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Application of the Failure to Send Notice and Demand Letter in IRC 6330 Case

Posted on June 5, 2014

In the first post I discussed the role that the notice and demand plays in the collection process. In this post, I will consider how the Tax Court and other courts have approached situations when the IRS has failed to comply with its statutory and regulatory requirements for issuing a notice and demand.

All of this sets the scene for the 9th Circuit’s decision in the Nakano case in which the IRS failed to send the traditional notice and demand letter prior to seeking to take levy action.  The issue arose in the context of a collection due process (CDP) case.  CDP did not exist in the 1980s when the primary wave of challenges to the timely issuance of notice and demand occurred.  It came into existence in the Revenue Reform Act of 1998.  Because CDP did not exist at that time and the Tax Court was then almost exclusively a pre-assessment forum, the Tax Court did not face the issue of the impact of failing to send out the notice and demand letter timely when the cases cited above were decided.  Perhaps for that reason, the Tax Court treated its opinion on this issue as a full Tax Court opinion indicating that it thought its decision was novel or precedent setting.  The insight of the Tax Court will bring a new perspective to this issue.  I think the Court reached the right result here although it did so on the basis of a factual argument rather than directly addressing the legal issue of the effect of the failure to timely issue the notice and demand letter on the underlying assessment.

The IRS determined that Mr. Nakano failed to pay over taxes collected by the company, National Airlines, Inc., where he served as the Chief Financial Officer.  It therefore assessed against him the trust fund recovery penalty in an amount equal to the unpaid trust fund taxes.  A couple of items about his trust fund recovery liability deserve note.  First, his liability does not stem, or at least not primarily, from unpaid employment taxes, the traditional route to this penalty, but rather for unpaid airline excise taxes.  The trust fund recovery penalty applies in any situation in which a responsible officer does not pay over federal taxes collected on behalf of the IRS by an entity.  Excise taxes can cause this liability as well as employment taxes but do so much less frequently.  Second, the liabilities at issue were for quarters in 2000 and 2001 yet the trust fund recovery penalty assessment did not occur until March 28, 2006, over five years later.  Interest did not run on Mr. Nakano’s trust fund recovery penalty until assessment.  This is a consequence of placing the trust fund recovery penalty statute in the assessable penalties section of the Internal Revenue Code, which, I believe, is a mistake Congress should correct.  I commented on this in an article for Hastings Business Law Journal.

When the IRS assessed the trust fund recovery penalty against Mr. Nakano on March 28, 2006, it apparently failed to send him a notice and demand letter until June 6, 2006, 70 days after assessment.  Because of the size of his liabilities, almost $9 million, his case did not take the normal route through the collection process.  In most cases the IRS will follow the notice and demand letter with one or two other letters sent six to eight weeks after each other.  These letters are not required by statute but are designed by the IRS to convince the taxpayer to pay without triggering the more serious steps of filing the notice of federal tax lien or issuing a levy.  Here, the size of the liability caused the IRS to collapse its normal process and move very quickly to levy, or at least the threat of levy.  Here, the IRS issued the Notice of Intent to Levy letter, required by IRC 6330 and 6331, on May 22, 2006, within the 60 day period after assessment.  The  Circuit, sustaining the Tax Court, determined that the notice of intent to levy served the purpose of the notice and demand letter.

The Tax Court looked at IRC 6303 to determine what information should go into a notice and demand.  It determined that the statute required that a notice and demand state the amount of the unpaid tax and demand payment. The Notice of Intent to Levy contained that information and was issued within 60 days of assessment.  Since the Notice of Intent to Levy contained all of the information required by IRC 6303 and since it was sent within 60 days of the date of assessment, the statute was satisfied and the taxpayer’s challenge to the collection process, something contemplated by the CDP hearing process, failed.

Mr. Nakano attacked the assessment against him on three bases:  1) it was untimely; 2) the Certificate of Assessment incorrectly characterized it as a jeopardy assessment and 3) the notice and demand was untimely.  The Tax Court found that the assessment occurred within the statutory time frame and that the incorrect characterization of the type of assessment did not cause the assessment to fail.  When it turned to his third argument, the Tax Court stated simply that “the Court has already rejected Nakano’s argument that he did not receive timely notice and demand for payment.”  Does the Tax Court’s failure to reject Mr. Nakano’s argument on a legal basis and its reliance on its factual determination in this case suggest that it believes the legal argument that failure to timely send notice and demand has some validity as a basis for striking down an assessment?

The 9th Circuit sustained the Tax Court determination in an unpublished opinion.  It did not specifically address the issue of the validity of the assessment because taxpayer abandoned that argument, but it did determine that the notice of intent to levy satisfied the requirements of notice and demand.  This leaves open the question of how the Tax Court would have ruled on the validity of the assessment had the notice and demand not occurred within 60 days.

While the “quick” issuance of the notice of intent to levy seems to have saved the IRS here, the timing of the notice of intent to levy here is very unusual.  In a normal case it would not occur until two or three months later – outside the 60 day period after assessment.  In addition, some levies do not require the notice of intent to levy, e.g., jeopardy levy and state refund offsets.  In those situations the IRS can take property without going through the notice of intent to levy process and any notice may occur on the back end.  The decision here allows the levy to move forward, unlike the lien decision in Conroy because of the language of the notice of intent to levy which serves the dual purpose of meeting the notice and demand.  If this case involved a taking without the requirement of first sending the notice of intent to levy, the IRS would be back in the same situation as Conroy.  It would have taken collection action prior to a notice and demand.

The Tax Court left open here the issue of the impact of the failure of the IRS to send notice and demand on the validity of the underlying assessment.  The IRS will make this mistake again given the volume of assessments it makes.  The next time it makes this mistake and must defend the validity of the assessment it is unlikely to have corrected the problem by making a notice of intent to levy within 60 days.  It will be interesting to see if the Tax Court will then make the legal ruling it failed to make here or if it thinks that the failure to send notice and demand does impact the validity of the assessment.  For the reasons I set forth here, I do not believe that a failure to send notice and demand should impact the validity of the assessment but the Nakano case certainly provides encouragement to the next person where the IRS fails to send a timely notice and demand to the taxpayer’s last know address.

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