The pandemic has caused a number of mail problems for the IRS. Perhaps the most frequently covered on this blog has been the IRS mailing backdated letters see posts here and here. On the flip side is the much more forgivable backlog of unopened letters (and especially tax returns) received by the IRS. I have multiple clients that allege, just prior to the pandemic, they sent things to the IRS by paper which have since gone lost in the ether. I suspect this issue will ripple out into many spheres of tax procedure. In this post I’ll go into depth on one designated order (Perimeter Protective Systems, Inc. v. C.I.R., Dkt. # 255-18SL (here)) that touches on some potential issues the IRS may be facing when those claims of unopened mail arise: the failure to file penalty as well as issues in trying to get attorney’s fees where you prevail on those matters.
One of the most immediate and obvious complications of the IRS failing to promptly (or accurately) process mail involves the possibility of incorrect late filing and late payment penalties. Hopefully, most of those issues will be quickly resolved with the IRS on the administrative level. Where they aren’t, the Perimeter order provides some insights on what to argue and how to argue it with IRS Appeals.
Perimeter deals mostly with whether the petitioner (an S-Corporation) should be liable for failure to file penalties. From the outset, it should be noted that the petitioner “loses” in this order, but mostly just because the petitioner already “won” with IRS Appeals (i.e. had the penalties largely abated) much earlier and wanted things that are unreasonable thereafter. One of those things is compensation (the Court charitably defines as “administrative costs”) for the time petitioner and an accountant spent squabbling with the IRS over the late filing fees. More on the claim for fees in a bit.
For now, let’s look at the failure to file penalty and the lessons it may provide for practitioners.
The IRS claimed that they did not receive Perimeter’s 2010 and 2012 tax returns until months after their respective due dates. Accordingly, the IRS assessed late filing penalties of $2,070 and $1,560, respectively. Petitioner requested abatement of the penalties thereafter.
In arguing for abatement Perimeter maintained that, while they had filed the returns late, they had mailed them months earlier than the IRS penalty calculations would provide. As evidence of this, Perimeter offered copies of the original returns bearing a signature well-before the date the IRS treated the returns as being effectively filed.
Reading this order, I saw that as pretty weak evidence. For one, because a late-filed return is effective the date it is received and not the date it is mailed, I wasn’t so sure a fact (suggesting) when the return was mailed was too helpful. For two, and probably more obviously, just because you signed a return on a particular day doesn’t mean you also mailed it that day. I’m not even sure that is particularly strong circumstantial evidence. But as an advocate you take what you can get.
And here, Perimeter got quite a lot of mileage with that argument. Although the IRS denied the original request for abatement, Perimeter got a favorable determination from IRS Appeals: abating the 2010 penalty from $2,340 to $270, and the 2012 penalty from $1,560 to $540. That’s a total reduction of $3,090 based on rather flimsy evidence. Why was IRS Appeals so generous? Inquiry on that point, I believe, is where we find a lesson for practitioners.
The IRS Appeals Officer agreed to abate the penalties based on a “hazards of litigation” analysis. What hazards? Shouldn’t the IRS be able to say, “our records show the return came in on [x] day, and you have no compelling evidence otherwise?” Is the signature date on the return really that powerful?
Probably not, but my bet is the IRS doesn’t actually have good records for when the return was received, only when it was “processed.” And as we know from the trailers of unopened mail the IRS has accumulated during the pandemic, there can be something of a lag between those two dates. Note that IRS Appeals (but not the first level of examination) will consider these “hazards of litigation” arguments even when the route to litigation isn’t immediately clear. See IRM 8.11.1.2.7.5
Second, note that this is not a simple application of the “statutory” mailbox rule of IRC § 7502. That rule comes into play only if you place something in the mail at or before the deadline and the IRS receives it after the deadline, which did not occur here. The mailbox rule contains somewhat constrained evidentiary rules embodied in the regulations for determining the mailing date (see Treas. Reg. § 301.7502-1). Those aren’t what we are dealing with here, or at least not directly. If timeliness was the issue Appeals would probably not have settled on hazards of litigation grounds, because Appeals could have simply sat back and waited for the taxpayer to produce evidence they likely didn’t have (i.e. a certified mailing receipt or the envelope with the stamp date).
And therein lay the recurring, increasingly relevant lesson: if you can put IRS recordkeeping at issue you can create very real hazards. Nowhere is this truer than when it comes to the IRS handling of the mail. Usually both the burden of production and the burden of persuasion is on the taxpayer (and rightfully so, since usually the information imbalance favors the taxpayer on questions of whether they ought to be entitled to deductions, credits, etc.). This is not the case for most penalties as applied to individuals (see IRC § 7491(c)), where the burden of production is on the IRS, making their position all the more (potentially) precarious in litigation. There are times when the IRS would be the custodian of the necessary records, and it is on them to come forward with the proof. I was once at a presentation where an IRS employee said “we aren’t in the business of ‘taking your word for it.’” I heartily agree. And neither are taxpayers -especially after the IRS has admitted to sending letters with erroneous dates as referenced in the posts above.
Coupled with the holding in Fowler (pertaining to e-filed returns) covered here, late-filing penalties may be more subject to successful challenges than they ever have been in the past. The new rationale being “mistaken identity” (i.e. my return wasn’t late) rather than “reasonable cause” which is often prohibitively difficult to show for purposes of IRC § 6651(a)(1) (though perhaps a window is opening there as well… see Les’s post here).
Did the IRS’s Conduct Warrant an Award of Attorney’s Fees?
So the petitioner in this case was able to get out of the lions-share of their late filing penalties. Why is this still before the Tax Court? It is because the taxpayer was not content with just having the penalties abated… and also because the petitioner apparently still hadn’t paid the underlying tax. That little issue seems to go by the wayside, however, as the petitioner continues to grind his axe for the IRS having the audacity to have taken more time than they should have to abate those penalties.
Boiled to its essence, the case before the court is all about the petitioner wanting money. Petitioner wants money (1) for the time he personally spent on the case, and (2) for the fees he paid to an accountant in helping with the matter. Petitioner styles this as a request for “restitution” under the Federal Torts Claims Act, 28 U.S.C. 1346. That isn’t going to work for a range of reasons. Let’s focus on why it won’t work under IRC § 7430 either.
It may be a surprise to some, but you don’t necessarily need to spend money to be entitled to attorney’s fees under IRC § 7430. Notably, where a taxpayer is represented by pro bono attorneys an award may still follow. See IRC § 7430(c)(3)(B). Half-a-decade ago I was involved in one such case (blast-from-the-past story here) argued before the 9th Circuit, and these attorney fees can really add up -especially if you end up in an appellate court arguing about why you should have received fees in Tax Court (“fees for fees” litigation). I’d note that the time law students spend in these pro bono cases may be eligible for fees. This is because law students at clinics have special authorization to practice before the IRS (and generally the Tax Court and Circuit courts), thus meeting the statutory language of IRC § 7430(c)(3)(A). More on that provision later.
I’d also snarkily note that shortly after my law school’s victory in getting (a lot of) attorney fees the IRS issued Rev. Proc. 2016-17 seriously cutting the rate at which we value law students time. Since I graduated, student hours have declined to being worth essentially 35% that of a full-attorney. I guess they don’t make ‘em (law students) like they used to.
Ok, enough reminiscing. Back to the task at hand: trying to argue that Perimeter may have a facially legitimate claim for attorney’s fees. We’ve established that you don’t need to actually spend money to get attorney’s fees, which is a good thing for Mr. Hantman (the president of Perimeter) because he only spent time (not money) on himself when arguing with the IRS.
However, there is a pretty obvious difference between engaging a pro bono attorney to represent you and simply representing yourself. Namely, that the pro bono attorney is not the same person as the petitioner. As Judge Copeland notes, the “courts have consistently held that under section 7430 pro se taxpayers may not be awarded an amount reflecting the value of their personal time in handling the litigation, even though the fees taxpayers pay to attorneys to handle the litigation would be recoverable.” Dunaway v. C.I.R., 124 T.C. 80 (2005). This seems consistent with the statutory language governing fees for pro bono services: it can only be awarded if paid out to the pro bono attorney or the pro bono attorney’s employer (i.e. not paid out to the individual the pro bono attorney is representing). IRC § 7430(c)(3)(B).
But, for the sake of argument, could one argue in this case that the petitioner and the individual seeking fees are separate? After all, the petitioner in this case is Perimeter Protective Services, Inc. and the individual seeking fees is one Mr. Hantman. Can Mr. Hantman argue that what he is asking for is, essentially, pro bono services of a third party (however strained that argument may be)?
There might be some fact patterns where that argument presents a slightly more difficult question. Fortunately, this isn’t one of them and can be disposed of fairly easily. Mr. Hantman is not an attorney and is not “authorized to practice before the Tax Court or [IRS],” which the statute requires. The only capacity in which he is able to practice before the Tax Court in this case is essentially as a pro se litigant (i.e. as Perimeter). Note also that under Frisch v. C.I.R., 87 T.C. 838 (1986) the Tax Court disallowed fees to a pro se taxpayer that also was an attorney. Note that the Frisch opinion dealt mostly with the definition of “attorney” (as acting for another) and whether fees were incurred. It did not address the provision pertaining to pro bono services. Still, the takeaway is that you have to be representing someone other than yourself to get the attorneys fees award.
That said, I do think the entity issue could present factual situations where you could get attorney’s fees while in a sense representing yourself. For example, what if some friends and I started an LLC selling widgets (because I’m not entrepreneurial enough to actually think of a real reason why I’d be involved in an LLC), and the LLC ran into tax problems. If I agree to represent the LLC in my personal capacity, free-of-charge, am I disallowed from otherwise getting attorney’s fees because of my ownership interest in the entity? Of course, those aren’t the facts here. Just a free, quarantine-inspired tax procedure hypo for anyone interested.
Yet there is a potential second argument here: fees for the costs attributable to his accountant. A 3rd party accountant would be eligible for an award of attorney’s fees, if they are authorized to practice before the IRS. Petitioner doesn’t properly raise this issue, so the Tax Court doesn’t really go into it (recall that this was all stylized as a restitution claim under the Federal Torts Claim Act). Nonetheless, it too would be doomed to fail. The main reason has to do with the fact that the determination of IRS Appeals was not the problem: it was the earlier, lower-level processing problems that caused Mr. Hantman to accrue costs. Assuming (as I think we would be) that we’re dealing with administrative costs, the time when he was engaging his accountant aren’t going to be covered under the statute (IRC § 7430(c)(2) flush language).
Professor Camp has a recent post that goes into more depth on that issue here. As that post (and court case it pertains to) make clear, it isn’t easy to get fees in a CDP context. So, despite our most valiant efforts to argue for Mr. Hantman, no dice in this instance.
Other Orders of the Week:
Oakhill Woods LLC v. C.I.R., Dkt. # 26557-17 (here)
Another easement case… another taxpayer loss. No real new ground to cover here, just clean-up of easement arguments that have been recently set aside in Tax Court opinions (in this case, an APA argument that the offending regulation is invalid -see Oakbrook Land Holdings, 154 T.C. No. 10 (2020)).
Strashny v. C.I.R., Dkt. # 13836-19L (here)
A last-ditch motion to reconsider the Tax Court’s opinion that the IRS did not abuse its discretion in denying an installment agreement. You’re already dealing with an uphill battle when you have to ask the Tax Court to essentially reverse itself (see my post here). The “hill” might as well be Everest when you have cryptocurrency assets between $3.3 and $7 million on a tax debt of “only” $1.1 million. Not surprisingly, the Tax Court denies the motion to reconsider whether $3.3 million is enough to full pay a $1.1 million debt.