The IRS Administrative Summons as Pretext to Avoid the Need for a John Doe Summons (8/20/12)

I just posted a blog entry titled Do Prosecutors Have Too Much Power? (8/20/12), here.  I  refer to a debate among scholars, one of whom is Professor Nancy Gertner of Harvard Law School.  Professor Gertner is a former federal judge.  Before becoming a judge, her law firm became involved in one of the cases that plays a prominent role in my Federal Tax Procedure and Tax Fraud and Money Laundering classes and the texts spawned from these classes.  The case -- United States v. Gertner, 65 F.3d 963 (1st Cir. 1995), here -- relates to the IRS's improper use of the John Doe Summons, so I thought I would discuss that case since the John Doe Summons has played such a prominent role in many IRS initiatives (including the offshore bank initiative).

The IRS's general compulsory process is the IRS administrative summons.  The IRS administrative summons  identifies the taxpayer whose liabilities are being investigated and compels the party summonsed to give testimony and/or produce documents related to that investigation.  In many respects, it is like a grand jury summons, but the grand jury summons does not have to identify the party or parties being investigated and, practically speaking, the perceived compulsion behind a grand jury summons is much greater than for the IRS administrative summons.  Still, the IRS administrative summons is a significant power.  See, e.g., Kim Dixon, IRS wields summons to pry info out of wealthy, companies (Reuters 8/17/12), here.

The IRS does not have to answer to anyone in issuing the summons.  It just fills out the form and delivers it to the party summonsed.  In most cases, the IRS does have to notify the taxpayer that the summons has been served when the party summonsed is other than the taxpayer.  But that is about it.

Further, in any judicial contest, the IRS administrative summons has minimal requirements.  Those requirements, called the Powell requirements from the case establishing them (United States v. Powell, 379 U.S. 48 (1964)), are:

that the investigation will be conducted pursuant to a legitimate purpose, that the inquiry may be relevant to the purpose, that the information sought is not already within the Commissioner's possession, and that the administrative steps required by the Code have been followed * * * .

As interpreted, these standards are quite minimal and, hence, taxpayers almost always fail when they make judicial challenges to such summons, except where they have valid privileges that may be asserted.

The investigative problem with the IRS administrative summons is that the IRS may have information indicating that a number of taxpayers may have underpaid their taxes, but may not know who they are.  The quintessential case is the widely promoted tax shelter.  The tax shelter promoter will know and usually have the names of the taxpayers involved, but the IRS will not.  So, Congress gave the IRS the power to issue the John Doe Summons, but only if it first sought court approval making certain predicate showings.  Therein lies the rub for the IRS.

I now just cut and paste my relevant discussion of the John Doe Summons from my Tax Procedure text (footnotes omitted):

The “John Doe Summons” is a summons to a third party who has or may have information related to one or more taxpayers whose identities are unknown to the IRS.  § 7609(f).  The quintessential example of a target of a John Doe Summons is the promoter of an allegedly abusive tax shelter that has been widely sold where the IRS desires to discover the names of all the investors.  

Since the John Doe Summons is issued to determine the identity of one or more unknown taxpayers as well as to obtain other tax relevant information or documents, the IRS cannot give the taxpayer(s) notice otherwise required for third party summonses.  Rather, the IRS must first convince a court that the investigation relates to a particular person or ascertainable group or class of persons, that there is reasonable cause to believe that the person or persons so identified may not have complied with the tax laws, and that the information sought is not readily available from other sources.  The check in the normal third party summons procedures is that the taxpayer, who must be notified (subject to the rules noted above), will have the incentive to contest any overreaching by the IRS.  As to unidentified taxpayers, however, the IRS cannot provide notice because it does not know who they are.  The requirement for advance court approval for such summonses is a surrogate -- a check by an objective third party -- for notice to the taxpayer. 

The John Doe Summons procedures were designed to provide checks and balances.  But, the IRS often finds that the procedures slow it down.  The IRS must convince DOJ Tax, whose attorneys are plenty busy with other work, that it is worth going through the procedures to get the summons.  DOJ Tax must gear up and present the matter to a frequently skeptical and almost always overworked District Judge who must play devil's advocate to the Government's ex parte application for the summons.  Obviously, the IRS would much prefer just to use its administrative summons which has no such cumbersome steps.  

In United States v. Tiffany Fine Arts, Inc., 469 U.S. 310 (1985), the Supreme Court blessed the IRS's use of the regular administrative summons rather than the John Doe summons where the target of the summons has transactions relevant to its tax liability which, if discovered, might also identify unknown third parties’ and be relevant to their tax liabilities.  The context there was a tax shelter promoter who sold the product to unknown third parties.  By allegedly investigating the promoter’s tax liability to support inquiries into whether it reported its income from those unknown third parties, the IRS could summons the information under the general administrative summons by meeting the minimal requirements of Powell. The Supreme Court blessed that gambit and refused to require the John Doe Summons procedure.  After Tiffany Fine Arts, the IRS saw the end-run around the John Doe Summons  procedures -- simply find a reason to audit the third party record-keeper such as the tax shelter promoter and find some pretext that obtaining the names of the third parties is relevant under the Powell standards to the audit of the record-keeper. 

In United States v. Gertner, 65 F.3d 963 (1st Cir. 1995), a law firm filed a Form 8300 (currency transaction report) notifying the IRS that the law firm had received in excess of $10,000 in cash.  The form, however, failed to identify the taxpayer, asserting ethical grounds, the attorney client privilege and constitutional grounds. The IRS then issued a regular IRS summons to the law firm to produce the withheld information.  The IRS used the regular IRS summons as opposed to the John Doe summons on the ground the Supreme Court blessed in Tiffany Fine Arts -- i.e., that the summonsee's taxes were being investigated as well as the unknown taxpayer's taxes.  Analyzing the case under the Powell good faith standard, the district court concluded that the IRS's grounds for using the general summons -- i.e., that it was investigating the law firm's tax liability -- was pretextual, mere smoke and mirrors to achieve the real goal of investigating the unidentified taxpayer.  The Court of Appeals affirmed, noting importantly that the John Doe Summons procedure required advance court approval, a procedure the Government sought to avoid here on the pretext that it was after something more than the taxpayer's identity.  The Court of Appeals noted that the requirement of advance court approval could not be ignored by the IRS simply by chanting a litany based on Tiffany Fine Arts.