Tax Court to Revisit the Statute of Limitations Applicable to Those Claiming USVI Bona Fide Residency in Light of Tax Information Sharing Between the IRS and USVI

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Tax Court to Revisit the Statute of Limitations Applicable to Those Claiming USVI Bona Fide Residency in Light of Tax Information Sharing Between the IRS and USVI

On September 23, 2016, the Tax Court vacated its prior order (from July 2, 2013) in Coffey v. Commissioner, Docket No. 30676-09, denying summary judgment to a taxpayer who claimed to have been a bona fide resident of the USVI during 2003 and 2004 and who argued that the tax returns that she filed with the USVI’s Bureau of Internal Revenue (“BIR”) for those years were tax returns that set the three-year statute of limitations under section 6501(1) running.  The ruling, granting the taxpayer’s motion for reconsideration under Tax Court Rule 161, may signal a reversal of prior Tax Court holdings providing that a taxpayer who incorrectly claimed bona fide resident status and filed a tax return with the BIR (consistent with that claim of bona fide resident status) did not begin the three-year statute of limitations if the IRS later determined that the taxpayer was, in fact, not a bona fide resident.

The taxpayer in the case, Judith Coffey, filed her 2003 and 2004 tax returns with the BIR. She took the position that she was a bona fide resident of the Islands “at the close of the taxable year” for the 2003 tax year; and “during the entire taxable year” of 2004 for purposes of IRC § 932(c)(1)(A).[1]  It was undisputed in the case that she and her husband filed their Virgin Islands returns on time and that the Commissioner did not issue a notice of deficiency for their 2003 and 2004 tax years until late in 2009, well after the usual three-year deadline had passed. See IRC § 6501(a).  In the notice of deficiency, the Commissioner specifically determined that Judith Coffey was not a bona fide resident for the 2003 and 2004 tax years.

The IRS argued that an exception to the normal three-year rule, found under section 6501(c)(3), allowed the Service to issue a notice of deficiency at any time (for example, 10 or 20 or more years later…) because Coffey had incorrectly determined that she satisfied the definition of a bona fide resident of the USVI during the years at issue.  Importantly, the Coffeys did not file returns with the IRS, but had only filed with the Virgin Islands—again, consistent with the claim of bona fide residency.  In initially ruling on the issue back in 2013, the Tax Court denied the taxpayer’s request for summary judgment in her favor.

Both the Coffeys and the Virgin Islands (as an intervenor in the litigation) timely moved for reconsideration, pointing out that the court had not considered the possibility that the Coffeys’ filing with the Virgin Islands should also be considered a filing with the IRS when one takes into consideration the information that the Virgin Islands passed on to the IRS during the period.  More recently, the court held hearings on the motion and was briefed in much more detail about the information shared by the Virgin Islands and the IRS during the periods at issue.  Following these hearings, the court issued an order granting the taxpayer’s motion for reconsideration, vacating its prior order denying summary judgment, and stating that an opinion readdressing the issues would be “forthcoming.”  The significance of the ruling remains to be seen, but it appears to signal a potential reversal of the Tax Court’s prior rulings.

Stay tuned for more developments.  For more background on related USVI litigation, see my prior article, which gives particular focus to the statute of limitations issues raised above, as well as my prior blog entries on USVI tax litigation (e.g., here).

 

For other posts on similar topics, see Tax Court to Revisit the Statute of Limitations Applicable to Those Claiming USVI Bona Fide Residency in Light of Tax Information Sharing Between the IRS and USVIThe Eleventh Circuit Weighs in on the United States Virgin Islands’ Economic Development Tax Credit, and 20/22 Vision – Tax Consequences for Puerto Rico.

[1] This section was amended by the American Jobs Creation Act of 2004, Pub. L. No. 108-357, § 908(c)(2), 118 Stat. at 1656, and the new rule requiring residency during the entire taxable year became effective for tax years ending after October 22, 2004.  Post 2004, § 932 reads as follows:

(a) Treatment of United States residents

(1) Application of subsectionThis subsection shall apply to an individual for the taxable year if—

(A) such individual—

(i) is a citizen or resident of the United States (other than a bona fide resident of the Virgin Islands during the entire taxable year), and
(ii) has income derived from sources within the Virgin Islands, or effectively connected with the conduct of a trade or business within such possession, for the taxable year, or
(B) such individual files a joint return for the taxable year with an individual described in subparagraph (A).

(2) Filing requirement

Each individual to whom this subsection applies for the taxable year shall file his income tax return for the taxable year with both the United States and the Virgin Islands.

(3) Extent of income tax liability

In the case of an individual to whom this subsection applies in a taxable year for purposes of so much of this title (other than this section and section 7654) as relates to the taxes imposed by this chapter, the United States shall be treated as including the Virgin Islands.

(b) Portion of United States tax liability payable to the Virgin Islands

(1) In general

Each individual to whom subsection (a) applies for the taxable year shall pay the applicable percentage of the taxes imposed by this chapter for such taxable year (determined without regard to paragraph (3)) to the Virgin Islands.

(2) Applicable percentage

(A) In general

For purposes of paragraph (1), the term “applicable percentage” means the percentage which Virgin Islands adjusted gross income bears to adjusted gross income.

(B) Virgin Islands adjusted gross income

For purposes of subparagraph (A), the term “Virgin Islands adjusted gross income” means adjusted gross income determined by taking into account only income derived from sources within the Virgin Islands and deductions properly apportioned or allocable thereto.

(3) Amounts paid allowed as credit

There shall be allowed as a credit against the tax imposed by this chapter for the taxable year an amount equal to the taxes required to be paid to the Virgin Islands under paragraph (1) which are so paid.

(c) Treatment of Virgin Islands residents

(1) Application of subsectionThis subsection shall apply to an individual for the taxable year if—

(A) such individual is a bona fide resident of the Virgin Islands during the entire taxable year, or
(B) such individual files a joint return for the taxable year with an individual described in subparagraph (A).

(2) Filing requirement

Each individual to whom this subsection applies for the taxable year shall file an income tax return for the taxable year with the Virgin Islands.

(3) Extent of income tax liability

In the case of an individual to whom this subsection applies in a taxable year for purposes of so much of this title (other than this section and section 7654) as relates to the taxes imposed by this chapter, the Virgin Islands shall be treated as including the United States.

(4) Residents of the Virgin Islands In the case of an individual—

(A) who is a bona fide resident of the Virgin Islands during the entire taxable year,
(B) who, on his return of income tax to the Virgin Islands, reports income from all sources and identifies the source of each item shown on such return, and
(C) who fully pays his tax liability referred to in section 934(a) to the Virgin Islands with respect to such income,
for purposes of calculating income tax liability to the United States, gross income shall not include any amount included in gross income on such return, and allocable deductions and credits shall not be taken into account.

(d) Special rule for joint returns

In the case of a joint return, this section shall be applied on the basis of the residence of the spouse who has the greater adjusted gross income (determined without regard to community property laws) for the taxable year.

(e) Special rule for applying section to tax imposed in Virgin Islands

In applying this section for purposes of determining income tax liability incurred to the Virgin Islands, the provisions of this section shall not be affected by the provisions of Federal law referred to in section 934(a).