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Late Filed Return Issue Overlooked in Recent Collection Due Process Case

Posted on Sep. 20, 2017

On July 28, 2017, in the Collection Due Process (CDP) case of Conway v. Commissioner, Docket Number 6204-13S L, the Court issued an order determining that petitioner did not discharge her tax liabilities for several years.  The Tax Court has the authority Washington v. Commissioner, 120 T.C. 114, 120-121 (2003) to determine discharge issues in CDP cases.  The case is interesting for what the IRS did not argue, what it conceded, the standard of review of a CDP case in the 1st Circuit and how timing plays into the outcome.

Ms. Conway failed to timely file returns for the years 2002 and 2006-2010.  This familiar story lands her in bankruptcy court for the District of Massachusetts on February 10, 2012 where she received a discharge of her chapter 7 case on May 8, 2012.  Regular readers of this blog know that someone living in the First Circuit who does not timely file their income tax return can never discharge the liability on that return because of the decision in Fahey v. Massachusetts Department of Revenue, _ F.3d _ (1st Cir. February 18, 2015).  See blog posts here, here and here discussing the issue.

The funny thing about the Conway decision is that even though Ms. Conway failed to timely file her returns for all of the years at issue and even though controlling circuit law, under the Golsen rule, made the outcome of her case a slam dunk victory for the IRS, the Fahey case never gets mentioned.  This could be because the people involved were not carefully reading PT, or for other reasons, or a combination of both.

After Ms. Conway received her discharge, the IRS did not abate her liabilities for the years mentioned above.  At that time, almost three years before the Fahey decision, a decision with which the IRS does not yet agree, the IRS decision to keep open her liabilities for these years was not based on her late filing but on the timing of the assessments for the years 2006-2010 and on a mistake as to 2002.  In August, 2012 the IRS filed a notice of federal tax lien against her for her outstanding liabilities and sent her the required CDP notice.  She timely filed a CDP request and sought relief, inter alia, because the tax debts were discharged in her recently completed bankruptcy case.  In February, 2013 the Settlement Officer (SO) issued a notice of determination sustaining the NFTL.

Ms. Conway filed a CDP Tax Court petition on March 15, 2013 raising, inter alia, the bankruptcy discharge as a reason for removing the NFTL.  The IRS filed a motion for summary judgment on November 29, 2013.  In that motion, the IRS conceded that the SO made a mistake as to 2002 and should have written off that liability; however, the IRS argued that as to the remaining years the exception to discharge in Bankruptcy Code 523(a)(1) prevented the discharge.  (The IRS attorney pledged to fix the 2002 year and make sure it was abated.) The IRS argued that the “SO did not abuse her discretion under the standard of review adopted by the United States Court of Appeals for the First Circuit in Dalton v. Commissioner, 682 F.3d 149 (1st Cir. 2012), rev’g 135 T.C. 393 (2010).”  On January 6, 2014, petitioner filed an objection to the motion for summary judgment.  At that point, the case stood ready for decision and at that point Fahey was just a glimmer in the eye of the Massachusetts Department of Revenue.

The Court decides in Conway that the 2006-2010 taxes are excepted from discharge because they were assessed within 240 days of the date of filing the bankruptcy petition.  If taxes were at all a factor in the decision to file bankruptcy, and I have no idea, I fault taxpayer’s bankruptcy lawyer for filing during this 240-day window because it prevents them from discharge under 523(a)(1)(A) since these taxes still had priority status; however, even in the pre-Fahey world, she would have had to wait two years after filing her late returns in order to avoid the exception from discharge under 523(a)(1)(B).  The Tax Court had ample reason to find her taxes excepted from discharge here and was correct in doing so.  At the time the IRS filed its summary judgment motion, it was correct to concede 2002 and it was correct not to argue Fahey.

Because the Tax Court took over three and ½ years to decide what appears to be a relatively simple discharge case, the IRS had the opportunity to supplement its summary judgment motion with the intervening Circuit authority.  Based on the docket sheet of the case and the Court’s opinion, it appears that it did not do so; however, the IRS did file a request to file a status report earlier this year and I cannot see what was in that request.  I thought that the IRS, even though not agreeing with the one-day late discharge rule of Fahey and two other circuits, was making the argument in the three circuits with controlling authority on the one day late rule.  So, I do not know if the failure to point Fahey out to the court here was a decision representing a change in position that it would argue the one-day late rule in those circuits, or a failure to recognize the opportunity to make this argument, or simply a decision that it was going to win anyway and why add yet another reason when the opinion should come out at any second.  I bring it up for those watching the one day rule and the IRS reaction to it.  Because of the decision in the Fahey case, the IRS decision to concede 2002 could have been reversed.  I do not know how the Tax Court would have reacted to an effort by the IRS to withdraw its concession because the law of the circuit changed while the Tax Court was working on its opinion.  Because the IRS did not attempt to withdraw its concession, we will never know.

The case also raises the application of the First Circuit’s decision in Dalton.  In Dalton, the First Circuit reversed the Tax Court and held that the findings of law in CDP determination are only tentative and so the Tax Court does not need to give deference to the SO’s legal conclusions.  The IRS argued in its motion that despite the SO’s legal mistake as to the dischargeability of 2002, the Court should sustain the notice of determination because the SO did not abuse her discretion under the standard of review adopted in DaltonDalton seems to stand alone in its view of the deference accorded to SOs.  This issue deserves attention and may get litigated further in other circuits.

Ms. Conway was going to lose her case even before the Fahey decision because of the timing of her late filed returns and her bankruptcy petition.  She benefits here by filing her case before the Fahey decision came out because of the IRS concession with respect to 2002.  She loses most of her case because of late filing.  Somehow taxpayers need to understand the benefits of filing on time even if they cannot pay.  In circuits like the First, it is now critical because it is a lifetime bar on discharge.  Even in other circuits, late filing will create the types of problems Ms. Conway faced here and will not allow debtors to obtain the full measure of the benefits of bankruptcy.

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