United States: The Other Shoe Drops

On November 4, 2013, the Internal Revenue Service (IRS) Large Business and International Division released a much anticipated directive on its new Information Document Request enforcement process.  Scheduled to take effect in January 2014, the IRS is contemplating increased use of summonses.


On November 4, 2013, the Internal Revenue Service (IRS) Large Business and International (LB&I) Division released much anticipated guidance on its new Information Document Request (IDR) enforcement process.  Under the new requirements, the IRS will work closely with the taxpayer to establish mutually acceptable deadlines for responses to issue-focused IDRs.  If the taxpayer fails to meet those deadlines, however, the IRS will follow a strict three-tier process for enforcement, without exception.

Background

Under Internal Revenue Code Section 7602, the IRS has broad authority to require taxpayers to produce any information that "may be relevant or material" to "determining the liability of any person for any internal revenue tax."  Under the same section, the IRS can summons any person who fails to produce that information.

Prior IDR policy is found in the Internal Revenue Manual (IRM) Section 4.46.4.4, last updated in March of 2006, which emphasizes "collaboration between the taxpayer and IRS personnel to agree on and provide information needed to support an examination."  The procedures outline a cooperative process in which the examiner and the taxpayer agree upon the response date and the types of information needed.  They also outline a three-tier delinquency procedure process:

  • If the IDR is 15 days late, the agent will follow up with the taxpayer and may agree to an additional 15 days for compliance. 
  • If the IDR is still delinquent at 45 days, the IRS team manager will meet with the taxpayer to discuss, among other things, the importance of the information requested in the IDR and potential ramifications if the taxpayer chooses not to respond. 
  • If the IDR remains delinquent at 90 days, senior corporate officers, the territory manager, team manager, area counsel and the original issuer of the IDR will meet, and the IRS will consider issuing a summons or formal document request.

On June 18, 2013, the IRS issued a memorandum announcing a new process for issuing IDRs, promising that more detailed guidance would follow.  That memorandum indicated that the new process will seek changes designed to increase transparency, efficiency and collaboration.  First, the memorandum explained that the new policy will require that all IDRs issued after June 30, 2013, be issue focused, i.e., that the examiner must identify the issue that led to the request for the information contained in the IDR.  Second, the memorandum stressed that the examiner should cooperate with the taxpayer prior to issuing an IDR.  Specifically, the memorandum indicated that the new process will require the examiner to not only discuss the IDR with the taxpayer before issuance but also confer with the taxpayer regarding a "reasonable timeframe for a response."  Many LB&I taxpayers were already following these best practices.

The New Guidance

The other shoe dropped with the newly released guidance on the enforcement process, effective January 2, 2014.  This effective date only applies to IDRs issued in accordance with the directive's requirements, and the IRS must re-issue any old IDRs that do not comply with those requirements with new response dates.

The November directive calls for strict consequences if taxpayers do not meet agreed-upon deadlines.  The directive, interestingly, still follows the general procedures outlined in the IRM and, with a few major changes to the deadlines, adopts those procedures as the mandatory policy of the LB&I Division.

If the agreed-upon due date for the IDR passes without a response, the new enforcement process involves three mandatory steps, without exception:  (1) a delinquency notice, (2) a pre-summons letter and (3) a summons.

  1. If the taxpayer does not provide a "complete response" to the IDR by the agreed upon date, the IRS examiner or specialist will issue a delinquency notice to the taxpayer within 10 calendar days of the IDR response date and discuss with the taxpayer consequences of failing to provide the information requested in the IDR.  The delinquency notice will generally include a response date that is not more than 15 days from the date the notice was issued. 
  2. If the taxpayer fails to provide a "complete response" to the IDR by the due date set forth in the delinquency notice, the IRS territory manager—not the revenue agent—will issue a pre-summons letter within 14 days.  This letter will be addressed to "a level of management above the taxpayer management official that received the Delinquency Notice"—possibly the taxpayer's chief financial officer (CFO).    
  3. Finally, if the taxpayer does not provide a "complete response" to the IDR by the due date in the pre-summons letter, the IRS will issue a summons.

Practical Ramifications

The new directive represents two major changes of concern.  First, it provides a much tighter time frame between the original IDR due date and the issuance of a summons.  Second, it strips all discretion away from revenue agents in negotiating an IDR extension after the setting of the initial deadline.  Under the prior policy, taxpayers generally had 90 days before the IRS would issue a summons.  Under the new directive, taxpayers generally will have no more than 39 days.  More importantly, the examiner has no discretion in the enforcement of the IDR deadlines. 

Taxpayers and the IRS will have to figure out how to apply the new rules.  For example, if an IDR contains multiple questions, what is a "complete" response?  Can an IDR be "severed" so that different questions have different response and "completion" dates?  What levels of management will be involved?  Some taxpayers have relatively small tax departments with "flat" hierarchies.  Does the IRS intend to engage the CFO or the chief executive officer in the IDR/summons process? 

Indeed, it is not immediately apparent how what is likely to be an increased use of summons will foster "efficiency."  A summons is not self-enforcing, and any court proceeding is likely to involve substantial delay.  It is one thing to assume that a taxpayer has documents in response to an IDR and simply must be encouraged to provide the documents promptly.  But the ramifications of the new policy are more difficult to predict if the IRS uses IDRs (even after negotiating with the taxpayer) as a "fishing expedition" or if the IRS refuses to accept a taxpayer's assertions that the "smoking gun" documents the IRS is looking for simply do not exist or are not in the taxpayer's possession, custody or control.

The IRS also sometimes requests that taxpayers create documents, such as summaries or spreadsheets, or provide explanations in response to IDRs.  A summons, however, cannot be used to require a taxpayer to prepare or create a document.  The IRS has indicated that in that case it will issue a summons for testimony.

The IRS clearly is focusing on a measurable metric—average IDR response time.  The old adage "if you measure it, it will move" suggests that there may be a benefit to the new initiative.  Despite best intentions, we all know how deadlines and anticipated response times can slip past us.  But the IRS has always had the ability to issue a summons, and neither the IRS nor taxpayers went down that path cavalierly.  It remains to be seen whether the directive will upset relationships between taxpayers and the IRS and whether it will, in fact, accomplish the IRS's objectives.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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