IRS Satisfies its Burden of Production under §6751(b) With Signed Penalty Approval Form
The United States Tax Court recently found a married couple liable for civil fraud penalties under §6663(a) in Purvis v. Comm’r, T.C. Memo 2020-13. In addressing this issue, the court was faced with determining whether approval of certain penalties prior to formal communication to the petitioners of the penalties was sufficient to satisfy the initial burden of production under §6751(b).
In Purvis, a married couple was found to have significantly underreported taxable income and short-term capital gain. The IRS issued a deficiency notice and civil fraud penalties under §6663(a). The court addressed the issue of whether petitioners were liable for civil fraud penalties, or, in the alternative, accuracy-related penalties. Petitioners contended that the IRS did not meet its initial burden of production required to prove fraud.
As part of its burden of proving fraud by clear and convincing evidence, the Commissioner must prove for each relevant year that “the underpayment was due to fraud.” (citations omitted.) Recently, in Frost v. Commissioner, 154 T.C. _, _ (slip op. at 20) (Jan. 7, 2020), the Tax Court held that the Commissioner bears the initial burden of production to offer evidence of procedural compliance with §6751(b). Once the initial burden is satisfied, the burden shifts to the taxpayer to submit contrary evidence.
Under §6751(b)(1), the initial determination of certain penalties must be “personally approved (in writing) by the immediate supervisor of the individual making such determination or such higher level official as the Secretary may designate.” (citations omitted.) According to the recent decision of Belair Woods, LLC v. Commissioner, 154 T.C. _, _ (slip op. at 24–25) (Jan. 6, 2020), the initial determination of a penalty assessment is embodied in the formal notification to the petitioner of a penalty assessment.
After the conclusion of trial and the closing of the record, Graev III was issued. The Government was ordered to file a response directing the court to any evidence of §6751(b) supervisory approval in the record. The IRS pointed to testimony and a signed case activity record, which the court deemed insufficient. The IRS also filed a motion to reopen the record to submit a Civil Penalty Approval Form that was signed prior to the written communication of the penalty assessment to petitioners. The motion was granted, and the document submitted into evidence. The court held that the approval form was sufficient evidence showing written supervisory approval of penalties prior to formal communication of the penalty assessment to petitioners. Having met the initial burden of production, the burden shifted to the petitioners to offer contrary evidence, which they failed to do.
The Court then found the petitioners liable for §6663(a) fraud penalties. The findings of fraud were supported by: a pattern of understating income; failure to maintain adequate records; implausible or inconsistent explanations of behavior; concealing income or assets; dealing in cash; false and incomplete information provided to the couple’s tax return preparer; filing false documents; failing to file federal income tax returns; failing to cooperate with tax authorities; and engaging in and attempting to conceal illegal activity. The court was not swayed by the petitioners’ reasonable cause argument, and sustained the IRS’s assessment of civil fraud penalties.
This case expands on the recent rulings regarding the written supervisory requirements under §6751(b), demonstrating that signed approval of penalties prior to written communication to taxpayers of a penalty assessment will be sufficient to satisfy IRS’s initial burden of production.
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