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October 24, 2006

Interest on IRS Tax Debts

IRS Debts

Houston Tax Attorney

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The legal framework for abating IRS tax penalties and interest often produces unfair and – depending on your perspective – questionable results. Beall vs. United States provides an example.

Facts & Procedural History

The Bealls were limited partners in two partnerships. The Bealls filed a joint tax return for tax year 1984. The IRS audited the Bealls’ 1984 return as part of an investigation of a general partner of the two partnerships in which the Bealls were limited partners. As the court explains:

In March 1989, in connection with a grand jury investigation, the IRS entered the general partner’s office and seized the partnerships’ books and records. The grand jury proceedings remained ongoing for four years and were concluded without any indictments or charges being brought or filed. During this time, the United States suspended the civil examination and adjustment process. The IRS did not return the partnerships’ books and records until 1993, and when the IRS did return them, some had been lost and the remainder were in disarray.

Settlement with IRS

Sometime in 1996 the Bealls entered into a settlement agreement with the IRS for issues related to the partnerships. About a year and a half later the IRS notified the Bealls that the IRS had assessed an additional $29,978 of taxes and penalties and interest in the amount of $67,525, which the Bealls paid.

The Bealls asked the IRS to abate the tax interest, but the IRS refused. Tax litigation ensued. Ultimately the courts agreed with the IRS that the tax debt interest should not be abated because the IRS’s decisions in regard to criminal investigation of taxpayers’ partnerships’ general partner and the IRS’s returning taxpayers’ partnership records in disarray, with some records missing, were not “ministerial acts” triggering abatement eligibility.

“Ministerial Acts”

“Ministerial” acts are basically acts by IRS employees that do not require independent thought or judgment. The IRS has the discretion to abate IRS tax penalties that result from errors or delays resulting from IRS “ministerial” acts (I know what you are thinking, that by this definition all acts by the IRS are “ministerial” in some sense – but I will not address that thought today).

Lets think about this. Given these facts, in 1996 who was in the best position to point out that the Bealls owed an additional tax and penalties and interest? If the answer is the IRS and if the IRS failed to notify the Bealls of the additional tax and penalty and interest in a timely fashion, why then should the Bealls be required to pay interest during that time? Should it matter that the IRS “thought” about filing a criminal case that resulted in no indictments or that the IRS “thought” about losing and returning taxpayer records in disarray?

Calculating IRS Tax Interest 

This exact issue comes up in nearly all IRS tax audits. Let me explain. Revenue Officers do not calculate interest. Calculating IRS tax interest is such a complicated matter that it takes a computer and a special IRS office to calculate – and even then, the IRS almost always gets it wrong. It really is that difficult to compute – even in relatively simple cases (I am not kidding here).

Thus, when the IRS Revenue Officer closes an audit they merely request payment for any addition to tax, they do not request payment for tax interest. I have not encountered one single case where the Revenue Officer has tried to be helpful by telling the taxpayer that, “hey, in approximately two years from now you will be getting a bill from the IRS for interest on the tax that we made the adjustment for today. You might consider making a tax tax deposit for that so that the penalty and interest do not continue to incur additional interest during this time. Otherwise you will probably have to hire a tax attorney to try to get the interest and possibly the additional penalties removed.”

Why do IRS Revenue Officers not make this suggestion? For one, taxpayers cannot make deposits unless they know the amount “in dispute.” Since the IRS will not yet have calculated the “amount in dispute” (and they will not do so for about two more years, or longer) and the calculation is so complex that few (if any) taxpayers could calculate the amount on their own, there is no way that the taxpayer can make a deposit to halt the accrual of interest. Moreover, few (if any) taxpayers are even aware that interest is a problem that they should address, especially since the IRS does not tell them about it until it starts asking for payment.

Second, why does the Revenue Officer care? They finished their duties by completing the audit and making the adjustment. The phantom interest is someone else’s problem – namely, the taxpayers and the taxpayer is the opponent, irresponsible, and all sorts of other bad things.

When you take a step back and look at our tax interest and interest collection process, it becomes clear that this is not the result that Congress had in mind when it penned the “ministerial” and “managerial” acts statute. If Congress really wanted to make the US revenue collection system more friendly, they should start with the tax interest provisions.

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