In the case of Estate of Agnes R. Skeba v. United States; No. 3:17-cv-10231 (D. N.J. 2020), the court reconsidered and vacated an earlier opinion concerning the late filing penalty and determined both that the IRS wrongly interpreted the statute in imposing the penalty on these facts and that the estate had reasonable cause for filing the return late. Several years ago I wrote that, when you see a citation to United States v. Boyle, 469 U.S. 241, 246 (1985) in an opinion, expect the worst if you are a taxpayer. This case throws out that convention along with others. I’m not sure that we have seen the last of this case, but I am sure that many taxpayers will start citing this opinion as they seek to avoid the late filing penalty.
The facts of the case show an estate that was pretty diligent about trying to pay its taxes and, in fact, one that overpaid its taxes — which is why this case ends up in district court rather than the Tax Court. The decedent had an estate valued at close to $15 million, much of which was farm land and equipment. The estate had a liquidity problem with respect to the payment of taxes. (This raises a question concerning IRC 6161 which is not answered by the opinion and which I cannot answer.) The estate also had other problems because of will contests. It used available funds to pay the inheritance taxes due in New Jersey and Pennsylvania and to partially pay the taxes due to the IRS. It made an initial payment to the IRS of $725,000. It knew that it was not paying enough to the IRS and was actively trying to borrow money to make the balance of the payment it calculated the estate would owe. Closure on the loan was delayed, causing the estate to pay the balance of the anticipated liability, $2,745,000, a little more than nine months after the decedent’s date of death.
Because of uncertainty created by the litigation, the estate requested an extension of time to file the estate tax return. The IRS granted the estate a six month extension; however, the estate did not file the return during the extension period and filed it almost nine months after the extended period had ended. During this period there were delays in the state court litigation caused by the illness of the named executor and the attorney for the estate. Once the estate filed the return, the IRS assessed the reported liability, which turned out to be about $900,000 less than the estate had paid in estimated payments. This seems like a happy ending for the estate; however, the IRS imposed a late filing penalty on the estate arguing that the estate had not fully paid its liability at the time the return was due and that it did not timely file the return. It calculated the penalty based on the difference between the timely payment of $725,000 and the estate tax liability of $2,528,838. Because the return was filed more than five months late, the IRS multiplied 25% times the difference between the liability and the timely payment ($1,803,838) resulting in a penalty of $450,959.50 and a net “Overpayment” of $488,719.34 which it cheerfully refunded to the estate. The estate, however, was not cheerful over this result.
The estate brought a refund suit seeking to recover the penalty amount. The district court initially held for the estate; however, the IRS argued that the court applied the wrong standard in its initial opinion. The IRS asserted that the de novo standard of review is appropriate for assessing the issue of whether the estate demonstrated reasonable cause and not willful neglect in failing to timely file its estate tax return; whereas the Court’s original memorandum used the arbitrary and capricious standard. The Court vacates its prior memorandum and files this superseding memorandum in its place.
The court starts its analysis by giving a nod to Boyle:
[T]he law has evolved in estate tax matters to acknowledge that the estate bears the burden in proving that it has exercised ordinary business care and prudence in the event it filed a late return. United States v. Boyle, 469 U.S. 241, 246 (1985) (quoting 26 CFR § 301.6651(c)(1) (1984)).
In Boyle, Chief Justice Burger addressed “whether a taxpayer’s reliance on an attorney to prepare and file a tax return constitutes ‘reasonable cause’ under § 6651(a)(1) of the Internal Revenue Code, so as to defeat a statutory penalty incurred because of a late filing.” Id. at 242. According to 26 CFR § 301.6651-1(c)(1), a taxpayer filing a late return must show that he or she exercised ordinary business care and prudence and was nevertheless unable to file the return within the prescribed time. Id. at 243. Chief Justice Burger reasoned there was an administrative need for strict filing requirements.
Having given the obligatory nod to Boyle, the court then sets off on its own analysis of the statute and how, in the facts of this case the late filing of the return does not trigger the penalty:
In the Court’s view, the resolution of this matter hinges on an interpretation of a section of the IRS Code (26 C.F.R. § 6651) called “Failure to file tax return or to pay tax.” . . .
Generally, § 6651 addresses the assessment of penalties for late filing of a return, and late payment of taxes due. More specifically, the penalty under § 6651(a)(1) addresses the failure to file a timely return:
In case of failure (1) to file any return on the date prescribed therefor (determined with regard to any extension of time for filing), unless it is shown that such failure is due to reasonable cause and not due to willful neglect, there shall be added to the amount required to be shown as tax on such return 5 percent of the amount of such tax if the failure is for not more than 1 month, with an additional 5 percent for each additional month or fraction thereof during which such failure continues, not exceeding 25 percent in the aggregate. . . . 26 U.S.C. § 6651(a)(1). . . .
The calculation of the penalty imposed for failure to timely file a return (subsection (a)(1)) and failure to timely pay the tax (subsection (a)(2)) is clarified in § 6651(b). It declares:
(b) Penalty imposed on net amount due. For purposes of —
(1) subsection (a)(1), the amount of tax required to be shown on the return shall be reduced by the amount of any part of the tax which is paid on or before the date prescribed for payment of the tax and by the amount of any credit against the tax which may be claimed on the return,
(2) subsection (a)(2), the amount of tax shown on the return shall, for purposes of computing the addition for any month, be reduced by the amount of any part of the tax which is paid on or before the beginning of such month and by the amount of any credit against the tax which may be claimed on the return[.]
The parties disagree on how to construe these provisions. Plaintiff proffers two arguments in support of its position. First, Plaintiff argues that § 6651(a)(1) should be read together (in pari materia) with § 6651(b)(1). In reading these subsections together, Plaintiff concludes that the late filing penalty is calculated by using the formula set forth in subsection (a)(1), incorporating the “net amount due” on the “the date prescribed for payment” as set forth in subsection (b)(1). Since the estate tax was overpaid on March 18, 2014 and the extension ran until September 10, 2014, there was no net amount due on the September deadline; and hence, no penalty may be imposed.
Secondly, and in the alternative, Plaintiff argues that the phrase “such failure is due to reasonable cause not due to willful neglect” in subsection (a)(1) protects the taxpayer from a penalty if the return was filed late due to a reasonable cause.
The Government disagrees with the taxpayer’s arguments. The Government proffers that the requirements of § 6651(a)(1) and (b) must be construed with another statute (26 U.S.C. § 6151) entitled “Time and place for paying taxes shown on returns.” . . . More specifically, § 6151 reads in pertinent part:
(a) General rule. Except as otherwise provided in this subchapter [26 USCS § 6151 et seq.] when a return of tax is required under this title or regulations, the person required to make such return shall, without assessment or notice and demand from the Secretary, pay such tax to the internal revenue officer with whom the return is filed, and shall pay such tax at the time and place fixed for filing the return (determined without regard to any extension of time for filing the return).
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(c) Date fixed for payment of tax. In any case in which a tax is required to be paid on or before a certain date, or within a certain period, any reference in this title to the date fixed for payment of such tax shall be deemed a reference to the last day fixed for such payment (determined without regard to any extension of time for paying the tax).
Id. Based on § 6151, the Government cleverly reasons that the last day for payment was nine months after the death of Agnes Skeba — March 10, 2014; because no return was filed by that date a penalty may be assessed. Applying the rationale to the facts, the Government contends only $750,000 was paid on or before March 10, 2014, when $2,528,838 was due on that date. Referring back to § 6651(a)(1), a 25% penalty on the difference may therefore be assessed because it was not paid by March 10, 2014. As such, the full payment of the estate tax on March 18, 2014 is of no avail because the “last date fixed” was March 10, 2014. Accordingly, the Government argues that the imposition of a penalty in the amount of $450,959.00 is appropriate.
The IRS’s arguments miss the mark. First, both §§ 6651(a)(1) and (a)(2) designate the specific day on which penalties will be assessed for both late filing and payment of the estate tax return. Both paragraphs specify that the “date prescribed” is to “be determined with regard to any extension of time for filing.” The language of the statute in dispute is the one which is given precedence over a more generic statute like § 6151. See La Vallee Northside Civic Asso. v. V.I. Coastal Zone Mgmt. Com., 866 F.2d 616, 621 (3d Cir. 1989); see also Meyers v. Heffernan, No. 12-2434 (MLC), 2014 WL 3343803, at *8 (D.N.J. July 8, 2014).
After finding that the statutory language does not support the application of the penalty in this situation, the court goes on to find that the estate had reasonable cause for its late filing:
In this case, Mr. White [the estate’s attorney] submitted his August 17, 2015 letter explaining the rationale for not filing. For example, in Mr. White’s letter, he indicated that certain estate litigation was delayed due to health conditions suffered by the executor. Additionally, Mr. White refers to the Hoagland law firm and one of the attorneys assigned to the case as having been diagnosed with cancer. The Hoagland firm is a very prestigious and professional firm and based on same, Mr. White’s letter shows a reasonable cause for delay.
In addition, Mr. White’s prior letter of March 6, 2014 notes that there was difficulty in “securing all of the necessary valuations and appraisals . . . caused by the contested litigation.” Drawing from my professional experience, such appraisals often require months to prepare because a farm located in Monroe, New Jersey will often sit in residential, retail, and manufacturing zones. To appraise such a farm requires extensive knowledge of zoning considerations. Thus, this also constitutes a reasonable cause for delay.
Both aspects of the opinion will get cited by estates seeking to avoid the heavy hand of the late filing penalty when applied to significant estate tax liabilities. As I mentioned above, I will be surprised if the IRS does not appeal this decision. While I may have my doubts that the opinion will stand, it is one of many cases that points out the harshness of the application of Boyle. The estate here made a significant effort to pay the tax. The legal basis for the ruling could be a game changer for estates that make full payment before an extended due date. I realize not every estate can meet that criteria. Certainly, the case is worth following.