Taxpayer Held Liable for Civil Fraud Penalty after Plea to Tax Evasion for One of the Years (9/2/17; 9/10/17)

In Cantrell v. Commissioner, T.C. Memo. 2017-170, here, the Court sustained the civil fraud penalty based on the taxpayer's plea agreement to tax evasion for one of the years (2002) and the pattern of conduct related to other years.  In the criminal case, the taxpayer had also pled to a scheme of bribery related to his official position as a Government employee.

The Tax Court's determination that facts supported the civil fraud penalty (including collateral estoppel for 2002) is not particularly exceptional. It might be a good read for students and young lawyers.

The Court also held that the taxpayer had filed valid tax returns sufficient to permit the civil fraud penalty.  The civil fraud penalty in § 6663 and the accuracy related penalty in § 6662 apply only to underpayments with respect to filed tax returns.  § 6664(b).  The taxpayer here claimed that, because he filed electronically through TurboTax for most of the years, there was no valid return because he did the electronically filed returns did not have his actual signature.  The Court held that he had filed sufficient returns for the civil fraud penalty.  This portion of the opinion is worth quoting:

Section 6011(a) provides that "any person made liable for any tax * * * shall make a return * * * according to the forms and regulations prescribed by the Secretary." A return required to be filed by "the internal revenue laws or regulations shall contain or be verified by a written declaration that it is made under the penalties of perjury." Sec. 6065. 

Section 6061(a) provides the general rule that "any return, statement, or other document required to be made under any provision of the internal revenue laws or regulations shall be signed in accordance with the forms or regulations prescribed by the Secretary." Section 301.6061-1(b), Proced. & Admin. Regs., provides further that the method for signing may be prescribed in "forms, instructions, or other appropriate guidance". 

In 1998 Congress enacted the IRS Restructuring and Reform Act of 1998 (RRA 1998), Pub. L. No. 105-206, sec. 2001, 112 Stat. at 723, which provides, inter alia, that it is Congress' policy that the IRS implement guidelines for electronic filings with the hope that the IRS would achieve 80% electronic filing by 2007. See H. Conf. Rept. No. 105-599, at 234-235 (1998), 1998-3 C.B. 747, 988-989; S. Rept. No. 105-174, at 39-42 (1998), 1998-3 C.B. 537, 575-578. RRA 1998 sec. 2003(a)(2), 112 Stat. at 724, amended section 6061 by adding subsection (b). The Secretary thereby is required to develop procedures for the acceptance of signatures in digital or other electronic form; and until such time as such procedures are in place, the Secretary may waive the requirement of a signature or provide for alternative methods of signing or subscribing a return. Sec. 6061(b). Thus, the strict requirements for the filing of a paper return by an agent do not apply with full force to electronically filed returns. 

IRS Publication 1345, Handbook for Authorized IRS e-file Providers, provides guidance for the electronic filing of Federal income tax returns by Electronic Return Originators (EROs), such as TurboTax, including the signature requirement. IRS Publication 1345 has been in effect since before the years at issue. Accordingly, where it is clear that a preparer had actual authority to electronically file a return for a taxpayer, the Secretary acts within his discretion in  waiving the signature requirements. Ballantyne v. Commissioner, T.C. Memo. 2010-125, slip op. at 7. 

We here find as fact that the joint returns filed by petitioner and his then wife for the years at issue met the signature requirements adopted by the IRS.

Addendum 9/10/17 6:00 pm:  Kneave Riggall commented on the § 6110(k)(3) issue in the citation of an IRS Publication.  Mr. Riggall and I then discussed the issues in the comments.  Those discussions inspired me to revise the discussion on § 6110(k)(3) in my Federal Tax Procedure Book.  I have made those changes to the cumulative supplement for the book and those cumulative changes will be included in the next publication in August 2018.  In the meantime, readers can see the changes and link to the downloads on this blog entry.  Federal Tax Procedure Book Revisions on Section 6110 (Federal Tax Procedure Blog 9/10/17), here.

The part of the Cantrell opinion I found most interesting related to the taxpayer's claim that he had settled his civil tax liability in the plea agreement and restitution in the criminal case.  The Court held that the plea agreement and restitution did not foreclose the IRS from asserting the deficiency.  This too is more or less standard.

But, in reasoning to its conclusion, the Court seemed to find some comfort in the fact that there was no closing agreement under § 7121.  Here is what it said:

Petitioner states that he understood, from his attorney in the criminal case, that his civil tax liabilities were fully settled with the redacted plea [**20]  agreement. The IRS is authorized to fully settle tax liabilities through a closing agreement with any person regarding his or her liability for any taxable period. Sec. 7121(a); Ellis v. Commissioner, T.C. Memo. 2007-207, slip op. at 13, aff'd in part, rev'd in part 346 F. App'x 346 (2009). Section 7121 sets forth the exclusive means by which a closing agreement between the Commissioner and a taxpayer may be accorded finality. Urbano v. Commissioner, 122 T.C. 384, 393 (2004). Closing agreements are final, conclusive, and binding on the parties as to matters agreed upon, and may not be annulled, modified, set aside, or disregarded in any suit or proceeding unless there is a showing of fraud, malfeasance, or misrepresentation of a material fact. Sec. 7121(b); Urbano v. Comm'r, 122 T.C. 384; see also Estate of Wilbanks v. Commissioner, 94 T.C. 306 (1990) (because there was no closing agreement, Government could assert a late filing penalty, even though the late filing penalty had previously been asserted and then abated). 

All closing agreements must be executed on forms prescribed by the IRS. Urbano v. Comm'r, 122 T.C. 384; sec. 301.7121-1(d), Proced. & Admin.  Regs. The Commissioner has prescribed two types of closing agreements: (1) Form 866, Agreement as to Final Determination of Tax Liability, used to determine conclusively a taxpayer's total tax liability for a taxable period; and (2) Form 906, Closing Agreement, used if the closing agreement relates to one or more separate items affecting the tax liability of a taxpayer. Urbano v. Comm'r, 122 T.C. 384; Zaentz v. Commissioner, 90 T.C. 753, 760-761 (1988); Rev. Proc. 68-16, 1968-1 C.B. 770. Here, the redacted plea agreement does not satisfy the procedural requirements of a closing agreement pursuant to section 7121.

However, as I understand that law, DOJ Tax had exclusive authority to reach a final civil settlement while and even after the case was referred to DOJ Tax for criminal prosecution and hence the IRS could not have entered a compromise agreement.  See § 7122(a), here; see also IRS Authority to Settle After Referral to DOJ Tax (Federal Tax Crimes Blog 11/11/13), here; and IRS Has No Authority To Settle Cases Referred to DOJ Tax Even After They Are Returned (Federal Tax Crimes Blog 8/3/13), here.  If that is right, the absence of a closing agreement is not evidence that the taxpayer did not reach some type of agreement with DOJ that would foreclose the IRS from assessing additional tax.  Of course, the Court did find that DOJ had not reached any such agreement, so this discussion of closing agreements even if wrong did not affect the outcome of the case.

I discuss this issue in my Federal Tax Procedure Book as follows (from Practitioner Edition):

Once a civil or criminal case is referred to DOJ Tax, DOJ Tax has the exclusive authority to compromise the case; prior to that referral, the IRS has exclusive authority to compromise.  Section 7122(a).  n505 However, as to DOJ Tax’s exclusive authority to settle, it must be kept in mind that the model is somewhat like attorney (DOJ Tax) and client (IRS).  This is not a perfect fit because the attorney-client model would require the lawyer (DOJ Tax) to comply with the client’s (IRS’s decisions).  The statutory structure does not fit this model, for DOJ Tax can operate from a different perspective and therefore need not always follow the client’s wishes or instructions.  Suffice it to say, however, that the DOJ Tax will seek the IRS’s views and will make a different decision only in the rare case that DOJ Tax feels that the priorities from its perspective dictate a decision different than the one preferred by the IRS. n506    

   n505  Isley v. Commissioner, 141 T.C. No. 11 (2013) (holding that Section 7122(a) requires DOJ approval to compromise the tax liability for the period(s) of referral, at least during the period that DOJ either directly or through the courts had continuing responsibility; in that case, it was the continuing requirement in the judgement in the criminal case to file returns and pay taxes during the period of supervised release that required DOJ approval); United States v. Jackson, 2013 U.S. App. LEXIS 1674 (3d Cir. 2013) (with discussion of authority as to the IRS’s lack of authority to settle after referral to DOJ Tax, even after the case is referred back to the IRS); see also  Faust v. United States, 28 F.3d 105 (9th Cir. 1994).  See IRS Has No Authority To Settle Cases Referred to DOJ Tax Even After They Are Returned (Federal Tax Crimes Blog 8/3/13), discussing Jackson; and IRS authority to settle after referral to DOJ Tax (Federal Tax Crimes Blog 11/11/13), discussing Isley.  For a comparison of DOJ Tax’s broad compromise authority with the authority of IRS attorneys in tax litigation, see Keith Fogg, Contrasting the Compromise Standards between the Chief Counsel, IRS and the Department of Justice in Litigated Cases (Procedurally Taxing Blog 6/23/15).
   n505  Before the referral when the IRS has exclusive authority to settle, the IRS usually will not ask DOJ Tax for its advice, but in cases where seeking the DOJ Tax advice is appropriate, the IRS will do so but likely, because of the secrecy rules will have to make some form of referral so that the facts underlying the advice can be shared with DOJ Tax.  Perhaps that will not be a full bore referral that would transfer exclusive authority to DOJ Tax to settle the case (but, quite frankly, I have not researched this issue enough to do anything than raise the issue).

Addendum 9/4/17 12:30pm:

There is some nuance in Cantrell that I failed to mention.  One of the nuances relates to Section 7122(a), here, which seems to be a straight-forward line-drawing -- before referral from IRS to DOJ Tax, IRS alone has authority to compromise civil or criminal tax matters; after referral DOJ Tax alone has the authority to compromise those matters.  Here is the text of § 7122(a):

The Secretary may compromise any civil or criminal case arising under the internal revenue laws prior to reference to the Department of Justice for prosecution or defense; and the Attorney General or his delegate may compromise any such case after reference to the Department of Justice for prosecution or defense

The Attorney General appears to have delegated, at least implicitly, the § 7122(a) authority to the AAG for DOJ Tax.  28 C.F.R. § 0.70 (see CC-2007-008 (2/27/07), footnote 1).  So, I will hereafter refer to this authority as residing in DOJ Tax.

Read literally, § 7122(a) appears to reside sole authority in DOJ Tax after IRS referral of the matter to DOJ Tax.  The statutory term is "reference."  I know of no controlling definition.  The statute offers no definition; there is no regulation defining it.  The term reference seems to be to the act of referral by the IRS that is mentioned in two Code provisions:  § 7609(d) (prohibiting use of IRS summons after refered to DOJ); and § 6103(h)(3) (defining circumstances with tax return information may be shared with DOJ to authorize disclosure to DOJ when "if the Secretary has referred the case to the Department of Justice.").  The IRS Disclosure and Privacy Reference Guide (Publication 4639 Catalog Number 50891P (Rev. 10-2012), here, discusses as follows:

Although section 6103 contains no definition of “referral,” the term has generally been construed as an institutional decision by the IRS to request that DOJ defend, prosecute, or take other affirmative action on a tax case. 

The term "referral" is defined in section 7602(d) in the context of an administrative summons, and includes a recommendation for a grand jury investigation or criminal prosecution for offenses connected with the administration of the internal revenue laws. This definition is encompassed within the meaning of referral for purposes of section 6103(h)(3). But a referral for purposes of section 6103 is not limited to a referral for purposes of section 7602. It also includes other situations where the Service asks DOJ to prosecute, defend, or take action on a tax case on behalf of the IRS, such as search warrants, summons enforcement, writs of entry, etc. See United States v. Bacheler, 611 F.2d 443, 447-49 (3d Cir. 1979) (referral to DOJ for criminal tax prosecution proper under section 6103(h)(3)(A)). 

The referral is the prosecution recommendation or request for grand jury investigation.  See IRM 9.5.12.4  (07-25-2007), Processing of Prosecution Recommendations, here.

So, consider an IRS referral for tax evasion prosecution for years 01 through 04.  Clearly, DOJ tax has criminal and civil compromise authority upon the referral.  But, what happens if DOJ Tax declines to prosecute and sends the matter back to the IRS?  Does the IRS have compromise authority.  Although I could not find direct authority on point, I think that is the import of the IRM provisions (cited at end of this blog).  What if the IRS convicts for all of the years and the appeals are final?  Does DOJ then have the sole compromise authority because it is "after" the referral?  I think that DOJ continuing authority relates only to any tax that is incorporated in a restitution award, over which the courts and DOJ have continuing authority.  But, if for example, the restitution for those years 01 through 04 was $100,000 but, upon further audit, the IRS determines an addition $50,000 tax liability?  (In theory, that could happen where the $100,000 related to taxpayer's intent to evade, but the $50,000 additional was additional tax unrelated to fraud (say a civil tax issue that is not included in the criminal numbers).  I think the IRS has sole compromise the $50,000 additional deficiency but not the $100,000 restitution amount.  The mere fact that the years were referred initially to DOJ Tax for criminal prosecution does not mean that the IRS cannot thereafter exercise compromise authority on the years and portions not referred.  And, in any event, even for taxes recognized to be within the DOJ's sole authority to compromise, the IRS will usually make a recommendation that is likely to be a persuasive factor in DOJ Tax's action.

Now, there is a lot of nuance for the conclusion.  But, as it relates to Cantrell, there may have been some IRS compromise authority and hence the absence of the exercise of that authority might permit some inferences.

Readers wanting to pursue this matter further might want to review the following IRM provisions (as well as the links offered above):

• IRM 5.8.1.6.1  (05-05-2017), Tax Cases Controlled by Department of Justice
• IRM 5.1.5.17.6, Balancing Civil and Criminal Cases - Offers in Compromise (OIC) and Restitution 
• IRM 5.8.4.23.2, Offers in Compromise Submitted that Include Restitution.