Pro se petitioners James and Tina Loveland hit a home run in a CDP case that resulted in a formal Tax Court opinion, Loveland v. Commissioner, 151 T.C. No. 7 (September 25, 2018), here.  The Tax Court has three levels of opinions: 1) a formal Tax Court opinion, which is published in the Tax Court Reporter and has precedential value in future cases, 2) memorandum opinions which are not precedential although they are often cited by litigants; and 3) summary opinions, which are issued in cases where the amount in dispute is $50,000 or less and the taxpayer agrees to application of the Tax Court’s small case procedures.  Memorandum and summary opinions are not published by the Tax Court but are available on the Court’s website.  Formal Tax Court opinions comprise a fraction of all Tax Court opinions.  To merit a formal opinion, the Tax Court considered the Lovelands’ case to involve significant legal issues.  The issues under consideration are the scope of review by the Office of Appeals where the taxpayers had previously been afforded, but failed to avail themselves of, an opportunity to appeal a rejected collection alternative.

The Lovelands story is a sad commentary on life in what the news media calls “fly over America.”  The Lovelands live in Michigan.  During the 2008-2009 financial meltdown they lost their home in foreclosure.  Mr. Loveland developed heart problems and could no longer work.  Mrs. Loveland developed breast cancer.  As a result, they accrued over $60,000 in tax, penalties and interest for 2011-2014.  The IRS issued a notice of intent to levy under §6330.  In response, the Lovelands submitted an offer in compromise (OIC) to collections.  The OIC was rejected on the ground that there were no special circumstances and the Lovelands could full pay the tax.  They appealed the rejection and submitted an installment agreement request (“IA”).  They were told the IA could not be considered while they were appealing the rejection of the OIC, so they withdrew the appeal.

The Lovelands decided to get a loan to pay the tax down to under $50,000 so they could take advantage of the IRS’s streamlined processing of the IA request.  On the day they submitted the loan application the IRS filed a notice of federal tax lien.  The Lovelands filed a CDP request, seeking release of the lien because it disrupted their efforts to get a loan and caused economic hardship.  The Lovelands submitted their prior OIC with the attached financial information and their IA request.  The Lovelands pointed to Mr. Loveland’s health as a special circumstance.

Appeals rejected the request for lien release.  It rejected the IA request on the ground that the taxpayers failed to submit any financial information.  The Appeals Officer never looked at the OIC or the accompanying financial information and did not address the OIC, Mr. Loveland’s health or any special circumstances.  The Lovelands petitioned the Tax Court for review of Appeals’ determination.  The IRS moved for summary judgment.  Finding that the Commissioner had abused his discretion, the Court denied the motion.

The first issue was whether the IRS abused its discretion in failing to consider the OIC.  The IRS took the position that since the Lovelands discussed the OIC with a revenue agent and filed an appeal, which was withdrawn, there was a prior administrative proceeding that precluded consideration by Appeals.  Wrong, said the Tax Court.  Under §6330(c)(4)(A)(i),  an issue may not be considered in a CDP hearing if it “was raised and considered in a previous hearing under section 6320 or in any other previous administrative or judicial proceeding.”   Additionally, under the regulations, the taxpayer must have meaningfully participated in the hearing or proceeding.

The Tax Court held that while the Lovelands had an opportunity for prior Appeals Office review of the OIC, they did not avail themselves of that opportunity and, thus, the OIC was never actually considered in a prior administrative or judicial proceeding.  This was contrasted with disputing the underlying liability, which can only be considered if the taxpayer did not have an opportunity to challenge the liability.  Discussions and negotiations with a revenue officer do not cut the mustard.  Thus, in failing to consider the OIC during the appeal, the IRS abused its discretion.

The Tax Court also held that the IRS abused its discretion in failing to consider the IA on the ground that the Lovelands did not submit financial information.  The financial information was part of the OIC package that was submitted to, but never reviewed by, Appeals.  Appeals did not reject the financial information on the ground that it was incomplete or outdated.

Finally, the Tax Court addressed the IRS’s failure to consider whether extraordinary circumstances existed to justify the OIC due to Mr. Loveland’s poor health.  Although the Lovelands raised this issue before Appeals, it was not addressed or considered by Appeals.  In not considering and addressing the Lovelands’ economic hardship claim the IRS abused its discretion.

Effectively, three strikes and the IRS was out.  The case will ultimately go back to IRS Appeals to address the issues that it failed to previously address.


For more information please contact Robert S. Horwitz – or 310.281.3200   Mr. Horwitz is a principal at Hochman, Salkin, Rettig, Toscher & Perez, P.C., a former Assistant United States Attorney of the Tax Division of the Office of the U.S. Attorney (C.D. Cal) and represents clients throughout the United States and elsewhere involving federal and state, administrative civil tax disputes and tax litigation as well as defending criminal tax investigations and prosecutions. Additional information is available at


Since Mayo Foundation v United States, 562 US 544 (2011), the IRS has given lip service to the proposition that rules governing judicial review of administrative agency action apply to the IRS.  The Tax Court’s order granting the taxpayer’s summary judgment motion in Renka, Inc. v. Commissioner, Dkt. No. 15988-11 R (Aug. 16, 2018), here, shows that the IRS has yet to fully understand what that means.

Renka, Inc., petitioned the Tax Court to determine whether the ESOP that owned 100% of its stock qualified as a tax-exempt trust for tax years ending December 31, 1998, and subsequent plan years.  Renka was the exclusive agent for American Nutrition Corp. (ANC) in soliciting, negotiating and securing orders for ANC products.  The IRS’s determination had two stated bases: first, Renka and ANC were a controlled group under IRC §414(h) and second, Renka and ANC were an affiliated service group under IRC §414(m)(5).  If either were correct, then Renka and ANC would have to be considered together to determine whether non-highly compensated employees benefitted equally with highly compensated employees.

Initially, the IRS moved for summary judgment on the ground that ANC and Ranka were a controlled group in 1999.  The Tax Court denied the motion, holding that a) Renka and ANC were not a controlled group and b) under the Chenery doctrine (named after SEC v. Chenery Corp., 332 U.S. 194 (1947)), a court is required to judge an agency’s action by the grounds invoked by the agency at the time of the action rather than by after-the-fact rationalizations.  Since the IRS determination dealt with the year ending December 31, 1998, facts relating to 1999 could not be considered.

The parties then filed cross-motions for summary judgment.  Renka argued that its ESOP qualified in 1998.  The IRS argued that Renka and ANC were an affiliated service group based on facts relating to 1999.

The Tax Court denied the IRS motion and granted the taxpayers’ motion.  First, the Court noted that Chenery prevents the IRS from using facts from 1999 to uphold a determination for 1998.  The Court rejected the IRS’s argument that if it strips away all extraneous matter, the determination is correct.  According to the Court, this was like saying “if we ignore all the things he (IRS) did wrong, then he was right.”  The IRS admitted the grounds given in the determination letter were wrong.  The upshot: the determination an abuse of discretion.

Next, the Court held that the IRS could not justify its determination by claiming it was a “continuing determination” since it applied to all years because the determination was made for the 1998 tax year; if the ESOP didn’t qualify for 1998, it didn’t qualify in later years.

The Court also rejected the IRS’s argument that a proposed regulation supported its position.  Even if Chenery did not apply, the proposed regulation would have no more weight than an argument in a brief and, contrary to the IRS, the regulation did not state that marketing was tantamount to managing.  Additionally, the regulation was withdrawn in 1993, so that it couldn’t be relied on to justify the IRS’s action for the 1998 tax year.  There was no way the IRS could “edit the rationale he gave into something that isn’t an abuse of discretion.”

ROBERT S. HORWITZ – For more information please contact Robert S. Horwitz – or 310.281.3200   Mr. Horwitz is a principal at Hochman, Salkin, Rettig, Toscher & Perez, P.C., a former Assistant United States Attorney of the Tax Division of the Office of the U.S. Attorney (C.D. Cal) and represents clients throughout the United States and elsewhere involving federal and state, administrative civil tax disputes and tax litigation as well as defending criminal tax investigations and prosecutions. Additional information is available at


Taxpayers often find dealing with the IRS so stressful a root canal without anesthetic is preferable.  One couple may be able to recover emotional distress damages for the way they were treated by the IRS.  The taxpayers in Hunsaker v. United States, Dkt. No. 16-35991 (9th Cir. Aug. 30, 2018), here, filed a bankruptcy petition under chapter 13.  After the petition was filed, the IRS sent them routine collection notices.  The taxpayers responded by filing an adversary proceeding for violation of the automatic stay, seeking injunctive relief and emotional distress damages.  The Government conceded the violation of the bankruptcy automatic stay and argued that sovereign immunity barred emotional distress damages against the Government.  The Bankruptcy Court rejected the argument and awarded $4,000 in damages for emotional distress.  The district court reversed on the ground of sovereign immunity.  The taxpayers appealed to the Ninth Circuit, which reversed.

The Ninth Circuit framed the issue as one involving the interplay between Bankruptcy Code §§106(a) and 362(k).  Sec. 106(a) waives sovereign immunity “to the extent set forth in this section” including for monetary damages, but not punitive damages.  After a bankruptcy petition is filed Bankruptcy Code §362 imposes an automatic stay on various types of activities to collect a debt.  Sec. 362(k) allows a debtor injured by violation of an automatic stay to collect actual damages, including costs and attorney’s fees.

The Ninth Circuit reasoned that §106(a)’s waiver encompasses a money recovery for damages other than punitive damages.  Since damages for emotional distress are a form of monetary relief and are not punitive damages, they are covered by §106(a)’s waiver.  The Court had previously ruled that emotional distress damages are actual damages recoverable under §362(k).

The Court rejected the Government’s argument that “money recovery” is limited to restoring to the estate money unlawfully in the possession of the United States, finding this interpretation contrary to the statute’s plain text, which excludes only punitive damages.  The Court rejected the contrary holding of United States v. Rivera-Torres, 432 F. 2d 20 (1st Cir. 2005), believing that case misconstrued the effect of the 1994 amendment to §106(a).  In the Ninth Circuit’s view the “plain language of the statute is dispositive.”

The Court concluded “In sum, sovereign immunity does not preclude an award of emotional distress damages against the United States for willful violation of the Bankruptcy Code’s automatic stay.”  It remanded the case to the district court to consider the Government’s challenge to the merits of the taxpayer’s claim.

ROBERT S. HORWITZ – For more information please contact Robert S. Horwitz – or 310.281.3200   Mr. Horwitz is a principal at Hochman, Salkin, Rettig, Toscher & Perez, P.C., a former Assistant United States Attorney of the Tax Division of the Office of the U.S. Attorney (C.D. Cal) and represents clients throughout the United States and elsewhere involving federal and state, administrative civil tax disputes and tax litigation as well as defending criminal tax investigations and prosecutions. Additional information is available at



Posted by: Cory Stigile | September 18, 2018

How Long Should You Keep Tax-Related Records? by CORY STIGILE

The length of time you should keep a document depends on the action, expense, or event which the document records. Generally, you must keep your records that support an item of income, deduction or credit shown on your tax return until the period of limitations for that tax return runs out. For most taxpayers, the general recommendation is to retain copies of tax returns and supporting documents at least three years. Some documents should be kept up to seven years in case a taxpayer needs to file an amended return or if questions arise. Taxpayers should retain records relating to real estate for at least seven years after disposing of the property.

Health care information statements should be kept with other tax records. Taxpayers do not need to send these forms to IRS as proof of health coverage. The records taxpayers should keep include records of any employer-provided coverage, premiums paid, advance payments of the premium tax credit received and type of coverage. Taxpayers should keep these — as they do other tax records — generally for three years after they file their tax returns.

Whether stored on paper or kept electronically, taxpayers are urged to keep tax records safe and secure, especially any documents bearing Social Security numbers. Consider scanning paper tax and financial records into a format that can be encrypted and stored securely on a flash drive, CD or DVD with photos or videos of valuables.

Now is a good time to set up a system to keep tax records safe and easy to find when filing next year, applying for a home loan or financial aid. Tax records must support the income, deductions and credits claimed on returns. Taxpayers need to keep these records if the IRS asks questions about a tax return or to file an amended return.

Keep tax, financial and health records safe and secure whether stored on paper or kept electronically. When records are no longer needed for tax purposes, ensure the data is properly destroyed to prevent the information from being used by identity thieves.

The period of limitations is the period of time in which you can amend your tax return to claim a credit or refund, or the IRS can assess additional tax. Unless otherwise stated, the years refer to the period after the income tax return was filed. Returns filed before the due date are treated as filed on the due date. Filed tax returns can be helpful in preparing future tax returns and making computations if you file an amended return.

Period of Limitations that generally apply to income tax returns:

  1. Keep records for 3 years, if situations (4) and (5) below do not apply to you.
  2. Keep records for 3 years from the date you filed your original return or 2 years from the date you paid the tax, whichever is later, if you file a claim for credit or refund after you file your return.
  3. Keep records for 7 years if you file a claim for a loss from worthless securities or bad debt deduction.
  4. Keep records of gross income for 6 years, which is the statute of limitations for assessment where a return omits more than 25% of gross income or 25% of gross receipts of a trade or business. Examples where this can occur is reclassification of a related-party loan as income, constructive dividends, failure to report alimony, failure to report discharge of debt income, and failure to report income from a pass-through entity.
  5. Keep records indefinitely if have not filed a return.
  6. Keep employment tax records for at least 4 years after the date that the tax becomes due or is paid, whichever is later.

The following questions should be applied to each record as you decide whether to keep a document or throw it away.

Are the records connected to property? Generally, keep records relating to property until the period of limitations expires for the year in which you dispose of the property. You must keep these records to figure any depreciation, amortization, or depletion deduction and to figure the gain or loss when you sell or otherwise dispose of the property.

If you received property in a nontaxable exchange, your basis in that property is the same as the basis of the property you gave up, increased by any money you paid. You must keep the records on the old property, as well as on the new property, until the period of limitations expires for the year in which you dispose of the new property. 

What should I do with my records for nontax purposes? When your records are no longer needed for tax purposes, do not discard them until you check to see if you have to keep them longer for other purposes. For example, your insurance company or creditors may require you to keep them longer than the IRS does.

Caveats:  There is no statute of limitations on assessment where the taxpayer files a fraudulent return.  If the taxpayer was required to file reports relating to foreign assets or foreign transfers, the statute of limitations does not begin to run until those reports are filed.

CORY STIGILE – For more information please contact Cory Stigile –  Mr. Stigile is a principal at Hochman, Salkin, Rettig, Toscher & Perez, P.C., a CPA licensed in California, the past-President of the Los Angeles Chapter of CalCPA and a Certified Specialist in Taxation Law by The State Bar of California, Board of Legal Specialization. Mr. Stigile specializes in tax controversies as well as tax, business, and international tax. His representation includes Federal and state controversy matters and tax litigation, including sensitive tax-related examinations and investigations for individuals, business enterprises, partnerships, limited liability companies, and corporations. His practice also includes complex civil tax examinations. Additional information is available at

Long ago, some practitioners may have thought “PFIC” was a type of electric plaque removal devise.  OVDI changed all that.  Now we know it stands for “Passive Foreign Investment Company” and that special rules exist for determining taxable income from owning PFIC stock.  See §§ 1291 et seq.

Toso v Commissioner, 151 T.C. No. 4 (Sept. 4, 2018), here, addresses the six-year statute of limitations for assessing deficiencies due to a substantial understatement of gross income where gain from the sale of PFIC stock is involved and whether net PFIC losses can be offset against PFIC gains.  The taxpayers had an account at UBS in 2006, 2007, and 2008.  Their original timely filed returns did not report items relating to the UBS account.  They subsequently filed amended returns reporting items related to the UBS account.  On January 15, 2015, the IRS issued a statutory notice of deficiency for 2006, 2007 and 2008.  It determined that gain reported on the amended returns was from the sale of PFIC stock.  The taxpayers argued that the notices of deficiency were barred by IRC §6501(a)’s three-year statute of limitations on assessment.  The IRS contended that the six-year statute under IRC §6501(e)(1)(A)(i), for substantial understatements of gross income, applied.  The issues before the court were whether gains from the sale of PFIC stock are counted as gross income for purposes of the six-year statute of limitations and, if so, whether PFIC losses could be offset against PFIC gains.  The answers were no and no.

The Tax Court began with the definition of “gross income.”  Gross income for purposes of the statute of limitations is generally synonymous with gross income for purposes of IRC §61(a), which includes gains from dealings with property.  Gains from PFIC stock are taxed under special rules: normally §1291 applies unless the taxpayer elects to treat PFIC stock as a qualified electing fund under §§1292-1295 or to mark to market under §1296.  If no election is made, as was the case with the taxpayers, §1291 applies.

Sec. 1291 provides that gain from sale of PFIC stock is allocated ratably on a daily basis over the entire holding period of the stock.  Only PFIC gain attributable to the year of sale is included as ordinary income in gross income.  It is taxed as ordinary income.  The gain allocated to prior years is not included in current year PFIC income.  Instead, there is a “deferred tax amount” calculated by a) allocating non-current year PFIC gain ratably by day over the entire holding period, b) multiplying the amount of gain allocated to each prior year by the highest ordinary income rate in effect for that year, c) computing interest on the tax and d) summing up all the tax and interest.  This deferred tax amount is added to the taxpayer’s tax for the current year.  As a result, only the gain allocated to the current year is included in the current year’s gross income and included in determining whether there was a substantial understatement of gross income under §6501(e)(1)(A)(i).  Gain allocated to prior years is not included in gross income for any purpose.

The Tax Court rejected the IRS’s argument that all non-current year PFIC gain is gross income and that §1291 is nothing more than a method of calculating tax and interest.  According to the Court, such a reading treats §1291 out of existence.  Since it is part of the Code and is a specific provision, it overrides the general provision, §61.

According to the Court, this should have ended the issue, but it felt obliged to address the IRS’s policy argument.  The PFIC provisions were enacted in 1986.  Prior to that time, a taxpayer who invested in a foreign investment company that had no US source income, did not do business in the US, and retained earnings rather than paying dividends could defer tax until the foreign investment company stock was sold.  By contrast a domestic registered investment company (“RIC”) had to distribute 90% of its ordinary income each year to its shareholders.  If it did not, it was taxable as a C corporation.  Even if it distributed the requisite 90%, it would still pay a tax on retained ordinary income.  The PFIC provisions were enacted so that taxpayers who invested in PFICs would be treated similarly to taxpayers who invested in RICs.

From this, the IRS argued that since holders of PFIC stock are to be treated similarly to holders of RIC stock, all gain from the sale of PFIC stock should be treated as gross income for statute of limitations purposes.  This argument did not meet with approval.  That the PFIC provisions were meant to treat owners PFIC similarly to owners of RIC stock, they were not treated identically.  Among other things, gain from sale of PFIC stock under §1291 is taxed at ordinary income rates while gain from the sale of RIC stock is taxed at capital gain rates.  Similarity is not identicality.  The Court concluded that PFIC gain allocated to prior years under §1291 is not “gross income” for purposes of §6501(e)(1)(A)(i).

The Court next determined whether there was a substantial understatement of gross income for any of the three years before it.  2006 was the only year in which the amount of unreported gross income was more than 25% of what was reported on the original return.  The notices of deficiency for 2007 and 2008 were thus time barred.

Finally, the Court addressed the taxpayer’s argument that it should be allowed to net PFIC losses against PFIC gains.  Since §1291 only applies to PFIC gains, it found no basis for allowing the losses to be offset against the gains.

So one benefit of PFIC is if you didn’t report all of your gross income for one or more years, not all gains from the sale of PFIC stock will be treated as gross income.  That is if a court of appeal does not reverse the Tax Court.

ROBERT S. HORWITZ – For more information please contact Robert S. Horwitz – or 310.281.3200   Mr. Horwitz is a principal at Hochman, Salkin, Rettig, Toscher & Perez, P.C., a former Assistant United States Attorney of the Tax Division of the Office of the U.S. Attorney (C.D. Cal) and represents clients throughout the United States and elsewhere involving federal and state, administrative civil tax disputes and tax litigation as well as defending criminal tax investigations and prosecutions. Additional information is available at

The pending 2014 Offshore Voluntary Disclosure Program (OVDP) is set to close on September 28, 2018.  According to FAQs most recently updated by the IRS on July 26, 2018, pre-clearance requests take a minimum of 30 days and should be submited by August 24, 2018 to allow sufficient lead time for processing. (see OVDP FAQs)   The 2014 OVDP is the last in a series of offshore voluntary disclosure programs administered by the IRS since 2009.  The current OVDP began in 2014 and is a modified version of the OVDP launched in 2012, which followed similar programs offered in 2011 and 2009. These programs have enabled U.S. taxpayers to voluntarily resolve past non-compliance related to unreported foreign financial assets and failure to file foreign information returns.


So how does this impact the non-compliant taxpayer?  The answer depends on the culpability and prior actions of the taxpayer, and whether that person needs the protection and certainty afforded by OVDP.

OVDP is a voluntary disclosure program specifically designed for taxpayers with exposure to potential criminal liability and/or substantial civil penalties due to a willful failure to report foreign financial assets and to pay all tax due in respect of those assets.  OVDP is designed to provide taxpayers with such exposure with protection from criminal liability and terms for resolving their civil tax and penalty obligations.

Taxpayers participating in the OVDP generally agree to file amended returns and file FINCEN Form 114 (formerly Form TD 90-22.1, Report of Foreign Bank and Financial Accounts “FBARs”), for eight tax years, pay the appropriate taxes and interest together with a 20% accuracy related penalty and an “FBAR-related” penalty (in lieu of all other potentially applicable penalties associated with a foreign financial account or entity) of 27.5% of the highest account value that existed at any time during the prior eight tax years (or 50% for those foreign banks or facilitators on the IRS list) (see list of foreign financial institutions or facilitators).  The OVDP did not have a stated expiration date, until recently when the IRS announced its intention to close OVDP on September 28th in a IRS Notice issued on March 13, 2018 (see IR-2018-52).

There are various considerations before a taxpayer should determine whether to pursue a voluntary disclosure of prior tax indiscretions through the OVDP or through some other manner. When considering OVDP, many look to whether the taxpayer might be considered a realistic candidate for a criminal prosecution referral by the IRS or prosecution by the Department of Justice?  If so, the determination to participate may be relatively quick and easy.   Other factors may include: (1) Is there a possibility of reducing penalty exposure by filing amended or delinquent returns and FBARs in lieu of a direct participation in the OVDP: (2) What would be the potentially applicable penalties upon an examination of such returns and FBARs; and (3) Would the government be able to carry their burden to demonstrate the taxpayer “willfully” violated the FBAR filing requirements.  Because OVDP asserts an offshore penalty based on foreign financial accounts and asset valuations, for many with smaller financial account values, the aggregate offshore penalty determination, even for multiple years, may actually less outside the OVDP.

Taxpayers with criminal exposure or those wishing to resolve their civil tax and penalty obligation should quickly act to meet the deadline. The first step is to confirm eligibility through the IRS pre-clearance process.  While a preclearance request is not required to participate in OVDP, it assists the taxpayer in learning whether the IRS has received information that can disqualify one from participation in OVDP before one reveals to the IRS additional information required by OVDP.

The deadline to make a pre-clearance request is August 24, 2018.  We suggest pre-clearance requests in all cases where there is an intent to participate in OVDP.  Those who further wait may not benefit from a pre-clearance check, potentially exposing themselves to the risk that the IRS obtains information about that person even though that person may not be accepted into OVDP which is something that should be avoided, if possible.

Any client presently not in compliance should seriously consider availing themselves of the OVDP prior to its expiration. One should anticipate that the IRS may treat those failing to take timely, voluntary corrective action in a more severe manner. There may still be mechanisms for those who take corrective action post OVDP, but the civil penalty regime will be uncertain and taxpayers will be left without the benefits of an informed approach to resolution.

There has definitely been an increased interest by clients in the program since the sunset of the program has been announced.   We have seen this before with each successive closure of the 2009, 2011 and 2012 program.  This time, however, it appears that most clients have been better informed about the benefits and burdens involved.  Practitioners have been educating the public about these issues for more than a decade now, and the IRS has been hugely successful in publicizing the existence of the programs.


Since 2009, more than 56,000 taxpayers have used one of the OVDP programs to comply voluntarily. All told, these taxpayers paid approximately $11.1 billion in back taxes, interest and penalties.  The number of taxpayer disclosures under the OVDP peaked in 2011, when about 18,000 people came forward and has steadily declined thereafter, falling to only 600 disclosures in 2017.  The planned end of the current OVDP also reflects advances in third-party reporting and increased awareness of U.S. taxpayers of their offshore tax and reporting obligations, according to the IRS.  The IRS will continue to use tools besides voluntary disclosure to combat offshore tax avoidance, including taxpayer education, Whistleblower leads, civil examination and criminal prosecution.

The Streamlined and Delinquent filing procedures will continue to remain open for the non-willful taxpayer.  There presently is no sunset date for these procedures.  The IRS resources dedicated to these filing procedures appear well worth it, given the number of taxpayers who have voluntarily corrected under these procedures.

Programs come and programs go, including “last chance” programs and programs following those. We do not know what will happen after the expiration of the current program on September 28, but what we do know is that this could be the last best chance for taxpayers and their advisors to take a hard look at this option before it becomes history.

MICHEL R. STEIN – For more information please contact Michel Stein –  Mr. Stein is a principal 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. Mr. Stein has significant experience in matters involving previously undeclared interests in foreign financial accounts and assets, the IRS Offshore Voluntary Compliance Program (OVDP) and the IRS Streamlined Filing Compliance Procedures. Additional information is available at

This is the sixth of a six part series devoted to utilization of various indirect methods of determining the income of a taxpayer.

Financial Status Audit Techniques. (FSAT). There are various audit and investigative techniques available to corroborate or refute a taxpayer’s claim about their business operations or nature of doing business. Audit or investigative techniques for a cash intensive business might include an examiner determining that a large understatement of income could exist based on return information and other sources of information. The use of indirect methods of proving income, also referred to as the FSAT, is not prohibited by Code Section 7602(e)[i]. Indirect methods include a fully developed Cash T, percentage mark-up, net worth analysis, source and application of funds or bank deposit and cash expenditures analysis. However, examiners must first establish a reasonable indication that there is a likelihood of underreported or unreported income. Examiners must then request an explanation of the discrepancy from the taxpayer. If the taxpayer cannot explain, refuses to explain, or cannot fully explain the discrepancy, a FSAT may be necessary.

The Net Worth Method for determining the actual tax liability is based upon the theory that increases in a taxpayer’s net worth during a taxable year, adjusted for nondeductible expenditures and nontaxable income, must result from taxable income. This method requires a complete reconstruction of the taxpayer’s financial history, since the government must account for all assets, liabilities, nondeductible expenditures, and nontaxable sources of funds during the relevant period.

The theory of the Net Worth Method is based upon the fact that for any given year, a taxpayer’s income is applied or expended on items which are either deductible or nondeductible, including increases to the taxpayer’s net worth through the purchase of assets and/or reduction of liabilities. The taxpayer’s net worth (total assets less total liabilities) is determined at the beginning and at the end of the taxable year. The difference between these two amounts will be the increase or decrease in net worth. The taxable portion of the income can be reconstructed by calculating the increase in net worth during the year, adding back the nondeductible items, and subtracting that portion of the income which is partially or wholly nontaxable.

The purpose of the Net Worth Method is to determine, through a change in net worth, whether the taxpayer is purchasing assets, reducing liabilities, or making expenditures with funds not reported as taxable income. The use of the Net Worth Method of proof requires that the government establish an opening net worth, also known as the base year, with reasonable certainty; negate reasonable explanations by the taxpayer inconsistent with guilt; i.e., reasons for the increased net worth other than the receipt of taxable funds. Failure to address the taxpayer’s explanations might result in serious injustice; establish that the net worth increases are attributable to currently taxable income, and; where there are no books and records, willfulness may be inferred from that fact coupled with proof of an understatement of taxable income. But where the books and records appear correct on their face, an inference of willfulness from net worth increases alone might not be justified.[ii] The government must prove every element beyond a reasonable doubt, though not to a mathematical certainty.

When to Anticipate an Indirect Method. Circumstances that might support the use of an indirect method include a financial status analysis that cannot be easily reconciled – the taxpayer’s known business and personal expenses exceed the reported income per the return and nontaxable sources of funds have not been identified to explain the difference; irregularities in the taxpayer’s books and weak internal controls; gross profit percentages change significantly from one year to another, or are unusually high or low for that market segment or industry; the taxpayer’s bank accounts have unexplained deposits; the taxpayer does not make regular deposits of income, but uses cash instead; a review of the taxpayer’s prior and subsequent year returns show a significant increase in net worth not supported by reported income; there are no books and records (examiners should determine whether books and/or records ever existed, and whether books and records exist for the prior or subsequent years. If books and records have been destroyed, the examiner will attempt to determine who destroyed them, why, and when); no method of accounting has been regularly used by the taxpayer or the method used does not clearly reflect income as required by Code section 446(b).

When considering an indirect method, the examiner will look to the industry or market segment in which the taxpayer operates, whether inventories are a principle income producing activity, whether suppliers can be identified and/or merchandise is purchased from a limited number of suppliers, whether pricing of merchandise and/or service is reasonably consistent, the volume of production and variety of products, availability and completeness of the taxpayer’s books and records, the taxpayer’s banking practices, the taxpayer’s use of cash to pay expenses, expenditures exceed income, stability of assets and liabilities, and stability of net worth over multiple years under audit.

[i].  See IRM (06-01-2004). And Holland v. United States, 348 U.S. 121 (1954).


[ii].  Internal Revenue Manual sets forth the requirements for examining income and FSATs. The indirect method need not be exact, but must be reasonable in light of the surrounding facts and circumstances. Holland v. United States, 348 U.S. 121, 134 (1954). “Examination techniques” include examining and testing the taxpayer’s books and records, analytical tests, observing, and interviewing the taxpayer. These techniques are unique to the use of a formal indirect method and will not routinely trigger the limitation of Code Section 7602(e).

CORY STIGILE – For more information please contact Cory Stigile –  Mr. Stigile is a principal at Hochman, Salkin, Rettig, Toscher & Perez, P.C., a CPA licensed in California, the past-President of the Los Angeles Chapter of CalCPA and a Certified Specialist in Taxation Law by The State Bar of California, Board of Legal Specialization. Mr. Stigile specializes in tax controversies as well as tax, business, and international tax. His representation includes Federal and state controversy matters and tax litigation, including sensitive tax-related examinations and investigations for individuals, business enterprises, partnerships, limited liability companies, and corporations. His practice also includes complex civil tax examinations. Additional information is available at

What is the Potential Maximum Willful FBAR Penalty? In the wake of United States v. Colliot, here, another district court recently held that the regulation at 31 CFR §1030.820 limits the maximum willful penalty.  In United States v Wadhan, here, (D. Colo. July 18, 2018), the Wadhans had one account at UBS.  They closed the UBS account in 2008 and had the funds transferred to multiple accounts in Jordan.  They did not file an FBAR for 2008.  They filed FBARs for 2009 and 2010.  The FBARs did not list all their offshore accounts and for the ones listed the reported maximum account balance was “over $10,000.”  The 2008 penalty was for 50% of the maximum amount in the UBS account.  For both 2009 and 2010, the IRS assessed a $599,234.54 penalty equal to 50% of the maximum amount in the largest account.  It also assessed multiple penalties of $100,000 for each of the other accounts.

Relying on 31 CFR §1030.820, the Wadhans moved for judgment on the pleadings, which the court treated as a motion for summary judgment.  Holding that the IRS “is not empowered to impose yearly penalties in excess of $100,000 per account,” the court granted the motion.

In granting the motion, the court rejected the Government’s assertion that the 2004 amendment to 31 USC §5321(a)(5)(C), which increased the maximum FBAR penalty from $100,000 to 50% of the maximum balance in the account at the time of the violation, superseded the regulation.  First, both pre- and post-amendment versions of subsection (a)(5)(C) give the Secretary discretion to assess the FBAR penalty.  Second, the regulation is not inconsistent with the statute, since the regulation can be interpreted as an exercise of the Secretary’s discretion to limit the penalty.  Third, since 2004 the Secretary has made at least five adjustments to penalties under 31 CFR §1010.821 but never increased the $100,000 cap.  Finally, the court rejected the Government’s argument that the 1987 preamble to the predecessor of §1010.820, which states that Treasury intended to enforce the Bank Secrecy Act “to the fullest extent possible” without any “safe harbor,” does not indicate that it intended that the regulation would automatically incorporate any changes to §5321.

Note that the IRS assessed only one penalty for 2008, but penalties for each account for 2009 and 2010.  Will the Government move for reconsideration on the ground that it is entitled to penalties of $100,000 for each account that was open in 2008?  It has filed a motion asserting it can do so in Colliot.  The statute provides that the Secretary “may impose a civil money penalty on any person who violates, or causes any violation of, any provision of section 5314.”  Note the singular “a civil penalty” which can be imposed on “any person” who violates any provision of the section, not a penalty for each violation.  It does not provide a penalty for “each violation.”

The Balance in the Account at the Time of the Violation? A second point relating to the 2008 penalty:  even if the regulation did not limit the penalty, shouldn’t the maximum penalty for the UBS account have have been the greater of zero or $100,000?  Under §5321(a)(5)(D), the amount is determined by “in the case of a violation involving a failure to report the existence of an account or any identifying information required to be provided with respect to an account, the balance in the account at the time of the violation.”  Emphasis added.  The violation occurs on the date the FBAR was filed or was due to be filed.  On June 30, 2009, the UBS account balance was zero.  Nonetheless, the IRS often assesses penalties based on the maximum account balance during the year for which the report is due, not for the balance on the due date of the FBAR.

An example of the IRS assessing willful penalties that are less than 50% of the maximum balance during the year is the recent decision in United States v. Markus, Civil No. 16-2133 (RBK/AMD) (D. N.J., July 17, 2018).  The defendant served as an Army engineer deployed in Iraq.  For several years he oversaw an oil pipeline project.  He received bribes from several businessmen in exchange for confidential bid information.  He placed some of the bribes in an in Egypt.  The rest he deposited in three accounts in Jordan.  He filed an FBAR for 2008 reporting only one of the accounts in Jordan.  He did not file FBARs for 2007 or 2009.

In 2012, Markus pled guilty to one count of wire fraud and one count of willfully failing to file an FBAR for 2009.  In April 2014, the IRS assessed the following FBAR willful penalties:


Year            Bank                    Balance                 Penalty

2007           Egypt Bank          $299,250               $100,000

2007           Jordan I               $744,854               $372,427

2007           Jordan II              $90,000                 $45,000

2008           Egypt Bank           $364,950               $100,000

2009           Egypt Bank           $400,000               $218,225

2009           Jordan III              $680,000               $6,362

Four days before the statute of limitations expired, the Government filed a suit to reduce the FBAR assessments to judgment.  After discovery, it moved for summary judgment.  Markus, who represented himself, raised only legal arguments in his opposition and did not refute the Government’s factual assertions.  Based on Markus’ criminal conviction and his filing an FBAR for 2008, together with his deposition testimony, the court found that Markus willfully failed to file FBARs for 2007 and 2009 in order to hide his taking bribes.  Since the regulation limiting the maximum penalty was not raised in the motion or opposition, the court did not address the issue.  The court  made one modification to the penalties: because the evidence establish that the maximum balance in the Egyptian account was $400,000 in 2009, it reduced the penalty for that year from $218,225 to $400,000.

One peculiarity is that while two accounts had maximum balances of over $200,000 in 2007 and Jordan account III had a balance of $680,000 in 2009, Markus was assessed a 50% penalty for only one account for 2007.  The penalty for 2009, $6,362, was less than 1% of the maximum balance.  No explanation is given, although it should be noted that according to the court Markus transferred $580,000 from Jordan account III to an account in the U.S. in 2009.

Further FBAR news:  Internal Revenue Manual states that for purposes of the FBAR penalty “willful” is a “voluntary, intentional violation of a known legal duty.”  A Chief Counsel Technical Advice Memo, here, was recently released that states that “willful” is not limited to voluntary and intentional violations but also includes violations due to “willful blindness” and “reckless disregard.”  The TAM also stated that the Government’s burden of proof is by a preponderance of the evidence and not by clear and convincing evidence.

For more information please contact ROBERT S. HORWITZ – or 310.281.3200   Mr. Horwitz is a principal at Hochman, Salkin, Rettig, Toscher & Perez, P.C., a former Assistant United States Attorney of the Tax Division of the Office of the U.S. Attorney (C.D. Cal) and represents clients throughout the United States and elsewhere involving federal and state, administrative civil tax disputes and tax litigation as well as defending criminal tax investigations and prosecutions. Additional information is available at


In 1998 Congress added §7433(e) to the Code.  It provides that a taxpayer can sue the US for damages as a result of collection action that “willfully violates” either the bankruptcy stay imposed by 11 USC §362 or a bankruptcy discharge order under 11 USC §524.  The statute provides:

(e)Actions for violations of certain bankruptcy procedures –

(1) In general:  If, in connection with any collection of Federal tax with respect to a taxpayer, any officer or employee of the Internal Revenue Service willfully violates any provision of section 362 (relating to automatic stay) or 524 (relating to effect of discharge) of title 11, United States Code (or any successor provision), or any regulation promulgated under such provision, such taxpayer may petition the bankruptcy court to recover damages against the United States.

(2) Remedy to be exclusive

(A) In general:  Except as provided in subparagraph (B), notwithstanding section 105 of such title 11, such petition shall be the exclusive remedy for recovering damages resulting from such actions.

(B)  Certain other actions permitted;  Subparagraph (A) shall not apply to an action under section 362(h) of such title 11 for a violation of a stay provided by section 362 of such title; except that—

(i) administrative and litigation costs in connection with such an action may only be awarded under section 7430; and

(ii) administrative costs may be awarded only if incurred on or after the date that the bankruptcy petition is filed.

Despite subsection (e) having been around for twenty years, it was not until June 7, 2018, that a court of appeal issued an opinion interpreting “willful violation.”  In IRS v. Murphy, Dkt. No. 17-1601, the First Circuit considered whether there is a willful violation of a discharge order if the IRS had a good faith belief that its taxes were not discharged.

Murphy filed a bankruptcy petition.  Approximately 90% of his debts were taxes owed the IRS.  He was granted a discharge in February 2006.  Between that date and February 2009 the IRS “repeatedly informed” Murphy that his taxes were not discharged and that it intended to take collection action.  It finally issued levies in February 2009.  Six months later Murphy filed an adversary proceeding to determine that his tax liability was discharged.   In response to Murphy’s motion for summary judgment Assistant U. S. Attorney assigned the case failed to offer any admissible evidence to support the IRS’s fraud claim.  The bankruptcy court determined his liability was discharged.  The Assistant U. S. Attorney was subsequently diagnosed with dementia.

In February 2011 Murphy petitioned the bankruptcy court under §7433(e).  The bankruptcy court held there was a willful violation of the discharge order.  The district court reversed and remanded the case to the bankruptcy court to determine whether the Assistant U. S. Attorney’s dementia collaterally estopped the IRS from litigating the issue of whether the tax was discharged. The parties settled.  The IRS agreed to pay Murphy $175,000 subject to a final determination that its collection action was a “willful violation.”  The First Circuit held that a good faith belief that the tax was discharged does not shield the IRS from liability for a willful violation of the discharge order.

The Court looked at the definition of “willfully violates” in the context of bankruptcy cases existing on the date §7433(e) was enacted.  As of 1998, the courts had held that there is a willful violation of the automatic stay if a person knows of the stay and intentionally acts to violate the stay.  There was no good faith defense.  Shortly after enactment of the statute the First Circuit applied the same definition of “willfully violates” to violations of the stay and of the discharge order.

To further support its decision, the First Circuit turned to Internal Revenue Manual, which provides that a willful violation of the stay occurs when the IRS receives notice of the bankruptcy filing or discharge order and does not timely act to stop collection action.

The Court rejected the IRS’s argument that “willfully violates” should be narrowly construed because §7433(e) is a waiver of sovereign immunity.  The Court reasoned that its construction of “willfully violates” was consistent with the purpose of the bankruptcy code to provide debtors with a fresh start.  It also rejected the IRS’s argument that a ruling that good faith is not a defense would require it to seek a pre-enforcement determination that its tax was not discharged before it could ever take action to collect taxes post-discharge.  The Court stated that the IRS does not need to seek a pre-enforcement determination.  It can just collect and then defend if the taxpayer challenges the IRS claim that the tax was not discharged.

Judge Lynch dissented. He construed the statute as waiving sovereign immunity only where the IRS action is not reasonable and in good faith and interpreted “willfully violates” as an intentional violation of the discharge order rather than an intentional act that violates the order.  He pointed out that several appeals court cases decided before 1998 supported the IRS’s interpretation.  Finally, he believed that the Court’s decision would wrap the IRS up in time consuming and often pointless litigation to determine whether its tax was discharged.

The majority however may be correct in its interpretation of Congressional intent.  Subsection (e) was added to the Code as part of the 1998 IRS Restructuring and Reform Act, part of whose purpose was to provide taxpayers with the means to slow down the IRS collection process, such as collection due process rights.  The majority’s reading of “willfully violates” is consistent with this purpose.

Prior to enactment of subsection (e) a number of cases had applied the First Circuit’s reading of “willfully violates” to cases in which the IRS violated the automatic stay.   But the automatic stay is a bright red line.  Once a bankruptcy case is filed any collection action is prohibited unless the creditor obtains an order lifting the stay.  The discharge order does not contain a bright line for taxes.  While some taxes are discharged, others are not, including priority taxes, taxes where a return was not filed, taxes where there was fraud and taxes where there was an intent to evade or defeat.  For many types of tax (i.e., those for which a return was due within three years of bankruptcy, withholding tax, etc.) it is easy to determine whether the tax is discharged.  Others (i.e., fraud where there is no prior judicial determination, an attempt to evade or defeat) require intensive factual determinations.  While the First Circuit’s decision may make the IRS’s collection efforts post-discharge more problematic for the latter types of liabilities, ultimately it may not severely impact the IRS’s collection efforts any more difficult.

ROBERT S. HORWITZ – For more information please contact Robert S. Horwitz, or 310.281.3200.  Mr. Horwitz is a principal at Hochman, Salkin, Rettig, Toscher & Perez, P.C., a former Assistant United States Attorney of the Tax Division of the Office of the U.S. Attorney (C.D. Cal) and represents clients throughout the United States and elsewhere involving federal and state, administrative civil tax disputes and tax litigation as well as defending criminal tax investigations and prosecutions. Additional information is available at



For more than a decade, the Supreme Court has been chipping away at the notion that periods of limitation for filing suit are necessarily jurisdictional.  See Kontrick v. Ryan, 540 U.S. 443, 455 (2004).  The Supreme Court has held that a filing deadline is almost never jurisdictional unless Congress makes clear that it is.  United States v. Wong, 135 S. Ct. 1625 (2015).  In Nauflett v Commissioner, Docket No. 17-1986 (3d Cir. June 14, 2018), the Third Circuit joined the First and Second Circuits to hold that the ninety-day period for filing a petition for innocent spouse relief in Tax Court is jurisdictional.

Ms. Nauflett’s request for innocent spouse relief was denied by the IRS.  The deadline to file a petition with Tax Court was September 15, 2015. She filed on September 22 due to being misinformed by IRS employees as to the filing date.  The Tax Court dismissed her petition for lack of jurisdiction.  Ms. Nauflett appealed.

To decide the issue, the Third Circuit first looked at the statutory language, Internal Revenue Code §6015(e)(1)(A), which provides that an innocent person claiming innocent spouse relief may petition the Tax Court (and the Tax Court shall have jurisdiction) to determine the appropriate relief available to the individual under this section if such petition is filed—

(i) at any time after the earlier of—

(I) the date the Secretary mails, by certified or registered mail to the taxpayer’s last known address, notice of the Secretary’s final determination of relief available to the individual, or

(II) the date which is 6 months after the date such election is filed or request is made with the Secretary, and

(ii) not later than the close of the 90th day after the date described in clause (i)(I).

According to the Court, under the plain language of §6015(e)(1)(A), jurisdiction was granted the Tax Court only if the petition was filed within the 90-day period.  Thus, the filing period was jurisdictional.

The Court found further support for its understanding of Congressional intent from the context of the subsection.  Section 6015(e)(1)(B) prohibits the IRS from collection action until the end of the ninety-day period.  It also grants the Tax Court jurisdiction to enjoin collection activity if a timely petition is “filed under subparagraph (A).”  It rejected Ms. Nauflett’s arguments as “strained.”

In a previous blog, here, I commented on the Ninth Circuit’s decision in Duggan v Commissioner, and noted that based on the Supreme Court’s recent cases on filing limits, the 90-day period for filing a petition to challenge a deficiency may not be jurisdictional.  It turns out that there are two cases currently pending in the Ninth Circuit raising that issue, Organic Cannabis Foundation v Commissioner, Docket No. 17-72874, and Northern California Small Business Assistants v Commissioner, Docket No. 17-72877.

The argument advanced in support of the taxpayers is that §6213(a), which provides that a taxpayer may petition the Tax Court for redetermination of a deficiency within 90-days (or 150-days if the notice is addressed to a person outside the United States) after mailing of the deficiency notice, does not grant the Tax Court jurisdiction .  Jurisdiction over deficiency petitions is granted in §6214.   Thus, there is no clear indication that Congress intended to make the period for filing a petition jurisdictional.  The taxpayers and amicus note that the Ninth Circuit in Volpicelli v. United States, 777 F.3d 1042 (9th Cir. 2015), held that the time period for filing a wrongful levy action is not jurisdictional.  Additionally, they note that there are no Supreme Court cases holding that the period for filing in Tax Court is jurisdictional.  They also argue that equitable tolling applies to §6213(a).  The taxpayers in both cases are represented by Doug Youmans and Matthew Carlson of Wagner Kirkman Blaine Klomparens & Youmans, LLP, of Sacramento.  Amicus briefs on behalf of the taxpayers were filed by the Keith Fogg of the Harvard Law School Tax Clinic and Carlton Smith of New York.  These are important cases that could have major repercussions.  Keep an eye out for further developments.

ROBERT S. HORWITZ – For more information please contact Robert S. Horwitz – or 310.281.3200   Mr. Horwitz is a principal at Hochman, Salkin, Rettig, Toscher & Perez, P.C., a former Assistant United States Attorney of the Tax Division of the Office of the U.S. Attorney (C.D. Cal) and represents clients throughout the United States and elsewhere involving federal and state, administrative civil tax disputes and tax litigation as well as defending criminal tax investigations and prosecutions. Additional information is available at





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