The Tax Court in Brief July 19 – July 24, 2020
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.
The Week of July 19 – July 24, 2020
- Oropeza v. Comm’r, T.C. Memo. 2020-111 | July 21, 2020 | Lauber, J. | Dkt. No. 9623-16
- Barnhill v. Comm’r, 155 T.C. No. 1 | July 21, 2020 | Gustafson, J. | Dkt. No. 10374-18L
- Belair Woods, LLC v. Comm’r, T.C. Memo. 2020-112 | July 22, 2020 | Lauber, J. | Dkt. No. 19493-17
Oropeza v. Comm’r, T.C. Memo. 2020-111
Short Summary: Mr. Oropeza was the sole shareholder of FIRM, Inc. (FIRM), an S corporation and “micro-captive” insurance company. The IRS examined Mr. and Mrs. Oropeza’s 2011 and 2012 tax returns. Later, the IRS issued them a revenue agent report (RAR) proposing an increase of $1,070.200 to Mr. Oropeza’s distributive share of FIRM’s income. In addition, the RAR proposed an accuracy-related penalty of 40% attributable to one or more of the following: (1) a gross valuation misstatement; (2) a non-disclosed transaction lacking economic substance; and (3) undisclosed foreign financial assets. The RAR did not definitively indicate the proposal of the alternative 20% accuracy-related penalty for negligence, disregard of rules and regulations, or a substantial understatement.
The taxpayers did not respond to the RAR. Thereafter, the Revenue Agent’s immediate supervisor signed a Civil Penalty Approval Form authorizing assertion of a 20% penalty for negligence or substantial understatement of income tax. The form did not reflect approval for the 40% penalty.
The IRS issued the taxpayers a notice of deficiency determining a deficiency of $374,570 and a 40% penalty of $149,828. The notice explained that the 40% penalty was appropriate because the underpayment was “attributable to one or more non-disclosed noneconomic substance transactions.” The notice also set forth in the alternative a 20% penalty for negligence or a substantial understatement of income tax.
Key Issue: Whether the taxpayers: (1) are liable for the 40% accuracy-related penalty, or (2) are liable for the 20% accuracy-related penalty.
- The RAR was an “initial determination” under Section 6751(b) because it gave the taxpayers three options: (1) accept the adjustments in the RAR; (2) sign a Form 872 and go to Appeals; or (3) receive a notice of deficiency. Because the IRS failed to obtain written managerial approval of the 40% penalty prior to sending it to the taxpayers, the IRS failed to comply with Section 6751(b) and the 40% penalty does not apply. However, the 20% accuracy-related penalty may apply because the IRS first communicated the potential for such penalty in the notice of deficiency, which was mailed after the IRS obtained written managerial approval of that penalty determination.
Key Points of Law:
- Section 7491(c) generally provides that “the Secretary shall have the burden of production in any court proceeding with respect to the liability of any individual for any penalty.” This burden requires the Commissioner to come forward with sufficient evidence indicating that imposition of a penalty is appropriate. See Higbee v. Comm’r, 116 T.C. 438, 446 (2001). The Commissioner’s burden of production under Section 7491(c) includes establishing compliance with Section 6751(b)(1). See Chai v. Comm’r, 851 F.3d 190, 217, 221-22 (2d Cir. 2017), aff’g in part, rev’g in partC. Memo. 2015-42; Graev v. Comm’r, 149 T.C. 485 (2017), supplementing and overruling in part 147 T.C. 460 (2016). The latter section provides that “[n]o penalty under this title shall be assessed unless the initial determination of such assessment is personally approved (in writing) by the immediate supervisor of the individual making such determination.”
- In Belair Woods, LLC v. Comm’r, 154 T.C. ___, ____ (slip op. at 23) (Jan. 6, 2020), the Tax Court held that the “initial determination” of a penalty assessment is typically embodied in the letter “by which the IRS formally notifie[s] * * * [the taxpayer] that the Examination Division ha[s] completed its work and * * * ha[s] made a definite decision to assert penalties.”
- Section 6751(b)(1) only requires the initial determination of a penalty assessment be personally approved in writing by an immediate supervisor. It does not require the IRS to demonstrate the depth or comprehensiveness of the supervisor’s review. Belair Woods, 154 T.C. at ___ (slip op. at 27).
Insight: The Oropeza decision shows that Section 6751(b) continues to be a potent defense against the IRS’ assertion of penalties. In cases where the IRS has failed to satisfy Section 6751(b), taxpayers should consider moving for summary judgment on the penalty issue.
Barnhill v. Comm’r, 155 T.C. No. 1
Short Summary: Mr. Barnhill was a director of Iron Cross, Inc. (Iron Cross). Iron Cross failed to file employment tax returns and pay employment taxes. The IRS later assessed employment taxes against Iron Cross for 10 calendar quarters. Moreover, the IRS proposed assessments of approximately $160,000 against Mr. Barnhill as civil penalties under Section 6672 with respect to the trust fund taxes that were required to be withheld from Iron Cross’s employee wages.
The IRS sent Mr. Barnhill a Letter 1153, Trust Fund Recovery Penalty Letter, proposing to assess the TFRPs against him as a responsible person. Mr. Barnhill received the Letter 1153 and timely mailed a protest to Appeals challenging the proposed TFRP assessments. The IRS issued a Letter 1157 response letter to Mr. Barnhill, but he never received it. The IRS later issued a notice of federal tax lien, which provided Mr. Barnhill with Collection Due Process (CDP) rights. Mr. Barnhill timely filed a request for a CDP hearing and disputed the amount of the TFRP liability.
During the CDP hearing, Mr. Barnhill argued that he should not be liable for the TFRP. However, the Appeals officer determined that Mr. Barnhill had a prior opportunity to contest the liability when the IRS issued Letter 1153 and that he was therefore precluded from raising any issues with respect to the liability at the CDP hearing. Later, the Appeals officer issued a Notice of Determination to this effect.
Key Issue: Whether IRS Appeals abuses its discretion in sustaining a NFTL and not permitting the taxpayer to contest the TFRP liabilities in a CDP hearing where: (1) the taxpayer receives a Letter 1153; (2) the taxpayer timely contests the TFRP; and (3) the taxpayer does not receive a Letter 5157.
- If a taxpayer receives a Letter 1153 but does not receive subsequent correspondence from the IRS (g., Letter 5157), the taxpayer has not been afforded an “opportunity” to dispute the underlying TFRP liability under Section 6330(c)(2)(B). Thus, in this case, Appeals abused its discretion in sustaining the NFTL.
Key Points of Law:
- An employer is required to withhold from an employee’s wages and then pay over to the IRS both income tax, see 3402, and the employee’s share of Social Security and Medicare tax (i.e., Federal Insurance Contributions Act tax), see sec. 3102. Under Section 7501(a), “the amount of tax so collected or withheld shall be held to be a special fund in trust for the United States”; consequently, these withheld taxes are referred to as “trust fund taxes.”
- One of the means Congress has enacted to ensure that these trust fund taxes are paid over to the Government is Section 6672, under which “the officers or employees of the employer responsible for effectuating the collection and payment of trust-fund taxes who willfully fail to do so are made personally liable to a ‘penalty’ equal to the amount of the delinquent taxes.” Slodov v. U.S., 436 U.S. 238, 244-45 (1978).
- Before the IRS may assess a Section 6672 penalty, it must mail a preliminary notice (here, the Letter 1153) “to an address as determined under Section 6212(b)”, i.e., to the responsible person’s last known address (or it may deliver the notice in person) advising of the proposed assessment of a Section 6672 penalty. 6672(b)(1). Notification by mail (or delivery in person) is sufficient to comply with the notice requirement of Section 6672(b)(1). See Mason v. Comm’r, 132 T.C. at 322-23. “The Commissioner may issue notice and demand for and assess the penalty 60 days after notification under Section 6672(b)(1), during which period the taxpayer may appeal the proposed assessment and request an Appeals conference.” Bland v. Comm’r, T.C. Memo. 2012-84. If the taxpayer appeals and the Appeals officer determines that the taxpayer is liable for the penalty as a responsible person, the matter is returned to the Commissioner for assessment and collection.
- If the taxpayer fails to pay any federal tax liability after notice and demand, section 6331(a) authorizes the IRS to collect the tax by levy on the taxpayer’s property; and Section 6323(f) authorizes the IRS to file an NFTL to protect the Government’s interests. However, Congress has added to chapter 64 of the Code certain provisions entitled “Due Process for Liens” and “Due Process for Collections,” and the IRS must comply with those provisions before it can proceed with a levy or sustain the filing of an NFTL.
- The IRS must first issue a final notice of intent to levy and/or a notice of filing an NFTL and must notify the taxpayer of the right to an administrative hearing. 6320(a) and (b), 6330(a) and (b)(1). After receiving such a notice, the taxpayer may request that administrative hearing, secs. 6320(a)(3)(B), (b)(1), 6330(a)(3)(B), (b)(1), which is called a “CDP hearing” and takes place before Appeals, secs. 6320(b)(1), 6330(b)(1). If the taxpayer is dissatisfied with the outcome there, he can appeal that determination to the Tax Court, secs. 6320(c), 6330(d)(1).
- During the CDP hearing, the Appeals officer must verify that the requirements of any applicable law or administrative procedure have been met by IRS personnel. 6330(c)(3)(A). In addition, the taxpayer may “raise at the hearing any relevant issue relating to the unpaid tax or the * * * [collection action], including” challenges to the appropriateness of the collection action and offers of collection alternatives. Sec. 6330(c)(2)(A). Moreover, the Appeals officer must determine “whether any proposed collection action balances the need for the efficient collection of taxes with the legitimate concern of the person that any collection action be no more intrusive than necessary.” Sec. 6330(c)(3)(C). Finally, the taxpayer may contest the existence and amount of the underlying tax liability, but only if he did not receive a notice of deficiency or otherwise have an opportunity to dispute the tax liability. Sec. 6330(c)(2)(B).
- If the taxpayer properly challenges the underlying tax liability during the CDP hearing, the Tax Court reviews Appeal’s determinations de novo. Goza v. Comm’r, 114 T.C. 176, 181-82 (2000). For other issues, the Tax Court reviews the determination for abuse of discretion. at 182. Under this latter standard, the Tax Court decides whether the determination was arbitrary, capricious, or without sound basis in fact or law. See Murphy v. Comm’r, 125 T.C. 301, 320 (2005), aff’d, 469 F.3d 27 (1st Cir. 2006).
- A taxpayer may not contest the underlying liability in a CDP hearing unless the taxpayer did not receive a statutory notice of deficiency for such tax liability or otherwise did not have an opportunity to dispute such tax liability. For these purposes, a prior conference with Appeals, offered before or after assessment, is an “opportunity” to dispute the underlying liability. Reg. § 301.6320-1(e)(3), Q&A-E2.
- In the specific context of CDP cases involving TFRPs, the Tax Court has held that a taxpayer has an “opportunity” to dispute his liability for a TFRP when he receives a Letter 1153. See Mason v. Comm’r, 132 T.C. at 317-18. Thus, if the taxpayer receives a Letter 1153 and takes the resulting “opportunity to dispute” the underlying TFRP liability at the Appeals conference, then the taxpayer is precluded by Section 6330(c)(2)(B) from challenging the underlying tax liability in a subsequent CDP hearing. The same is true of the taxpayer who receives a Letter 1153 but foregoes the opportunity to dispute liability by failing to timely request the Appeals conference. See Bletsas v. Comm’r, T.C. Memo. 2018-128, aff’d, 784 F. App’x 835 (2d Cir. 2019).
- The Tax Court has consistently held that where a taxpayer has taken all of the proper steps to avail himself of the opportunity to dispute his liability under Section 6330(c)(2)(B), the statute requires that the taxpayer in fact realize that opportunity. See Perkins v. Comm’r, 129 T.C. 58, 66-67 (2007); Mason v. Comm’r, 132 T.C. at 318-21; Romano-Murphy v. Comm’r, 152 T.C. 278, 305-313 (2019).
- The harmless error rule “is to be used only ‘when a mistake of the administrative body is one that clearly had no bearing on the procedure used or the substance of decision reached.’” Romano-Murphy v. Comm’r, 152 T.C. at 311.
Insight: The Barnhill decision was a major win for taxpayers and particularly those with trust fund recovery penalty issues. In the event Mr. Barnhill had lost, he would have been required to pay a divisible part of the employment taxes at issue, file a claim for refund, and also litigate the matter in the federal district court or Court of Federal Claims. Due to the Tax Court’s decision, Mr. Barnhill can now litigate the tax liabilities at the Tax Court.
Belair Woods, LLC v. Comm’r, T.C. Memo. 2020-112
Short Summary: The case involved charitable contribution deductions for conservation easements. It arose on the IRS’s motion for partial summary judgments, contending that the charitable contribution deduction claimed by Belair Woods, LLC (Belair), was properly disallowed be- cause the conservation purpose underlying the easement was not “protected in perpetuity” as required by section 170(h)(5)(A).
In December 2008 Belair acquired, by contribution from HRH Investments, LLC (HRH), a 145-acre tract of land in Effingham County, Georgia. On December 30, 2009, Belair donated a conservation easement over 141 acres of that tract to the Georgia Land Trust (GLT or grantee), a “qualified organization” for purposes of section 170(h)(3).
The deed recognizes the possibility that the easement might be extinguished at some future date. In the event the property were sold following judicial extinguishment of the easement, paragraph 17 provided that “[t]he amount of the proceeds to which Grantee shall be entitled, after the satisfaction of any and all prior claims, shall be determined, unless otherwise provided by Georgia law at the time, in accordance with the Proceeds paragraph.” Paragraph 19, captioned “Proceeds,” specified that the deed granted the Conservancy “a real property interest, immediately vested in Grantee,” and that this vested property interest entitled the Conservancy to receive, in the event of an extinguishment, a share of any future proceeds determined by multiplying the fair market value of the Property unencumbered by this Conservation Easement (minus any increase in value after the date of this Conservation Easement attributable to improvements) by the ratio of the value of the Conservation Easement at the time of this conveyance to the value of the Property at the time of this conveyance without deduction for the value of the Conservation Easement.
Key Issue: Whether the charitable contribution deductions related to conservation easements should be recognized. Ultimately, the issue turned on whether the underlying deed granting the easement satisfied the Treasury Regulation’s “protected in perpetuity” requirement.
Primary Holdings: The Court granted the IRS’s Motion for Summary Judgment, holding, that Belair’s deed fails to satisfy the “protected in perpetuity” requirement.
Key Points of Law:
- The Code generally restricts a taxpayer’s charitable contribution deduction for the donation of “an interest in property which consists of less than the taxpayer’s entire interest in such property.” Sec. 170(f)(3)(A). But there is an exception for a “qualified conservation contribution.” Sec. 170(f)(3)(B)(iii), (h)(1). For the donation of an easement to be a “qualified conservation contribution,” the conservation purpose must be “protected in perpetuity.” Sec. 170(h)(5)(A).
- The regulations recognize that “a subsequent unexpected change in the conditions surrounding the property that is the subject of a donation * * * can make impossible or impractical the continued use of the property for conservation purposes.” Id. subdiv. (i). Despite that possibility, “the conservation purpose can nonetheless be treated as protected in perpetuity if the restrictions are extinguished by judicial proceeding” and the easement deed ensures that the charitable donee, following sale of the property, will receive a proportionate share of the proceeds and use those proceeds consistently with the conservation purposes underlying the original gift. Ibid. In effect, the “perpetuity” requirement is deemed satisfied be- cause the sale proceeds replace the easement as an asset deployed by the donee “exclusively for conservation purposes.” Sec. 170(h)(5)(A).
- Judicial estoppel applies in the Tax Court. See Huddleston v. Commission- er, 100 T.C. 17, 28 (1993). Generally, three non-exhaustive factors guide our analysis when asked to invoke this doctrine. We consider whether: (1) “a party’s later position * * * [is] ‘clearly inconsistent’ with its earlier position,” (2) “the party has succeeded in persuading a court to accept that party’s earlier position,” and (3) “the party seeking to assert an inconsistent position would derive an unfair advantage.”
- The donation of a conservation easement gives rise to a deduction only if it imposes “a restriction (granted in perpetuity) on the use which may be made of the real property.” Sec. 170(h)(2)(C). The “donation under this paragraph” thus consists of the use restrictions that are imposed in perpetuity by the easement deed. See sec. 1.170A-14(g)(6)(i), Income Tax Regs. The restrictions imposed by the easement deed necessarily apply, not only to the land, but also to any improvements made by the grantor pursuant to its reserved rights.
- Deductions are a matter of legislative grace, and a taxpayer must prove its entitlement to the deductions it claims. INDOPCO, Inc. v. Commissioner, 503 U.S. 79, 84 (1992). To be entitled to a deduction for the donation of a conservation easement, the donor must ensure that the donation “gives rise to a property right, immediately vested in the donee organization,” to receive a proportionate share of the proceeds of any post-extinguishment sale. Sec. 1.170A- 14(g)(6)(ii), Income Tax Regs.
Insight: This case raises substantially the same issues raised in PBBM-Rose Hill, Ltd. v. Commissioner, 900 F.3d 193 (5th Cir. 2018); Oakbrook Land Holdings, LLC v. Commissioner, 154 T.C. __ (May 12, 2020); Coal Prop. Holdings, LLC v. Commissioner, 153 T.C. 126 (2019); and Carroll v. Commissioner, 146 T.C. 196 (2016). It is yet another example of the IRS’s continued focus on syndicated conservation easements and its substantial devotion of enforcement resources towards attacking their validity. The case, as many prior cases, has ultimately turned on technical issues related to the underlying deed and its legal descriptions, rather than valuation or other issues.