Is A Zero-Return Partnership A Valid Tax Filing?

 

I remember when they were called Chief Counsel Advices. IRS employees – think revenue agents or officers in the field – would reach out to their employer – the IRS – for guidance on an issue.

I am looking at something called a Chief Counsel Email.

Everything changes.

It caught my eye because I was talking with a CPA last week on the very same issue.

And the IRS position is initially disturbing.

Let’s go over this.

A revenue agent (commonly called an auditor) wanted to know if an initial partnership return showing partner information but zeros for activity would constitute a valid tax return.

COMMENT: I have seen this situation many times, including last week. Someone obtains a federal EIN, putting the entity on the IRS radar. The entity then goes on to do … nothing. It never starts or starts a year or two later. Meanwhile the entity is on the IRS Christmas card list. Fail to file a return and the IRS may send a letter asking why you did not file. In response, practitioners usually file an initial return but show zeros as activity because… well because there has been no activity.

Here is the Email:

We agree with the RA’s memo that the initial return showing ownership information, but containing all 0s would most likely be considered invalid under application of the Beard test.

Not good.

To be fair, however, I do not think that it is difficult to work with this Email.

Let’s first talk about Beard.

Beard was a tax protestor.

He found himself in Tax Court over his 1981 return. He received a Form W-2, which he reported on the form 1040. He then inserted a line he described as “Non-taxable receipts” and subtracted his W-2. The result was that he owed – according to him – no taxes and was entitled to a full refund of his withholding.

The IRS wanted tax, of course, and also wanted penalties for failure to file a return. He filed something, but tampering with the forms voided the filing.

Beard responded that he obviously filed a return. The IRS was out of line saying that he had not.

The issue before the Court was: what is a tax return?

The Court presented a four-part test:

1. Does it purport to be a tax return?
2. Is it signed under penalties of perjury?
3. Does it include enough information to calculate a tax?
4. Does it represent an honest effort to satisfy the tax laws?

Beard – a protestor – missed the third test by altering the form.

Here was the Court on the fourth test:

The tampered form here is a conspicuous protest against the payment of tax, intended to deceive respondent’s return-processing personnel into refunding the withheld tax. Since such intentional tampering could go undetected in computer processing, respondent was forced to develop and institute special procedures for handling such submissions. The critical requirement that there must be an honest and reasonable attempt to satisfy the requirements of the Federal income tax law is clearly not met."

Back to our Email.

Numerous tax court decisions have found that a return (typically a 1040) containing all zeros, even if filed on an official IRS form, does not constitute a valid tax return.”

True, but …

However, these are all in the tax protestor context and other cases have held that a zero return may be valid if there is reason to believe that it is an accurate reflection of the taxpayer’s activity.”

Got it.

I will start including a schedule or attachment to the partnership tax return stating the following:

XXX Partnership/LLLC was formed on XX/XX/XX and no business operations occurred during its initial tax year ending XX/XX/20XX.”

Easy.

But it is a trap for a non-tax specialist.

This time we discussed CCA 2026030612260600 a/k/a Chief Counsel Email 202634014.

 

The IRS Causing Economic Hardship

 

It is a famous case. It is also an example of different Collection rules not playing well together.

We find Kathleen Vinatieri and the IRS in Tax Court.

Life had been unkind to Kathleen:

I don’t know what you want to know cause I do not understand all the legal stuff you sent me. I can’t afford a lawyer. And the closest legal aid is in Knoxville 30 miles away. My poor car will not go that far.”

The IRS was chasing her 2002 federal taxes.

She requested a Collection hearing.

When the Settlement Officer (SO) asked Kathleen whether she wanted a payment plan, she replied that she could not pay. She had $14 in the bank; a 1996 Toyota with 243,000 miles and worth $300; she had pulmonary fibrosis; was dying; and was taking care of kids.

COMMENT:  This is a sad case to read and extremely unflattering to the IRS. It should have drawn an immediate currently not collectible (CNC) status.

The SO agreed on CNC status, but there was a problem: The Internal Revenue Manual (IRM) required one to have filed all tax returns before obtaining CNC status. Kathleen had not filed 2005. She had tried, but the payroll company that (was supposed to) issue her a W-2 had gone out of business. She had previously contacted the IRS for a transcript, but the IRS had no information on that W-2 either.

You can see the issue. Unless Kathleen had retained that last 2005 pay stub, there was no way for her to file that tax return. The IRS could not help, as they did not have a copy of the W-2 either. Kathleen was stranded.

BTW, the IRM is internal to the IRS.

Here is the Regulation – and external to the IRS.

§ 301.6343-1 Requirement to release levy and notice of release.

(a) In general. A district director, service center director, or compliance center director (director) must promptly release a levy upon all, or part of, property or rights to property levied upon and must promptly notify the person upon whom the levy was made of such a release, if the director determines that any of the conditions in paragraph (b) of this section (conditions requiring release) exist. The director must make a determination whether any of the conditions requiring release exist if a taxpayer submits a request for release of levy in accordance with paragraph (c) or (d) of this section; however, the director may make this determination based upon information received from a source other than the taxpayer. The director may require any supporting documentation as is reasonably necessary to determine whether a condition requiring release exists.

(b) Conditions requiring release. The director must release the levy upon all or a part of the property or rights to property levied upon if he or she determines that one of the following conditions exists—

(1) Liability satisfied or unenforceable

(2) Release will facilitate collection.

(3) Installment agreement.

(4) Economic hardship—(i) General rule. The levy is creating an economic hardship due to the financial condition of an individual taxpayer. This condition applies if satisfaction of the levy in whole or in part will cause an individual taxpayer to be unable to pay his or her reasonable basic living expenses. The determination of a reasonable amount for basic living expenses will be made by the director and will vary according to the unique circumstances of the individual taxpayer. Unique circumstances, however, do not include the maintenance of an affluent or luxurious standard of living.

The Regulation requires the IRS to release a levy in the event of economic hardship. There was no question that Kathleen was in economic hardship. It seems absurd to issue a levy under the IRM to only have it stayed by a Regulation – that is, if Kathleen had the staying power to continue her fight against IRS Collections.

Which one overrides: the IRM or the Regulation?

The Tax Court decided:

A determination in a hardship case to proceed with a levy that must immediately be released is unreasonable and undermines public confidence that tax laws are being administered fairly.”

Well, fairly and sanely, I would add.

In a section 6330 pre-levy hearing, if the taxpayer has provided information that establishes the proposed levy will create economic hardship, the settlement officer cannot go forward with the levy and must consider an alternative.”

The Regulations to the Code take precedence over an internal IRS publication. The IRS cannot itself cause economic hardship when pursuing a levy. It took time and treasure, but the Court eventually got to the correct result.

I note that the reason for nonfiling was likely important. In this case the payroll company had gone out of business, and even the IRS did not have a copy of the W-2. Consequently, neither the Settlement Officer nor the Tax Court questioned whether Kathleen was acting in good faith. Substitute a taxpayer who simply refused to file – an extreme example would be a protestor – and I doubt the result would be the same.

Our case this time was Vinatieri v Commissioner, 133 T.C. 392 (2009).

Proving A Timely Tax Filing

 

I admit that I am biased, but I am not a fan of filing late tax returns.

Call it Murphy’s Law:

If anything can go wrong, it will.”

I am looking at a Tax Court order. An order takes place while the case is at trial. Somebody makes a motion, the Court reviews and decides. That decision is called an order, and they are common.

The IRS filed a motion that it sent a timely Notice of Deficiency to a taxpayer.

COMMENT: A Notice of Deficiency (also called a 90-day letter, a NOD or SNOD) is the IRS determining that you owe additional tax and wanting to reduce it to assessment. Why an assessment? For one thing, the IRS (usually) has 3 years to examine and adjust your return. It has 10 years to collect an assessment. That alone is a powerful incentive.

There are rules, of course. The IRS has only so much time to send the SNOD, and you have only so much time to respond to it. In general, the IRS has three years from when you filed the return or when the return was originally due, whichever is later. There are exceptions. A key one, and one will talk about today, is if you never file a tax return.

Milton Thomas Roberts failed to file a timely return for 2014. He received a notice from the IRS in 2015 asking about it. In February 2016 he went to the post office and mailed four packages: two to the IRS and two to New York state.

COMMENT: He was filing his 2013 and 2014 taxes with the IRS and New York – hence four packages. He did so correctly: he used certified mail. Yes, it costs a few dollars, but – if you ever must prove the mailing – those are the best dollars you ever spent.

About a week later the IRS acknowledged receiving his 2013 return.

COMMENT: Having the benefit of hindsight, one wonders why the IRS did not confirm 2014. To his credit, Roberts went online and confirmed that all four packages had been delivered.

For 2016 through 2019 Robers received notices from the IRS about this tax year or that, but he never received a notice about 2014.

That changed in October 2019, when the IRS sent a notice saying it never received a 2014 return.

Roberts did not immediately respond.

In February 2020, the IRS issued a SNOD showing over $275 grand of tax due.

That caught his attention.

Roberts (re)prepared his 2014 return and sent it to the IRS on or around June 2020. It showed adjusted gross income of $587 grand and a small refund of $804.

What happened to his copy of the original 2014 sent in 2016?

No idea.

Having attracted unwanted attention, Roberts was now audited for 2014. The IRS issued a second SNOD in January 2022 for $79 grand in additional tax, along with the usual interest and penalties.

You already know they are in Tax Court. Both sides agree that Roberts filed a 2014 return. Roberts argues that he filed twice – once in 2016 and again in 2020. The IRS says: nay, nay; he filed only once and that was in June 2020.

Does it matter?

Oh, yes it does.

Remember that the IRS has three years (barring oddities) to adjust his return and assess additional taxes. Roberts asserts that he filed 2014 in February 2016. Add three years and the IRS had until February 2019 to adjust and assess.

Roberts received nothing from the IRS in 2019.

Roberts says the IRS is too late. The second SNOD is incorrect and without effect.

The IRS disagrees. They say they never received the 2014 return until June 2020. Add three years and they had until June 2023 to adjust and assess. They were easily within the window.

The IRS just filed a motion requesting the Tax Court to determine that 2014 was within the window and they had filed a correct and effective SNOD.

Judge Toro denied the motion.

Why?

There is enough doubt as to what happened. Roberts had certified mail receipts, confirmation from New York of receiving 2013 and 2014 returns, confirmation from the delivery company that all four packages had been delivered, as well as a conspicuous absence by the IRS for three ½ years concerning the 2014 tax year.

Judge Toro was not going to say that the IRS had proved their case.

Mind you, that does not mean that Roberts proved his case either.

It does mean that the case revolves on whether there was a 2014 filing in 2016.

The IRS usually has the upper hand in such matters.

But Roberts brings the receipts.

You may wonder: does the IRS sometimes lose returns?

Oh yes. They have done so with me. I remember one client specifically because it impacted a scheduled real estate closing. We resolved the matter, but it involved considerable time and stress.

I will be keeping an eye out for the resolution of the Roberts story.

My hunch: he will win.

But he is in Tax Court. He is not pro se, so he is paying for an attorney. And he will keep paying, as a motion has been decided but the case itself marches on.

Which makes me wonder: could he have avoided this by simply filing a timely tax return?

As I said, I am biased.

Our case (or motion, actually) this time is from Milton Thomas Roberts v Commissioner, Tax Court docket 7011-22.