Posted by: | June 12, 2015

NEW IRS Guidance Limits FBAR Penalties!

U.S. persons having a financial interest in or signature authority over one or more foreign financial accounts – including a bank account, brokerage account, mutual fund, trust, or other type of foreign financial account – having an aggregate value exceeding $10,000 at any time during 2014 is generally required by the Bank Secrecy Act to report their interest in the account by electronically filing by June 30, 2015, a “Report of Foreign Bank and Financial Accounts” (FBAR).[i]

Note that, by statute, these FBAR provisions apply to all U.S. persons and are not limited by the residency of the person since the laws of the U.S. are applicable to all U.S. citizens; U.S. residents; entities, including but not limited to, domestic corporations, partnerships, or limited liability companies created or organized in the U.S. or under the laws of the U. S.; and trusts or estates formed under the laws of the United States. Many non-U.S. residents feel that the FBAR requirements should be limited to U.S. persons residing in the U.S. since the “foreign account” of a non-resident U.S. person is typically located in their country of residence and, as such, is not “foreign” in the common sense of the term. This article merely addresses the statutory requirements without opining on the practical aspects associated with non-resident U.S. persons.

FAILURE TO FILE THE FBAR. The failure to timely file the FBAR can be subject to civil penalties and possibly criminal sanctions (i.e., imprisonment). The statutory civil penalties might be $10,000 per year for a non-willful failure but a willful failure to file could, by statute, be subject to civil penalties equivalent to the greater of $100,000 or 50% of the balance in an unreported foreign account, per year, for up to six tax years.[ii] Non-willful penalties might be avoided if there is “reasonable cause” for the failure to timely file the FBAR.

NEW INTERIM GUIDANCE LIMITING FBAR PENALTIES. The IRS recently issued interim guidance to implement procedures to improve the administration of the Service’s FBAR other than determinations arising from participation in the ongoing IRS Offshore Voluntary Disclosure Program or the Streamlined Filing Compliance Procedures.[iii] The statutory FBAR penalty provisions only establish maximum penalty amounts, leaving the IRS to determine the appropriate FBAR penalty amount below that threshold based on the facts and circumstances of each case. In this regard, IRS examiners are instructed to use their best judgment when proposing FBAR penalties, taking into account all the available facts and circumstances of a case.[iv]

(a). Willful FBAR Violations. For cases involving willful violations over multiple years, IRS examiners will recommend a penalty for each year for which the FBAR violation was willful. In most cases, the total penalty amount for all years under examination will be limited to 50 percent of the highest aggregate balance of all unreported foreign financial accounts during the years under examination. In such cases, the penalty for each year will be determined by allocating the total penalty amount to all years for which the FBAR violations were willful based upon the ratio of the highest aggregate balance for each year to the total of the highest aggregate balances for all years combined, subject to the maximum penalty limitation in 31 U.S.C. § 5321(a)(5)(C) for each year.

Examiners may recommend a penalty that is higher or lower than 50 percent of the highest aggregate account balance of all unreported foreign financial accounts based on the facts and circumstances. The IRS guidance provides that in no event will the total willful penalty amount exceed 100 percent of the highest aggregate balance of all unreported foreign financial accounts during the years under examination.

(b). Nonwillful Violations. For most cases involving multiple nonwillful violations, examiners are told to recommend one penalty for each open year, regardless of the number of unreported foreign financial accounts. In those cases, the penalty for each year will be determined based on the aggregate balance of all unreported foreign financial accounts, and the penalty for each year will be limited to $10,000.

For some cases, the facts and circumstances (considering the conduct of the person required to file and the aggregate balance of the unreported foreign financial accounts) may indicate that asserting nonwillful penalties for each year is not warranted. In those cases, examiners, with the group manager’s approval, may assert a single penalty, not to exceed $10,000, for one year only.

For other cases, the facts and circumstances (considering the conduct of the person required to file and the aggregate balance of the unreported foreign financial accounts) may indicate that asserting a separate nonwillful penalty for each unreported foreign financial account, and for each year, is warranted. In those cases, examiners, with the group manager’s approval, may assert a separate penalty for each account and for each year.

The IRS guidance provides that in no event will the total amount of the penalties for nonwillful violations exceed 50 percent of the highest aggregate balance of all unreported foreign financial accounts for the years under examination. A nonwillful penalty will not be recommended if the examiner determines that the FBAR violations were due to reasonable cause and the person failing to timely file correct and complete FBARs later files correct and complete FBARs.

(c). IRS Mitigation Guidelines. In determining the appropriate penalty, IRS examiners are to first determine whether the mitigation threshold conditions in Internal Revenue Manual[v] are satisfied. If the mitigation threshold conditions are met, examiners are to make a preliminary penalty calculation based upon the mitigation guidelines in IRM,[vi] except that the penalty for each year will be limited to $10,000. Unless the facts and circumstances of a case warrant a different penalty amount, this is the penalty amount to be asserted.

If the IRM mitigation threshold conditions are not met, the mitigation guidelines do not apply and examiners are told to not make a preliminary penalty calculation based upon the guidelines. Examiners, with the group manager’s approval, are told to assert a separate penalty for each account and for each year. However, the IRS guidance provides that in no event will the total amount of the nonwillful penalties exceed 50 percent of the highest aggregate balance of all unreported foreign financial accounts for the years under examination.

(d). Co-Owned Accounts. Where there are multiple owners of an unreported foreign financial account, the IRS guidance provides that examiners must make a separate determination with respect to each co-owner of the foreign financial account as to whether there was a violation and, if so, whether the violation was willful or non-willful. For each co-owner against whom a penalty is determined, the penalty will be based on the co-owner’s percentage ownership of the highest balance of the foreign financial account. If examiners are unable to determine a co-owner’s percentage ownership, the penalty will be based on the amount determined by dividing the highest account balance equally among the co-owners.

NO EXTENSION OF TIME TO FILE FBAR. There is no extension of time available for filing an FBAR beyond June 30. Extensions of time to file federal tax returns do NOT extend the time for filing an FBAR. If a delinquent FBAR is filed, attach a statement explaining the reason for the late filing.

NEED FBAR FILING HELP? Assistance regarding the electronic filing of an FBAR is available at or through the BSA E-Filing Help Desk at 866-346-9478. The E-Filing Help Desk is available Monday through Friday from 8 a.m. to 6 p.m (Eastern Time).

Help in completing an FBAR is available by telephone at 866-270-0733 (toll-free within the U.S.) or 313-234-6146 (from outside the U.S., not toll-free) from 8 a.m.—4:30 p.m. Eastern time, or by sending an e-mail to

Additional information, including Frequently Asked Questions, is available at—Filing-Requirements#FR5

[i] Financial Crimes Enforcement Network (FinCEN) Form 114.

[ii] 31 U.S.C. § 5321(a)(5) establishes civil penalties for violations of the FBAR reporting and recordkeeping requirements. 31 U.S.C. § 5321(b) sets forth the 6-year statute of limitations, determined whether the FBAR is filed or not; 31 U.S.C. § 5321(d) confirms that civil penalties and criminal sanctions may be imposed with respect to the same FBAR violation.

[iii] See Interim Guidance for Report of Foreign Bank and Financial Accounts (FBAR) Penalties, (May 13, 2015),  Control Number: SBSE-04-0515-0025;

[iv] See IRM, FBAR Penalties – Examiner Discretion.

[v] Internal Revenue Manual (IRM) and IRM

Posted by: | June 9, 2015

Reminder FBAR Electronic Filing Due by June 30, 2015

In Riggs v. Commissioner,[i] issued May 26, 2015, the Tax Court held that an Appeals officer did not abuse its discretion in denying the petitioner currently not collectible (CNC) status, for the amount the petitioner owed under IRC section 6672, the trust fund recovery penalty.  The Petitioner had timely requested a collection due process hearing when the IRS issued a final notice of intent to levy on petitioner’s personal assets and filed a federal tax lien.  The petitioner was liable for the trust fund recovery penalty relating to the petitioner’s failure to collect and remit payroll taxes on behalf of Amber Construction, Co., a corporation of which she was the owner and president.  The IRS had already filed a lien against the petitioner as the corporation’s nominee for the corporation’s employment tax liability, which attached to an office building the petitioner owned.

In the collection due process hearing, the petitioner argued to the Appeals officer that her account should be placed in CNC status, which is a collection alternative that suspends IRS collection efforts when the taxpayer has no apparent ability to make payments on the outstanding tax liability based on the taxpayer’ s assets, equity, income and expenses.[ii]  In Riggs, the taxpayer’s salary had been cut by the bankruptcy court, after the successor-in-interest corporation to Amber Construction had filed for bankruptcy.  The petitioner argued that her salary had been limited by the bankruptcy court to the minimum necessary to cover her basic expenses, leaving her with no disposable income with which to make payments on the trust fund recovery penalty.

The Appeals officer denied the petitioner’s request, on the grounds that although the petitioner’s income may have been limited, she had sufficient equity in assets she owned to be able to make payments on the liability.  In particular, the petitioner owned a boat (with her husband) and an office building.  In determining a taxpayer’s ability to pay, the IRS will consider assets that can be liquidated or borrowed against to satisfy the liability.[iii]

On appeal to the Tax Court, the Tax Court reviewed the Appeals officer’s denial of CNC status for abuse of discretion.  The petitioner argued that the Appeals officer erred in denying her CNC status, on the basis that although she had equity in her assets, the lien that had been filed by the IRS against her as a corporate nominee prevented her from being able to sell or borrow against these assets to satisfy the liability, and therefore they should not be considered in determining whether the petitioner’s liability was noncollectible.

The Tax Court rejected this argument, agreeing with the IRS that pursuant to the Internal Revenue Manual, federal tax liens do not decrease the value of a taxpayer’s equity in an asset for purposes of determining whether a liability is currently not collectible.   The court explained that collection potential and eligibility for collection alternatives should be based on the net realizable equity (“NRE”) in the petitioner’s assets, which takes into consideration only certain nontax liens under IRS policies.  Only liens that have a priority over a federal tax lien may be taken into consideration in determining what the “quick sale” price of the taxpayer’s asset would be in an NRE determination.[iv]   Because of the equity in the taxpayer’s assets, the Tax Court held that the Appeals officer’s denial of CNC status was not an abuse of discretion.

The Tax Court also rejected the taxpayer’s argument that other collection alternatives should be available to her, because the taxpayer had failed to argue for any other collection alternatives before the Appeals officer.  Under IRC section 6330(c)(2), a taxpayer may raise various collection alternatives in a collection due process proceeding.[v]  However, because the petitioner had not first raised the issue of other collection alternatives with the Appeals officer, the Tax Court would not consider them on appeal.

LACEY STRACHAN – For more information please contact Lacey Strachan at Ms. Strachan is a tax lawyer at Hochman, Salkin, Rettig, Toscher & Perez, P.C. and represents clients throughout the United States and elsewhere involving federal and state, civil and criminal tax controversies and tax litigation. Additional information is available at

[i] Riggs v. Comm’r, TC Memo 2015-98 (05/26/2015).

[ii] Id. (citing Wright v. Comm’r, T.C. Memo. 2012-24 & Fangonilo v. Comm’r, T.C. Memo. 2008-75).

[iii] See Internal Revenue Manual (08-25-2014) (“An account should not be reported as CNC if the taxpayer has income or equity in assets, and enforced collection of the income or assets would not cause hardship.”).

[iv] The Tax Court relies on Internal Revenue Manual (Oct. 22, 2010).

[v] Other collection alternatives include the posting of a bond, the substitution of other assets, an installment agreement, or an offer-in-compromise.  IRC § 6330(c)(2)(A)(iii).

We recently posted an article regarding the Tax Court’s recent decision in Eaton Corp v. Comm’r, No. 5576-12, where the Tax Court found the taxpayer waived attorney client privilege and work product doctrine protections when it asserted a reasonable cause/good faith penalty defense. More recently, in United States v. Sanmina Corp., No. 5:15-cv-00092 (2015 U.S. Dist. LEXIS 66123), a District Court in California refused to enforce an IRS summons finding the requested documents—two memoranda prepared by the taxpayer’s tax department lawyers—protected by the attorney-client privilege and work product doctrine.

The taxpayer took a worthless stock deduction of $503 million.  One of the documents the taxpayer submitted to the IRS to substantiate the deduction was a 102-page valuation report prepared by outside counsel. A footnote in the report referenced the memoranda at issue: “Guarantee and Capital Contribution Agreement Concerning Sanmima International AG” and “Stock and Debt Losses on Swiss-3600,” both of which were prepared by the taxpayer’s tax department lawyers. The IRS issued a summons and the taxpayer refused to comply, claiming the memoranda were protected by attorney client privilege and the work product doctrine.

Section 7602 of the Internal Revenue Code authorizes the IRS to examine records, issue summonses and take testimony for the purposes of ascertaining the correctness of any return, making a return where none has been made, determining the liability of any person for any internal revenue tax, or inquiring into any offense connected with the administration or enforcement of the internal revenue laws. The court stated the four-part Powell rule for enforcing an IRS summons:

“To enforce a summons, the IRS need only make a prima facie showing that (1) an investigation is being conducted for a legitimate purpose; (2) the information sought may be relevant to that purpose; (3) the information sought is not already within the IRS’ possession and (4) the administrative steps required by the Internal Revenue Code have been followed.”

The court noted that taxpayers challenging a summons have a “heavy” burden to negate the good faith purpose of the investigation or show that the enforcement would amount to an abuse of the court’s process, but that the IRS’s power to obtain information by summons is not absolute and is limited by attorney client privilege and work product doctrine. If the IRS claims the privilege was waived, it bears the burden of production on the issue of waiver. If the IRS meets its burden on the waiver issue, the burden shifts back to the taxpayer to prove the privilege was not waived.

The court stated that for privilege purposes, there is no difference between legal advice and tax advice on compliance, so long as the advice goes beyond mere tax preparation and calculations. A document does not lose protection merely because it is created to assist with a business decision.  The court reasoned that a tax analysis prepared in anticipation of a possible IRS audit may constitute work product, even if that material also assisted in making a business decision.

Both of the memoranda at issue in Sanmina were prepared by the taxpayer’s in-house tax lawyers and distributed to the taxpayer’s internal tax team and outside accountants. The court discussed the content of the memoranda in determining whether they were protected, but declined to conduct an in camera review of their content.  The memorandum entitled “Guarantee and Capital Contribution Agreement Concerning Sanmina International AG” discussed legal analysis supporting the execution of certain agreements among the taxpayer and its subsidiaries, including the tax treatment of the agreements. It included citations to and analysis of IRS letter rulings and Tax Court decisions. The memorandum entitled “Stock and Debt Losses on Swiss-3600,” analyzed the tax effect of the liquidation of Sanmina International AG, containing a short factual discussion and lengthy legal analysis of the liquidation. It included citations to revenue rulings, tax code provisions, tax court decisions and one U.S. Supreme Court decision.

The court concluded that although the IRS made the required four-part Powell showing for enforcement of the summons, the attorney client privilege and work product doctrine protections attached and were not waived. The court found that the attorney client privilege attached because the taxpayer showed “the memoranda constituted tax advice from lawyers to Sanmina—not merely preparation of tax returns or number crunching…Both memos contain legal analysis, were prepared by Sanmina’s tax department lawyers, and were provided confidentially to company personnel who had a need for legal advice.” The court found that the taxpayer did not waive privilege by producing the valuation report that cited the memoranda even though the valuation report relied on the memoranda and the outside counsel preparing the valuation report sometimes provided non-legal services to the taxpayer.

The court applied a “because of” standard in determining that the memoranda were protected by the work product doctrine. Although the memoranda were not prepared during an audit or litigation, the analysis supported the worthless stock deduction, the size of which made it reasonable for the taxpayer to anticipate an IRS challenge to the deduction.   The court also concluded that the taxpayer did not waive its work product doctrine protection by disclosing the memoranda to its outside counsel because the valuation report merely referenced the memoranda, rather than summarizing them.

The court held the memoranda were protected by the attorney client privilege and work product doctrine and denied the IRS’s petition to enforce its summons. Although the Tax Court has held that raising the reasonable cause/good faith defense waives attorney-client privilege and work product doctrine, a full analysis of waiver is still required in the context of summons enforcement.

KRISTA HARTWELL – For more information please contact Krista Hartwell at or 310.281.3200. Ms. Hartwell is a tax lawyer at Hochman, Salkin, Rettig, Toscher & Perez, P.C. and represents clients throughout the United States and elsewhere involving federal and state, civil and criminal tax controversies and tax litigation. Additional information is available at

In Eaton Corp. v. Comm’r, No. 5576-12, the Tax Court recently granted the government’s Motion to Compel Production of Documents where the taxpayer asserted a reasonable cause/good faith defense, finding that the taxpayer waived the privilege to protect the documents from disclosure.

In Eaton, the taxpayer opposed the government’s Motion to Compel Production of Documents, arguing that the documents were protected from discovery by the attorney-client privilege, the federal tax practitioner privilege under Code section 7275, and/or the work product doctrine. The documents consisted of the taxpayer’s internal emails, memos, and data compilations prior to entering into an advance pricing agreement with the IRS.  The taxpayer stated that the documents “generally were prepared by its internal and external tax advisors or counsel in the course of adversarial administrative proceedings with the IRS, and reflect confidential communications made by [the taxpayer] for the purpose of obtaining tax or legal advice.” The government argued that the documents were not protected from discovery and even if they were, the taxpayer waived any privilege or protection by asserting that it had reasonable cause for and acted in good faith in reporting its tax liability.

The Court noted that documents that are protected from disclosure by a privilege are beyond the scope of discovery pursuant to Tax Court Rule 70(b) and that in resolving privilege disputes, the Tax Court applies relevant holdings of the Court of Appeals for the DC Circuit. The party asserting privilege bears the burden of establishing that the privilege applies, and once the privilege is established, the party asserting an exception to the privilege bears the burden of showing the exception should apply.

The Court analyzed the documents and concluded that although the documents were protected under the work product doctrine and the attorney-client and tax practitioner privileges, the taxpayer waived work product doctrine and the attorney-client and tax practitioner privilege protections. The Court noted that taxpayers can, in some circumstances, involuntarily forfeit privileges for matters that are pertinent to factual claims made by taxpayers. Courts decide on a case-by-case basis whether fairness requires disclosure of otherwise privileged communications.

The Tax Court relied on its own recent decisions, which adopted the approach of determining whether an implied waiver of privilege occurred.  In a recent decision, the Tax Court found that taxpayers can waive privilege when they put into to issue their subjective intent, good faith, and state of mind in complying with the law and that the Section 6664 reasonable cause defense puts such issues into contention.  The Tax Court also noted that several courts have held that the privilege is waived where a party claims that it acted on a good faith belief that its conduct was reasonable and legal.

The Tax Court analogized the facts in Eaton, where the taxpayer alleged that it was not liable for accuracy related penalties because it had reasonable cause and acted in good faith in reporting its tax obligations, to the facts in the Tax Court’s recent decision in AD Inv. 2000 Fund LLC v. Comm’r, 142 T.C. 248 (2014), in which the Tax Court held that the taxpayer waived privilege by raising the Code section 6664 reasonable cause defense. The Court concluded that its analysis in AD Inv. 2000 Fund v. Comm’r was controlling in Eaton. The Court reasoned:

“Recognizing that a reasonable cause/good faith defense under section 6664(c) is dependent upon a review of all the pertinent facts and circumstances, petitioner’s reliance on the reasonable cause/good faith defense in this case, and the averments in the petition related thereto, call into question a number of factual issues including (but not limited to) petitioner’s knowledge and understanding of the pertinent legal authorities governing APAs and the application of those legal authorities to the relevant facts, whether petitioner provided its attorneys and tax practitioners with accurate information and all of the facts material to its APA request and the negotiations related thereto, and whether petitioner abided by the advice that it received from its attorneys and tax practitioners. Petitioner’s communications with its attorneys and tax practitioners may be the only probative evidence of the state of mind or knowledge of the persons who acted on its behalf and those communications may tend to show, among other material facts, whether those persons in fact considered the APAs to be binding and valid…”

The Court held that the taxpayer waived the privilege to withhold the documents under the Court’s review, noting that the taxpayer’s reasonable cause/good faith defense put into contention the subjective intent and state of mind of those who acted for the taxpayer and the taxpayer’s good faith efforts to comply with the tax law.  The Court also reasoned that it would be unfair to deprive the government of knowledge of the legal and tax advice the taxpayer received. The Court granted the government’s Motion to Compel Production of Documents.

As an obstacle to the investigation of the truth, privileges are often strictly confined within the narrowest possible limits consistent with the logic of its principle. To become privileged, a communication must be made in confidence. To remain privileged, the communication must remain confidential. A disclosure of confidential communications to third parties, including government agencies (i.e., tax returns), constitutes a waiver both as to the disclosed communication and as to other communications relating to the same subject or transaction (“opening the door”).

If otherwise privileged communications are utilized in a manner inconsistent with maintaining their confidentiality, the privilege may be deemed to have been waived. As a general rule, disclosure of privileged communications to a person outside the attorney-client relationship manifests indifference to confidentiality and waives the protection of the privilege. The primary determination is whether there has been an objective attempt to safeguard the confidential nature of the communications.

Taxpayers and practitioners must carefully protect all potentially available privileges from both direct and inadvertent waivers. Eaton held that assertions of reasonable cause for and acting in good faith in reporting a tax liability as a penalty defense served to open up what might otherwise be deemed privileged communications that occurred between the taxpayer and its lawyer/tax practitioner advisors.

KRISTA HARTWELL – For more information please contact Krista Hartwell at or 310.281.3200. Ms. Hartwell is a tax lawyer at Hochman, Salkin, Rettig, Toscher & Perez, P.C. and represents clients throughout the United States and elsewhere involving federal and state, civil and criminal tax controversies and tax litigation. Additional information is available at

Posted by: | May 15, 2015

IRS Audit Techniques Guides

Historically, Internal Revenue Service examiners were assigned to audit taxpayers in many different industries. On one day, an examiner audited a grocery store and on the following day the examiner may have audited a computer retailer or a medical doctor. As a result, experience gained in one audit did not significantly enhance the examiner’s experience for purposes of conducting other audits. More recently, the IRS has been attempting to identify and reduce non-compliance through efficiency, tax form simplification, education, and enforcement. In addition, the IRS has significantly modified its examination process in a manner designed to increase the available resources and experience of its examiners.

IRS Audit Techniques Guides (ATGs). The ATGs focus on developing highly trained examiners for a particular market segment or issue. A market segment may be an industry such as construction or entertainment, a profession like attorneys or real estate agents or an issue like passive activity losses, hobby losses, litigation settlements or executive compensation – fringe benefits. These guides contain examination techniques, common and unique industry issues, business practices, industry terminology, interview questions and procedures and other information to assist examiners in performing examinations.

The ATGs have significantly improved audit efficiency and compliance by focusing on taxpayers as members of particular groups or industries. These groups have been defined by type of business (artists, attorneys, auto body shops, bail bond industry, beauty shops, child care providers, gas stations, grocery stores, entertainers, liquor stores, pizza restaurants, taxicabs, tour bus industry, etc.), technical issues (passive activity losses, alternative minimum tax), and types of taxpayer or method of operation (i.e. cash intensive businesses). As examiners focus on the tax compliance of a particular industry, they have gained experience on specific issues to be examined for a particular type of business, whether or not the issues are set forth on a tax return. Examiners often spend the majority of their time auditing taxpayers in the particular market segment for which the examiner has become a specialist. Some may specialize in examining the construction industry while others may specialize in examining restaurants.

IRS examiners are routinely advised about industry changes through trade publications, trade seminars and information sharing with other examiners. As such, there is an increased understanding of the market segment, its practices and procedures, and the appropriate audit techniques required to identify issues unique to the market segment under examination. Utilizing an ATG, examiners attempt to reconcile discrepancies when income and/or expenses set forth on a taxpayer’s return are inconsistent with a typical market segment profile or where the reported net income seems inconsistent with the standard of living prevalent in a geographical area where the taxpayer resides. As a result, information and experience gained through the examination of returns for other taxpayers becomes the barometer for judging the accuracy of a particular return under examination.

Issues are continually being identified by their unique features requiring specialized audit techniques, technical or accounting knowledge, or the need to comprehend the specific business practices, terminology and procedures. The IRS has published numerous ATGs, including attorneys, auto body/repair shops, bail bondsmen, beauty/barber shops, car washes, child care providers, check cashing establishments, childcare businesses, construction contractors, farmers, restaurants and bars, various segments of the entertainment industry (motion picture/television, athletes and entertainers, music), garment industry, gasoline distributors, grocery stores, insurance agencies, jewelry dealers, liquor stores, mobile food vendors, parking lot operators, pizza parlors, real estate agents/brokers, real estate developers, recycling businesses, scrap metal businesses, taxicabs, the trucking industry, direct sellers and auto dealers.

Once the IRS identifies a particular market segment project, an audit group may develop an ATG based upon the market segment’s unique business activities. The audit guides are used by examiners to develop a pre-audit planning strategy. The ATGs explain the nature of each respective market segment or industry, the type of documentation that should generally be available, and the nature and type of information to search for during a tour of the business premises. They identify potential sources of additional income not otherwise readily apparent from the type of business activity being examined. Copies of many of the ATGs are available at,,id=108149,00.html

The ATGs identify issues to be raised during an audit interview with the business owner/operator, including the need for a detailed discussion about internal controls (weak internal controls in a small business environment does not preclude the necessity of determining the reliability of the books and records since every taxpayer has a method of conducting business and safeguarding business operations), source of funds utilized to start the business, a complete list of suppliers, identification or business records that might be available and the individual that maintains the business records. The examiner will also explore the manner of business operations, including the hours and days it is open, the number of employees, the responsibilities of each employee, identification of the individual that maintains control over inventory (beer, wine, etc.), cash and credit card receipts, and the cash register tapes. Examiners are advised to search out payments of non-business or personal living expenses by the owner/operator from the business operations.

Specific Industry Applications of Audit Techniques. IRS examiners are advised to make specific inquiries based on the type of taxpayers under examination. For example, in the retail liquor industry, examiners are advised to search for off-book inventory including purchases outside of the liquor distributor, i.e. local wholesaler, bottle redemption and check cashing as well as contacting for check with local/state beverage department for pending or completed investigations involving taxpayer and/or known suppliers of the taxpayer. For pizza restaurants, examiners are cautioned to reconcile the difference of the number of boxes sold verses the number of boxes used (less some account for spoilage boxes) as possible additional unreported sales. For gasoline service stations, examiners are advised use the indirect mark-up method of determining income (gallons purchased multiplied by the average selling price as representing total sales) and inquire about imaging reimbursements, incentive agreements, accommodations, blending and rebates.

For restaurants and bars, examiners are advised to inquire about rebates to franchisees from suppliers, compare restaurant averages (sales v. cost), reported net profits as compared to the industry average, spillage, whether “point of sales” machines, using bar averages (pour) to calculate income, etc. With respect to grocery stores, examiners are advised to search for potential sources of unreported income that might include coupon processing rebate fees, cash discounts from vendors, rebates from vendors, receipt of high dollar promotional items from vendors, use of vending machines (i.e. newspaper), pinball machines/arcade games, bottle/can redeeming, money orders, credit card sales, food stamp sales and prepaid telephone cards.

Cash Intensive Businesses. ATGs are designed to focus IRS examiners on the typical methods of operation for businesses operating within a particular market segment. For example, with respect to cash intensive businesses, the audit guides identify the potential for skimming in liquor stores, pizza restaurants, gas stations, retail gift stores, auto repair shops, restaurants and bars.

Since certain businesses do not always deposit all of their cash receipts, the Cash Intensive Business ATG provides various methods by which an examiner may be able to reconstruct total gross receipts and expenditures. Cash intensive businesses may not have much documentation available to verify gross receipts. Purchases may be paid in cash and the purchase invoices may not be retained. Employees may also be paid in cash in order to attempt to avoid payroll taxes.

The most significant indicator that income has been underreported is a consistent pattern of losses or low profit percentages that seem insufficient to sustain the business or its owners. Other indicators of unreported income include a life style or cost of living that can’t be supported by the income reported; a business that continues to operate despite losses year after year, with no apparent solution to correct the situation; a Cash T shows a deficit of funds; bank balances, debit card balances and liquid investments increase annually despite reporting of low net profits or losses; accumulated assets increase even though the reported net profits are low or a loss; debt balances decrease, remain relatively low or don’t increase, but low profits or losses are reported; a significant difference between the taxpayer’s gross profit margin and that of their industry; and unusually low annual sales for the type of business.

If the examiner believes the business may not be reporting all of its income, the examiner may issue a summons to suppliers and other third-parties for records of sales or deliveries to the business, including original purchase invoices, during the period under examination. The examiner may then mark-up the purchases by a reasonable amount based upon ATG industry standards to determine what are known as the audited sales for the business. Absent a reasonable explanation for a discrepancy between audited sales and reported sales, the IRS will determine income tax adjustments (and maybe penalties) based upon the discrepancy.

The ATGs acknowledge that “chain” or “franchise” businesses may not participate in skimming to the same extent due to the somewhat intensive internal controls typically required in their operations. Internal controls are often stronger in franchises due to independent audits and verifications performed by the franchisor. Typically, the franchise fee is based on the gross revenue of the business. The franchisee usually must buy products from the franchisor to maintain the franchise. The franchisor also requires maintenance of certain books and records in a format determined by the franchisor and may conduct audits of the franchise operations.

Typical Interview Questions Addressing Accumulated Funds. Taxpayers often assert that unexplained amounts represent accumulations of wealth over a period of time. The examiner can be anticipated to interview the taxpayers regarding their assertions. Common questions include whether the taxpayer keeps more than $1,000 on your person, at your home, at your business, or in any other location?1 What do the accumulated funds consist of? (For example, paper money, coin, money orders, cashier checks, etc.). In what denominations were the funds accumulated? Where are the accumulated funds maintained? How long have the accumulated funds been kept in the foregoing location? What kind of container were the accumulated funds kept in?

Further questions could include how much in accumulated funds did the taxpayer have on hand at the beginning of the year under audit? At the end of the year under audit? How much in accumulated funds does the taxpayer have on hand presently? Over what period of time were the funds accumulated? Do the accumulated funds solely belong to the taxpayer or does it belong to more than one person? Identify each person having ownership of these accumulated funds. Do any of the other owners have access to these accumulated funds? Identify the increase or decrease in accumulated funds for each access. Determine whether each person obtaining access was accompanied by another person. If so, provide the name and relationship of such person(s). Identify the type of records kept to identify the name(s), date(s) and effect on the accumulated funds each time there was an access.

Why were the funds accumulated and not deposited in a financial account? What is the original source of the money included in the accumulated funds? How often are the accumulated funds accessed? What is the effect of each access? Are there additions or withdrawals from the accumulated funds? Was the taxpayer accompanied by another individual when the accumulated funds were accessed? If yes, provide the name and address of the persons involved. Does the taxpayer count the accumulated funds every time they are accessed? If not, provide the dates and purpose for when the funds were counted. Does anyone else know about the accumulated funds? If yes, provide the name, relationship, address, and phone number for the person. Also determine whether these persons have access to the accumulated funds and if so, the manner and circumstances under which their access was made.


Posted by: | May 1, 2015

Clinton Foundation to File Amended Returns, Should You?

The Clinton Foundation recently announced that it will be amending various previously filed annual information returns to, at least in part, reflect donations on a specific, rather than consolidated, basis.[1] IRS Form 990, “Return of Organization Exempt From Income Tax,” is an annual information return filed by organizations exempt from income tax under Internal Revenue Code section 501(a) and 501(c)(3). In certain situations, a central exempt organization can aggregate data from subordinate organizations and report the aggregate information on a consolidated Form 990.[2]

Apparently, the decision to amend various Clinton Foundation returns was, in part, prompted by a review of the Foundation’s otherwise publically available Forms 990 by the Reuters news agency.[3] Reuters news agency reported that the Clinton Foundation was under-reporting or over-reporting donations from foreign governments and in other cases omitting to break out government donations entirely when reporting revenue. In general, all information an exempt organization reports on its Form 990, including various schedules and attachments, must be available for public inspection,[4] although information regarding donors and contributors is not generally available for public inspection.[5]

Did the Clinton Foundation’s tax forms have major errors that resulted in “under- and over-reporting, by millions of dollars” as reported by Reuters? In a statement on its website, the Clinton Foundation responds “No. Total revenue was reflected accurately on each year’s tax form, and there was no under-reporting or over-reporting. We are in the midst of conducting a voluntary external review process and will determine whether to re-file after that process is completed. As far as we know, the only error on our tax forms was that government grants were mistakenly combined with all other contributions for three years. These grants were properly listed and broken out on audited financial statements and donors also were included on the annual donor listing. All total revenue and expenditures on these forms were accurate but as we are committed to transparency and accountability and as such, we expect to re-file.”[6]

If the foregoing is correct, it would appear that the Forms 990 were substantially accurate but the issue relates to consolidating rather than specifically identifying certain donor information. There is no information indicating that the aggregate amount of reported contributions was somehow inaccurate.

Is there any legal duty to correct an error on a previously filed tax return? Taxpayers are required to accurately report their income and deductions on a timely filed return.[7] However, there is absolutely no statutory requirement to file an amended return after an error or omission is discovered on a previously filed tax return. As stated by the U.S. Supreme Court in Badaracco v. Commissioner, an amended return is a “creature of administrative origin and grace” – neither the Code nor the underlying Treasury Regulations require a taxpayer to correct errors discovered in a previously filed tax or information tax returns.[8]

The return preparation and filing process is complex and cumbersome, to say the least. Information must often be obtained from numerous sources, reviewed and coordinated into a return subject to strict filing deadlines. Congress has forever considered tax simplification targeted at reducing taxpayer burden associated with this process. In this process, it is not uncommon for good faith mistakes to occur – whether by oversight, mathematical miscomputations, erroneous legal or factual assumptions, improper characterization of certain items, etc. In such situations, the Treasury Regulations provide that taxpayers “should” (rather than “shall” or “must”) file amended returns in certain circumstances.[9] If an amended return is filed, it must be as accurate as possible in all respects.

The timely filing of an amended return (a “Qualified Amended Return” or “QAR”) may encourage the waiver of potentially applicable penalties otherwise associated with whatever errors are set forth in a previously filed return.[10] A QAR effectively eliminates accuracy-related penalties by removing amounts shown on the amended return from the penalty calculation.

Significantly, even if timely, an amended return does not qualify as a QAR if the errors that are corrected in the amended return relate to a fraudulent position on the original return.[11] Why? In a voluntary compliance system of tax administration, taxpayers should be encouraged to voluntarily amend material errors in previously filed returns, even returns that for some reason may be deemed to include fraudulent positions

Does the return preparer have a duty to amend the return? A practitioner must advise a taxpayer if an error is discovered on a previously filed return.[12] Section 10.21 of Treasury Circular 230 provides that the practitioner must advise the taxpayer of a discovered error and of any consequences associated with the error in the return. However, the ultimate decision as to whether to actually file an amended return correcting any such error rests solely with the taxpayer. “Best practices” suggest that the practitioner render advice regarding methods of avoiding avoid accuracy-related penalties under the Code if the taxpayer acts in reliance upon such advice.[13]

Impact upon the current year? Even if an amended return is not filed to correct an error in a previous year, the current and subsequent years’ returns must be accurate. A practitioner is presumed to have exercised the requisite due diligence with respect to the preparation of a return if the practitioner relies in good faith on the work product of another person. The practitioner should establish relevant facts and the reasonableness of any assumptions or representations, apply the applicable law (including potentially applicable judicial doctrines) to the relevant facts, and arrive at a conclusion supported by the law and the facts.

A practitioner may generally rely in good faith without verification upon information furnished by the taxpayer. However, the practitioner may not ignore the implications of information furnished to, or actually known by, the practitioner, and must make reasonable inquiries if the information as furnished appears to be incorrect, inconsistent with an important fact or another factual assumption, or incomplete.[14] There remains a duty of inquiry if the information appears questionable.

Impact on the statute of limitations? Contrary to popular belief, filing an amended return does not extend the applicable period within which the IRS must determine the accuracy of the originally filed return. If errors in the original return are not changed, the general three-year statute of limitations will generally apply. Thereafter, the IRS may no longer determine an additional liability. A six-year statute of limitations applies if the taxpayer omits more than 25% of the income that is reported. In the case of a fraudulent return or if a return is simply not filed, the IRS may assess an additional liability at any time. If the applicabl e statute of limitations expires, the IRS may no longer assess an additional liability for the year involved. However, it must be noted that these statutes of limitations are subject to extension, voluntarily and otherwise.[15]

There is no statutory duty to amend a previously filed return. While it might be advisable to file an amended return, it is not mandatory. The practitioner must advise the taxpayer of errors discovered within a previously filed return and should render advice regarding how to possibly avoid potential penalties associated with such errors.

If the name “Clinton” was not associated with the Clinton Foundation, the consolidation of donor information might be deemed inconsequential not otherwise suggesting an amendment of already filed returns. However, if the taxpayer is an organization affiliated or previously affiliated with a former U.S. President and one or more potential future U.S. Presidents, the organization would likely be advised to amend even the most insignificant errors in its recently filed information returns. Others should balance the materiality of the underlying errors, potential consequences associated with amending the returns (or not), and other relevant facts. Current and future returns must be accurate, whether the earlier returns are amended or not.


[2] The Foundation’s subordinate Clinton Health Access Initiative (CHAI) is apparently also considering amending recently filed Forms 990.

[3] Some have asserted that, among other issues, in relevant years, the Clinton Foundation either filed and obscured consolidating financial information or elected to cease filing consolidating financial information. See

[4] Internal Revenue Code section 6104(b); See IRS Form 4506-A (Request for Public Inspection or Copy of Exempt Organization IRS Form) and

[5] Id.


[7] Filing Past Due Tax Returns, available at

[8] See the U.S. Supreme Court decision in Badaracco v. Commissioner, 464 U.S. 386, 393 (1984) (the filing of an amended return does not start the running of the three-year statute of limitations if the original return was fraudulent. The Court noted that although Treas. Regs. 301.6211-1(a), 301.6402-3(a), 1.451-1(a), and 1.461- 1(a)(3)(i) refer to an amended return, none of them requires the filing of such a return) ; see also Broadhead, TCM 1955-328, affirmed  254 F.2d 169 (CA-5, 1958) (no Regulation requires the filing of amended returns); GCM 35738, 3/21/74 (there is no statutory authority for filing or accepting amended returns).

[9] See, e.g., see Treas. Reg.§ 1.451-1(a) (“If a taxpayer ascertains that an item should have been included in gross income in a prior taxable year, he should, if within the period of limitation, file an amended return and pay any additional tax due.”) and Treas. Reg.§ 1.461-1(a)(3) (“if a taxpayer ascertains that a liability was improperly taken into account in a prior taxable year, the taxpayer should, if within the period of limitation, file an amended return and pay any additional tax due.”); see also Badaracco, 464 U.S. at 392 (citing Hillsboro Nat’l Bank v. Comm’r, 460 U.S. 370 (1983).

[10] Treas. Reg. § 6664-2(c)(3).

[11] Id.

[12] Treasury Circular 230, § 10.21

[13] Treasury Circular 230, § 10.33

[14] Treasury Circular 230, § 10.22 and § 10.33

[15] Internal Revenue Code section 6501

In Knudsen v. Commissioner, T.C. Memo 2015-69, the Tax Curt recently denied the IRS’s motion for summary judgment where the taxpayer challenged a proposed collection levy because the IRS failed to establish that it actually mailed the required notices of deficiency to the taxpayer.  The Tax Court concluded a trial is necessary to determine whether the IRS actually mailed notices of deficiency to the taxpayer.

The taxpayer failed to file 2004 and 2006 tax returns.  The IRS prepared substitute returns [see Code Section 6020(b)] reflecting a deficiency and alleged that it mailed notices of deficiency for 2004 and 2006 to the taxpayer by certified mail. The IRS kept a record of the certified mail numbers but had had no record of notices of non-delivery from the U.S. Postal Service. The taxpayer did not file a petition in Tax Court to challenge the notices of deficiency.  The IRS assessed the tax against the taxpayer and sent the taxpayer a notice of proposed levy regarding the assessed tax for the 2004 and 2006 tax years.

The taxpayer pursued a collection due process hearing requesting, among other things, that the IRS verify that its procedures were followed in connection with the assessments. The IRS Settlement Officer denied the taxpayer’s request for a collection due process hearing. The taxpayer then sent the Settlement Officer a letter claiming, among other things, that he disputes the underlying tax liabilities and penalties on the ground that the IRS never mailed to him and he never received notices of deficiency relating to the tax liabilities.  The Settlement Officer then ran a “Track and Confirm” search on the U.S. Postal Service’s website. The website confirmed that the 2004 notice of deficiency was delivered, but it did not indicate the full address it was delivered to, showing only the city, state and zip code of the delivery. The Track and Confirm website was unable to confirm whether or not the 2006 notice was delivered because the website only keeps tracking data for two years, and the notice was mailed more than two years before the Track and Confirm search was initiated. The Settlement Officer also obtained copies of  “substitute U.S. Postal Service Forms 3877.”  However, the forms did not indicate how many pieces of mail the U.S. Postal Service actually received from the IRS and were not signed manually or by stamp.

The Settlement Officer told the taxpayer that if he wanted to continue with a collection due process hearing, he should send all relevant information and documents to the Settlement Officer by the Settlement Officer’s stated deadline. The taxpayer did not respond to the Settlement Officer and the Settlement Officer issued a final adverse notice of determination sustaining the proposed levy relating to the 2004 and 2006 deficiencies. The taxpayer challenged the notice of determination under Section 6330 and the IRS filed a motion for summary judgment.

The Tax Court denied the IRS’s motion for summary judgment. The Tax Court stated,  “the key issue before us at this stage, which has been repeatedly raised by petitioner, is whether respondent ever mailed to petitioner the notices of deficiency on which respondent’s tax assessments and proposed levy are based. This is a question that involves not the amounts of petitioner’s underlying tax liabilities but rather the legality of the assessments made against him.  As explained, this issue has been repeatedly raised by petitioner and is inherent in the verification requirement of section 6330(c)(1); i.e., it is an issue raised by statute in every CDP case.”

The Tax Court noted that Section 6330(c)(1) places the burden on the IRS “to take the initiative and verify that a notice of deficiency was properly mailed to the taxpayer.” The Tax Court also reasoned that in deficiency cases, the IRS has the burden of proving by “competent and persuasive evidence that a notice of deficiency was properly mailed to a taxpayer” and that the same standard applies in collection due process cases.

The Tax Court identified the standard for proving that a notice of deficiency was mailed: “the Commissioner’s act of mailing may be proven by evidence of his mailing practices corroborated by direct testimony and documentary evidence. The Commissioner’s and the U.S. Postal Service’s compliance with established mailing procedures may raise a presumption of official regularity in favor of the Commissioner and may be sufficient, absent evidence to the contrary, to establish proper mailing of a notice of deficiency. If this presumption is not rebutted, the burden of going forward would shift to the taxpayer.” The Tax Court stated the taxpayer raised a factual issue and the IRS has filed to adequately address it because “a defective Form 3877 does not trigger the presumption of regularity,” and thus the IRS’s motion for summary judgment was denied.

KRISTA HARTWELL – For more information please contact Krista Hartwell at or 310.281.3200. Ms. Hartwell is a tax lawyer at Hochman, Salkin, Rettig, Toscher & Perez, P.C. and represents clients throughout the United States and elsewhere involving federal and state, civil and criminal tax controversies and tax litigation. Additional information is available at


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