Frequent guest blogger Carl Smith writes about an interest abatement case recently argued before the 7th Circuit. The fact that it arises in a Collection Due Process case, that the taxpayer fully paid the liability yet continued with the interest abatement argument, that the Tax Court has found it has no jurisdiction to order a refund in a Collection Due Process case and that the taxpayer passed away before the 7th Circuit argument create an interesting backdrop for a potentially broad reaching interest abatement determination. Keith
This is an update to a case on which Stephen posted when the Tax Court rendered its opinion last July. Oral argument was heard in the Seventh Circuit in an appeal in the case on May 27, 2016.
King is an employment tax Collection Due Process (CDP) case based on a notice of federal tax lien (NFTL). The only issue left in the case on appeal is interest abatement under IRC § 6404(a). That’s not a typo for § 6404(e). § 6404(e) allows abatement of interest with respect to taxes that are deficiencies (income, estate, and gift), not employment taxes, where there have been unreasonable IRS errors or delays. By contrast, § 6404(a) provides: “The Secretary is authorized to abate the unpaid portion of the assessment of any tax or any liability in respect thereof, which–(1) is excessive in amount, or (2) is assessed after the expiration of the period of limitation properly applicable thereto, or (3) is erroneously or illegally assessed.” While § 6404(a) abatement clearly authorizes abating tax, the IRS agrees that “any liability in respect” of the tax includes interest.
In H & H Trim & Upholstery Co. v. Commissioner, T.C. Memo. 2003-9, the Tax Court held that interest on a tax liability could be abated under § 6404(a) when the amount seemed “unfair”, since anything that was unfair was “excessive in amount”. In King, the Tax Court granted interest abatement under section § 6404(a) for a period of less than two months — involving, by my estimate, just over $200 of interest abated. The government was so hopping mad about losing King (and the existence of H & H Trim), that it appealed King to the Seventh Circuit, arguing that § 6404(a) abatement could never apply to interest that was correctly calculated. The government clearly doesn’t care about the $200 in this case, but wants to get a ruling from some appellate court that taxpayers can’t use § 6404(a) as an end run around the limitations in § 6404(e). No other appeals court has ever considered interest abatement under § 6404(a).
The taxpayer was an elderly solo practitioner lawyer who had one or more employees over a number of quarters that the IRS audited. After the audit was completed and certain proposed adjustment amounts were reduced, the taxpayer agreed to the assessment of employment tax audit changes by signing a Form 2504 showing about $50K in tax and penalties for all the quarters combined. Shortly before sending in the signed Form 2504, he sent two letters to the Revenue Agent saying he would like to pay in installment over 60 months, but not specifying the amount he proposed to pay each month. The IRS assessed the employment taxes and penalties and led him to believe that he was going to be put on an installment agreement, but he never was. After being referred to the Taxpayer Advocate Service (TAS) about a months after the date of assessment, TAS told him that the reason he was not put on an installment agreement was both because he had not stated the amount of monthly payment he wanted to make and he had to submit financial information. When he did eventually submit financial information, the IRS concluded that he had enough assets to pay in full, if he would just sell off some illiquid assets. So, the IRS did not give him an installment agreement.
The IRS filed an NFTL, and the taxpayer requested a CDP hearing in which he sought an installment agreement and sought abatement of the interest and penalties. When the IRS denied him any relief in the notice of determination, he appealed to the Tax Court. Early on during the case, though, he managed to get a reverse mortgage, and he paid off the tax, penalty, and interest assessments in full. But, he did not concede that the CDP case was moot. He still sought penalty abatement under § 6404(f) and interest abatement under §§ 6404(a) or (e).
In King v. Commissioner, T.C. Memo. 2015-36, the Tax Court first noted that it had no overpayment jurisdiction in CDP, citing Greene-Thapedi v. Commissioner, 126 T.C. 1, 12 (2006). So, the CDP portion of the case in which the taxpayer had, in his petition, complained about not getting an installment agreement was now moot.
Next, the court noted that under its jurisdiction at § 6404(h), it can only resolve disputes about interest, not penalties. Thus, it had no power to review the IRS’ failure to abate penalties under § 6404(f).
Third, the court noted that interest abatement under § 6404(e) couldn’t apply in King’s case because that subsection does not apply to employment taxes, only such taxes that can give rise to a “deficiency” — i.e., income, estate, gift, and certain excise taxes.
However, the court considered the notice of determination in the case as one denying interest abatement under § 6404(a) — over which the court had jurisdiction — even though at this point, the taxpayer, if successful, would be getting a refund.
King sought interest abatement for three different periods, citing H & H Trim for the proposition that interest should be abated if it was “unfair” under the circumstances. The IRS argued that H & H Trim was incorrect and that interest abatement under § 6404(a) should only be done if there was some procedural defect in its assessment, the assessment was late under the statute of limitations, or the numerical calculation of the interest was excessive.
The Tax Court stuck by its H & H Trim ruling and gave interest abatement for one of the three periods. In the period in which King was successful, the Tax Court held that it was “unfair” for interest to accrue from the date of assessment of the liabilities to the date the TAS employee explained to the taxpayer that the taxpayer needed to supply financial information. The court thought that the IRS employee who originally told the taxpayer that he was going to get an installment agreement should have communicated the problems with the original proposal on or before the date of the assessment.
Even though the amount of interest abated here was only about $200 by my estimate, the DOJ filed an appeal with the Seventh Circuit, wanting to nip in the bud other taxpayers arguing for interest abatement under § 6404(a) simply because the amount assessed was “unfair”. No Circuit court has ever ruled on this issue. H & H Trim had not been appealed. Nor had the IRS appealed another Tax Court opinion that followed H & H Trim, Law Offices of Michael B.L. Hepps v. Commissioner, T.C. Memo. 2005-138.
In the Seventh Circuit, before any briefing was done, the taxpayer died. His wife, who was not a party to the case, was invited to take over in the case for him, but she did not respond to a letter from the Seventh Circuit. So, only the DOJ filed a brief. On May 27, 2016, a one-sided oral argument was held before a three-judge panel that included Judge Posner. The audio of the oral argument is freely available on the Seventh Circuit’s website, Docket No. 15-2439.
Judge Posner was the only judge who asked questions. His main concern was to give meaning to the words “excessive in amount” in § 6404(a)(1) that was independent of “is erroneously or illegally assessed” in § 6404(a)(3). The DOJ attorney argued that “erroneously or illegally assessed” might mean that internal steps to authorize assessment had not been completed – i.e., procedural defects other than the statute of limitations – while “excessive in amount” might mean, in the case of interest, that the wrong rate or time period had been used in the calculation, leading to an excessive amount of interest having been assessed. Thus, there was no need to interpret “excessive in amount” as “unfair”.
Judge Posner also got into a colloquy with the DOJ attorney about the interplay between §§ 6404(a) and (e). Although this was not a case where § 6404(e) interest abatement could have applied (since subsection (e) doesn’t apply to employment taxes), the attorney warned that if subsection (a) (which could apply to any tax) applied to “unfair” assessments of interest, then a person who, say, was seeking interest abatement under subsection (e) for interest on income taxes could use (a) abatement as an end run around the limitations of (e) that (1) prevent abatement where a taxpayer contributed to the delay and (2) limit interest abatement to cases of unreasonable errors or delays in IRS employees performing ministerial or managerial acts.
It sounded like the DOJ attorney cleared up all of Judge Posner’s questions, but I am not positive that the IRS will win this case.