Rev. Rul. 78-127

Advice has been requested, under the situations described below, as to the application of section 6521(a) of the Internal Revenue Code of 1954.

Situation (1). During the years 1967, 1968, and 1969, X Company had assumed that all of its workers were self-employed and therefore did not file returns or pay F.I.C.A. taxes. Taxpayer A, a worker for X Company, received income from the company of $10,000 during each of the three years. Taxpayer A filed timely returns and reported this income as net earnings from self-employment and paid the self-employment tax for the three years. In November 1973, an audit of X Company was completed and the Internal Revenue Service determined that all the workers should have been treated as employees instead of as self-employed persons. The periods of limitation on assessment were still open for the three years for the F.I.C.A. taxes imposed by sections 3101 and 3111 of the Code. Accordingly, on December 10, 1973, the assessment list was signed for the F.I.C.A. taxes due from X Company. Taxpayer A's share of the F.I.C.A. tax for the years was less than the amounts of self-employment tax paid by A. However, the periods of limitation on credit or refund of Taxpayer A's self-employment taxes had expired.

Situation (2). During 1968, Y Company reported $10,000 in wages paid to Taxpayer B and the appropriate amount of F.I.C.A. tax was withheld for the year. In January 1972, Taxpayer B filed a delinquent income tax return for 1968 reporting the $10,000 received from Y Company as income from wages and salaries. An audit of Taxpayer B's return resulted in the determination that Taxpayer B's income should have been treated as self-employment income upon which self-employment tax was due. On March 1, 1972, a report of income tax audit changes was mailed to Taxpayer B showing a deficiency in tax. Taxpayer B protested this proposed deficiency, was granted an appellate conference, and signed an agreement form on August 1, 1972. The self-employment tax was assessed on August 20, 1972, before the expiration of the period of limitations on the assessment of the self-employment tax, but after the period of limitations had run on any refund or credit of the F.I.C.A. tax.

Situation (3). During 1969, Z Company assumed that all of its workers were self-employed and, therefore, did not file returns and did not pay F.I.C.A. taxes. Taxpayer C, a worker for Z Company, received income from the company of $10,000 during 1969. Taxpayer C filed an income tax return on April 15, 1970, reported this income as net earnings from self-employment and paid the self-employment tax. In August 1972, an audit of Z Company was completed and the Service determined that all of the workers should have been treated as employees instead of as self-employed persons.

The period of limitation on assessment was still open for 1969 with respect to the F.I.C.A. taxes imposed by sections 3101 and 3111 of the Code. Therefore, on September 12, 1972, the assessment list was signed for the F.I.C.A. taxes due from Z Company, and Z Company paid the taxes on September 15, 1972. Taxpayer C's share of the F.I.C.A. tax was less than the amount of the self-employment tax. However, the period of limitations on credit or refund of Taxpayer C's self-employment tax was still open.

The period of limitations on credit or refund of Taxpayer C's self-employment tax expired on April 16, 1973. Taxpayer C did not file a claim for credit or refund of the self-employment tax. Z Company, noting that many of its employees failed to file refund claims for their 1969 self-employment tax, filed a timely refund claim for the F.I.C.A. tax it paid for that year with respect to each employee. Z Company did not contend in its refund claim that it was not liable for F.I.C.A. taxes, but only that it was entitled to an adjustment under section 6521 of the Code.

The question presented is whether section 6521 of the Code applies to the self-employment tax under section 1401 and the F.I.C.A. tax on employees under section 3101.

Section 6521(a) of the Code provides that in the case of self-employment tax under section 1401 and F.I.C.A. tax on employees under section 3101, (1) if an amount is erroneously treated as self-employment income, or if an amount is erroneously treated as wages, and (2) if correction of the error would require assessment of one tax and refund or credit of the other tax, and (3) if at any time the correction of the error is authorized as to one tax but is prevented as to the other tax by any law or rule of law (other than section 7122 relating to compromises), then if the correction authorized is made, the amount of the assessment or the amount of the credit or refund, as the case may be, authorized as to the one tax shall be reduced by the amount of the credit or refund, or the amount of the assessment, as the case may be, which would be required with respect to the other tax for the correction of the error if the credit or refund, or the assessment, of the other tax were not prevented by any law or rule of law (other than section 7122).

Section 301.6521-1(c) of the Regulations on Procedure and Administration provides that section 6521 of the Code is not applicable if, on the date of the authorization, correction of the effect of the error is permissible as to both taxes without recourse to that section.

Section 6203 of the Code provides that an assessment shall be made by recording the liability of the taxpayer in the office of the Secretary in accordance with rules or regulations prescribed by the Secretary. Section 301.6203-1 of the regulations provides that the date of the assessment is the date the summary record is signed by an assessment officer.

Section 6407 of the Code provides that the date on which the Secretary first authorizes the scheduling of an overassessment of any internal revenue tax shall be considered the date of allowance of any refund or credit of that tax. Section 301.6407-1 of the regulations provides that the date on which an authorized certifying officer first certifies the allowance of an overassessment of any internal revenue tax shall be considered the date of allowance. The certifying officer authorizes a credit or refund by signing a Form 1166, Voucher and Schedule of Payments, identifying the taxpayer and the amount of the overassessment.

The date the summary record of assessment is signed, and the date on which the Form 1166 is signed are dates of authorization for the purpose of section 301.6521-1(c) of the regulations.

In Situation (1), the amount of Taxpayer A's share of F.I.C.A. tax assessable against Company X must be reduced by the amount of self-employment tax that would have been refundable to Taxpayer A if the period of limitation on refund or credit had not expired. If the amount of self-employment tax paid by Taxpayer A exceeds the amount of employee's F.I.C.A. tax attributable to Taxpayer A's employment, the latter cannot be assessed against X Company under section 6521 of the Code. However, section 6521 does not affect X Company's liability for employer's F.I.C.A. taxes under section 3111, which must be assessed and paid in full.

In Situation (2), the amount of the self-employment tax deficiency assessed must be reduced by the amount of the barred overpayment of F.I.C.A. tax withheld from Taxpayer B's income.

In Situation (3), the Service assessed Taxpayer C's F.I.C.A. tax against Z Company when the periods of limitation on assessment and refund or credit were both still open. Therefore, the provisions of section 6521 of the Code do not apply. Furthermore, Z Company is not entitled to the refund it requested, because section 6521 does not become applicable by the passage of time. The provisions of section 6521 apply only if the correction of the error is prevented by any law or rule of law (other than section 7122) on the date an assessment or credit or refund is authorized.