The Impact of Delinquent International Informational Returns on the IRS Statute of Limitations
By Joel N. Crouch on October 7, 2021
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Joel N. Crouch
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Early this year the U.S. Tax Court released a decision in Kelly v. Commissioner, which, among other things, discusses how a delinquent international return impacts the IRS statute of limitations for assessment. It is a welcomed partial win for a taxpayer and contains a good discussion of reliance on a tax professional as the basis for reasonable cause.
In Kelly, the taxpayer filed a petition with the Tax Court challenging an IRS notice of deficiency which included six years of income tax deficiencies and Section 6663 civil fraud penalties. Readers of this blog know that if the IRS can prove civil fraud there is no statute of limitations and in Kelly, the IRS needed an expanded statute of limitations for three of the years. Alternatively, the IRS argued that for two of the years, the taxpayer had not timely filed Forms 5471 and therefore, the statute of limitations was six years under Section 6501(c)(8)(A). The taxpayer argued that there was no civil fraud and even though the Forms 5471 were filed late, he had reasonable cause based on reliance on his return preparer, S&C, and therefore, the six-year statute of limitations was limited to the items on the Forms 5471 pursuant to Section 6501(c)(8)(B).
IRC Section 6501(c)(8)(A) provides: “In the case of any information which is required to be reported to the Secretary pursuant to an election under section 1295(b) or under section 1298(f), 6038, 6038B, 6038D, 6046, 6046A or 6048, the time for assessment of any tax imposed by this title with respect to any tax return, event, or period to which such information relates shall not expire before the date which is 3 years after the date on which the Secretary is furnished the information required to be reported under such section. “ (emphasis added). However, the potential impact of 6501(c)(8)(A) is narrowed by Section 6501(c)(8)(B) which states: “If the failure to furnish the information referred to in subparagraph (A) is due to reasonable cause and not willful neglect, subparagraph (A) shall apply only to the item or items related to such failure.’
After holding that the IRS failed to meet its burden of proving civil fraud, the court turned its attention to the taxpayer’s failure to file the Forms 5471 and whether the taxpayer had reasonable cause. The court said that to establish reliance on advice of a tax professional as the basis for reasonable case, the taxpayer must prove (i) the adviser was a competent professional with sufficient expertise, (ii) the taxpayer provided necessary and accurate information to the adviser, and (iii) the taxpayer relied in good faith on the adviser’s judgment. This three-prong test was previously articulated by the Tax Court in Neonatology Assocs., P.A. v. Commissioner, 115 T.C. 43 (2000), aff’d, 299 F.3d 221 (3d Cir. 2002) . In holding that Mr. Kelly had reasonably relied on his return preparer, the court referenced Mr. Kelly’s long relationship with the return preparer, the return preparer’s preparation of approximately 700 tax returns per year, the return preparer’s lack of disciplinary record and the taxpayer providing the return preparer with all the information needed to determine whether Forms 5471 should have been filed. The Court rejected the IRS argument that Mr. Kelly should have done more than merely inform the return preparer that there was a foreign entity and in a pleasant surprise, cited U.S. v. Boyle 469 U.S. 241 (1985) in support of the taxpayer’s reliance defense. Readers know that the IRS and courts routinely use Boyle as a club against taxpayers. Here, the court, in citing Boyle, said “While it could be argued that S&C should have done more to ascertain Mr. Kelly’s filing obligations, it was reasonable for Mr. Kelly to rely on S&C do so . A taxpayer need not question the advice provided, obtain a second opinion, or monitor the advice received from the professional.”
For questions regarding this blog post or any other civil or criminal tax related matter, please feel free to contact Joel Crouch at (214) 749-2456 or jcrouch@meadowscollier.com.
In Kelly, the taxpayer filed a petition with the Tax Court challenging an IRS notice of deficiency which included six years of income tax deficiencies and Section 6663 civil fraud penalties. Readers of this blog know that if the IRS can prove civil fraud there is no statute of limitations and in Kelly, the IRS needed an expanded statute of limitations for three of the years. Alternatively, the IRS argued that for two of the years, the taxpayer had not timely filed Forms 5471 and therefore, the statute of limitations was six years under Section 6501(c)(8)(A). The taxpayer argued that there was no civil fraud and even though the Forms 5471 were filed late, he had reasonable cause based on reliance on his return preparer, S&C, and therefore, the six-year statute of limitations was limited to the items on the Forms 5471 pursuant to Section 6501(c)(8)(B).
IRC Section 6501(c)(8)(A) provides: “In the case of any information which is required to be reported to the Secretary pursuant to an election under section 1295(b) or under section 1298(f), 6038, 6038B, 6038D, 6046, 6046A or 6048, the time for assessment of any tax imposed by this title with respect to any tax return, event, or period to which such information relates shall not expire before the date which is 3 years after the date on which the Secretary is furnished the information required to be reported under such section. “ (emphasis added). However, the potential impact of 6501(c)(8)(A) is narrowed by Section 6501(c)(8)(B) which states: “If the failure to furnish the information referred to in subparagraph (A) is due to reasonable cause and not willful neglect, subparagraph (A) shall apply only to the item or items related to such failure.’
After holding that the IRS failed to meet its burden of proving civil fraud, the court turned its attention to the taxpayer’s failure to file the Forms 5471 and whether the taxpayer had reasonable cause. The court said that to establish reliance on advice of a tax professional as the basis for reasonable case, the taxpayer must prove (i) the adviser was a competent professional with sufficient expertise, (ii) the taxpayer provided necessary and accurate information to the adviser, and (iii) the taxpayer relied in good faith on the adviser’s judgment. This three-prong test was previously articulated by the Tax Court in Neonatology Assocs., P.A. v. Commissioner, 115 T.C. 43 (2000), aff’d, 299 F.3d 221 (3d Cir. 2002) . In holding that Mr. Kelly had reasonably relied on his return preparer, the court referenced Mr. Kelly’s long relationship with the return preparer, the return preparer’s preparation of approximately 700 tax returns per year, the return preparer’s lack of disciplinary record and the taxpayer providing the return preparer with all the information needed to determine whether Forms 5471 should have been filed. The Court rejected the IRS argument that Mr. Kelly should have done more than merely inform the return preparer that there was a foreign entity and in a pleasant surprise, cited U.S. v. Boyle 469 U.S. 241 (1985) in support of the taxpayer’s reliance defense. Readers know that the IRS and courts routinely use Boyle as a club against taxpayers. Here, the court, in citing Boyle, said “While it could be argued that S&C should have done more to ascertain Mr. Kelly’s filing obligations, it was reasonable for Mr. Kelly to rely on S&C do so . A taxpayer need not question the advice provided, obtain a second opinion, or monitor the advice received from the professional.”
For questions regarding this blog post or any other civil or criminal tax related matter, please feel free to contact Joel Crouch at (214) 749-2456 or jcrouch@meadowscollier.com.
