The Tax Court in Brief November 15 – November 19, 2021

The Tax Court in Brief November 15 – November 19, 2021

Freeman Law’s “The Tax Court in Brief” covers every substantive Tax Court opinion, providing a weekly brief of its decisions in clear, concise prose.

For a link to our podcast covering the Tax Court in Brief, download here or check out other episodes of The Freeman Law Project.

Tax Litigation: The Week of November 15 – November 19, 2021

• Ruhaak v. Comm’r, 157 T.C. No. 9 | November 16, 2021 | Gale, J. | Dkt. No. 21542-17L
• McNulty v. Comm’r, 157 T.C. No. 10 | November 18, 2021 | Goeke, J. | Dkt. No. 1377-19
• Holland v. Comm’r, T.C. Memo. 2021-129 | November 18, 2021 | Lauber, J. | Dkt. No. 7115-20

Ruhaak v. Comm’r, 157 T.C. No. 9 | November 16, 2021 | Gale, J. | Dkt. No. 21542-17L

• Opinion

Short Summary:  Pursuant to section 6330(d)(1), Petitioner sought review of the determination of the IRS Office of Appeals to sustain a proposed levy to collect Petitioner William Ruhaak’s (“Petitioner”) unpaid Federal income tax for taxable year 2013.  The IRS sent Petitioner a Notice of Intent to Levy and Notice of Your Right to a Hearing (levy notice).  Petitioner requested a hearing regarding the proposed levy by submitting a Form 12153 to Appeals.  Petitioenr mailed and Appeals received the Form 12153 before the expiration of the 30-day period following the mailing of the levy notice.  Petitioner also checked the box to request an equivalent hearing in the event his request for a CDP hearing was untimely.  Appeals determined that Petitioner timely requested a CDP hearing and thus was not entitled to an equivalent hearing.

Key Issues:

• Whether Petitioner was entitled to request an equivalent hearing instead of a collection due process (CDP) hearing for review of the proposed levy, even though he mailed and Appeals received his hearing request before the expiration of the 30-day period for requesting a CDP hearing;
• Whether the settlement officer (SO) who conducted Petitioner’s hearing abused her discretion in sustaining the proposed levy; and
• Whether Petitioner should be penalized under section 6673(a)(1).

Primary Holdings: 

• The Tax Court held that Petitioners’ request for a hearing made before the expiration of the 30-day period following the mailing date of the levy notice necessarily triggered a CDP hearing and not an equivalent hearing.
• The Tax Court further held that the SO did not abuse her discretion in sustaining the proposed levy against Petitioner.
• Finally, the Tax Court also held that a penalty under § 6673(a)(1) was not appropriate because Petitioner’s position was not a frivolous one.

Key Points of Law:

• R.C. § 6331(a) authorizes the IRS to levy upon property or property rights of a taxpayer liable for taxes who fails to pay those taxes within 10 days after notice and demand for payment are made.
• When the IRS pursues collection by levy, it must notify the affected taxpayer in writing of his or her right to a CDP hearing for review of the proposed levy with an impartial officer or employee of Appeals. Sec. 6330(a) and (b).
• When the required notice is mailed on the same date printed on the notice, the taxpayer may request a CDP hearing during a statutorily established 30-day period following the mailing date of the notice. See sec. 6330(a)(2) and (3), (b)(1); Ramey v. Commissioner, 156 T.C. 1 , 2-3 (2021).
• A taxpayer who fails to timely request a CDP hearing may instead request a similar administrative hearing, called an “equivalent hearing”, within the one-year period following the mailing date of the written levy notice. Sec. 301.6330-1(i)(1), (2), Q&A-I7, Q&A-I9, Proced. & Admin. Regs. ; see also Ramey v. Commissioner, 156 T.C. at 9-10.
• A key difference between a CDP hearing and an equivalent hearing is that the Tax Court has jurisdiction, pursuant to section 6330(d)(1), to review a notice of determination issued by Appeals following a CDP hearing if a timely petition for review is filed, but the Court generally lacks jurisdiction to review a decision letter issued by Appeals following an equivalent hearing. See Ramey v. Commissioner, 156 T.C. at 9-11
• An equivalent hearing is only available to those taxpayers who fail to make a timely request for a CDP hearing.

Insight:  Because of the ability to appeal the decision from a CDP hearing, CDP hearings are usually preferred over equivalent hearings.  This case demonstrates that only one or the other is available to a taxpayer.  If a request is timely, it will be heard as a CDP hearing.  Only if the request is untimely will it be heard as an equivalent hearing.

McNulty v. Comm’r, 157 T.C. No. 10 | November 18, 2021 | Goeke, J. | Dkt. No. 1377-19

• Opinion

Short Summary: During tax year 2015, Mr. and Mrs. McNulty (the “Petitioners”) decided to establish self-directed IRAs. In particular, the Petitioners wanted to invest in certain assets through LLCs owned by the self-directed IRAs. In August 2015, Mrs. McNulty (1) established a self-directed IRA, naming Kingdom Trust Co. the IRA custodian; and (2) formed Green Hill Holdings, LLC (“Green Hill”), a single-member LLC with Mrs. McNulty’s IRA serving as Green Hill’s sole initial member (and the Petitioners serving as Green Hill’s initial managers).

Mrs. McNulty funded the IRA with direct transfers from two qualified retirement accounts during 2015 and 2016. She also instructed Kingdom Trust to use the IRA funds to purchase membership interests in Green Hill. Then, Mrs. McNulty, as manager, used the Green Hill funds to purchase American Eagle coins, and the coins were received and held by the Petitioners at their personal residence.

On October 30, 2018, the Internal Revenue Service issued to Petitioners a notice of deficiency for 2015 and 2016, determining (1) the Petitioners received distributions from their IRAs, and (2) the Petitioners were liable for Section 6662(a) and (b)(1) and (2) accuracy-related penalties for both years. The Petitioners petitioned the Tax Court and submitted the case for decision without trial under Rule 122.

Key Issues:

• Whether Mrs. McNulty received taxable distributions from her IRA; and
• Whether Petitioners were liable for Section 6662(a) penalties.

Primary Holdings:

• McNulty received taxable distributions from her IRA; and
• Petitioners were liable for Section 6662(a) penalties.

Key Points of Law:

• An owner of a self-directed IRA is entitled to direct how her IRA assets are invested without forfeiting the tax benefits of an IRA. McGaugh v. Comm’r, T.C. Memo. 2016-28 , at *9, aff’d, 860 F.3d 1014 (7th Cir. 2017). A self-directed IRA is permitted to invest in a single-member LLC. Swanson v. Comm’r, 106 T.C. 76 (1996); Ellis v. Comm’r, T.C. Memo. 2013-245, aff’d, 787 F.3d 1213 (8th Cir. 2015). However, IRA owners cannot have unfettered command over the IRA assets without tax consequences.
• A qualified custodian is required to maintain custody of IRA assets, maintain required records, and process transactions that involve IRA assets. SeeR.C. § 408(h) and (i); Treas. Reg. § 1.408-2(e)(4), (5)(i)(2), (iii), (vii).
• While an IRA owner may act as a conduit or agent of the IRA custodian, she may do so only as long as she is not in constructive or actual receipt of the IRA assets. See Ancira v. Comm’r, 119 T.C. 135 , 137-140 (2002).
• The Internal Revenue Service imposes an accuracy-related penalty for any portion of an underpayment that is attributable to a substantial understatement of income tax. An understatement is substantial if it exceeds the greater of 10% of the tax required to be shown on the return or $5,000. See R.C. § 6662(a), (b)(2), and (d).
• The Section 6662(a) penalty will not apply to any portion of an underpayment where the taxpayers establish that they acted with reasonable cause and in good faith with respect to that portion. See R.C. § 6664(c)(1).

Insight: McNulty underscores the basic requirements for IRAs under Section 408 of the Internal Revenue Code. In particular, taxpayers should be mindful of the restrictions on IRAs—e.g., owners of self-directed IRAs may not take actual and unfettered possession of IRA assets. Further, the Tax Court notes that, with respect to the reasonable cause defense to accuracy-related penalties, failure to disclose pertinent facts to a taxpayer’s CPA shows a lack of good faith in tax reporting.

Holland v. Comm’r, T.C. Memo. 2021-129 | November 18, 2021 | Lauber, J. | Dkt. No. 7115-20

• Opinion

Short Summary: Petitioner Holland misreported income he received in 2017 (while retired) in the form of Social Security Benefits, a normal distribution from his retirement plan, and a normal distribution from his pension fund. Only the pension fund payment had taxes deducted. In preparing his Form 1040, Holland did not use the information reported to him on the Forms 1099-R. Instead, he attached two Forms 4852 (Substitute for Form W-2 or Form 1099-R), which he drafted. The instructions for Form 4852 state that the form is to be used if the payor doesn’t issue a Form 1099-R or has issued an incorrect Form 1099-R. On the Forms 4852 petitioner drafted, he claimed that his retirement account and pension fund had each made distributions to him of zero. He also overstated the amount of taxes withheld by the pension fund and request a refund of the purported overpayment. While it was unclear from the record when Holland submitted his unsigned tax return, he did not submit a signed tax return until the IRS requested it on May 3, 2018.

Key Issues:

• Whether the income Holland received was subject to federal income tax and whether the section 6673 frivolous penalty applied?

Primary Holdings:

• The Court summarily dismissed the pro se petitioner’s frivolous arguments that his retirement income was not taxable and sustained the late-filing addition to tax. However, because it was Holland’s first appearance in Tax Court and because he cooperated with IRS counsel by executing stipulations of fact and preparing the case for submission without trial, the Tax Court refrained from imposing the frivolous-position penalty under section 6673.

Key Points of Law: 

• Section 61(a) provides that “gross income means all income from whatever source derived,” including “[c]ompensation for services.” Sec. 61(a)(1). In cases of unreported income, the Commissioner must generally establish an evidentiary foundation connecting the taxpayer to the income-producing activity or demonstrate that the taxpayer actually received income. Information supplied to the IRS on Forms W-2 and 1099 is sufficient to meet this burden. Once the Commissioner makes the required threshold showing, the burden shifts to the taxpayer to prove by a preponderance of the evidence that the Commissioner’s determinations are arbitrary or erroneous.
• The IRS may not rely solely on a third-party report of income, such as a Form 1099, if the taxpayer raises a reasonable dispute concerning the accuracy of the report. See sec. 6201(d). Far from doing so, petitioner stipulated that he received the amounts of income reported on the Forms 1099. It was, thus, Petitioner’s burden to prove that the IRS erred in determining that during 2017 he received $25,128 of taxable retirement plan distributions and $8,143 of taxable Social Security benefits.
• In contending that this income was immune from Federal income tax, petitioner offered “a familiar array of arguments lifted from the tax-protester arsenal.” The court briefly recounted, then dismissed those arguments as “all time-worn tax-protester arguments that no court has ever accepted. Petitioner is taxable on the income he received to the extent provided in the Internal Revenue Code.” He submitted no evidence that he had any basis in either of his private retirement plans, so he is taxable on the full amount received ($20,928 + $4,200 = $25,128). Nor has he shown that respondent erred in calculating as $8,143 the taxable portion of his Social Security benefits. We thus sustain an adjustment of $33,271 to petitioner’s 2017 gross income.
• Section 6673(a)(1) authorizes this Court to require a taxpayer to pay to the United States a penalty, not in excess of $25,000, “[w]henever it appears to the Tax Court that–(A) proceedings before it have been instituted or maintained * * * primarily for delay, [or] (B) the taxpayer’s position in such proceeding is frivolous or groundless.” The purpose of section 6673 is to compel taxpayers to conform their conduct to settled tax principles and to deter the waste of judicial and IRS resources. “Frivolous and groundless claims divert the Court’s time, energy, and resources away from more serious claims and increase the needless cost imposed on other litigants.”

Insight: The IRS publishes and occasionally updates “The Truth About Frivolous Tax Arguments,” a compendium of frivolous positions and the case law refuting them. Petitioner’s arguments are included in that compendium. The Truth About Frivolous Tax Arguments, Internal Revenue Service (March 2018).

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