Any Taxpayer Who Paid An International Information Return Penalty Should Consider Requesting a Refund
By Joel N. Crouch on April 6, 2023
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Joel N. Crouch
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On April 3rd the Tax Court issued an opinion in Farhy v. Commissioner, holding that the IRS does not have authority to assess certain international information return reporting penalties. As a result, any taxpayer who previously paid an international information return penalty should consider requesting a refund of the penalty.
In Farhy, the taxpayer failed to file Forms 5471, “Information Return of U.S. Persons With Respect to Certain Foreign Corporations,” for his 100% owned Belize corporations for multiple years. Although the IRS notified the taxpayer of his failure to file the Forms 5471, the taxpayer never filed the returns.
Pursuant to IRC Section 6038(b)(1), the IRS assessed a $10,000 penalty for each year the taxpayer failed to file a Form 5471. In addition, because the taxpayer failed to file the forms after being notified by the IRS, the IRS assessed continuation penalties under IRC Section 6038(b)(2) of $50,000 for each year at issue.
The IRS thereafter, sought to collect the penalties and sent Letter 1058 “Final Notice of Intent to Levy and Notice of Your Right to a Hearing”, i.e., a levy notice. In response, the taxpayer filed a Collection Due Process request which, among other things, challenged the IRS’ authority to assess the Section 6038 penalties because there is no provision in Section 6038 for assessment of the penalties. Assessment is the formal recording of a taxpayer’s liability, including tax, interest and penalties. Once a tax, interest or a penalty is assessed, the IRS can begin to collect the assessment unilaterally and without the court approval. Not surprisingly, the IRS denied the taxpayer’s CDP request and the taxpayer filed a Tax Court petition.
In a very detailed opinion, the Tax Court sided with the taxpayer and held that Section 6038(b) “contains no provision authorizing assessment of the penalties it provides for”. Therefore, a Section 6038(b) penalty is not an assessable penalty.
Farhy has implications beyond Section 6038 and Form 5471. So what does this mean for taxpayers who previously paid international information return penalties? Although it is likely the IRS will appeal the Farhy decision, taxpayers in similar situations should immediately explore options for requesting return of payments. Given the uncertain fate of the Farhy opinion on appeal, as well as thorny questions regarding the applicable statute of limitations for requesting a return of payment, time may be of the essence.
If you have any tax-related questions please feel free to contact me at jcrouch@meadowscollier.com.
In Farhy, the taxpayer failed to file Forms 5471, “Information Return of U.S. Persons With Respect to Certain Foreign Corporations,” for his 100% owned Belize corporations for multiple years. Although the IRS notified the taxpayer of his failure to file the Forms 5471, the taxpayer never filed the returns.
Pursuant to IRC Section 6038(b)(1), the IRS assessed a $10,000 penalty for each year the taxpayer failed to file a Form 5471. In addition, because the taxpayer failed to file the forms after being notified by the IRS, the IRS assessed continuation penalties under IRC Section 6038(b)(2) of $50,000 for each year at issue.
The IRS thereafter, sought to collect the penalties and sent Letter 1058 “Final Notice of Intent to Levy and Notice of Your Right to a Hearing”, i.e., a levy notice. In response, the taxpayer filed a Collection Due Process request which, among other things, challenged the IRS’ authority to assess the Section 6038 penalties because there is no provision in Section 6038 for assessment of the penalties. Assessment is the formal recording of a taxpayer’s liability, including tax, interest and penalties. Once a tax, interest or a penalty is assessed, the IRS can begin to collect the assessment unilaterally and without the court approval. Not surprisingly, the IRS denied the taxpayer’s CDP request and the taxpayer filed a Tax Court petition.
In a very detailed opinion, the Tax Court sided with the taxpayer and held that Section 6038(b) “contains no provision authorizing assessment of the penalties it provides for”. Therefore, a Section 6038(b) penalty is not an assessable penalty.
Farhy has implications beyond Section 6038 and Form 5471. So what does this mean for taxpayers who previously paid international information return penalties? Although it is likely the IRS will appeal the Farhy decision, taxpayers in similar situations should immediately explore options for requesting return of payments. Given the uncertain fate of the Farhy opinion on appeal, as well as thorny questions regarding the applicable statute of limitations for requesting a return of payment, time may be of the essence.
If you have any tax-related questions please feel free to contact me at jcrouch@meadowscollier.com.
