Tax Notes logo

SECC Corporation v. Commissioner: How It Started, How It Ended, and What Might Happen Going Forward

Posted on June 30, 2016

In yesterday’s post guest poster Lavar Taylor set the table for the dispute before the Tax Court in SECC v Commissioner, a case that considers the Tax Court’s jurisdiction to hear employment tax disputes under Section 7436. Today Lavar walks us through the Tax Court’s surprising resolution of the dispute. Les

If you read Part 1 of this post, you now understand what I meant when I said that the SECC case was a tax procedure nerd’s dream and a client’s nightmare. The tax procedure issues in the case were ubiquitous. Things were about to get even more interesting.

On April 3, 2014, the Court issued a reviewed opinion in SECC Corporation v. Commissioner, 142 T.C. 225 (2014)(“SECC”). At the time the Court released its opinion, I was meeting with an IRS Appeals Officer in another case. Someone from the IRS interrupted that meeting to tell me that I had “won” the SECC case, without explaining the contents of the Court’s opinion. Of course, regardless of how the Court ruled, the case would not be over. Given the IRS’s vigorous advocacy of its position, I anticipated they would appeal if the Court granted our motion to dismiss for lack of jurisdiction. I returned to my office, eager to find out exactly how I had “won” the case.

The Majority Opinion

The Tax Court issued a reviewed opinion in the SECC case, with the majority opinion (authored by Judge Colvin and joined by 14 other judges) denying both parties’ motions to dismiss and holding that the Court had jurisdiction to determine the merits of the disputed employment tax liabilities. The majority opinion properly noted that it has an independent duty to determine whether it has jurisdiction, even where both parties argue that the Court lacks jurisdiction, and that the Court owes no deference whatsoever to the IRS’s view, whether expressed through regulations or otherwise, as was the case in SECC, see Notice 2002-5, 2002-1 C.B. 320, that the Court lacks jurisdiction over the case.

The majority opinion then held that the Tax Court had jurisdiction to determine the merits of the disputed employment tax audit deficiencies even though the IRS had never issued a Notice of Determination under section 7436(b). The majority opinion pointed out that section 7436(a) gives the Tax Court jurisdiction if there is a “determination” made as the result of an audit and there is an actual controversy regarding whether workers are employees for purposes of Subtitle C or whether the taxpayer is entitled to relief under section 530. That subsection says nothing at all about a “notice of determination.”

Per the majority opinion, the legislative history of section 7436 makes clear that a mere “failure to agree” regarding the result of an employment tax audit could constitute a “determination” under section 7436(a) which would trigger a taxpayer’s right to file a Tax Court petition. Once there has been a “determination,” the taxpayer’s right to file a petition with the Tax Court to challenge the results of the employment tax audit is limited only when the IRS issues a Notice of Determination by certified or registered mail under section 7436. When that happens, the taxpayer must file a petition within 90 days after the date of that notice in order to invoke the Tax Court’s jurisdiction. Thus, per the majority opinion, section 7436 is similar to the statutory scheme governing refund claims. Under that scheme, the taxpayer has the right to go to court at any time after a refund claim has been filed and six months have passed since the filing of the claim, but the taxpayer’s right to go to Court has a two year time limitation once the IRS issues a formal denial of the claim for refund.

The majority opinion also noted that Congress, in section 7436(d), failed to make the principles of section 6212 applicable to determinations under section 7436(a). Rather, Congress incorporated only “the principles of subsections (a), (b), (c), (d), and (f) of section 6213, section 6214(a), section 6215, section 6503(a), section 6512, and section 7481” as applying to proceedings brought under section 7436. The majority opinion also noted that the principles of these sections were to apply in the same manner as if the Secretary’s determination described in subsection (a) were a Notice of Deficiency (emphasis added).

Thus, per the majority opinion, it is a “determination” under subsection (a) of 7436, and not the Notice of Determination under section (b), that triggers, among other things, the taxpayer’s right to file a Tax Court petition and the related restrictions on assessment and collection of the employment taxes which are the subject of the dispute between the IRS and the taxpayer who is being audited. It would appear that the “determination” under subsection (a) also starts the suspension of the statute of limitations on assessment. More on how that might work later.

As for applying these principles to SECC’s case, the majority opinion held that SECC’s petition was timely because the IRS had never sent SECC a Notice of Determination by certified or registered mail as required by subsection 7436(b). There had previously been a “determination” under section 7436(a) in connection with an audit and there was an actual controversy when Appeals issued their letter dated April 15, 2011, and SECC was entitled to file a Tax Court petition at any time thereafter until the 90th day after a notice was sent to SECC by certified or registered mail.

The Concurring Opinion

A concurring opinion, authored by Judge Halpern and joined by eleven other Judges, joined the majority opinion “without reservation” and noted that the majority reached the correct conclusion as a matter of tax policy. Judge Halpern noted that sustaining the IRS’s position would “improperly permit the Commissioner to determine, in his sole discretion, whether a taxpayer shall have access to this Court in order to resolve [a worker classification dispute such as the dispute between SECC and the Commissioner].” Judge Halpern went on to say:

Were we to adopt respondent’s position, the Commissioner, by refusing to issue a notice of determination, would be able to deny the taxpayer access to this Court, which he may be tempted to do whenever he feels his chance of success on a worker classification or RA ’78 sec. 530 issue is better in either the District Court or the Court of Federal Claims than this Court. There is no basis in section 7436 or as a matter of policy for granting the Commissioner this “forum shopping” discretion, and it would thwart the obvious congressional intent embodied in that provision to permit taxpayers, in their discretion, to litigate, in this Court, worker classification and RA ’78 sec. 530 issues that the Commissioner has raised on audit.

The Dissenting Opinion

Judges Goeke and Kerrigan dissented. They stated that the structure of section 7436 indicates that the Court should treat a worker classification determination as if it were a deficiency determination in an income tax case. They expressed concerns that the majority’s approach will result in administrative problems. They posed a number of questions which they thought did not have appropriate answers under the approach taken by the majority, such as whether the IRS would be able to assess a disputed employment tax deficiency after the IRS made a “determination” (without sending a Notice of Determination under section 7436(b)) but the taxpayer failed to file a Tax Court petition within 90 days of the date of the determination. Thus, in their view, the Tax Court should not have jurisdiction over a worker classification case unless the IRS has issued a notice of determination under section 7436(b). Since the parties agreed that no such notice had been issued to SECC, the dissenters would have dismissed the petition for lack of jurisdiction.

As for whether the IRS should have issued a Notice of Determination, the dissenters stated that the Court should not have “delved” into the administrative record to determine whether the IRS had made a “determination” under section 7436(a). Rather, they would have permitted the IRS to decide unilaterally when its examination warrants the issuance of a Notice of Determination, leaving the IRS to bear the consequences associated with making an invalid assessment if it turned out that the IRS was in fact required to issue a Notice of Determination before assessment of the employment tax deficiencies.

The dissenters left little doubt about how they viewed the merits of the dispute. They viewed the case as a pure accountable plan case and believed that the majority’s approach set a “dangerous precedent” which would allow any taxpayer in an accountable plan case to make the arguments that SECC made and transform its case into a worker classification dispute. The dissenters stated that “[t]he IRS could have reasonably concluded that the worker classification arguments were frivolous and did not justify a determination.”

Wait a minute. Stop the presses. Did the dissenters call my arguments frivolous? FRIVOLOUS? My arguments have been called many things over the past 35 years: “creative,” “clever,” “aggressive,” “too cute by half,” even that dreaded five letter word – “wrong.” But my arguments had never before been called “frivolous.” Perhaps the only thing worse would have been if Justice Scalia had called my arguments “legalistic argle-bargle.” See Windsor v. United States, 570 U.S. ___, 133 S.Ct. 2675, 2709 (Scalia dissenting). (Fortunately I escaped that fate. Justice Scalia, like all the other Justices, ignored the amicus brief I filed in the Windsor case.)

I can’t let that characterization of my arguments by the dissenting Judges go unchallenged. Was it “frivolous” to argue that the cable splicers were true independent contractors when the Fifth Circuit had previously held that similarly situated cable splicers were independent contractors? I don’t think it was. Was it “frivolous” to argue that, in the alternative, my client was entitled to section 530 relief when, among other things, a) the entire cable splicing industry in southern California treated the cable splicers the way SECC treated them during the periods in question, b) SECC had always complied with the rules regarding the issuance of information returns such as Forms 1099, c) the IRS had previously told SECC to treat the cable splicers the way they did, and d) there was absolutely no case law which addressed the question of whether SECC was entitled to section 530 relief where it had treated the workers as “dual status” workers for tax reporting purposes? I don’t think it was. Was it “frivolous” to argue in the alternative that the taxes owed by SECC should have been computed based on section 3509(a) rates when SECC believed (based on advice given by the IRS itself) that it had been doing things properly? I don’t think it was. Was it “frivolous” to argue in the alternative that the taxes owed by SECC should have been reduced under section 3402(d)? I don’t think it was.

I really don’t think that the dissenters thought that statement through before they wrote it. And I certainly hope that if any of their friends or neighbors ever run a business and receive a bill from the IRS for $1.5 million in taxes as the result of doing business in the manner in which they were told to do business by the IRS, the dissenters would urge their friends or neighbors to use all arguments at their disposal to fight that bill, just as SECC did. Frivolous? Bah, humbug! I’ll fight that characterization to my dying breath. (Now Keith and Les understand why I did not want to write this post until the case was over.)

Now that I have vented my spleen, I have a more important point to make about the dissent. The dissenters’ suggestion that the IRS can ignore the rules just because the IRS (or a Tax Court Judge) believes that a taxpayer’s argument is frivolous is an extremely dangerous idea that, if adopted by the IRS and the Courts, could seriously damage our voluntary compliance system. The fact that the government must follow proper procedures, and can be held accountable if it fails to do so, is as much a bedrock of our voluntary compliance system as is the willingness of taxpayers to voluntarily file their tax returns and (usually) file an income tax return that consists of non-fiction instead of fiction.

The government doesn’t convict criminal tax defendants and throw them in jail without a trial just because the IRS or a Judge thinks that their arguments are “frivolous.” Instead, the government gives them a trial, along with an opportunity to appeal the result at the trial if they don’t like the outcome of the trial. Nor do we allow the IRS to assess income tax deficiencies without issuing a Notice of Deficiency just because the IRS or a Judge believes that the taxpayer’s arguments are “frivolous.” Rather, the IRS must first issue the taxpayer a Notice of Deficiency, and the taxpayer can file a petition and seek a trial in the Tax Court. If the taxpayer does not like the result there, they can appeal to the Courts of Appeal. And sometimes it turns out that an argument that the lower court thought was “frivolous” turns out to have been a winning argument.

Even where taxpayers lose, and lose badly, however, the taxpayer can say that they had their day in court, and third-party observers can take comfort in the fact that, should they ever end up in a wrestling match with the IRS, the IRS (and the courts) will give them a fair shake by following the rules, instead of bending the rules whenever they don’t think much of the taxpayer’s arguments. When taxpayers are convinced that the IRS does not follow the rules and/or the Courts don’t follow the rules, they are less likely to comply with the law.

In the third and final part, I will discuss the aftermath of the SECC opinion, including the reasons and consequences of the IRS position and the ultimate resolution of the case.

Subject Areas / Tax Topics
Copy RID