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A New Twist on What Constitutes a Tax Return

Posted on Feb. 22, 2022

In Sienega v. Cal. Franchise Tax Bd. (In re Sienega), No. 20-60047, 2021 U.S. App. LEXIS 35875 (9th Cir. Dec. 6, 2021), the taxpayer/debtor raised a novel argument regarding a document the debtor sought to have the court treat as a tax return.  In this case the debtor argued that the bankruptcy court should treat his audit report from the IRS, which he faxed to the California Franchise Tax Board, as his tax return for the state so that he could discharge his state tax liabilities.  The Ninth Circuit, like the Bankruptcy Appellate Panel and the bankruptcy court before it, declined the invitation.

At issue in Mr. Sienega’s case is his ability to discharge certain taxes.  He failed to file state income tax returns with California for 1990-92 and 1996.  The Ninth Circuit says he went to Tax Court to contest his federal taxes for those years.  Here is a link to the Tax Court docket for the only case filed by Mr. Sienega in that Court.  Of course, it’s not possible to see any of the documents filed in his case, but the docket sheet indicates that he reached an agreement with the IRS to resolve the case.  While the Ninth Circuit describes the resolution of the Tax Court case by saying “the [Court] ruled that Sienega was also liable for accuracy-related penalties of approximately $9,688,” it appears that he agreed to this result.

As part of his agreement to resolve the Tax Court case, the IRS created a Form 4549-A, a typical form it uses for reflecting adjustments to a tax year. The Tax Court docket information indicates he was represented in his Tax Court case by Cindy L. Ho and Amanda F. Vassigh. The Ninth Circuit states that his attorney notified the state of California of the adjustments via fax. Most, if not all, states impose a requirement on taxpayers to notify the state following a resolution with the IRS. It’s not clear from the opinion if the attorney who notified the state knew that he had never filed state income tax returns for those years.

The fax cover sheet transmitting Form 4549-A stated:

Pursuant to California State law, Mr. and Mrs. Sienega hereby notify the Franchise Tax Board that the Internal Revenue Service has made recent adjustments to their [year] federal tax return, which they concede. Following please find a copy of the IRS’ adjustments, including a computation of how the changes were made.

California’s Franchise Tax Board (FTB) issued to him a notice of proposed assessment which indicated that it had no record of a return from him for any of the years. The letter offered him the opportunity to appeal if he disagreed with the proposed assessment. In response to the letter, he did not file the missing returns or file a protest. The proposed assessments became final by operation of law in October 2009.

He did not file bankruptcy until five years later. He initially filed a chapter 13 petition but it was converted to a chapter 7 case. The FTB filed an adversary proceeding seeking a ruling that the taxes were excepted from discharge. That’s when Mr. Sienega put forth the novel argument that faxing the IRS audit adjustment document met his state filing requirement.

The 9th Circuit noted that the California taxing scheme did not have a parallel to IRC 6020(a) which allows an agreement to serve as a return.  It noted that the closest California statute:

does not authorize the FTB to prepare or execute a return. Therefore, under the plain words of the relevant statutes, the return exception contained in § 523(a)’s hanging paragraph does not apply. And it is undisputed that the FTB did not prepare or execute returns for Sienega. Rather, it issued notices of proposed assessment and advised that it had no record of any returns being filed for the relevant years.

Frequent and long term readers of the blog will recognize the phrase “hanging paragraph” in 523(a) as the paragraph that set off the one-day rule controversy discussed here (and in many linked posts).  All of the one-day rule cases of which I am aware involve the taxpayer actually filing a return rather than sending an audit report in its place.

The 9th Circuit then discusses its precedent regarding what is a return, including its adoption of the test set out in Beard v. Commissioner, 82 T.C. 766 (1984) and its application to cases under 523(a)(1)(B) in In re Hatton, 220 F.3d 1057, 1060-61 (9th Cir. 2000) and In re Smith, 828 F.3d 1094, 1096 (9th Cir. 2016).  The 9th Circuit determines that the fax of the IRS adjustment document fails the Beard test as well as a related test for what is a return under California law in the case of In re Appeals of R. & Sonja J. Tonsberg, 1985 WL 15812, at*2 (Cal. St. Bd. Eq. Apr. 9, 1985).  Aside from the fact that the faxed documents don’t purport to be a return, they were not submitted under penalties of perjury, they did not contain enough information to allow the FTB to compute the tax liability, and the fax is not an honest and reasonable attempt to satisfy the requirements of the law.

The only thing surprising about the opinion’s discussion of whether the fax is a return is that the court gave it as much ink as it did. The case provides some relief from the run of the mill case where a taxpayer makes a logical argument that forces us to think about the limits of the law. This case stands so far out of the boundaries of what might be considered a return that it requires little effort for the court, or for us, to consider that the faxed material might constitute a return.

Even though the fax is not a return and does not meet the Beard test or the penalties of perjury test, does the debtor have a point that this document gave the FTB the information it needed in order to make an assessment against him and start collecting?  The fax seemed to work for this purpose and the FTB had five years to try to collect from him before he filed bankruptcy.  Should bankruptcy court be hung up on formalities or look at the practical effect of his communication, which was to give the FTB information on which it could make an assessment, to effectively consent to the assessment, and to wait well past the period in 523(a)(1)(B) before seeking to discharge the liability?

It’s certainly understandable that the FTB would not want to start down the slippery slope of allowing most anything to trigger the running of the time period to discharge a tax liability, but at the same time, if the goal of the statute was to put the taxing authority on notice and give the taxing authority adequate time to collect before allowing a discharge, Mr. Sienega seems to have satisfied that goal.  By not discussing the issue in this way and pursuing the formalities of the Beard test, perhaps the court is saying equities and action notice do not matter in this situation and the narrow path to discharge lies through adherence to narrowly prescribed rules of what one must due to set up a liability to meet the test of 523(a)(1)(B).

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