Taxable Talk

If you receive an IRS Determination Letter, and decide to file a petition in Tax Court, make sure you file by the deadline. The Tax Court won’t accept your petition if you file late, as another taxpayer discovered today.

Our unlucky taxpayer moved twice between the time the IRS mailed the Notice of Deficiency and the time he received it. Normally, you have 90 days to respond; however, the taxpayer in question had only 75 days (until November 13, 2006). He sent his petition (using FedEx) on November 14th.

The IRS asked the Tax Court to dismiss the taxpayer’s suit because it was filed late. The taxpayer argued that he should either get extra time because of the moves or that the IRS notice was inaccurate because of the wrong address.

I’ve written before that the Tax Court is a stickler for deadlines. This case was no different. The statute says that the taxpayer has 90 days from date of mailing (the taxpayer actually had 91, as the 90th day from the date of mailing was a Sunday), and the Court must obey the plain language of the statute. Additionally, the IRS correctly sent the notice to the (then) right address.

Once again, deadlines count. The taxpayer’s case has been dismissed, and he must pay the deficiency. He can file a claim and pursue a case in US District Court or the US Court of Claims, but that’s only after he pays the tax.

We’re taught that if at first you don’t succeed, try, try again. But sometimes it just doesn’t work.

Take the example of Warren Follum. Mr. Follum had asked the Tax Court to review the IRS’ decision to proceed with collecting tax from him for 1990 through 1993.

In those years the petitioner (Mr. Follum) included losses from sports-fishing. The IRS alleged that the petitioner wasn’t in a business but, rather, had non-deductible hobby losses of between $12,000 and $35,000 each year.

Let’s add some complicating factors. When the IRS originally sent Mr. Follum notices of deficiency to his (then) post office box, the mail was returned as undeliverable. Back in 1996, the Tax Court ruled that because Mr. Follum didn’t timely respond to the notice of deficiency (and the IRS did sent the notice to the petitioner’s last known address), the court didn’t have jurisdiction in the case. The Second Circuit Court of Appeals upheld the Tax Court’s decision.

So in 2003 the petitioner filed yet another Tax Court case. The case was remanded back to the IRS appeals office in 2005 for consideration of potentially more liability. Then Mr. Follum brought suit against the IRS in the Western District of New York, asking that their be an injunction against the collection of his taxes. He lost, as that court held that it lacked jurisdiction (it had jurisdiction for a refund claim, but not an allegation of procedural irregularities).

Petitioner then brought a suit in the Eastern District of North Carolina, claiming that the IRS had not sent the notice and demand to his last known address. He lost that suit, as it was dismissed under the doctrine of “res judicata” (when a court of competent jurisdiction has entered a final judgment on the merits of a cause of action, the parties to the suit and their privies are thereafter bound “not only as to every matter which was offered and received to sustain or defeat the claim or demand, but as to any other admissible matter which might have been offered for that purpose.”).

Eventually, the second Tax Court case made its way back to the Tax Court, and today the decision was rendered. The Court had to decide (1) whether petitioner’s claim that the notice and demand were not sent to his last known address is barred by “res judicata”; (2) whether the period of limitations on assessment of the 1990 and 1991 taxes has expired; (3) whether the petitioner engaged in sports fishing for profit; and (4) whether the lien should remain in place.

First, because Mr. Follum had never been able to contest the underlying tax liability, the Court ruled it would look at the tax liability. The Court then upheld the underlying tax (a legal expert would note that “res judicata” appeared to apply; in any event, the Court found petitioner’s underlying arguments about owing the tax at issue to be wrong).

The Court then reviewed whether Mr. Follum was sports-fishing in tournaments for fun or profit. Mr. Follum didn’t keep separate books; he didn’t earn a profit in any year. It didn’t look like he had a plan to earn a profit in future years. It gave the appearance of a hobby, and that’s how the Court ruled.

Finally, the Court noted, “Having reviewed the underlying liability de novo, we find no error. Additionally, we find no error or abuse of discretion by respondent in determining to uphold the filing of the lien against petitioner.”

So the fourth try wasn’t any more satisfying than the first for Mr. Follum. The morale of this tale is that sometimes additional bites at the apple are just as unsatisfying as the first. Also, it pays to keep your address current with the IRS.

Case: Follum v. Commissioner, T.C. Memo 2007-164

I haven’t blogged about a tax protester case at the Tax Court in some time. But one was decided today that had several humorous elements—more than enough to make it ripe for reporting.

Chester Davis didn’t file a 2001 tax return. In 2005, he received a notice of a lien from the IRS (based on having income in 2001 but not paying tax). He filed an abuse of discretion petition with the Tax Court. Both sides asked for summary judgment.

Mr. Davis hired a representative, Jeffrey Hubacek, who had been permanently barred from dealing with the IRS. So the IRS wouldn’t talk with Mr. Hubacek. “…[I]t was not an abuse of discretion to exclude Mr. Hubacek from representing petitioner….” Strike one.

So what about his arguments? Well, “[T]he record indicates that the only issues petitioner raised throughout the section 6320 administrative process and in his petition to this Court were frivolous and/or tax protester type arguments. We do not address petitioner’s frivolous arguments with somber reasoning and copious citations of precedent, as to do so might suggest that these arguments possess some degree of colorable merit.” Strike two.

What about the tax liability underlying the case? Well, Mr. Davis never filed a return; he wasn’t entitled to contest the liability, and “…he presented nothing more than an income tax return with a zero in each pertinent box.” That’s three strikes, and Mr. Davis was out. But he did get one of his wishes granted: summary judgment. Except it was summary judgment for the IRS and against Mr. Davis.

But the Court wasn’t done. “Respondent has requested that the Court impose a penalty under section 6673 on the ground that the arguments advanced by petitioner to respondent and the Court are frivolous.” Yes, if you file a frivolous case in Tax Court, you can be penalized. The Court found Mr. Davis’ case thoroughly frivolous, and so he found himself owing an additional $2,000 for the frivolity. And that might not be the last time we see Mr. Davis’ name mentioned as there are two other cases working there way through Tax Court brought by Mr. Davis; he was warned (in a footnote) to not be frivolous. Under section 6673 the Court could have penalized Mr. Davis up to $25,000. I expect that if there’s a recurrence he’ll see a five-digit fine.

So be careful what you ask for as you might just get your wish.

Case: Davis v. Commissioner, T.C. Memo 2007-160

Suppose you discover an error in your 2001 tax return. You’ve forgotten to include a $55,065 deduction that will lower your taxes by $13,769. You timely amend your return to get the deduction (you have three years from the due date of the return or the filing date, whichever is later, to amend a return), and make a claim for the refund. The IRS questions your refund claim and eventually denies it. You appeal internally (administratively) within the IRS, and, after spending $7,253 on accountants and attorneys, prevail, and get your check for $14,921 (inclusive of about $1,200 of interest). You file a Tax Court claim for the $7,253 you spent on fighting (rightly) the IRS, because Section 7430 of the Internal Revenue Code allows you to recover funds when you are the prevailing party in an administrative or court proceeding. Do you get your $7,253?

The Tax Court looked at that issue today. A taxpayer filed his 2001 tax return and had a Roth IRA (converted from a regular IRA under §408A(d)(3), and timely filed and paid his tax. In October 2001, he reconverted his IRA back to a regular IRA under §408A(d)(6), and asked for a refund of $13,769. The IRS disputed the refund, and denied it as the reconversion wasn’t timely.

The taxpayer went to the IRS’ National Office of Chief Counsel a ruling as to whether or not the reconversion was timely. The Office of Chief Counsel ruled it was. The taxpayer resubmitted his amended tax return, attaching a copy of the letter from the Office of Chief Counsel. Eventually the taxpayer got his refund along with additional interest. Still, the taxpayer was out the costs of fighting the IRS of $7,253.

After filing a claim with the IRS Appeals Office (which was denied), the case went to the Tax Court. Unfortunately, to win a claim under §7430, the petitioner must be the “prevailing party.” The IRS must have adopted a “position” on the matter. And that only happens, according to the Tax Court, if there’s a notice of deficiency or an IRS appeals office ruling—neither of which occurred in this case.

The Tax Court sympathizes with the petitioner, and notes,

“…[T]axpayers (such as petitioners herein) who do a good job at the administrative level of resolving issues and getting respondent to realize the error of his ways are precluded from recovering administrative costs incurred in achieving those favorable results. To the contrary, taxpayers who do not do as good a job at the administrative level and who receive adverse Appeals Office notices of decision or notices of deficiency, but who later convince respondent to concede issues or who substantially prevail in litigation on the issues, are able to seek a recovery of administrative costs. In effect, taxpayers who do a better job at the administrative level of resolving issues raised by respondent on audit are prejudiced in their ability to recover administrative costs under section 7430.”

But “Courts do not have the power to repeal or amend the enactments of the legislature even though they may disagree with the result.” (Metzger Trust v. Commissioner, 76 T.C. 42, 59 (1981), affd. 693 F.2d 459 (5th Cir. 1982) So our unlucky taxpayer is out the money, because he was good at going through the administrative system. There’s a moral here, but I don’t like it at all.

Case: Kwestel v. Commissioner, T.C. Memo 2007-135