The National Taxpayer Advocate (NTA) has issued a Taxpayer Advocate Directive, complaining about unfair treatment of certain participants in the 2009 Offshore Voluntary Disclosure Program (OVDP). It appears that the NTA shared the same frustration with the OVDP that many tax practitioners, including our tax attorneys, have felt over the infamous Q&A 35 published by the IRS in the Frequently Asked Questions and Answers for the 2009 program.
To remind everyone, FAQ #35, which was released by IRS in June of 2009 in association with the 2009 OVDP, asks whether examiners will have any discretion to settle cases. The answer reads as follows:
“Voluntary disclosure examiners do not have discretion to settle cases for amounts less than what is properly due and owing. These examiners will compare the 20 percent offshore penalty to the total penalties that would otherwise apply to a particular taxpayer. Under no circumstances will a taxpayer be required to pay a penalty greater than what he would otherwise be liable for under existing statutes. If the taxpayer disagrees with the IRS’s determination, as set forth in the closing agreement, the taxpayer may request that the case be referred for a standard examination of all relevant years and issues. At the conclusion of this examination, all applicable penalties, including information return penalties and FBAR penalties, will be imposed. If, after the standard examination is concluded the case is closed unagreed, the taxpayer will have recourse to Appeals.”
On March 1, 2011, an IRS memo limited the instances in which examiners could exercise discretion in imposing a less-than-20% penalty. This change in the IRS position effectively eliminated any consideration of whether taxpayers in the 2009 OVDP would qualify for lesser penalties under existing statutes on the basis of non-willfulness or reasonable cause. Rather, such taxpayers could either agree to pay 20% penalty on the value of their foreign accounts, which often was more than they believed they owed, or withdraw from the program and potentially face stiff civil penalties and criminal prosecution. According to the NTA, a memo issued by IRS on March 1, 2011 was inconsistent with earlier guidance from 2009 regarding examiners’ discretion to settle cases and the applicability of the 20% offshore penalty for nonwillful violations.
The NTA characterized the March 1 memo as essentially presuming that all taxpayers who avail themselves of the OVDP are tax cheats, and thus was a switch from IRS’s more nuanced original position. According to the NTA, this left those who were merely trying to correct honest mistakes, who were perhaps encouraged to participate in the program based on the earlier guidance, effectively unable to pursue a reasonable cause defense.
In Taxpayer Advocate Directive 2011-1, dated August 16, 2011, the NTA directed that the Commissioners of the Large Business and International (LB&I) and the Small Business/Self-Employed (SB/SE) divisions take the following actions within 15 business days and, within 10 business days, provide the NTA with a written response describing the planned actions and any intent to appeal:
- Disclose the Mar. 1, 2011 memo for OVDP examiners that addresses the use of discretion in 2009 OVDP cases on irs.gov (whether or not it is revoked, see (2), below).
- Revoke the Mar. 1, 2011 memo and disclose such revocation.
- Direct all examiners that, when determining whether a taxpayer would be liable for less than the offshore penalty under “existing statutes” as required by FAQ #35, they should not assume the violation was willful unless the taxpayer proves it was not. Direct them to use standard examination procedures to determine whether a taxpayer would be liable for a lesser amount under existing statutes (e.g., because the taxpayer was eligible for the reasonable cause exception) without shifting the burden of proof onto the taxpayer.
- Commit to replace the Mar. 1, 2011 memo and all OVDP-related FAQs on IRS.gov with guidance published in the Internal Revenue Bulletin, incorporating comments from the public and internal stakeholders (including the NTA). It should reaffirm that taxpayers accepted into the 2009 OVDP will not be required to pay more than the amount for which they would otherwise be liable under existing statutes, as currently provided by FAQ #35, and direct OVDP examiners to use standard examination procedures to make this determination.
- Allow taxpayers who agreed to pay more under the 2009 OVDP than the amount for which they believe they would be liable under existing statutes the option to elect to have IRS verify this claim (using standard examination procedures), and in cases where IRS verifies it, offer to amend the closing agreement to reduce the offshore penalty.
In other words, the NTA asserted that IRS failed to properly implement FAQ #35, which practitioners had interpreted as suggesting that an examiner could consider a taxpayer’s argument that his noncompliance was not willful or was otherwise deserving of reduced or no penalties. In turn, this resulted in inequitable treatment of taxpayers, in that it fails to distinguish between true tax evaders and those who made honest mistakes.
In their response dated August 30, 2011, Commissioners of the LB&I and SB/SE divisions, agreed to disclose the March 1, 2011 memo referenced in (1) but otherwise appealed the Taxpayer Advocate’s Directive. In her September 22, 2011 response to the appeal, the NTA re-asserted her primary concerns with the 2009 OVDP. She stated that, without FAQ #35, the OVDP penalty structure essentially assumes that all participants are tax evaders hiding money overseas, and doesn’t account for those who are seeking to correct honest mistakes. She further expressed skepticism at IRS’s “opt-out” option described in a June 11, 2011 memo, which provides that those who opt out will be subject to a complete examination of all relevant years and issues, then subject to all applicable penalties. In the end, the NTA characterized IRS’s actions as a miscommunication and called on IRS to create a “fair process” to evaluate willfulness and reasonable cause, with the burden of proof on IRS.
On Oct. 14, 2011, Steven T. Miller, Deputy Commissioner for Services and Enforcement, sent a memorandum to the NTA stating that the relief generally sought by the NTA was provided in the existing opt-out procedures, which expressly state that it may be preferable for certain taxpayers to opt out of the 2009 or 2011 OVDP. Deputy Commissioner Miller’s memorandum now elevates the issue to IRS Commissioner Doug Shulman. It remains unclear how he will respond, although his public pronouncements on the OVDP have been overwhelmingly positive. We hope that the IRS makes the right decision and reinstates discretion with the agents in the OVDP to consider all the available penalties, and make a determination based on the facts of each particular case.
Copyright (c) 2012 Igor S. Drabkin. All Rights Reserved.