A well-drafted closing agreement can provide a level of certainty to an uncertain tax position. The agreements do this by binding the IRS and the taxpayer. They normally include language that says that the agreements are valid for all Federal income tax purposes. In Analog Devices, Inc. v. Commissioner, 147 T.C. 15, the court concluded that the word “all” does not actually mean “all.”
IRS Closing Agreements
The IRS enters into closing agreements with taxpayers in some circumstances. These agreements settle the taxpayer’s liability for particular types of taxes or specific matters that impact the tax liability. They apply only to the tax years that are included in the agreements.
The Tax Code grants the IRS the authority to enter into closing agreements, but the meaning of the terms included in the closing agreements are construed by Federal contract law. This law looks to the parties’ intent by focusing on the language included in the agreement and, if there is any ambiguity, to various canons of statutory construction. The cannons are general rules for interpreting language in the context of the agreement, circumstances, etc.
The Analog Devices Case
In Analog Devices, the court considered the phrase “for all Federal income tax purposes” that was included in a closing agreement. The closing agreement required the taxpayer to establish an account receivable from its wholly-owned foreign subsidiary to its U.S. parent entity as of the last day of specific tax years that had already passed. So the question for the court was whether this retroactive inter-company receivable was a “debt” for purposes of Sec. 956. Sec. 956 is a Federal income tax statute and it is part of the Tax Code. So to be more precise, the question for the court was whether the phrase “for all Federal income tax purposes” includes Sec. 956 when the closing agreement is being applied retroactively. The court concluded that it does not.
The court reached this conclusion by factoring in its prior decision in BMC Software, Inc. v. Commissioner, 141 T.C. 224 (2013). In that case, the court concluded that the phrase “for Federal income tax purposes” included Sec. 956. On appeal, the Fifth Circuit Court of Appeals had reversed the decision in BMC Software. The Fifth Circuit reasoned that the debt did not exist until the closing agreement was entered into. So in Analog Devices, the court essentially applied the Fifth Circuit’s determination in BMC Software. The IRS may appeal the decision in Analog Devices to the First Circuit.
The Take Away
If the court in Analog Devices is correct, the case stands for the proposition that an IRS closing agreement for specific matters does not have any impact on tax laws that are not cited in the agreement. This could impact any closing agreement that establishes the tax treatment for a period prior to the time the closing agreement was entered into. This means that taxpayers should revisit the language in their closing agreements to confirm their understanding of what the agreement actually does and taxpayers who enter into closing agreements should put more time into thinking about the language used and opportunities and pitfalls that could come up given their other tax positions.
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