The term negligence holds an important place when talking about the work of a professional or a manufacturer or even about driving a car, where expectations for performance are clear and well established. Negligence in those circumstances is the “failure to use such care as a reasonably prudent and careful person would use under similar circumstances.” But what about negligence when applied to a taxpayer? IRC § 6662 employs a generic meaning for negligence, which includes “any failure to make a reasonable attempt to comply with the provisions of the Code.” But measuring “reasonable” in the context of individual taxpayers is a contentious issue.
In 2011, the IRS audited 1,594,049 individual income tax returns, 1.1 percent of the 143,608,000 returns filed for the previous year. For correspondence audits, the IRS identified errors 79 percent of the times, resulting in corrections, and for field audits, the IRS identified errors 91percent of the time, resulted in IRS changes. Also for 2011, 28,749,882 of the returns filed—or one out of five—was assessed a civil penalty, while 500,472 of the returns audited was assessed an accuracy related (or negligence) penalty—a 31% penalty rate for negligence. If these results can be generalized to the taxpaying population, it is possible that 80 to 90 percent of individual tax returns, if examined by the IRS, would be found wanting, and of those, almost one-third would involve taxpayer negligence.
One question raised by these figures is whether taxpayers are truly that negligent—failing to use such care as a reasonably prudent and careful person would use under similar circumstances—or more likely, that the concept of negligence is out of place when applied to individual taxpayers confronting the notoriously complex tax law. At some point, what is officially seen as taxpayers failing to make a reasonable attempt to comply with the provisions of the Code, must instead be viewed as the congressional failure to provide a code that offers plain and clear guidance so that what a reasonably prudent and careful person would do under similar circumstances can be fairly determined.
A recent case in the U.S. Tax Court illustrates how easily the average taxpayer can cross the line to negligence without even knowing there was a line. In David P. Durden, et ux. v. Comm., TC Memo 2012-140 (05/17/2012), here, the taxpayers contested the IRS’s disallowance of a $25,171 charitable donation to their church. The IRS determined a tax deficiency of $7,552 and an accuracy-related penalty (§ 6662) of $1,510.40 with respect to the taxpayers’ 2007 jointly filed income tax return.
Although the church had given the taxpayers a statement that complied with one of the requirements of § 170(f), the 170(f)(8)(A) requirement that no deduction shall be allowed under subsection (a) for any contribution of $250 or more unless the taxpayer substantiates the contribution by a contemporaneous written acknowledgment by the donee organization, the church’s statement did not comply with the § 170(f)(8)(B) requirement. That requirement stipulates that the church’s statement must indicate whether the donee organization provided any goods or services in consideration, in whole or in part, for any cash or property received. The court ruled against the taxpayers, finding that they did not follow the letter of the law. The taxpayers’ failure to comply with the law in this case brings to mind Justice Holmes’ observation that “a law which punished conduct which would not be blameworthy in the average member of the community would be too severe for that community to bear.” Unfortunately, countless taxpayers face similarly troubling violations of the law on a daily basis, and the assertion that they did not make a reasonable attempt to comply, in many cases, is itself unreasonable.
The IRS Oversight Board’s annual taxpayer survey (January 2012) asks taxpayers, “How much, if any, do you think is an acceptable amount to cheat on your income taxes?” Eight percent responded, “as much as possible,” six percent “a little here and there,” while 84 percent responded, “not at all.” The same survey asks, “Is it every American’s civic duty to pay their fair share of taxes?” In response, 72 percent of taxpayers said they completely agree that it is, and another 24 percent mostly agree—a consensus of 96 percent. Juxtaposing these results and the IRS audit findings noted above including percent civil penalties assessed and on accuracy-related penalties in particular, against the background of the IRS’s most recent estimate of the tax gap reveals an uneasy tension. The tax gap is “the difference between what taxpayers should pay and what they actually pay on a timely basis.” It is the amount of tax revenue the IRS estimates goes missing each year because of underreported income, nonfiling, or underpayment of taxes. In 2012, the IRS released its latest estimate of the tax gap for 2006 showing a 30 percent increase from its report of five years earlier. The previous estimate was $345 billion annually and was for 2001. For 2006, the IRS increased its annual estimate to $450 billion, roughly 20 percent of the amount collected. Viewing at once, the growing annual tax gap, the rate of taxpayer noncompliance revealed by IRS audit and penalty statistics, and the belief by 96 percent of taxpayers that it is their civic duty to pay their fair share, as parts of the same picture, gives pause for reflection.
While there are numerous reasons why taxpayers do not pay their full tax obligations, one unfortunate reason has to do with the complexity of the law and the responsibility it imposes on taxpayers. It has been noted that, “One of the special characteristics of tax laws in comparison to criminal laws is that they do not simply prohibit a particular conduct. Instead, they impose affirmative obligations to become informed about tax rules, to keep records, to report income and expenses, all in a timely fashion.” The right voluntarily to determine our own income is thus constrained by a duty to know and understand the rules. These affirmative obligations frame our duty to self-assess and report our income in a different light. And while the right to drive a car also imposes a duty to know the rules of the road, knowing the tax code, IRS regulations, and myriad court rulings interpreting the code, imposes a much greater burden of education and compliance. This combination has led to a situation where the law often holds individual taxpayers to an unrealistic standard of compliance which, if not met, exposes them to penalties. And while roughly 60 percent of taxpayers now delegate the preparation of their tax return to a paid preparer, the IRS Regulations hold taxpayers responsible for assessing the level of professionalism of the tax adviser they hire. The application of these criteria is laid out in the regulations (1.6664-4(b)(2)) which distinguish between a professional tax adviser and others who provide tax advice. But the burden is placed on the taxpayer to determine which is which. If a taxpayer seeks tax advice from “someone that he knew, or should have known, lacked knowledge in the relevant aspects of Federal tax law” even though the taxpayer sought tax advice, he or she would have “failed to act reasonably or in good faith,” and thereby failed to extricate themselves from the § 6662 accuracy-related penalty.
Given this uneasy combination factors, perhaps it is time to view tax cheating in a different light; and to the categories tax evasion and tax negligence, we need to add a third, “inadvertent and illegal, but not negligent,” or “no-fault” tax cheating, to cover cases like Durden, et ux. v. Comm., where the bar for “reasonable attempt to comply” has simply been set too high because it punishes “conduct which would not be blameworthy in the average member of the community.”