IRS Collection Alternatives: Pay Attention To Details

 

I was glancing over recent Tax Court cases when I noticed one that involved a rapper.

I’ll be honest: I do not know who this is. I am told that he used to date Kylie Jenner. There was something in the opinion, however, that caught my eye because it is so common.

Michael Stevenson filed his 2019 tax return showing federal tax liability over $2.1 million.

COMMENT: His stage name is Tyga, and the Court referred to him as “very successful.” Yep, with tax at $2.1-plus million for one year, I would say that he is very successful.

Stevenson had requested a Collection Due Process (CDP) hearing. It must have gone south, as he was now in Tax Court.

Why a CDP hearing, though?

Stevenson had a prior payment plan of $65 grand per month.

COMMENT: You and I could both live well on that.

His income had gone down, and he now needed to decrease his monthly payment.

COMMENT: I have had several of these over the years. Not impossible but not easy.

The Settlement Officer (SO) requested several things:

·      Form 433-A (think the IRS equivalent of personal financial statements)

·      Copies of bank statements

·      Copies of other relevant financial documents

·      Proof of current year estimated tax payments

Standard stuff.

The SO wanted the information on or by November 4, 2021.

Which came and went, but Stevenson had not submitted anything.

Strike One.

The SO was helpful, it appeared, and extended the due date to November 19.

Still nothing.

Strike Two.

Stevenson did send a letter to the SO on December 1.

He proposed payments of $13,000 per month. He also included Form 433-A and copies of bank statements and other documents.

COMMENT: Doing well. There is one more thing ….

The SO called Stevenson’s tax representative. She had researched and learned that Stevenson had not made estimated tax payments for the preceding nine years. She wanted an estimated tax payment for 2021, and she wanted it now.

COMMENT: Well, yes. After nine years people stop believing you.

Stevenson made an estimated tax payment on December 21. It was sizeable enough to cover his first three quarters.

COMMENT: He was learning.

The SO sent the paperwork off to a compliance unit. She requested Stevenson to continue his estimated payments into 2022 while the file was being worked. She also requested that he send her proof of payments.

The compliance unit did not work the file, and in July 2022 the SO restarted the case. She calculated a monthly payment MUCH higher than Stevenson had earlier proposed.

COMMENT: The SO estimated Stevenson’s future gross income by averaging his 2020 and (known) 2021 income. Granted, she needed a number, but this methodology may not work well with inconsistent (or declining) income. She also estimated his expenses, using his numbers when documented and tables or other sources when not.

The SO spoke with the tax representative, explaining her numbers and requesting any additional information or documentation for consideration.

COMMENT: This is code for “give me something to justify getting closer to your number than mine.”

Oh, she also wanted proof of 2022 estimated tax payments by August 22, 2022.

Yeah, you know what happened.

Strike Three.

So, Stevenson was in Tax Court charging the SO with abusing her discretion by rejecting his proposed collection alternatives.

Remember the something that caught my eye?

It is someone not understanding the weight the IRS gives to estimated tax payments while working collection alternatives.   

Hey, I get it: one is seeking collection alternatives because cash is tight. Still, within those limits, you must prioritize sending the IRS … something. I would rather argue that my client sent all he/she could than argue that he/she could not send anything at all.

And the amount of tax debt can be a factor.

How much did Stevenson owe?

$8 million.

The Court decided against Stevenson.

Here is the door closing:

The Commissioner has moved for summary judgement, contending that the undisputed facts establish that Mr. Stevenson was not in compliance with his estimated tax payment obligations and the settlement officer thus was justified in sustaining the notice of intent to levy.”

Our case this time was Stevenson v Commissioner, TC Memo 2023-115.

Substantially Disclosing A Gift To The IRS

Take a look at this memorable prose:

         Sec 6501(c) (9) Gift tax on certain gifts not shown on return.

If any gift of property the value of which (or any increase in taxable gifts required under section 2701(d) which) is required to be shown on a return of tax imposed by chapter 12 (without regard to section 2503(b) ), and is not shown on such return, any tax imposed by chapter 12 on such gift may be assessed, or a proceeding in court for the collection of such tax may be begun without assessment, at any time. The preceding sentence shall not apply to any item which is disclosed in such return, or in a statement attached to the return, in a manner adequate to apprise the Secretary of the nature of such item.

I get it: if you never disclose the gift, the IRS can come after you until the end of time. The reverse is what concerns us today: if you disclose the gift “in a manner adequate,” then the IRS does not have until the end of time.

Gift tax cases can be … idiosyncratic, to be diplomatic. All tax is personal, but gift tax can be Addams Family idiosyncratic.

Ronald Schlapfer (RS) was a Swiss-born businessman. He had ties to both Switzerland and the United States. He owned a life insurance policy issued in 2006.The policy in turn owned all the stock in EMG, a Panamanian company previously owned by RS.

It was 2006 and RS was a nonresident of the U.S. He gifted his interest in EMG to his mother, aunt and uncle.

He obtained U.S. citizenship in 2008.

Got it: he gifted before he became subject to U.S. gift tax.

In 2013 – and after obtaining his citizenship – RS decided to play it safe and submitted an offshore voluntary disclosure filing with the IRS. It included a gift tax return for 2006, which informed the IRS of the gift to his family. The return included the following:

“A protective filing is being submitted. On July 6, 2006, taxpayer made a gift of controlled foreign company stock valued at $6,056,686 per U.S. Treasury Regulation 25.2501-1(B). The taxpayer is not subject to U.S. gift tax as he did not intend to reside permanently in the United States until citizenship was obtained in 2008.”

COMMENT: In this situation, a protective filing means that the taxpayer is unsure if a filing is even required but is submitting one, nonetheless. It is an attempt to backstop penalties and other bad things that could happen from a failure to file.

COMMENT: International practice has become increasingly paranoid for many years now. The IRS seems convinced that every UBER driver has unreported foreign accounts, and one’s failure to follow arbitrary and obscure rules are a per se admission of culpability. In this case, for example, there was technical doubt whether the gift was reportable as the transfer of a life insurance policy or as the transfer of a company owned by that policy. Why was there doubt? Well, the IRS itself created it. Rest assured, whichever way you chose the IRS would fall the other way.

The IRS disagreed that the gift occurred in 2006. There was a hitch in the transfer, and the attorney did not resolve the matter until 2007. RS in turn argued that 2007 was but a scrivener’s error. According to well-trod ground, a scrivener’s error is considered administrative, not substantive, and does not mark the actual date of the underlying transaction.

Sometime in here RS agreed to extend the limitations period.

In 2019 the IRS issued the statutory notice of deficiency (SNOD). That is also called a 90-day letter, and it meant that the next step was Tax Court - if RS wanted to further pursue the matter.

Off to Tax Court they went.

RS’ argument was simple: the statute of limitations had expired.

The IRS argued that the gift was not adequately disclosed.

The IRS argued that disclosure requires the following:

·       Description of the property gifted, and any consideration received by the donor.

·       The identity and relationship between the parties.

·       There is additional disclosure for property is transferred in trust.

·       A detailed explanation of how one arrived at the fair market value of the property gifted.

·       Whether one has taken a position contrary to any Regulations or rulings

The IRS was trying to catch RS in the first requirement above: a description of the property gifted.

Was it an insurance policy, ownership in a company, or something else?

Here is the Court:

While Schlapfer may have failed to describe the gift in the correct way, he provided enough information to identify the underlying property that was transferred.”

RS won his case. The IRS had blown the statute of limitations.

Our case this time was Schlapfer v Commissioner, T.C. Memo 2023-65.

Giving The IRS A Reason To Reject Your Offer In Compromise

 

Can the IRS turn down your offer in compromise if the offer is truly the best and most you are able to pay?

My experience with OICs and partial payment plans has generally involved disagreement with the maximum a client can pay. I do not recall having the IRS tell me that they agreed with the maximum amount but were going to reject the OIC anyway. Some of that – to be fair – is my general conservatism with representing an OIC.

COMMENT: There are tax mills out there promising pennies-on-the-dollar and inside knowledge of an IRS program called “Fresh Start.” Here is inside knowledge: the IRS Fresh Start program started in 2011, so there is nothing new there. And if you want pennies on the dollar, then you had better become disabled or fully retired with no earning power, because it is not going to happen.

Today we are going to talk about James O’Donnell.

James did not believe in filing tax returns. Sometimes the IRS would prepare a substitute return for him; it did not matter, as he had no intention of paying. This went long enough that he was now dragging over $2 million in back taxes, penalties and interest.

I suppose his heart softened just a bit, as in May, 2016, he submitted an offer in compromise for $280,000. He attached a check for $56,000 (the required 20% chop) and simultaneously filed 12 years’ worth of tax returns.

When reviewing an OIC, the IRS will also review whether one is up-to-date with his/her tax compliance. The IRS did not see estimated tax payments for 2016 or 2017. In September, 2017 the IRS rejected the offer, saying that it would reconsider when James was in full compliance.

Bummer, but those are the ropes.

James must have hired someone, as that someone told the IRS that James did not need to pay estimated taxes.

Odd, but okay. The IRS decided to reopen the case.

The pace quickened.

In October, 2017 the IRS wanted to lien.

James requested a CDP hearing as he - you know – had an offer out there.

I agree. Liens are a bear to remove. It is much better to avoid them in the first place.

In March, 2018 the IRS rejected the offer.

In April, 2018 James appealed the rejection. His representative was still around and made three arguments:

(1)  The unit reviewing the offer erred in concluding the offer was not in the government’s best interest.

(2)  James was in full compliance with his tax obligations.

(3)  James was offering the government all he could realistically afford to pay.

There was paperwork shuffling at the IRS, and James’ case was assigned to a different settlement officer (SO). The SO sent a letter scheduling a telephone conference on May 15, 2018.

James skipped the call.

Sheeesshhh.

James explained that he never received the letter.

The SO rescheduled another telephone conference for June 14, 2018.

Two days before the hearing – June 12 – Appeals sustained the rejection of the offer, reasoning that acceptance of James’ offer was not in the government’s best interest because of his history of “blatant disregard for voluntary compliance.”

James made the telephone conference on June 14. The SO broke the bad news about the offer and encouraged James to resubmit a different collection alternative by June 26.

James filed with the Tax Court on August 20, 2018.

On July 30, 2019 (yes, almost a year later) the IRS filed a motion to return the case to the agency, so it could revisit the offer and its handling. The Tax Court agreed.

The IRS scheduled another conference call, this one for January 28, 2020. The IRS presented and James verbally agreed to a partial-pay with monthly payments of $2,071, beginning March, 2020.

COMMENT: This strikes me as a win for James. Failing the OIC – especially given the reason for the fail – a partial-pay is probably the best he can do.

The SO sent the partial-pay paperwork to James for his signature.

James blew it off.

He now felt that the SO had not considered all his expenses, making $2,071 per month unmaintainable.

OK. Send the SO your updated numbers – properly substantiated, of course – and request a reduction. Happens all the time, James.  

Nope. James wanted that OIC. He did not want a partial-pay.

It would be all or nothing in Tax Court.

COMMENT:  A key difference between the OIC and a partial-pay is that the IRS can review a partial-pay at a later point in time. As long as the terms are met, an OIC cannot be reviewed. If one’s income went up during the agreement period, for example, the IRS could increase the required payment under a partial-pay. This is the downside of a partial-pay compared to an offer.

James was betting all his chips on the following:

Appeals calculated the reasonable collection potential of $286,744. James had offered $280,000. Both sides agreed on the maximum he could pay.

The Tax Court pointed out that – while correct – the IRS is not required to accept an offer if there are other considerations.

Offers may be rejected on the basis of public policy if acceptance might in any way be detrimental to the interest of fair tax administration, even though it is shown conclusively that the amount offered is greater than could be collected by any other means.”

What other consideration did James bring to the table?

For two decades (if not longer) petitioner failed to file returns and failed to pay the tax shown on SFRs that the IRS prepared for him. During this period he was evidently a successful practitioner in the insurance and finance business. As of 2016 his outstanding liabilities exceeded $2 million, and he offered to pay only a small fraction of these liabilities. Because of his lengthy history of ignoring his tax obligations, the Appeals Office determined that acceptance of his offer could be viewed as condoning his ‘blatant disregard for voluntary compliance’ and that negative public reaction to acceptance of his offer could lead to ‘diminished future voluntary compliance’ by other taxpayers.”

The Tax Court bounced James, but it was willing to extend an olive branch:

We note that petitioner is free to submit to the IRS at any time, for its consideration and possible acceptance, a collection alternative in the form of an installment agreement, supported by the necessary financial information.”

Accepted OICs are available for public review. It is one thing to compromise someone’s taxes because of disability, long-term illness and the similar. That is not James’ situation. The Court did not want to incentivize others by compromising for fourteen (or so) cents on the dollar with someone who blew-off the tax system for twenty years.

Our case this time was James R. O’Donnell v Commissioner, T.C. Memo 2021-134

Talking Frankly About Offers In Compromise

I am reading a case involving an offer in compromise (OIC).

In general, I have become disinclined to do OIC work.

And no, it is not just a matter of being paid. I will accept discounted or pro bono work if someone’s story moves me. I recently represented a woman who immigrated from Thailand several years ago to marry an American. She filed a joint tax return for her first married year, and – sure enough – the IRS came after her when her husband filed bankruptcy. When we met, her English was still shaky, at best. She wanted to return to Thailand but wanted to resolve her tax issue first. She was terrified.   

I was upset that the IRS went after an immigrant for her first year filing U.S. taxes ever, who had limited command of the language, who was mostly unable to work because of long-term health complications and who was experiencing visible - even to me - stress-related issues.

Yes, we got her innocent spouse status. She has since returned to Thailand.

Back to offers in compromise.

There are two main reasons why I shy from OIC’s:

(1) I cannot get you pennies-on-the-dollar.

You know what I am taking about: those late-night radio or television commercials.

Do not get me wrong: it can happen. Take someone who has his/her earning power greatly reduced, say by an accident. Add in an older person, meaning fewer earning years remaining, and one might get to pennies on the dollar.

I do not get those clients.

I was talking with someone this past week who wants me to represent his OIC. He used to own a logistics business, but the business went bust and he left considerable debt in his wake. He is now working for someone else.

Facts: he is still young; he is making decent money; he has years of earning power left.

Question: Can he get an OIC?

Answer: I think there is a good chance, as his overall earning power is down.

Can he get pennies on the dollar?

He is still young; he is making decent money; he has years of earning power left. How do you think the IRS will view that request?

(2) The multi-year commitment to an OIC.

When you get into a payment plan with the IRS, there is an expectation that you will improve your tax compliance. The IRS has dual goals when it makes a deal:

(a)  Collect what it can (of course), and

(b)  Get you back into the tax system.

Get into an OIC and the IRS expects you to stay out of trouble for 5 years. 

So, if you are self-employed the IRS will expect you to make quarterly estimates. If you routinely owe, it will want you to increase your withholding so that you don’t owe. That is your end of the deal.

I have lost count of the clients over the years who did not hold-up their end of the deal.  I remember one who swung by Galactic Command to lament how he could not continue his IRS payment plan and then asked me to step outside to see his new car.

Folks, there is little to nothing that a tax advisor can do for you in that situation. It is frustrating and – frankly – a waste of time.

Let’s look at someone who tried to run the five-year gauntlet.

Ed and Cynthia Sadjadi wound up owing for 2008, 2009, 2010, and 2011.

They got an installment plan.

Then they flipped it to an OIC.

COMMENT: What is the difference? In a vanilla installment plan, you pay back the full amount of taxes. Perhaps the IRS cuts you some slack with penalties, but they are looking to recoup 100% of the taxes. In an OIC, the IRS is acknowledging that they will not get 100% of the taxes.

The Sadjadis were good until they filed their 2015 tax return. They then owed tax.

The reasoned that they had paid-off the vast majority if not all of their 2008 through 2011 taxes. They lived-up to their end of the deal. They now needed a new payment plan.

Makes sense, right?

And what does sense have to do with taxes?

The Court reminded them of what they signed way back when:

I will file tax returns and pay the required taxes for the five-year period beginning with the date and acceptance of this offer.

The IRS will not remove the original amount of my tax debt from its records until I have met all the terms and conditions of this offer.

If I fail to meet any of the terms of this offer, the IRS may levy or sue me to collect …..

The Court was short and sweet. What part of “five-year period” did the Sadjadis not understand?

Those taxes that the IRS wrote-off with the OIC?

Bam! They are back.

Yep. That is how it works.

Our case this time was Sadjadi v Commissioner, T.C. Memo 2019-58.

Taxpayer Advocate Reports That Taxes Are Too Complicated

In the Taxpayer Advocate 2012 Annual Report to Congress, Nina Olson states that it takes U.S. taxpayers more than 6.1 billion hours to complete all the tax filings required by the tax system.

Think about this for a moment. It takes more than 3 million full-time employees to administer the U.S. tax system.

I am one, of course. Still, ... good grief!

Here are other observations:

• Individual taxpayers find return preparation so overwhelming that about 59 percent now pay preparers to do it for them. Among unincorporated business taxpayers, the figure rises to about 71 percent."
• According to a tally compiled by a leading publisher of tax information, there have been approximately 4,680 changes to the tax code since 2001, an average of more than one a day."
• From FY 2004 to FY 2012, the number of calls the IRS received from taxpayers ...increased from 71 million to 108 million, yet the number of calls answered ... declined from 36 million to 31 million."
•  ... among  the callers who got through, the average time ... waiting on hold increased from just over 2½ minutes in FY 2004 to nearly 17 minutes in FY 2012."
• The IRS receives more than ten million letters from taxpayers each year responding to IRS adjustment notices. ... the IRS ... cannot timely process nearly half of its pending correspondence...."
• In 2012, TAS conducted a statistically representative national survey of over 3,300 ... sole proprietors. Only 16 percent said they believe the tax laws are fair. Only 12 percent said they believe taxpayers pay their fair share of taxes."

 Here is one that gave me pause:

• ·        We believe it is important to increase taxpayer awareness of the connection between taxes paid and benefits received. We have recommended that Congress direct the IRS to provide all taxpayers with a “taxpayer receipt” showing how their tax dollars are being spent. This “taxpayer receipt” ... should be provided directly to each taxpayer in connection with the filing of a tax return.”

 And you knew this one was coming:

• In each of the last two fiscal years, the IRS budget has been reduced, and it appears the IRS budget will be cut further in the current year. The continued underfunding of the IRS poses one of the greatest long-term risks to tax administration today.”

My Take? I believe that the IRS is underfunded, and that such underfunding represents a risk. I point out, however, that the underfunding is greatly attributable to governmental overreach, although it may be fair to say that the President and Congress have left the overreach on the IRS’s doorstep. 

And a receipt?! No thank you. I am aware of how my money is spent. That is a big part of the problem.

I have very much come to like Nina Olson. No one in Washington will listen to this report, however. Not this crowd. Not this year.

The Mobile Workforce State Income Tax Simplification Act

I was glad to see that Senator Sherrod Brown (D – OH) introduced the Mobile Workforce State Income Tax Simplification Act on August 2, 2012.  The bill is being promoted by the American Institute of CPAs, and a version of the bill passed the House on voice vote May 15^th.

The bill would establish a uniform standard for the withholding of state income taxes on nonresident employees.  It would lessen the burden the current system places on employers and traveling employees. 

Both bills would require nonresidents to work in a state for more than thirty days before becoming subject to a state‘s income tax withholding.

Why is this an issue? Let’s say that you start a consulting firm. Business takes off. You develop a national client base and hire employees. You send your employees throughout the country, sometimes for 4 or 5 days and other times for longer. You meet with me to discuss your tax filing requirements, especially your payroll. You tell me that you have engagements coming up in the following states and ask me how to handle the employee withholding.

               State                                      Exempt from Employer Withholding if …

Arizona                                               60 days or less

California                                            exempt if less than $1,500

Delaware                                             no exception

Georgia                                               23 days or less

Hawaii                                                 60 days or less

Idaho                                                   exempt if less than $1,000

Maine                                                  10 days or less

Maryland                                             exempt if less than $5,000

Massachusetts                                     no exception

Ohio                                                    less than $300 in any quarter

Virginia                                               exempt if less than $7,000

Now seriously, how are we to work with this? Remember that payroll may have some very nasty penalties for just minor errors. Do we simply withhold from day one on all employees in all states? That is the safest way to go, but now you are going to have monthly or quarterly reporting to almost every state in the nation. Perhaps the report says “zero”, but it will still take time to prepare and file. You may have additional end of year considerations, such as submitting W-2s to the state. Why not just shut down the account every time, you ask? That likely will save little to no time overall and may create more problems whenever you try to reactivate an account.

This all takes time. It may be my time, it may be your employee’s time, but you will be paying for this time. You can now see the issue. If you ship an employee into Delaware for 1 1/2 days, do they really expect you to withhold, remit and keep reporting to Delaware until the cows come home? Perhaps this made sense years ago when our parents worked at the factory down the street, but it makes no sense today. It is unreasonable to threaten an employer with payroll taxes (and penalties) because they made the mistake of sending an employee into your state for 3 or 4 days. This is not the Lewis and Clark era.

Will this bill pass Congress? My hunch is that no tax bill will pass Congress until the elections are resolved, and then only a tax extender bill passed at the last hour of the last day. This bill will not pass this Congress, but at least the issue is being discussed and highlighted. Perhaps next time and next Congress.