The Tax Court is marching through the penalty provisions to address how Graev impacts each one. It had the opportunity to address the trust fund recovery penalty (TFRP) previously but passed on the chance. In Chadwick v. Commissioner, 154 T.C. No. 5 (2020) the Tax Court decides that IRC 6751(b) does apply to TFRP and that the supervisor must approve the penalty prior to sending Letter 1153. Having spoiled the ending to the story, I will describe how the court reached this result. See this post by Bryan Camp for the facts of the case and further analysis.
This is another decided case with a pro se petitioner, in which the petitioner essentially dropped out and offered the court very little, if any, assistance. The number of precedential cases decided with no assistance from the petitioner continues to bother me. I do not suggest that the Tax Court does a bad job in deciding the case or seeks to disadvantage the taxpayer, but, without thoughtful advocacy in so many cases that the court decides on important issues, all taxpayers are disadvantaged — and not just the taxpayer before the court. Clinics and pro bono lawyers have greatly increased the number of represented petitioners in the Tax Court over the past two decades, but many petitioners remain unrepresented. These unrepresented petitioners, by and large, do not know how to evaluate their cases and how to represent themselves, which causes the court to write opinions in a fair number of pro se cases relying on the brief of the IRS and the research of the judge’s clerk in creating a precedential opinion. Should there be a way to find an amicus brief when the court has an issue of first impression, so that subsequent litigants do not suffer because the first party to the issue went forward unrepresented?
The real question here is whether the TFRP is a tax or a penalty. The IRS argues that IRC 6751(b) does not apply to the TFRP because it is a tax. We know it’s a tax because the Supreme Court has told us so in Sotelo v. United States, 436 U.S. 268, 279 n.12 (1978). In Sotelo the Supreme Court sought to characterize the TFRP for purposes of bankruptcy. In bankruptcy getting characterized as a penalty has very negative consequences with respect to priority classification, discharge and even chapter 7 priority of secured claims. We have written about several code sections that bankruptcy courts have characterized from tax to penalty or vice versa based on the Supreme Court’s analysis in Sotelo. You can find a couple of those posts here, and here.
So, if TFRP acts as a tax for purposes of bankruptcy, should it, could it act as a penalty for purposes of 6751(b)? While the Tax Court had skirted the issue previously, the Southern District of New York had decided it head on in United States v. Rozbruch, 28 F. Supp. 3d 256 (2014), aff’d on other grounds, 621 F. App’x 77 (2nd Cir. 2015). In Rozbruch the court held the TFRP a tax that did not require penalty approval under IRC 6751(b).
The TFRP does not seem like the kind of penalty Congress intended when it worried about using penalties as a bargain chip. The TFRP is the chip. It imposes on the responsible person or persons the unpaid tax liability of the taxpayer charged with collecting taxes on behalf of the United States, who failed to fulfill that responsibility. Good reasons exist not to apply IRC 6751(b) in the TFRP context. The reasons could have made for another contentious Tax Court conference in the Graev Conference Room, but no one at the court seemed up for the fight.
Instead, the Tax Court settles for a straightforward determination that Congress put the TFRP in the penalty sections of the code, Congress called the TFRP a penalty, and it has some features of a penalty to support its label as a penalty. While acknowledging that the Supreme Court has held that for bankruptcy purposes TFRP will act as a tax, the Tax Court says that does not mean it isn’t a penalty, citing the wilfullness element necessary to impose the TFRP. It also finds that the assessable feature of the TFRP supports the penalty label. So, without a decent fight between Tax Court judges, we get the result that the Tax Court finds the TFRP to be a penalty. This fight may not be over if the IRS wants to bring it up again. Unlike lots of liabilities that primarily if not exclusively get decided in Tax Court, matters involving the TFRP primarily get decided in district courts. Only in the CDP context will the Tax Court see a TFRP case. So, this may not be the end of road for this issue.
Having decided that the TFRP is a penalty, the Tax Court then decided when the “initial determination” occurred. Relying on its recent opinion in Belair Woods LLC v. Commissioner, 154 T.C. 1 (2020), the Tax Court decided that the initial determination of the penalty assessment was the letter sent by the IRS to formally notify the taxpayer that it had completed its work. In the TFRP context this is Letter 1153. Here the IRS had obtained the right approval prior to the sending of this letter and the court upheld the TFRP.
The Court reaches a taxpayer-friendly conclusion that the IRS must obtain supervisory approval prior to the application of this unusual provision and perhaps did not find any judges putting up a fight against that result because it was taxpayer-friendly. As with most 6751 decisions, it’s hard to say what Congress really wanted in this situations. The result here does not bother me. Certainly, the result has logical support, but the opposite result would have logical support as well. It will be interesting to see if the IRS wants to fight about this further in the district courts or if it will just acquiesce. At the least the IRS will want to cover its bases by timely giving the approval, even if it thinks the approval is unnecessary. The first time a large TFRP penalty gets challenged and the approval was not timely given, the IRS will have to swallow hard before giving up the argument entirely.