By Anthony Diosdi
The Internal Revenue Service (“IRS”) audits thousands of tax returns every year and often proposes to assess significant additional tax liabilities against hardworking taxpayers. If you have been assessed an additional tax liability through an audit, you should understand that the IRS auditor is not always correct and you have options. First, you can administratively appeal (within the IRS) the determination of the auditor. If an appeal of the audit is not successful or you simply do not wish to deal with the IRS anymore, if your facts and circumstances warrant, you can take the IRS to court and ask the court to reverse the auditor’s determination.
Litigating a tax controversy in court will present a number of important decisions prior to going to court. One of the most crucial decisions that must be confronted in tax litigation is the forum in which to litigate the tax controversy. Most taxpayers are surprised to learn that there are three different federal courts available to initiate tax litigation. These are the United States Tax Court, the United States district courts, and the Federal Court of Claims. Two principal generic types of tax litigation can be characterized as either deficiency litigation or refund actions. Deficiency litigation typically takes place in the Tax Court (although there are exceptions to this rule in cases involving employed taxes and FBAR penalties). Deficiency litigation challenging the IRS’ determination of a tax liability may be instituted in the Tax Court only after the receipt of letter known as a statutory notice of deficiency. This correspondence is commonly known as a “90-day letter.” Deficiency litigation in Tax court is commenced by the filing of a petition for redetermination within 90 days after the statutory notice of deficiency is mailed. Once a petition for redetermination is timely filed, the Tax Court acquires exclusive jurisdiction over the tax period or periods involved. Prior payment of the deficiency indicated on the statutory notice of deficiency is not required. On the other hand, refund actions are conducted solely before the United States district court or the United States Court of Federal Claims. For the most part, tax controversy cases can only be litigated before a United States district court or Court of Federal Claims after tax assessments are paid in full and a timely claim for refund is filed with the IRS.
The claim for refund must be filed on or before the later of: 1) three years from the date the return was filed, or 2) two years from the date the tax was paid. If the refund claim is denied or if a notice of claim disallowance is not issued within six months from the date the refund is filed, the taxpayer then must commerce what is known as tax refund litigation. A tax refund action may be instituted in either the United States district court for the federal district with appropriate venue for the taxpayer, or in the Court of Federal Claims.
Payment of Tax
One of the most significant differences among the available trial forums is the necessity of prepayment of the tax. Payment of the tax is not required to commence deficiency litigation in the Tax Court. However, the Tax Court can be deprived of jurisdiction if payment is made before issuance of the issuance of the statutory deficiency. The Tax Court is the only forum in which tax controversy can be litigated without advance payment of tax.
As a practical matter, if you do not have the financial means to pay a tax proposed in an audit advance, the Tax Court may be the only court you can litigate your dispute with the IRS. However, at the conclusion of your case, if the Tax Court determines you are liable for any portion of the tax stated on the statutory notice of deficiency you will owe those taxes. You should understand that interest will accrue from the due date of the tax return on any additional taxes owed as a result of the Tax Court’s decision. Therefore, in certain cases, it may be advantageous to pay a proposed tax deficiency in advance. As will be discussed in more detail below, the prepayment of taxes should not allow that factor alone to be the sole justification where you elect to litigate a tax controversy.
Judicial Precedent
In choosing among tax litigation forums, applicable cases will be a controlling consideration if the issue has previously been resolved in one tribunal. All federal courts must follow a controlling decision of the United States Supreme Court. With that said, only a few tax cases are heard by the Supreme Court. As a result, the case law (or lack of controlling authority) of the various circuit courts of appeal (including the Federal Circuit), and the particular trial forum commonly comprise the relevant judicial precedent.
Appeals from final decisions of the Tax Court and final judgments of the district court is the court of appeals with appellate venue over the taxpayer by reason of residence or principal place of business. Thus, an adverse precedent by the taxpayer’s local court of appeals will suggest a tax refund action in the Court of Federal Claims. Appeals from the Court of Federal Claims lie to the Court of Appeals for the Federal Circuit, and neither the Court of Federal Claims nor the Federal Circuit is required to follow a decision rendered by another court of appeals.
If there is no controlling decision by the taxpayer’s court of appeals, the decisional law of the three forums must be closely examined. An adverse decision by the Tax Court will ordinarily dictate tax refund litigation be instituted in either the district court or Court of Federal claims. Conversely, if an adverse decision has been rendered by a district court, and there is no controlling decision by the taxpayer’s circuit, either the Tax Court or the Court of Federal Claims should be considered the appropriate forum.
If you are considering challenging an IRS assessment in court, you should seek the advice of a tax attorney experienced in litigating tax controversies. The tax attorneys at Diosdi Ching & Liu, LLP assisted hundreds of clients resolve tax controversies nationwide before the United States Tax Court, United States district courts, United States Court Federal Court of Claims, and the United States Court of Appeals.
Anthony Diosdi is a partner and attorney at Diosdi Ching & Liu, LLP, located in San Francisco, California. Diosdi Ching & Liu, LLP also has offices in Pleasanton, California and Fort Lauderdale, Florida. Anthony Diosdi represents clients in federal tax controversy matters and federal white-collar criminal defense throughout the United States. Anthony Diosdi may be reached at 415.318.3990 or by email: adiosdi@sftaxcounsel.com.
This article is not legal or tax advice. If you are in need of legal or tax advice, you should immediately consult a licensed attorney.