II. EXAMINATION IMPROVEMENTS
III. INTEREST AND PENALTIES
IV. COLLECTION IMPROVEMENTS
V. ADMINISTRATIVE IMPROVEMENTS
Chairman Kerrey, Chairman Portman, and Commissioners: Thank you for inviting the American Institute of Certified Public Accountants ("AICPA") to testify before you today. The AICPA is the national, professional organization of certified public accountants comprised of 331,000 members. Our members advise clients on Federal, state, and international tax matters and prepare income and other tax returns for millions of Americans. They provide services to individuals, not-for-profit organizations, small and medium-size businesses, as well as America’s largest businesses. It is from this base of experience that we offer our comments.
II. EXAMINATION IMPROVEMENTS
Consistent Standards for Raising An Issue in an IRS Exam
Treasury Department Circular No. 230, IRC section 6694, and professional ethics guidance of the AICPA and the American Bar Association ("ABA") provide that tax advisers may not recommend a position in a return that lacks a realistic possibility of being sustained on its merits. A position is considered to have a realistic possibility of being sustained on its merits if a reasonable and well-informed analysis by a person knowledgeable in the tax law would lead such a person to conclude that the position has approximately a one in three, or greater, likelihood of being sustained on its merits.
Although the AICPA and the ABA prefer not to assign mathematical probabilities to the realistic possibility standard, nevertheless, both professions subscribe to the standard. Unfortunately, the IRS has not chosen to instruct revenue agents to apply the same "realistic possibility" standard before raising issues in examinations.
For example, in a recent IRS examination, a revenue agent asserted in his Revenue Agent’s Report ("RAR") that a taxpayer corporation must switch from the cash method of accounting to the accrual method of accounting based on an IRS Industry Specialization Paper for Health Care. Although the taxpayer was a personal service corporation (with no inventories) that is entitled by statute (IRC sec. 448) to be on the cash method of accounting, the revenue agent did not feel constrained to raise the method of accounting issue. After protesting to the Appeals Office, the appeals officer consulted with the industry coordinator and dropped the issue. The taxpayer incurred the expense of protesting the revenue agent’s adjustment to the Appeal’s Office even though there was no realistic possibility of the IRS prevailing on the accounting method issue.
As a matter of fairness and consistency, we recommend that the IRS require revenue agents to have concluded that there is at least a realistic possibility of success before proposing an adjustment against a taxpayer. One method of ensuring that a position contained in a RAR has a realistic possibility of success could be to require that each RAR be signed by an individual at the group manager or higher level, attesting to the fact that the proposed adjustments set forth therein meet the realistic possibility standard. Implementing a policy such as this would be consistent with tax administration principles for the IRS, set forth in Rev. Proc. 64-22, 1964-1 C.B. 689. (See Exhibit 1.) Rev. Proc. 64-22 provides, in part:
The Service...has the responsibility of applying and administering the law in a reasonable, practical manner. Issues should only be raised by examining officers when they have merit, never arbitrarily or for trading purposes. At the same time, the examining officer should never hesitate to raise a meritorious issue. It is also important that care be exercised not to raise an issue or to ask a court to adopt a position inconsistent with an established Service position.
Timely Case Resolution
Currently, there is no incentive for the IRS to complete an examination within the statutory period (without regard to extension). Furthermore, taxpayers faced with the prospect of a notice of deficiency are, in essence, forced to grant extensions of the limitations period as a matter of course. This practice defeats the general purpose of a limitations period: finality.
Too frequently the Internal Revenue Service initiates an examination of a taxpayer’s return when there is insufficient time remaining within the statue of limitations (without regard to extensions) to complete the examination and make a correct determination of the taxpayer’s liability. In such a case, the IRS must either seek a consent to extend the statute of limitations or issue a statutory notice of deficiency. Ultimately, the choice falls upon the taxpayer; if the taxpayer extends the assessment period, a more accurate determination can be made; if the taxpayer fails to extend the assessment period, a notice of deficiency may be issued. In such a case, the notice of deficiency may be speculative or arbitrary, because the IRS failed to complete a thorough examination of the taxpayer’s books and records.
In response to a notice of deficiency, a taxpayer has two options: file a petition for redetermination with the United States Tax Court or pay the deficiency. Either alternative can result in substantial expense to the taxpayer. Furthermore, a notice of deficiency receives a presumption of correctness before the Tax Court. As a result of the consequences of the issuance of a notice of deficiency, taxpayers generally are forced to agree to an extension of the limitations period.
In complicated audits, such as those involving large corporate returns, it may not be feasible for the IRS to complete an examination within the statutory period. Accordingly, in such cases, it may be reasonable for the government to request a consent to extend the statute. However, in audits of individual taxpayers, the government should complete its examination in the time prescribed by statute, without the need for extensions.
IRC section 7521 specifically states that "if the taxpayer clearly states to an officer or employee of the IRS at any time during any interview...that the taxpayer wishes to consult with an attorney, certified public accountant, enrolled agent, enrolled actuary,...such officer or employee shall suspend such interview regardless of whether the taxpayer may have answered one or more questions." We are aware of many instances where the IRS appeared to demand that a taxpayer personally appear at an initial examination meeting and the taxpayer was not informed of the right to have a representative appear on his or her behalf. In most instances, an examination can be handled in its entirety by a representative. We believe stronger legislation is needed to ensure that taxpayers are notified of their rights and allowed their representation.
Place of Examination
Currently, IRC section 7605(a) provides that the "time and place of examination...shall be such time and place as may be fixed by the Secretary and as are reasonable under the circumstances." Treas. Reg. §301.7605-1 provides general criteria for the IRS to apply in determining whether a particular time and place for an examination are reasonable under the circumstances. The regulation also instructs that sound judgment should be exercised in applying these criteria and that there should be a balancing of the convenience of the taxpayer with the requirements of sound and efficient tax administration. Unfortunately, the IRS placed unnecessary limitations on their field personnel through the Internal Revenue Manual.
Sections 320 (1) and (2) and IRM 4235 provide that the place of examination will be established consistent with the regulation and, with few exceptions, the examination of the records should be made at the taxpayer’s place of business. This guidance also indicates that consideration should be given to conducting the examination at the IRS office or the representative’s office only if the taxpayer’s place of business falls short in some respect relevant to conducting an examination. These guidelines are inadequate and should, therefore, be clarified legislatively.
We recommend that IRC section 7605(a) be amended to state that the "time and place of examination...shall be such time and place as requested by the taxpayer and as are reasonable under the circumstances."
Notice of Examination
The Internal Revenue Service initially contacts taxpayers either by telephone or letter to inform them of an upcoming examination. When the initial contact is made by telephone, it is followed up by a letter in order to present the taxpayers’ rights in written form. However, the process of allowing initial contacts to be made by telephone creates many problems in ensuring taxpayers their rights. The revenue agent may request an appointment with taxpayers in initial calls. Sometimes taxpayers believe they must personally be at the appointment and taxpayers do not understand that they have a right to representation.
In order to protect the rights of taxpayers, we recommend that IRC section 7605 be amended to require that the initial notification of an examination be made in writing. This requirement should be for all examinations. When taxpayers receive a notice of examination, the rights accorded to taxpayers under IRC section 7521 (explanation of examination process, right to be represented, etc.) shall attach at that time.
Privacy in Tax Matters
The complexity of the Federal income tax laws and the often surprising ways in which income tax statutes and regulations may apply to taxpayers with moderate or sophisticated financial affairs means that millions of taxpayers must choose or elect to choose tax advisers. Advisers become privy to much private information about their clients in the course of forming recommendations; for individuals, this may include information about lifestyle, family, and habits; for businesses, it may include trade secrets and competitive factors.
The recommendations or tax advice given to clients may be based in part on such private information and also may involve professional opinions and judgements, and even pure speculation as to the outcome of financial transactions and events over time. Taxpayers expect privacy and confidentiality in discussing tax matters with their advisers. As a matter of public policy, a taxpayer has the right to expect that if the tax adviser selected is authorized to practice before the IRS, all information the adviser has regarding the taxpayer’s tax matters will be accorded the same protection of privacy, regardless of the specific professional classification of the adviser.
Financial Status Audits
There has been much discussion between the IRS and practitioners and much publicity surrounding the use by revenue agents of financial status audit techniques. Unfortunately, training materials for revenue agents on financial status audits (also known as "economic reality audits " and "lifestyle audits") took a dim view of the credibility of taxpayers and their advisers. Such materials encouraged revenue agents to bypass taxpayer representatives to interview taxpayers about their lifestyles. A standard set of questions asked about vacations, recent appliance purchases, taxpayer’s health, and cash on hand, among others.
After a series of discussions between the AICPA and IRS National Office representatives, the National Office conducted a video conference with regional chief compliance officers to disseminate guidance to the field clarifying the intent that financial status audits be limited to those situations in which there was evidence to form a reasonable suspicion about the existence of unreported income.
Although the communications from the IRS National Office were appropriate to curtail the raising of intrusive lifestyle questions when not warranted, the training materials were not withdrawn. Financial status audits continue to be performed under inappropriate circumstances.
Safeguard for Divorced or Separated Spouses and Married Persons in Community Property States
Taxpayer Bill of Rights 2 ("TBOR2") provided for the disclosure of collection activities with respect to joint returns. However, we believe additional safeguards are needed to ensure the equal and fair treatment of spouses who are separated, divorced and/or have community property issues compounding their tax problems. The root of the collection problem is in the examination procedures that do not require both spouses to be involved in an audit. We recommend legislation be enacted that would require, at the initiation of an examination, that the absent spouse must acknowledge by signature whether the other spouse may, or may not, represent the absent spouse. If both parties are aware of, or participate in the examination, then no one should be caught unaware of the liability and the resulting collection process.
III. INTEREST AND PENALTIES
Currently, there is a differential between the interest rate a taxpayer pays on a deficiency and the interest rate the government pays to a taxpayer on an overpayment; the differential rate can vary from 1 percent to 4.5 percent. Situations often arise when a taxpayer is indebted to the government at the same time that the government is indebted to the taxpayer. Absent netting, a taxpayer who owes the government the same amount that the government owes the taxpayer would incur an interest obligation in favor of the government.
The Service’s current policy with respect to interest netting is fundamentally unfair, both because of the manner in which the Service makes interest netting calculations and also because of the Service’s inconsistent application of netting principles, resulting in similarly situated taxpayers receiving disparate treatment.
Interest provisions in the Code are intended to compensate the government or the taxpayer for the use of the money. (Rev. Proc. 60-17, 1960-2 C.B. 942) Interest applies only if there is an amount that is both due and unpaid. ( See, e.g., IRC §6601(a); and Avon Products, Inc. v. United States, 78-2 U.S.T.C. (CCH) 9821 (2d Cir. 1978).) To the extent there is a "mutuality of indebtedness" between the taxpayer and the government (i.e., to the extent the government and the taxpayer owe each other the same amount of money over the same period of time), there is no unpaid balance and, therefore, no amount on which interest should accrue.
The Service’s current policy (See Treas. Reg. §301.6402-1.) of only netting outstanding overpayments against outstanding liabilities for both computational and collection purposes is unfair to taxpayers that promptly pay contested amounts of tax and, therefore, have no "outstanding" liabilities. This is illustrated by the recent case of Northern States Power, in which the company’s prompt payment of alleged deficiencies cost it $460,000 more in interest than it would have had to pay if it had delayed in making the payment. (See Northern States Power Co. v. United States, 73 F3d 764 (8th Cir. 1996), cert denied 117 S.Ct. 168.)
Finally, and of significant import, despite the Service’s stated policies toward interest netting (i.e., that netting can legally occur when both deficiencies and overpayments are outstanding and unpaid, see, e.g., Notice 96-18), netting continues to be performed on an ad hoc basis. A revenue agent’s decision to deny a taxpayer netting is supported and justified by language in the Eighth Circuit’s opinion in Northern States Power, which states that such netting is discretionary. However, the Service’s discretionary application of the law without any formal or enforced guidelines, policies or procedures is inherently unfair to taxpayers. The virtual absence of any clear legal standards for interest netting also is unacceptable from a systemic standpoint, because it affords the IRS unfettered power to convert a taxpayer from a creditor to a debtor, with the size of a potential interest debt quickly becoming astronomical.
Further, viewing comprehensive netting as entirely within the discretion of the Service interjects serious fairness concerns into the settlement process. The Service has used the netting issue as a bargaining chip in negotiations to extract concessions from taxpayers on issues under examination. This inappropriately distances negotiations from the merits of the underlying issues. It also has the inappropriate effect of using netting (or the absence of netting) as a tool to raise revenue, rather than as a means to compensate for the use of money.
The Service counters taxpayer comments regarding unfairness with claims that netting in all situations is not administratively feasible. While comprehensive interest netting raises concerns of administrative feasibility, more progress must be made in balancing these concerns against concerns of taxpayer fairness. The Taxpayer Advocate notes in his report that he has "a responsibility to address continuing systemic problems." Interest netting is one such problem.
For these reasons, we recommend that the Taxpayer Advocate work to ensure that guidance be issued to implement comprehensive netting in all situations in which the IRS currently has the administrative capability to do so. In all other situations, as an interim measure, guidance should be issued providing that the Service will net comprehensively at the request of the taxpayer, provided the taxpayer furnishes the Service with relevant information and interest computations. By "comprehensive netting" we mean netting for all interest accruing after December 31, 1986 for all types of taxes and all years (open or closed) to the extent necessary to compute interest accurately for a refund or an assessment in an open year. This interim recommendation is similar to the elective approach recently recommended by the House Ways and Means Subcommittee on Oversight, as well as the approach of a draft revenue procedure submitted by the Compliance Subgroup of the Commissioner’s Advisory Group at its January 1995 meeting.
We also recommend that guidance in this area be issued in the form of proposed regulations, so that all interested persons will have an opportunity to comment on the technical details. As stated by House Committee on Ways and Means Chair Bill Archer in his letter to Treasury Secretary Rubin dated September 26, 1996: "In my view, Congress has given Treasury and the IRS both a clear mandate and clear authority to implement comprehensive procedures to net underpayments and overpayments before applying differential interest rates." Chairman Archer concluded that "[i]nterest netting is an [sic] problem that Congress has long expected would be resolved administratively and I certainly hope that Treasury will reexamine its position on this issue." This would be an appropriate area for the Taxpayer Advocate to work to see that the interests of taxpayers are protected. If it is determined that the Service is legally prohibited from netting in certain circumstances, the Taxpayer Advocate should recommend a legislative remedy.
Detailed Interest Computations
We believe the IRS should provide interest computations, as a matter of course, to taxpayers when adjustments involving interest are made. Currently, a taxpayer only receives a notice showing the amount of tax and the interest due on such amount. IRC section 7522, which is applicable for notices mailed on or after January 1, 1990, requires that such notices describe the "basis for, and identify the amounts (if any) of, the tax due, interest, additional amounts, additions to the tax, and assessable penalties included in such notice." At the present time, the starting date for the interest, the principal amount upon which such interest is based, and the rate charged on such amount are not provided to taxpayers as part of the notice procedure.
We believe the "basis for" description in the notice should apply to interest computations and should include interest rates and the dates for which the interest applied, the dates and amount of payments and credits, and the interest compounding method. With this information, taxpayers and practitioners will be able to verify the accuracy of interest computations and expeditiously resolve any discrepancies. We recognize that detailed interest computations could result in a burden to the IRS. Therefore, an exception could be made for de minimis interest amounts such as less than $50 or $100.
The IRS assesses numerous penalties in response to which taxpayers spend a great deal of time documenting reasonable cause for having the penalties abated. The process is both time consuming and expensive. However, based on both reasonable cause and IRS errors, the IRS abates as much as 50 percent of some types of penalties it proposes. Unfortunately, taxpayers without representation are often unaware of the opportunities for abatement. It may be possible to achieve a more cost-effective outcome by establishing criteria for reducing assessments that are likely to be abated.
To reduce the burden on both the IRS and taxpayers, the IRS could establish safe harbor provisions for a variety of penalties which would automatically be deemed to be reasonable cause for abatement. This could be confined to late filing, late deposit and certain information return related penalties. The object would be to concentrate on those penalties that are regularly assessed and abated. Safe harbor provisions could take the form of:
· No penalty assessments for an initial occurrence; however, the taxpayer would receive a notice that a reoccurrence will result in a penalty;
· Automatic non-assertion based on a record of a certain number of periods of compliance; or
· Voluntary attendance at some type of educational seminar on the issue in question, as the basis for non-assertion or abatement.
Use of this approach would encourage and create a vested interest in compliance, since a good history of compliance could automatically result in relief. Additionally, the likelihood of future abatements would diminish if the taxpayer has a history of non-compliance. Furthermore, a system of automatic abatements would reduce the time spent by the IRS and taxpayers on proposing assessments, initiating and handling correspondence, and subsequently abating a high percentage of penalties. The ability to abate a penalty for a reasonable cause other than those used for automatic abatements would exist; however, reasonable cause abatements requiring independent evaluation may be reduced.
IV. COLLECTION IMPROVEMENTS
Application for Extension of Time to Pay (Form 2911) and Installment Agreements
The IRS’s Consolidated Penalty Handbook stresses that the purpose of penalties is to "encourage compliant conduct." When there has been an application for extension of time to pay or a request for an installment agreement that is made in good faith, in proper form, and evidences a reasonable basis for the application, then the penalty should not be applied, beginning on the date of the application until denial or the termination of the extension or installment agreement, whichever occurs later. Therefore, we recommend that IRC section 6651(a)(3) be amended to provide that the failure to pay penalty does not apply when an extension of time to pay or an installment agreement is in effect.
Damages for Wrongful Liens
We recommend legislation be considered for a cause of action against the IRS for wrongful liens and a similar cause of action on liens in violation of the automatic stay provisions in bankruptcy proceedings.
Payroll Tax Collection
TBOR2 made a number of changes in the procedures for the assessment against and collection of unpaid payroll taxes from owners, officers and others, known as "responsible persons." We recommend additional legislation be enacted to prohibit the IRS from attempting to collect the trust fund recovery penalty (also known as the 100 percent penalty) from any alleged responsible person during the pendency of any administrative proceeding or judicial action brought to contest the merits of the trust fund recovery penalty liability.
V. ADMINISTRATIVE IMPROVEMENTS
Disclosure Changes (PIN/POA)
IRS statistics indicate approximately 50 percent of all returns are prepared by commercial preparers. We believe, especially because of the complex nature of the tax law, that taxpayers have a right to expect that the hiring of a preparer will avoid personal inconvenience and unnecessary loss of their own productive time in having their return accepted in the processing phases by the IRS. Our experience and IRS records show that the processing of notices during the return perfection and processing phase is a significant workload factor. Many practitioners and taxpayers, unaware of the strict enforcement of the disclosure rules, attempt to resolve these notices by having a preparer "do what the preparer is being paid to do" – prepare the return, solve any processing problems, and appropriately interact with the Service.
We believe changes in the disclosure rules would reduce taxpayer burden, reduce IRS correspondence in dealing with ineffective contacts by preparers without a power of attorney, and support the taxpayer’s rights to be represented. Specifically, we recommend that third parties be allowed to discuss a notice and its related account with the IRS by use of a Personal Identification Number ("PIN") on the notices sent to taxpayers.
The use of a PIN was under active discussion between the AICPA Tax Practice and Procedures Committee and the IRS in the past, but we were unable to reach agreement with the Service regarding implementation of such a procedure.
The ability of a practitioner, parent, child or neighbor to assist a taxpayer who does not understand, see well, hear well, etc., in handling his or her business affairs with the IRS immediately (i.e., a telephone reply or discussion), would reduce burden (both time and cost) and frustration, in addition to the cost of tax administration for the IRS, taxpayers, and preparers. A system of interacting via telephone with the IRS is the future of "one-stop" service and efficiency in a modern-day tax system. Holding two-way conversations with the IRS to discuss notices, payments, penalties, errors, missing information, etc. must be distinguished from representing taxpayers before the Service and entering into binding agreements on their behalf, for which there is a need for a formal power of attorney.
Consistency When Implementing IRS Policies
Often, the Service will institute policies designed to assist taxpayers or clarify the application of particular Code sections. However, when the Service institutes policies that impact taxpayers it can be unfair when those policies are applied only to some taxpayers. In certain instances, the policies are designed to apply only to particular taxpayers, and those instances are not at issue. But, when a benefit is intended to apply to a taxpayer, and through ignorance or capriciousness, an agent fails to give the taxpayer the benefit of those policies, it is to the detriment of both the taxpayer and tax administration. One such example is cited above, in reference to interest netting. However, other examples exist. On June 3, 1996, the Assistant Commissioner (Examination) issued a memorandum to all regional compliance officers regarding overly broad Information Document Requests ("IDRs"). The memorandum was, in part, in response to complaints from taxpayers and practitioners about revenue agents initiating an examination and immediately requesting an array of documents, many of which prove to be irrelevant to the examination. The well-reasoned memorandum of the Assistant Commissioner (Examination) set forth a standard for issuing document requests: an IDR should be issued for specifically identified issues or specifically identified reasons. The memorandum made it clear that "kitchen sink" or "boxcar" IDRs are inappropriate.
The experience of many tax practitioners is that the guidance issued by National Office is sometimes disregarded and, in this instance, many agents are unaware of the memorandum. As a result, taxpayers continue to receive these overly broad, burdensome document requests. From the standpoint of an advocate, it is imprudent to bypass the revenue agent, and taxpayers often must comply with these IDRs. As a general principle, the Service must strive to communicate its policies more uniformly throughout the organization. Policies should be meaningful, and there should be consequences when an agent or appeals officer disregards a policy set forth by the National Office.
IRS "Test" Programs
In an effort to enhance taxpayer service, the IRS has implemented several test programs or other programs that are limited to select groups of taxpayers. Generally, it is the intent of the Service to expand test programs to other groups of taxpayers. Unfortunately, expanding the scope of taxpayers who may avail themselves of some of these programs often takes years, if ever. Some of these programs are naturally suited to be expanded into other areas.
For example, in Fiscal Year 1996, the Service began a one-year test of mediation with certain types of cases in the Coordinated Examination Program. The Service has now announced that the "test" will continue for another year. To the extent that mediation has been used, it has been an unmitigated success. Furthermore, there are other taxpayers and subject matters that would be particularly well suited to mediation – such as valuation cases – that could benefit from the expansion of the mediation program rather than continuation as a "test". Other programs that could be evaluated for expedited expansion include accelerated issue resolution, early referral, and the delegation of more settlement authority to the Examination Division.
Taxpayer Assistance Order
IRC section 7811 authorizes the Taxpayer Advocate to issue a Taxpayer Assistance Order if the Taxpayer Advocate determines the taxpayer is suffering or about to suffer a significant hardship. The Code, regulations and other administrative guidance set forth a standard of hardship requiring that the basis for seeking relief is "undue" or "significant" hardship. While TBOR2 expanded the Taxpayer Advocate’s statutory authority under IRC 7811, we recommend that it be expanded further by elimination of the qualifiers "undue," "significant," etc., thereby providing broader authority for the Taxpayer Advocate to take action when deemed necessary to assure that taxpayers do not suffer unfairly.
Awarding of Costs and Certain Fees
While TBOR2 made some changes to the awarding of costs (e.g., it increased the limits on attorney fees and added a requirement that the United States must establish that its position in the proceeding was substantially justified), it did not address the issue of administrative costs. We recommend that IRC section 7430 be amended to provide that any person who substantially prevails in an administrative proceeding can recover reasonable administrative costs if such costs are incurred after the earlier of (1) the date of the first notice of proposed deficiency that allows the person an opportunity for an administrative review with Appeals, or (2) the date of the notice of deficiency described in IRC section 6212. This would allow taxpayers to recover costs for taking a case to Appeals when the government’s position is not substantially justified. To protect the government, the amendment to IRC section 7430 could provide that administrative costs will not be recovered if the government can show that its position was substantially justified.
Notification of Intention to Offset
Current IRS procedures require that before any overpayment is refunded or credited to estimated tax, as requested by the taxpayer, there must be a review of a taxpayer’s account for any balances due. If a balance due is showing for the taxpayer on another account or module, the overpayment will be offset and the remaining balance, if any, refunded or credited. The taxpayer is not given an opportunity to verify the correctness of the IRS data before this action is taken. We believe the IRS should provide taxpayers with notification of its intention to offset an overpayment from one account to a balance due on another account or module. We recognize the IRS’s authority to credit amounts due the taxpayer to any other liability of the taxpayer, in accordance with IRC section 6402. However, the taxpayer should be notified of such credit application before the action is taken. In many instances, the balance due is erroneous or subsequently abated. Also, the credit application may have serious ramifications for the taxpayer, particularly an individual or a smaller business that cannot afford to engage a representative to deal with the IRS on such issues.
For example, a taxpayer may elect to apply an overpayment of income tax from one year to the next as an estimated tax payment. This overpayment is sufficient to cover the taxpayer’s first quarter estimate for the subsequent year. The taxpayer, a sole proprietor, may have been assessed an employment tax penalty on a given quarter. The penalty is due to the fact that a proper liability breakdown was not included with the Form 941. Once this information is supplied by the taxpayer, the penalty will be abated.
Under the IRS’s current system, the taxpayer’s overpayment of income tax will be applied to the outstanding assessment for the employment tax penalty. The remaining amount applied to the first quarter estimated tax payment for the subsequent year may then be insufficient to cover the required quarterly payment and cause the taxpayer to be subject to an estimated tax penalty on the subsequent year. If the employment tax penalty is subsequently abated, the amount credited to the account will then be refunded to the taxpayer from the employment tax account; the estimated tax penalty will not be abated automatically.
We recommend that taxpayers be notified prior to the application of overpayments to balances due on other accounts or modules. There may be other actions in progress to rectify such accounts or significant mitigating factors under consideration by another area within the IRS. The application of such overpayments, without providing the taxpayer an opportunity to address the situation, is a denial of "due process" and may create unnecessary complications and frustrations for both the IRS and taxpayers.
Protection from Retroactivity
TBOR2 provided relief from retroactive application of Treasury Department regulations by providing that temporary and proposed regulations must have an effective date no earlier than the date of publication in the Federal Register or the date on which any notice substantially describing the expected contents of such regulation is issued to the public, with some limitations. The revision also allowed Treasury to provide that taxpayers may elect to apply a temporary or proposed regulation retroactively from the date of publication of the regulation. However, to date, Treasury has not provided taxpayers with the option of retroactive application.
In addition, the changes by TBOR2 did not address the issue of proposed regulations that are not finalized in a timely manner. For example, many proposed regulations have existed for ten years or more and have yet to be finalized. Even with the TBOR2 changes, such changes would apply retroactively to the date the proposed regulations were first issued. We recommend a time limit of no more than eighteen months be added for the period between the date proposed regulations are issued and the date they are finalized, for purposes of retroactive application.
We believe requiring the rounding of numbers on most tax returns would decrease the number of errors in tax return preparation and processing. It could greatly enhance efficiency in processing tax returns and does not affect the rights of individual taxpayers.
Technical Advice in Employee Plans and Exempt Organizations
Currently, if technical advice is sought with regard to an exempt organization, and the determination by the National Office is in favor of the Service as to a tax-related issue (i.e., liability for or amount of tax), Examination is bound by that determination; however, the taxpayer may take the issue to Appeals. If already in Appeals (or once appealed), Appeals may settle the issue, but must accept the underlying legal analysis of the National Office. In other words, Appeals could settle the issue based on litigation risks, but could not ‘give away’ the issue. However, if technical advice is sought with regard to an exempt organization and a determination is made by the National Office that the entity does not qualify as an exempt organization (or has engaged in activity that should result in the termination of the entity’s exempt status), both the Examination and Appeals Divisions of the Service are bound by this decision.
Generally, technical advice may be reviewed on appeal, and the Appeals Division of the Service may settle an issue, regardless of technical advice. The reason for this is that the Appeals Division specializes in, and is trained to look at factors other than the "Service’s position" as to an issue. Appeals is intended to give the issue a "fresh look" and can make independent determinations. One important factor considered in Appeals is the risk of litigation. Generally, issues may be settled for some dollar value despite the fact that one (or both) of the parties believes that its position is correct. However, the unique rules established in the limited circumstances of EP/EO deny taxpayers a "fresh look" other than by a court, which necessarily involves the expenses of litigation.
The AICPA appreciates the opportunity to offer comments at today’s hearing and is willing to provide the Commission with additional assistance and comments as requested. Thank you for your attention.