Perception Can Be As Important as Substance in Tax Disputes

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Perception Can Be As Important As Substance In Tax Disputes
Perception Can Be As Important As Substance In Tax Disputes

Taxpayers voluntarily submit information to the IRS.  The IRS not only evaluates the substance of this information, but also the taxpayer’s candor in preparing and providing the information.  The perception of candor is just as important as the substance in many cases.  The Guess v. Commissioner, T.C. Memo. 2018-97, provides an example of how things can go awry when the IRS perceives that the taxpayer is not being open and genuine in providing information.

The Facts & Procedural History

Before the events that were directly involved in the instant case, the taxpayer had submitted an offer in compromise to the IRS to settle a tax debt for an earlier year.  According to the court case, the taxpayer submitted false information in submitting the offer and in the appeal related to the offer.  This included failing to disclose the ownership of real estate that was recently acquired and, implicitly, his business dealings and the funds used to purchase the real estate.

Fast forward to the 2001 and 2002 tax years, which were the subject of this court case.  Through his in-house counsel and staff and outside accountant, he caused a tax return to be filed that reported a deduction for a charitable contribution of part of his business stock to his private foundation for the 2001 and 2002 tax years.  The securities filings for the business showed that the taxpayer still owned all of the stock during these years.

The IRS opened a criminal investigation that led to a conviction for filing false tax returns in 2010, for the 2001 and 2002 tax years.  The criminal case addressed questions as to what information was provided to the accountant to prepare the return and whether backdated documents were involved.  The court concluded that no stock was transferred.

The IRS issued a notice of deficiency in 2016 for the 2001 and 2002 tax years.  The notice of deficiency included civil fraud penalties. The instant court case was the taxpayer’s challenge to the tax and civil fraud penalty.

Footfaults With Sophisticated Transactions or Tax Evasion?

This civil tax case addressed whether the taxpayer correctly reported his taxes and whether civil fraud penalties apply.

Like the criminal court, the U.S. Tax Court was tasked with deciding whether this was a case of (1) a taxpayer who had sophisticated business transactions and dealings and merely failed to follow the technical requirements of the law or (2) a taxpayer who put events in motion to obtain a tax benefit he was not entitled to.

When sophisticated transactions are involved, it is not easy to discern the difference between these two positions.  This is particularly true when the transactions in questions are governed by securities laws.

Regardless of whether the courts made the right decision in these cases, reading the civil case, one cannot help note the recurring reference to the taxpayer providing inaccurate information to the IRS.

Evidence Establishing Fraud

The court considered the evidence in deciding whether the government met its burden to establish fraud:

  1. The court concluded that the criminal conviction, and testimony in the criminal case, established that there was an understatement of tax.  The court even concluded that the taxpayer was collaterally estopped from re-litigating this issue.
  2. The court also concluded that the the “badges of fraud,” i.e., the factors the courts consider in deciding whether tax fraud occurred, had been proven.

The submission of false or inaccurate information was central to the decisions for both of these points.

With respect to the second point, the government even noted, and court considered, the false information the taxpayer submitted to the IRS for his offer in compromise to settle taxes owed prior to the tax years in question.  That the government knew of these circumstances and raised this issue, years after the events had transpired, is telling.

Perhaps the takeaway is that the IRS has a long memory in some cases and a track record of providing inaccurate information to the IRS is likely to lead to recurring tax disputes with the IRS.

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