Morse: Federal Income Tax (Spring2015)
I. Legislative Process
A. Budget Resolution (see Graph 1)
1. House
a) Art. 1 § 7: Tax legislation must originate in House of Reps.
b) Individual member may introduce à House Ways & Means Committee à Rules Committee (main vetogate) à Floor Debate & Amendments à Vote à Conference/Joint Committee on Taxation à House Passes à President Signs or Vetoes.
2. Senate
a) Individual member may introduce à Senate Finance Committee à Filibuster (main vetogate) à Substitute Bill à Cloture Vote à Floor Debate & Amendments à Vote à Conference/Joint Committee on Taxation à Senate passes à President Signs or Vetoes.
(1) Filibuster:
(a) Extended debate w/intention of killing a bill or forcing substantial changes in it
(b) Takes 60 votes to close debate and move forward.
3. Joint Committee
a) After the legislation has been passed, the Joint Committee prepares an explanation of the new law, referred to as the Blue Book.
b) The Blue Book is no, strictly speaking, legislative history, although many courts treat it like legislative history.
II. Administrative Process
A. Administrative Procedure Act (APA): federal statute that governs the way in which administrative agencies of the federal government may propose and establish regulations. The APA also sets up a process for the United States federal courts to directly review agency decisions.
B. Agencies = 4th branch
1. Art. I Legislature à Authorizing Statutes à Administrative Agencies
2. Art. II Executive à Appointment; Executive Orders à Administrative Agencies
3. Art. III Judiciary à Judicial Review à Administrative Agencies
III. Sources of Tax Law
A. Deference Issues
1. Mayo Foundation v. U.S. (2011)
a) Facts: The Federal Insurance Contributions Act (FICA) requires employees and employers to pay taxes on all “wages” employees receive, defining wages as “all remuneration for employment,” and employment as “any service performed by an employee for the person employing him.” FICA excludes any “service performed in the employ of a school, college, or university if such service is performed by a student who is enrolled and regularly attending classes.” In 2004, the Treasury Department issued a final regulation providing that an employee normally scheduled to work 40 hours or more per week is not a student.
b) Issue: Was the final regulation entitled to Chevron deference? Yes.
c) Chevron Deference Rule: If (1) Congress delegated authority to the agency to prescribes rules and regulations; and (2) the agency issued the rule with the force of law (i.e. notice and comment procedures), then the court will defer to the rule so long as it is based on a permissible or reasonable (not arbitrary) construct of the statute.
2. U.S. v. Mead (2001)
a) Facts: The Harmonized Tariff Schedule of the United Statues authorizes the United States Customs Service to classify and fix the rate of duty on imports. In particular, any of the 46 port-of-entry Customs offices and the Customs Headquarters Office may issues “ruling letters” setting tariff classifications for particular imports. Mead imports day planners. After classifying the planners as duty-free for several years, Customs Headquarters issued a ruling letter classifying them as bound diaries subject to tariff.
b) Issue: Whether a ruling letter is entitled to Chevron deference?
c) Holding: A Customs ruling letter has no claim to Chevron deference, but, under Skidmore, it is entitled to some deference according to its power to persuade.
d) Rule: Items of agency guidance w/the force of law receive Chevron deference. Items w/o the force of law receive consideration under the Skidmore power to persuade framework.
e) Discussion: Ruling letters are not preceded by notice and comment and do not carry the force of law (e.g., approx. 10,000 ruling letters are issued per year; there is no indication that the Customs Offices intend such letters to carry the force of law).
3. Factors Suggesting an Agency Decision Was (or Was Not) Issued with the Force of Law:
a) Agency Process: Was there notice and comment or significant deliberation?
b) Did Congress explicitly/implicitly grant power to promulgate rules w/ force of law?
c) How Does the Agency Present Its Guidance?
Chevron Deference: Policy Arguments
For
Against
1. Congressional intent: Whenever statutory ambiguity, Congress intends to delegate interpretive Q to agency.
2. Institutional competence: Agencies have more resources and knowledge than courts.
3. Conservation of Resources: By the same token, courts can’t afford to rewrite every piece of agency interpretation.
1. Need for Oversight: If agency guidance leads to penalties for noncompliance, then the public may become concerned by the lack of public input in the promulgation of such guidance.
.
B. Kinds of Tax Guidance, Roughly In Order
1. General Sources of Law:
a) Constitution (Chevron deference)
b) Internal Revenue Code (Chevron deference)
c) Final Legislative Regulations, Interpretive Regulations (Chevron deference, per Mayo)
(1) Treasury Regulations are Promulgated by the Treasury Department either under the general authority granted by Internal Revenue Code § 7805(a) or under a more specific grant of authority with respect to a particular provision.
d) Temporary, Proposed Regulations (possibly Chevron, but at least heightened Skidmore)
e) Revenue Ruling, Revenue Procedure (probably heightened Skidmore; Chevron unlikely)
(1) Revenue Ruling: Sets forth the IRS’s view as to how the Code applies to a hypothetical set of facts. Does not have a presumption of validity or correctness (unlike a regulation), and courts frequently reject IRS positions expressed in revenue rulings. But, any taxpayer may rely on a favorable revenue ruling unless and until the IRS revokes the ruling.
f) Private Letter Ruling, Technical Advice Memo (heightened Skidmore deference, per Mead)
(1) Private Letter Ruling: Taxpayer contemplating a major transaction of uncertain tax consequences may, for a fee, request a private letter ruling from the IRS. If IRS issues favorable ruling, the TP to whom the ruling is issued can rely on it, even if IRS later decides the legal analysis in it is wrong. TP can reject unfavorable ruling and proceed with the transaction, but should expect to be audited if he reports the tax consequences of a transaction inconsistently with an unfavorable ruling.
(2) Note: TP’s reliance on a private letter ruling or TAM issued to another TP is not protected.
g) General Counsel Memo
h) Agency Practice
2. Specific Adjudications:
a) Publicly Available
(1) SCOTUS Cases
(2) Court of Appeals Cases
(3) District Court/Tax Court Cases
b) Confidential
(1) IRS Appeals Decisions
(2) Results on Audit
C. Basics of Tax Litigation
1. Three forums for TP to litigate with the IRS after exhaustion of administrative remedies:
a) US District Court for District Where TP Resides
(1) TP can gain entry only by paying the tax and suing for a refund.
(2) If TP wins, gov’t must also pay interest to TP.
b) Court of Federal Claims
(1) TP can gain entry only by paying the tax and suing for a refund.
(2) If TP wins, gov’t must also pay interest to TP.
c) US Tax Court
(1) Allows TP to litigate without having first paid the tax.
(2) If TP loses, TP must pay deficiency AND interest at the “Federal short-term rate” plus 2%.
(3) Will defer to a circuit court ruling in the taxpayer’s circuit.
(4) No juries. If you have an emotionally appealing case, choose district court.
IV. Accuracy Standards and Preparation Penalties
A. Introduction: Possible Standards
1. Any Colorable Claim
2. Good Faith (ABA)
3. Reasonable Basis (§§ 6662, 6694; Circular 23
$1,000 or 50% of income from preparing the return.
b) Circular 230: advising a position that lacks a reasonable basis can yield suspension of the right to practice before the IRS (Proposed Circular 230 would have imposed liability on a preparer who advised a position lacking substantial authority, creating a discrepancy between preparer and taxpayer standards).
D. Accuracy Problems
1. Claudia (a): Claudia is an IC solving emergency problems for electrical utilities and travels extensively for work. When she prepared her FIT return last year, she deduction 100% of her expenses for meals and lodging while traveling in pursuit of her trade or business, but she kept no receipts and has very few records. If she is audited and some or all of her expenses are ultimately disallowed, could she be subject to a penalty under § 6662? Assume that if the deductions are disallowed, the understatement will be substantial within the meaning of § 6662(d)(1).
a) Claudia is subject to a penalty for negligence under § 6662(b)(1).
(1) Treas. Reg. 1.6662-3(b)(1): Negligence includes any failure by the taxpayer to keep adequate books and records or to substantiate items properly.
(2) Treas. Reg. 1.6662-3(b)(1)(ii): Negligence is strongly indicated where a taxpayer fails to make a reasonable attempt to ascertain the correctness of a deduction.
2. Claudia (b): Same facts as (a), except that a CPA prepared Claudia’s return, but never asked Claudia if she had any receipts or records.
a) Claudia is subject to a penalty for negligence under § 6662(b)(1). § 6664(c) unlikely to provide an adequate defense.
3. Claudia (c): Same facts as (a), except that Claudia has detailed receipts and records.
a) Claudia is still subject to a penalty for negligence under § 6662(b)(1). Now she has records and receipts but ignores them.
4. Claudia (d): Same facts as (c), except that a CPA prepared Claudia’s return and never asked about her receipts or records. The CPA simply accepted what she told him without further inquiry.
a) Claudia is still subject to a penalty for negligence under § 6662(b)(1).
5. Claudia (e): Same facts as (d), except that the CPA told Claudia that only 50% of her expenses for meals were deductible and asked if she had receipts. She replied that she had receipts and had actually spent twice the amount she had told the CPA to deduct for meals.
a) Claudia is still subject to a penalty, possibly for negligence, but possibly even for fraud.
6. Claudia (f): Same facts as (d), except that she provided the CPA complete receipts and records.
a) Claudia is not subject to a penalty for negligence. § 6664(c) applies because Claudia provided full records but her preparer made a mistake.
(1) Treas. Reg. 1.6664-4, Example 1: A engages B, a professional tax advisor, for advice concerning the deductibility of certain state and local taxes. A provides B with full details concerning the taxes at issue. A makes a deduction based on B’s advice. A has satisfied the good faith exception.
(2) Compare Treas. Reg. 1.6664-4, Example 2: C sought tax advice from D, a friend who was not a tax professional. The good faith exception does not apply.
