IRS Accused of Backdating Documents and Lying to the Tax Court

The IRS loves to demand paperwork. To file your 1040, you need to submit a copy of your W-2 (and it had better match what your employer reported on the W-3). Oh, and if you sold your Taylor Swift tickets, then don’t forget to include on Form 1099-K what you gained from the sale. Everything needs to be filled out and signed correctly. It’s how taxes work. 

But what happens when the IRS fails to file its own paperwork correctly? Worse, what happens when the IRS backdates a document and lies about it to a court? So far, nothing. But growing pressure may change that.

All of this has to do with 26 U.S.C. § 6751(b)(1), which requires an IRS supervisor to review and approve, with their signature, any imposition of tax penalties. This requirement was put in place by the Internal Revenue Service Restructuring and Reform Act of 1998, which was the direct result of important work led by NTU in highlighting IRS enforcement abuses and the need for reforms. No supervisor signature, no penalties. 

In yet another example of the collateral damage for all taxpayers resulting from the Internal Revenue Service’s protracted war against conservation easement tax deductions, the Lakepoint Land Group uncovered evidence that the IRS backdated the supervisor’s signature and then obstructed attempts to find out when the document was signed. Lakepoint then filed a lawsuit when the IRS dragged its feet on the Freedom of Information Act request for documents related to the incident. The dispute has been covered in Law360, TaxNotes, and Politico

Why is it important that IRS supervisors sign off on all penalties? The basic idea behind the signature requirement is that the IRS should not have a “maximum pain” enforcement strategy, but rather carefully consider the facts of each tax dispute. The IRS agents should weigh whether, and how much, to assess in each case. Requiring the supervisors to actively engage in the process is an important step in protecting taxpayers from abuse. The Senate Finance Committee worried that the IRS was using inflated initial penalty assessments as a “bargaining chip” in settlement negotiations. Mandating the supervisor agree to the initial penalty assessment is a  key procedural safeguard in the law to stop this strong-arm tactic.

But taxpayers rarely get a chance to prove that the IRS failed to comply with Section 6751. That’s because the courts have disallowed inquiry into whether this simple procedural requirement was met. The Tax Court in the Lakepoint case held that it “regularly decides section 6751(b)(1) questions on summary judgment on the basis of IRS records and declarations from relevant IRS officers.” The court just takes the government’s word for it. That’s outrageous. For its part, the IRS is now downplaying the incident as a simple error and claiming they corrected the record right away.

But another underlying issue is that the statute is unclear on the deadline for the supervisor to sign off on a penalty. In Lakepoint’s case, the Tax Court, applying the Eleventh Circuit’s decision in  Kroner v. Commissioner of Internal Revenue, held that the IRS need only get supervisory approval sometime before the formal assessment of penalties (i.e. ministerial recording of the liability). The Second Circuit, covering New York, is much more lax on the IRS–they can fix a missing signature all the way up until the Tax Court enters a final judgment. 

Without express statutory language on a deadline for the signature, the IRS has an open Notice of Proposed Rulemaking where it will assume all the advantages for itself in the law, and none for the taxpayer. The proposed language is a three tiered system, but at each stage, the IRS has the most flexibility for the supervisor to sign off, even after subjecting the taxpayers to costly litigation in Tax Court. The deadline for commenting on the IRS rulemaking is July 10, 2023.