I thought I would blog about a couple of December 2020 tax cases, decided within five days of each other, that involved taxpayers arguing that the IRS was time barred from assessing tax because the statute of limitations had run. In both cases, the IRS argued an assessment of tax was not time barred because the taxpayer had failed to file the required tax returns. In one case, Quezada v. IRS , the Fifth Circuit held in favor of the taxpayer, and in the other, Coffey v. Commissioner, the Eighth Circuit held in favor of the IRS.
Let’s start with the general rule that the IRS must assess tax within three years of an adequate return being filed. IRC § 6501(a). The U.S. Tax Court in Beard v. Commissioner, 82 T.C.766 (1984), aff’d 793 F.2d 139 (6th Cir 1986), created the “Beard Test”, which states that in order for a document to qualify as a valid return:
- It must purport to be a return;
- It must be signed under penalty of perjury;
- It must contain sufficient information to allow the tax to be calculated; and
- It must represent an honest and reasonable attempt to satisfy the requirements of the tax law.
If a tax return is not filed, the three year statute of limitations does not start and “the tax may be assessed, … at any time.” IRC § 6501(c)(3).
In Quezada v. IRS, the taxpayer, Quezada, was a stone mason who worked for general contractors and for the years 2005-2008 he hired independent contractors to do the masonry work. Although his business issued Forms 1099 to the independent contractors, most of the Forms 1099 did not include tax identification numbers. Because he did not have ID numbers for the contractors, Quezada should have been withholding income tax under IRC § 3406(a), paying over the withheld tax to the IRS and filing Forms 945, Annual Return of Withheld Federal Income Tax, all of which he failed to do. In 2014, the IRS assessed $1.2 million in back taxes, penalties and interest. Mr. Quezada filed bankruptcy and asked the bankruptcy court to determine that the IRS was time barred from assessing the backup withholding because it had been more than three years since the years at issue. Quezada argued that his Forms 1099 and Form 1040, combined, had started the statute of limitations for assessing backup withholding because they contained sufficient information to calculate his backup withholding liability. Not surprisingly, the IRS argued that because Quezada had not filed Forms 945, pursuant to IRC § 6501(c)(3), the statute of limitations had never started. The bankruptcy court agreed with the IRS and Quezada appealed the decision to the Fifth Circuit Court of Appeals. The Fifth Circuit Court of Appeals reversed the bankruptcy court and said that Quezada’s Forms 1040 and Forms 1099 issued by his business and filed with the IRS contained sufficient information to calculate the backup withholding liability. The filing of the forms started the statute of limitations for assessing the backup withholding and the IRS was time barred from assessing any tax, penalties or interest.
In Coffey v. Commissioner, the taxpayers claimed they were bona fide residents of the U.S. Virgin Islands (USVI) and not required to file U.S. tax returns for the years 2003 and 2004. Bona fide residents of the USVI pay a reduced tax rate on their USVI-related income. The taxpayers timely filed tax returns with the Virgin Islands Bureau of Internal Revenue (VIBIR) for 2003 and 2004, the first two pages of which were sent to the IRS by the VIBIR shortly after they were filed. The IRS processed the pages it received and remitted the taxpayers’ prepayments of U.S. federal income tax for payment of the VIBIR taxes with the balance refunded to the taxpayers. In 2009, the IRS issued a Notice of Deficiency to the taxpayers claiming the taxpayers were not bona fide residents of the USVI and owed taxes for the years 2003 and 2004. The taxpayers petitioned the U.S. Tax Court for review and posited two arguments. First, they argued they were bona fide residents of the USVI. Second, even if they were not, the IRS was time barred from assessing tax for 2003 and 2004 because they had timely filed returns with the VIBIR and the first two pages of their VIBIR returns, which were submitted to the IRS, constituted tax returns for purposes of starting the statute of limitations under § 6501. The IRS countered that (1) the taxpayers were not bona fide residents of the USVI were required to file U.S. tax returns, and (2) the first two pages of the USVI tax returns were not U.S. tax returns and therefore, the IRS was not time barred from assessing tax for 2003 and 2004. The Tax Court agreed with the taxpayers and the IRS appealed the decision to the Eighth Circuit Court of Appeals. The Eighth Circuit reversed the Tax Court decision and held that the taxpayers’ returns did not satisfy the “Beard Test” and thus did not begin running the § 6501 statute of limitations either when the returns were filed with the VIBIR or when the first two pages of their VIBIR returns were provided to the IRS.
For questions regarding this blog post or any other civil tax or criminal tax related matter, please feel free to contact Joel Crouch at (214) 749-2456 or firstname.lastname@example.org.