at his last known address shall be su cient for purposes subtitle A and this chapter even if such taxpayer is deceased or is under a legal disability or in the case of a corporation has terminated its existence Notices are particularly susceptible to invalidation for failure to meet the last know address criterion of 6212 b The last known address is a safe harbor a substitute for actual notice to the taxpayer In January 2001 the Treasury promulgated regulations regarding the last known address rules under 6212 Under the regulations the general rule remains that a taxpayers last known address is the one shown on his most recently led tax return unless the taxpayer has provided the IRS with clear and concise noti cation of a different address Revenue Procedure 200118 provides that noti cation may be provided on a properly completed Form 8222 The Revenue Procedure also provides that a return showing a new address normally will be processed after a 45 day processing period If the taxpayer s name and last known address in the IRS s records match the taxpayer s name and prior mailing address in the Postal Service database the new address in the postal database is deemed to be the taxpayer s last known address absent clear and concise noti cation to the IRS of a new address Do Problem 74 I quot J quot a Notice of De ciencv for IRS Failure to Make a Determination In Scar 814 F 2d 1363 CA9 1987 the Court held that failure to make a thoughtful determination invalidates a notice of de ciency Portilz39llo 932 F 2d 1128 CA5 1991 raised the Scar issue Describe brie y the facts and proceedings in the case What was the nature of Portillo s argument that the IRS failed to make a determination What was the IRS position How did this case relate to the ndings in Scar What condition did the Court impose on the Commissioner before giving him the bene t of the presumption of correctness Did the Commissioner prevail and what was the Court s conclusion 33 Chapter 8 Overpayments Refund Claims and Refund Litigation Omit Rosenman v US 3323 US 658 SC 1945 pp 3827387 Lewis v Reynolds 284 US 281 SC 1932 pp 38788 Decker v US 932 USTC 11 50408 DC Conn 1993 pp 390394 NightHakaeasing v US 84 Ct Cl 596 Ct Cl 1937 pp 394396 Flora v US 362 US 145 SC 1960 pp 396403 Omit pp 405 bottom of page to 427 802 Refund Claims Overpayments of Tax No de nition but 6401a provides that an overpayment includes payment of any internal revenue tax that is assessed or collected after the applicable statute of limitations has expired In addition under 6401b refundable credits that exceed the amount of income tax imposed for the year are considered overpayments of tax Excessive withholding tax and estimated tax payments are therefore treated as overpayments 6401 c provides that an amount paid as tax may constitute an overpayment even if there is no tax liability for which the tax was paid In Liberty Glass 322 US 524 1947 the Supreme Court described it as follows Whatever the reason the payment of more than is rightfully due is what characterizes an overpayment Which Remittances are Payments Some remittances are deposits that do not become payments until some time later if ever A deposit is refundable to the taxpayer at any time but a payment is not Because both payments and deposits suspend further interest accruals the taxpayer may not initially make clear to the IRS which he intended his remittance to be For statute of limitations purposes however the day of payment is key As a result many cases distinguishing between payments and deposits arise in the context of statute of limitations on refund claims Revenue Procedure 8458 provides guidance concerning whether a remittance would be treated as a payment or a deposit and how the IRS would treat an undesignated remittance The primary purpose of the Revenue Procedure is to inform taxpayers how to make remittances that stop the running of interest on deficiencies Page 385 describes in detail situations in which a remittance would be treated as a payment or a deposit Note that a deposit in the nature of a cash bond is not a payment of tax is not subject to claim for credit or refund and if returned to the taxpayer does not bear interest 34 Do Problem 82 Part B Revenue Ruling 8587 states that although the IRS cannot assess an amount sent in after the statute of limitations has expired the IRS does not have to return to the taxpayer a remittance made while the statute of limitations was still open 39 39 39 and Timing of the Refund Claim A refund claim invites the IRS to examine the return that is the subject of the claim Thus it is wise to review the underlying return before filing the claim and if the statute of limitations on assessment remains open consider carefully the risks and relative merits of possible claims before deciding whether to seek a refund Review 29 Tight Sands Case Content of the Refund Claim A claim for refund for overpayment may be made on the initial return for the year an amended return or a special form provided by the IRS If an income tax return has already been led the claim must be submitted on the amended return appropriate for the particular type of taxpayer Review Forms 1040X 1120X amp 843 Review key parts on pages 389 amp 390 Note that client may in some instances file a return with incomplete information and then file an amended return when more accurate information is available Do Problem 87 Informal Claims for Refund Following an audit if the IRS determines that the taxpayer made an overpayment Form 870 will serve as a refund claim A document can be treated as an informal refund claim if as a factual matter the following are true 1 the court determines that an informal claim was led 2 the claim was in writing or has a written component and 3 the matters set forth in writing are sufficient to apprise the IRS that a refund is sought and to focus the IRS s attention on the merits of the dispute so that the IRS may commence an examination of the claim is it so desires 35 803 Refund Suits and Overpayment Suits Refund Suits A refund suit must be based on the same grounds as those stated in the refund claim Refund suits have another jurisdictional prerequisite full payment of the tax including interest and penalties if they were part of the assessment and part of the litigation issue In general a claim for refund or credit of an overpayment is timely if it is filed within three years from the date the return was filed or within two years from when the claimed tax was paid whichever is later Do Problem 81 Part E ii Overpayment Litigation in Tax Court Tax Court subject matter jurisdiction requires a notice of deficiency and timely responsive petition Therefore to pursue in Tax Court a refund of an overpayment a taxpayer must have received a notice of deficiency and petitioned the court When that occur the Tax Court has jurisdiction to find an overpayment and jurisdiction to enforce payment by the IRS A claim for refund with the IRS is not required in order to pursue overpayment litigation in Tax Court Do 82 Parts A amp C 804 Statutes of Limitations on Refund Claims Overview 65 l 1a In general a claim for refund or credit of an overpayment is timely if it is filed within three years from the date the return was filed or within two years of when the claimed tax was paid whichever was later If no return was filed the statutory period is two years from when the tax was paid Review US Marine Corp example Because latemailed returns or claims are not filed until actually received it is important to determine when filing a refund claim if it was timely mailed When calculating the time periods under 6511 it is helpful to know that an early return is deemed filed on the due date of the return Similarly any portion of tax or withholding paid before the last day prescribed is deemed paid on the last day Problem 81 parts AD Problem 85 36 Chapter 9 Reliance on Treasury Regulations and IRS Positions Omit pages 431462 904 Obtaining Private Guidance for a Taxpayer Reporting Reguirements Revenue Procedure 20021 I f the taxpayer obtains a letter ruling from the National Of ce he must attach the letter ruling to his tax return for the year in question A return submitted with an attached letter ruling may cause the IRS to take a closer than normal look at the return in order to con rm whether 1 the return properly re ects the conclusions stated in the ruling 2 the representations upon which the letter ruling was based re ected an accurate statement of the material facts 3 the transaction was carried out substantially as proposed and 4 there has been no change in the law that applies to the period during which the quot or quot 39 series of quot was consummated Although the IRS is not legally bound by a letter ruling its long standing policy has been to honor a ruling issued directly to a taxpayer Unless it is accompanied by a closing agreement however the IRS may revoke or modify a letter ruling following 1 the enactment of legislation or ratification of a tax treaty 2 a decision of the United States Supreme CouIt 3 the issuance of temporary or final regulations or 4 the issuance of revenue ruling procedure notice or other statement published in the Internal Revenue Bulletin Areas in Which the IRS will not Issue Letter Rulings The IRS s authority to decline a letterruling request is for the most part discretionary The stated policy of the IRS is to issue letter rulings only with respect to completed transactions for a year in which the taxpayer has yet to file a return and for prospective transactions that have not been consummated Probably the most important fields in which the IRS will issue prospective rulings related to the taX effects of corporate reorganizations and liquidations Review A vs F Reorganization case No letter ruling considerable controversy 37 There are certain topics on which the IRS had made it clear that it will not issue letter rulings Third revenue procedure of the year lists these See page 404 The revenue procedure also list speci c no rule areas including 121162 269 274 312 351 368a1A Situations in which the IRS ordinarily will not issue a letter ruling include 1 Any matter in which the determination requested is primarily one of fact e g fmv of property 2 Situations in which the requested ruling deals with only part of an integrated transaction 3 The tax effect of any transaction to be consummated at some inde nite future time4Any matter dealing with the question of whether property is held primarily for sale to customers in the ordinary course of a trade or business How to Request a Letter Ruling or Determination Letter A letter ruling is a written statement issued to a taxpayer by the National Of ce of the IRS that interprets and applies the tax laws to a speci c set of facts described in the letter ruling A determination letter applies the principles and precedents previously announced by the National Of ce to a speci c set of facts While similar to a PLR a determination letter is issued by a local IRS of cial rather than the National Of ce and normally covers a completed transaction rather than a proposed transaction Determination letters most o en related to the quali cation of an employee bene t plan as an exempt entity under 401 or taxexempt entities under 501 No determination letters on novel issues or where doubt exists concerning the application of precedent Review Form 1023 Request for Determination of Tax Exempt Status Do Problem 95 To request a letter ruling or determination letter the taxpayer or his authorized representative must submit to the IRS a request containing speci c information The rst Revenue Procedure of each year describes the letter ruling process including what information must be included in the request and further guidance on when the IRS will or will not issue a ruling Note that the cost of obtaining a revenue ruling can be substantial 10000 and up Review the condominium association example Do Problem 94 Review the highlights of Section 8 of Revenue Procedure 20021 pages 46771 and Sample Ruling Requested pp 472475 38 quot a f with the IRS When pursuing a letter ruling request a taxpayer is generally entitled to a conference at the National Office as a matter of right If the taxpayer requests a conference the IRS will notify the taxpayer of the time and place of the conference which must be within 21 calendar days The conference of right affords both the IRS representative and the taxpayer an opportunity to clarify the issues involved and to request and respond to additional factual information or representations A taxpayer may request that his conference of right be held by telephone and the IRS will decide if the request is appropriate If an adverse holding is proposed the IRS may offer the taxpayer additional conferences if the IRS feels they are helpful If the taxpayer s representative is well prepared these conferences can significantly increase the chances of a favorable ruling Occasionally the IRS will hold a conference before the taxpayer submits the letterruling request in order to discuss substantive or procedural issues relating to a proposed transaction The taxpayer can use the presubmission conference to gauge the likelihood that an adverse ruling may be issued Whether to Request a Letter Ruling and Whether to Withdraw a Ruling Request One of the most important factors bearing on whether the taxpayer should request a letter ruling is the likelihood of obtaining a favorable result Any aws in the taxpayer s position whether factual or legal are much more likely to be discovered as part of the ruling application process as compared to a routine examination of the taxpayer s return When the taxpayer wishes to proceed with a transaction regardless of whether or not the tax consequences are favorable a letterruling request can present a serious risk In addition to the risks associated with an adverse determination the taxpayer should be advised of the costs related to the ruling process These costs include not only the user fees imposed by the IRS but also the representative s billable time necessary to prepare and negotiate the request A final consideration relates to time involved in obtaining a letter ruling In some cases the transaction cannot wait for a favorable ruling and must be consummated even though a ruling might lend the parties important peace of mind Although no general rule exists the estimated waiting period for a letter ruling in the income tax area is eight to twelve weeks As the complexity of the issue and the potential tax liability involved increase so generally does the waiting period 39 Chapter 10 Civil Tax Penalties Omit Coleman TCM 90 511 pp 493496 Osteen 62 F3d 356 CA11 1995 pp 498501 Heasley 902 F2d 380 CA5 1990 pp 504508 Meier 91 TC 273 1988 pp 514 517 1001 Introduction The Role of Penalties IRM Part XXiThe Service uses penalties to encourage voluntary compliance by 1 helping taxpayers understand that compliant conduct is appropriate and noncompliant conduct is not 2 deterring noncompliance by imposing costs on it and 3 establishing the fairness of the tax system by justly penalizing the noncompliant taxpayer In 1989 Congress streamlined the tax penalty system but even today the Code contains over 150 civil tax penalties This chapter focuses on taxpayerrelated penaltiesithose imposed upon taxpayers for understatements of tax and delinquent ling or payment These taxpayerrelated penalties represent the type most frequently assessed by the IRS and most frequently litigated by taxpayers 1002 Speci c Civil Penalties and Defenses of Those Penalties 6651a1 The Failure to File Penaltyithe late filing penalty equals five percent of the amount of tax required to be shown on the return for each month or fraction of a month during which the failure to file continues up to a maximum of 25 percent If the taxpayer s failure to file is fraudulent the penalty rate increases to 15 percent per month up to a maximum of 75 percent The penalty period commences the first day after the return is due taking into account extensions of time to le and ends once the taxpayer mails the return The late filing penalty is computed based on the net amount of tax required to be shown on the return For this purpose the liability shown on the return is reduced by tax prepayments estimated tax payments and allowable credits including the wage withholding credit under 31 6651a2 The Failure to Pay PenaltyiFailure to timely pay triggers the late payment portion of the delinquency penalty The late payment penalty starts at 5 percent for the first month during which the tax remains unpaid and increasing an additional 5 percent for each month or fraction thereof during which the tax remains outstanding up to a maximum of 25 percent The penaltv stops accruing on the date the IRS receives payment The late payment penalty may also be triggered by the taxpayers failure to timely pay an assessed deficiency For deficiencies of less than 100000 the taxpayer is given 21 calendar days after notice and demand is made to pay If the amount demanded is 100000 or more the allotted time period drops to ten business days after the date of notice and demand The penalty is calculated on the net amount due 40 If both the late ling and late payment penalties apply the taxpayer may offset the late payment portion of the penalty against the late ling portion Note that the 25 percent maximum rate applicable to each of the late ling and late payment additions applies separately As a result the late payment penalty may continue to accrue beyond the 5 month period after which the late ling penalty reaches its maximum The number of months during which the late payment penalty accrues is determined by taking into account extensions of time to pay Recall that an extension of time to le a return does not extent the date prescribed for payment Do Problem 101 The Reasonable Cause Defense Under Reg 30166511c neither the late ling nor late payment addition applies if the delinquency is due to reasonable cause and not willful neglect Often the issue relates to taxpayer s reliance upon professional advice US VBoyle 469 US 241 SC 1985 In this case Supreme Court drew a distinction between reliance on an expert s advice relating to a substantive matter of law and reliance on an expert s advice relating to a procedural matter What was the nature of this distinction Did the Court uphold Boyle s reasonable cause defense Accuracy Related Penalties 6662 imposes a single accuracy related penalty accompanied by uniform de nitions The amount of the penalty equals 20 percent of the portion of the underpayment of tax attributable to one or more of ve types of misconduct The maximum accuracy related penalty that may be applied is 20 even if the underpayment is attributable to more than one type of misconduct Note that if the taxpayer les the return after the prescribed due date both the accuracy related penalty and the late ling penalty may apply to the same portion of a tax underpayment o 6662b1 imposes the 20 percent accuracyrelated penalty for negligence or disregard of rules and regulations The statue de nes negligence as any failure to make a reasonable attempt to comply with the Code while a taxpayer s disregard of rules or regulations must be careless reckless or intentional Review Reg 16662 3 41 6662b2 imposes the 20 percent accuracyrelated penalty on any portion of an underpayment attributable to a substantial understatement of income tax The penalty applies to taxpayers who take aggressive return positions that do not have substantial legal support An understatement of tax is considered substantial if the understatement exceeds the greater of 10 percent of the tax required to be shown on the return or 5000 10000 for C Corporations Sources of substantial authority include the Code Treasury Regulations court decisions Revenue Rulings and Procedures certain legislative history sources and private letter rulings Substantial authority exists for the tax treatment of a particular item only if the weight of authorities supporting the treatment is substantial in relation to the weight of authorities supporting contrary treatment Do Problem102A amp 102B Problem 104 Disclosure For purposes of determining whether an understatement of tax is substantial the amount of the understatement is also reduced by amounts attributable to an item if the relevant facts relating to the tax treatment re adequately disclosed on the return or in a statement attached to the return and there is a reasonable basis for the taxpayer s tax treatment of the time A taxpayer may use Form 8275 Disclosure Statement to disclose a return position Revenue Procedure 200111 page 50102 sets forth in more detail the circumstances under which disclosure on the return itself is considered adequate Review Section 4 Insert Form 8275 here Return to 29 Tight Sands example 42 Valuation Misstatements70verstatements Under 6662b3 the 20 percent addition applies to an underpayment of tax attributable to a substantial valuation misstatement The substantial valuation misstatement penalty applies most commonly to a taxpayer who in an attempt to in ate a charitable contribution deduction overstates the value of property or to a taxpayer who in an attempt to increase cost recovery deduction or reduce the amount of realized gain overstates the adjusted bases of property reported on the return In order to trigger the penalty the overstatement of value or basis must be at least 200 percent greater than the correct value or the correct adjusted basis as the case may be and the tax underpayment attributable to the valuation misstatement must exceed 5000 10000 in the case of a C corporation If the value or adjusted basis of any property claimed on a return is 400 percent or more of the amount determined to be the correct valuation or adjusted basis the penalty rate increases to 40 percent of the resulting underpayment Valuation Misstatementsiother Issues The substantial valuation misstatement penalty applies to a 482 valuation misstatement as well a topic best discussed as part of an international tax course Separate prongs of the accuracyrelated penalty may also apply to an employer who attempts to in ate pension contribution deductions 6662b4 or to a taxpayer who understates the value of property reported on a gift or estate tax return 6662b5 Reasonable Cause Exceptions under 6664c to Accuracy Related Penalty 6662 the Delinquency Penalty 6651 and the Civil Fraud Penalty 6663 To qualify for the exception the taxpayer must establish that there was reasonable cause for the tax underpayment and that the taxpayer acted in good faith Review the Consolidated Penalty Handbook pp 5087513 which includes a summary of the pertinent facts and circumstances that the IRS will consider when deciding whether reasonable cause exists The Civil Fraud Penalty 6663 6663 applies when the taxpayer s behavior extends substantially beyond the failure to exercise reasonable care and evidences an intentional effort to underpay his taxes The increase penalty rate 75 percent of the portion of an underpayment attributable to fraud re ects the higher level of culpability that must exist in order to trigger the addition The civil fraud penalty applies only if a tax return has been filed 43 Information Reporting Penalties 672l amp 6722 The IRP Program veri es whether a taxpayer s income has been fully reported by digitally matching data on information returns led by employers and other payers with the recipient s income tax return Failure by the taxpayer to include income reported on an information return normally results in the IRS sending the taxpayer a notice explaining the discrepancy and requesting payment of any resulting tax adjustment Under current law information returns are required for numerous types of payments including wages Form W2 interest Form 1099 INT dividends Form 1099DIV and broker transactions Form 1099B In addition to reporting these amounts to the IRS the payor must also send a copy of the return to the income recipient so that the recipient can accurately and timely complete his own return States such as California match this information as well Review Farmington NM case Review CA pathologist case Under 6721 a payor who fails to timely file an information return or to properly include all the required information on the return is subject to a penalty of 50 per return up to a maximum of 250000 per calendar year Do Problem 102C To encourage payors to correct errors as soon as possible the perretum and maximum yearly penalty amounts decreased based upon when the filer rectifies the errors If the reporting failures are corrected within 30 days after the due date of the return normally March 30 the penalty amount is reduced to 15 per return with a maximum yearly penalty of 75000 Reporting failures corrected after March 30 but before August I carry a 30 per return penalty not to exceed 150000 6722 provides a similar set of penalties to a payor s failure to furnish a payee statement or to include in the payee statement all the correct information The penalty equals 50 for each statement with respect to which the failure occurs up to a maximum penalty amount of 100000 per year Note that the statements are normally to be provided to the payee by January 31 An exception for inconsequential errors applies to both penalties Reporting penalties under 6721 amp 6722 may both be waived 6724 if the filer shows that the failure was due to reasonable cause and that the filer acted in a responsible manner Reasonable cause factors include 1 significant mitigating factors for the failure 2 failure arose from events beyond the filer s control 44 o Preparer Penalties 6694 Discussion of the 250 unrealistic position penalty and the 1000 willful reckless or intentional conduct penalties is similar to prior comments about preparer penalties 1003 Assessment Abatement and Suspension of Penalties Because the accuracyrelated and civil fraud penalties hinge upon an underpayment of tax which must be assessed as a de ciency the penalties themselves must themselves also be included in the notice of de ciency and may be reviewed by the Tax Court before they can be formally assessed Moreover the Appeals Division will consider the penalty addition at the same time it considers the underlying tax liability However with respect to the delinquency penalty under 6651 in most cases the IRS need only notify the taxpayer of a penalty assessment resulting from a failure to file or pay and make a demand for payment After notice and demand the IRS may collect the resulting amount Neither the information reporting nor the preparer penalties are subject to the deficiency assessment procedures Nevertheless the IRS has created a preassessment appeals procedure for preparer penalty cases that is similar to that followed in deficiency cases The IRS has authority to waive or abate an asserted penalty under specified circumstances The Code itself for example allows the return preparer penalty to be abated if it is later established as part of a final administrative determination or judicial proceeding that the return on which the penalty was based contained no understatement of the tax The IRS has also established an administrative appeals procedure under which a taxpayer may request waiver of the penalty after it has already been assessed The post assessment appeals procedure applies to most penalties that may be waived based on a reasonable cause due diligence good conscience or other similar exception Taxpayers most commonly utilize these appeals procedures to protest delinquency penalties If the abatement request is denied the taxpayer can protest that denial with the Appeals division 45 Chapter 12 Tax Collection Omit Drye v US 528 US 49 SC 1999 pp 566 576 US VMC Dermott 507 US 447 SC 1993 pp 576582 US vRodgers 461 US 677 SC 1983 pp 587 601 omit pages 636646 1201 Introduction Collection is the nal step in the administrative process Two different procedures generally utilized by the IRS to collect an unpaid assessment administrative collection procedures the more common and judicial collection procedures If the IRS is unable to levy on the taxpayer s property or to so is not administratively feasible the government can protect its lien right by ling suit The two most common types of collection related lawsuits instituted by the government are suits to foreclose a federal tax lien and suits to reduce a tax lien to a personal judgment A foreclosure action normally is used to subject the delinquent taxpayer s property to the payment of tax and to work out any priority con icts among the government and other third party creditors also claiming an interest in the taxpayer s property A suit to reduce an assessment to personal judgment generally is utilized to extend the statute of limitations on collection Organization Blueprint approach to collection emphasizes a new risk based method 1202 IRS Collection Procedures Structure of IRS s Collection Operation Under the new organizational structure each of the operating divisions will screen its own collection cases and attempt to process delinquent accounts first through correspondence and telephone contacts Its seems likely that the computer generated billing process and ACS procedures described below will continue to exist for the foreseeable future 1 Initially the taxpayer will receive a series of four computer generated bills notifying the taxpayer of a delinquent account The first bill in the form of a Request for Payment advises the taxpayer of the amount owed and requests the taxpayer to submit the amount within 10 days Review 46000 refund check example 46 2 If the amount remains unpaid after the Request for Payment is sent the taxpayer receives normally in veweek intervals subsequent notices that become increasingly more threatening in their demands for payment If these notices prove unsuccessful the account is then assigned to the IRS s Automated Collection System ACS The ACS is a computerized telephone collection system that initiates contact with the taxpayer by phone in an effort to collect the unpaid amount If the ACS efforts are unsuccessful the account may be transferred to a revenue officer in the Collection Division for a field investigation 3 The revenue officer will contact the taxpayer to determine the current status of the taxpayer s account and will again demand immediate and full payment If the taxpayer fails to appear at the interview or otherwise refuses to cooperate the revenue officer may issue a summons requiring the taxpayer to appear and provide financial information If the revenue officer at the initial meeting cannot collect the outstanding liability he will attempt to ascertain information about the taxpayer s assets and will eventually decide whether enforced collection activity is necessary and how it should proceed Having reviewed the facts and circumstances the revenue of cer may determine that the account should be considered uncollectible resulting in no enforcement action but periodic reviews of the balance due and possible rereview of the matter Notice and Demand for Payment 6303 The IRS must as soon as possible and no later than 60 days after tax is assessed send to each person liable for the unpaid amount a written notice setting for the amount of the liability and demanding payment the notice and demand A taxpayer s failure to pay the amount owed within 21 days after notice and demand 10 days in the case of liabilities of 1 00 000 or more triggers failure to pay penalties The notice and demand may be left at the taxpayer s dwelling or usual place of business or mailed to this last known address If an agency relationship exists among two or more taxpayers a single notice to one taxpayer is generally considered notice to all In the usual case the first computergenerated bill issued to the taxpayer the Request for Payment satisfies 6303 Review the Partner Michigan Airplane Case 1203 Statute of Limitations on Collections 6502 Once the IRS assess a tax or other liability the service generally has ten years from the date of the assessment to collect the tax by levy or through a judicial proceeding 47 1204 Administrative Collection Proceedings As noted above administrative collection cases normally begin with a written demand for payment by the IRS Unless the taxpayer or his representative intervenes to negotiate a compromise or deferred payment or the IRS determines that the unpaid liability is collectible the process may lead to seizure and sale of the taxpayer s assets to satisfy the amounts owed The IRS can collect an outstanding liability pursuant to these administrative collection procedures without the need for any judicial intervention because of the statutory federal tax lien Note that state and local jurisdictions have similar lien arrangements The Statutory Federal Tax Lien 6321 If a taxpayer neglect or refuses to pay the entire assessed amount after notice and demand a lien in favor of the IRS automatically attaches to all of the taxpayer s property The federal tax lien is retroactive to the date of the assessment In the case of a jeopardy assessment the federal tax lien arises automatically upon assessment with no notice and demand required Although a federal tax lien represents nothing more than a claim or encumbrance against the taxpayer s property the lien is important because it allows the IRS to levy and seize the taxpayer s property which may then be sold to generate the tax Do Problem 121 Part A Attachment of the Federal Tax The tax lien also attaches to assets that the delinquent taxpayer acquires after the lien arises provided that the lien is still in effect The question of whether property or a property interest is owned by a delinquent taxpayer and thus subject to a federal lien is a matter governed by state law rather than federal law Lien Priorities Once federal tax lien attaches no additional action on the part of the IRS or judicial intervention is required to establish the government s interest in the taxpayers property For this reason the federal tax lien is often referred to as a secret lien Although only the taxpayer and the IRS may know the existence of the tax lien the government may still have priority against thirdparty creditors asserting an interest in the taxpayer s property 48 6323a provides that the federal tax lien is not valid against any purchaser holder of a security interest mechanic s lienor or judgment lien credit until the Secretary les records a Notice of Federal Tax Lien Form 668 in accordance with the Code Once the secretary properly records the notice the lien normally takes priority over subsequent purchasers security interest holder mechanic s lienors and judgment creditors As a general rule the creditor must perfect his interest under state law before the IRS les a Notice of Federal Tax Lien in order to obtain priority over the tax lien Even timely ling a Notice of Federal Tax Lien does not assure the IRS s priority 6323b describes classes of purchasers and lien holders who are afforded a super priority protecting the party s interest despite the fact that the IRS may have previously filed a Notice of F ederal Tax Lien This preferred status is granted with respect to ten separate interests including 1 securities purchased without actual notice or knowledge of the tax lien 2 motor vehicles purchased without prior knowledge of the federal tax lien 3 tangible personal property purchased at retail in the ordinary course of the seller s business and 4 personal property such as household furnishings and personal effects purchased in a casual sale Liens covering real property taxes payments for repairs and improvements of the taxpayer s personal residence and attorney s fees are also accorded superpriority status if the speci c requirements of the statute are met To facilitate the use of common nancing techniques 6323 c also confers superpriority status on certain security interests resulting from commercial transaction nancing agreements Do Problem 122 Notice of Federal T we Lien Under 6320 a the IRS must notify the delinquent taxpayer in writing of the existence of the lien within ve days after it les the notice The taxpayer is then afforded an opportunity to request a hearing with an IRS Appeals of ce the collection Due Process or CDP Hearing within a 30day period beginning on the date after the ve day period expires Because a Notice of Federal Tax Lien led against a taxpayer s property may result in a signi cant hardship for the taxpayer and may prevent him from borrowing funds to pay the assessed liability revenue of cers do not automatically le a Notice immediately upon the taxpayer s failure to pay in response to a notice and demand The IRM instructs revenue of cers to provide the taxpayer with an opportunity to pay the assessment or to work a security or deferred payment arrangement before ling the Notice of Federal of Tax Lien The IRS will normally not le the Notice in cases when the unpaid balance is less than 5000 the taxpayer is deceased and no estate assets exist or when there are indications that the taxpayer s liability has already been paid is incorrect or will be offset with existing tax credits 49 Release and Discharge 6325 specifies the circumstances under which the IRS will release a federal tax lien or discharge property from the lien A lien must be released no later than 30 days after the day on which the lien has been satis ed in full or becomes legally unenforceable The lien must also be released if the taxpayer posts an acceptable bond that is conditioned upon the payment of the assessed amount plus interest In addition the IRS has stated its willingness to release a lien once an offer in compromise is accepted provided the taxpayer pays the offered amount and otherwise complies with the offer agreement Unlike a release which frees up all the taxpayer s property from the tax lien a discharge applies only to a specific item of property The IRS has discretionary authority to discharge property from a tax lien without the necessity of payment or bond if the remaining property covered by the tax lien has a fair market value at least twice the amount of the tax lien plus the amount of any other liens that have priority over the tax lien Finally the tax lien encumbering property may be discharged in order to permit the delinquent taxpayer to sell the subject property Levy and Sale A federal tax lien is merely an encumbrance against the taxpayer s property The primary method used by the IRS to enforce the tax lien is the administrative procedure of levy and sale 633I permits the IRS to levy upon the taxpayer s property and sell the property at public auction in order to generate proceeds to satis the unpaid liability No judicial intervention is required In cases not involving a jeopardy assessment the IRS must wait to levy against the taxpayer s property until after the expiration of a ten day period following the issuance of a Notice and Demand for Payment In the usual case the IRS will issue one or two additional demands for payment before resort to levy If the taxpayer can convince the IRS that he is making a sincere effort to pay the liability the levy may be postponed Before seizing the taxpayer s property the IRS must mail or deliver a written statement notifying the taxpayer of its intent to levy and describing the statutory and administrative procedures relating to levy and sale and the alternative procedures that may be available to the taxpayer to prevent a levy The IRS must provide Form 668A at least 30 days prior to levying on the taxpayer s property A levy may be made on all the delinquent taxpayer s property or rights to property real or personal tangible or intangible unless specifically exempted In addition property that is encumbered by the federal tax lien is subject to levy whether the property is in the taxpayer s or someone else possession An exception is made in the case ofwages salaries and certain other periodic payments In these specific cases the levy is deemed to be continuous thereby permitting the IRS to collect amounts accruing after the date of levy so long as the liability remains unpaid 50
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