Although the Internal Revenue Service (“IRS”) generally enjoys broad, formal authority to obtain information from a taxpayer under audit, examiners generally request and receive such information using an informal written request, commonly referred to as an Information Document Request (“IDR”). If a taxpayer fails to timely provide requested information, the examiner has the discretion to use a formal summons process. Currently, IRS examiners generally exercise restraint before going through the formal process, a practice encouraged by agency policy.
However, IRS leadership appears to be frustrated with the length of time Large Business & International (“LB&I”) examiners have required to develop their cases, in part due to perceived unfair advantages taken by some taxpayers within the current IDR program. As a result, a recent IRS Directive (LB&I-04-1113-009) contemplates in the not-too-distant future the mandatory use of summons and summons enforcement actions for LB&I taxpayers which fail to timely respond to an IDR, for whatever reason!
Steps 1, 2, 3 – You Are Served.
To “make the IDR process as efficient and transparent as possible,” the new policy, will require LB&I examiners to follow a three-step “IDR Enforcement Process” if information requested in an IDR is not received by the IDR response deadline. Here’s the approach this group of examiners will soon apply:
Step 1. Exam issues to the taxpayer “a Delinquency Notice”– a new administrative communication wherein the auditor sets forth the existing delinquencies in the taxpayer’s responses to an outstanding IDR and the potential consequences thereof (presumably “a summons can be issued unless the delinquencies are promptly corrected”) if left uncured (the examiner has discretion to establish a cure period of 15 days or less). Step 1 seems to contemplate the auditor will cite the delinquencies to the taxpayer during a meeting or telephone conversation before releasing this notice—potentially enabling the taxpayer to respond before the notice is issued. The Directive conditions use of Step 1 (and thus, Steps 2 and 3) upon the examiner’s compliance with twelve primary guidelines set out in it concerning discussions between the examiner and the taxpayer on both the substance of and the procedures surrounding an IDR and the response(s).
Step 2. Exam issues “a Pre-Summons Letter,” another new administrative communication, within the 14-day period following the end of the cure period described in the related Delinquency Notice. A second cure opportunity for missing information is presented in the Pre-Summons Letter, which is the ten-day period immediately following the date the Pre-Summons Letter is received.
Step 3. Exam, now acting with IRS counsel, issues a summons under IRC section 7603 and thus brings into play increased cost and delay – for both parties - into the audit.
“Transparency” is Now Code for “More Bureaucracy”
The IDR Enforcement Process apparently only applies to IDRs issued consistent with new internal IDR management guidelines. Following these new guidelines in developing the initial request, may be the “quid pro quo” IRS leadership is willing to undertake in order to justify the new fast-track summons process. The new guidelines for examiners are as follows:
- discuss with the taxpayer the issue for which the examiner believes an IDR is required;
- discuss the relevance and necessity of the solicited information to the issue under consideration;
- after the foregoing discussion(s), the auditor in her sole discretion will determine what information will be requested;
- set out in a separate IDR a description of each issue under consideration, using clear and concise language, and inform the taxpayer that the IDR only seeks information relevant to such issue;
- utilize numbers or letters on the IDR as markers for clarity in correspondence (and any future summons);
- ensure an IDR is customized to the taxpayer and its industry;
- once an IDR is prepared, the examiner is to discuss it with the taxpayer before issuing it;
- after discussion of the IDR’s goals, the auditor is to consult with the taxpayer concerning a reasonable timeframe for responses;
- should no mutual agreement on response dates be reached, the examiner in her discretion will set a “reasonable” deadline; and
- when determining the response date, the examiner is also required to note the date(s) when she will review the responses to the IDR, and notify the taxpayer whether those responses satisfies the IDR.
Viewed collectively, these factors suggest increased clarity and specificity for future IDRs. However, it remains unclear whether an examiner’s failure to adhere to these guidelines will provide any form of administrative defense to the new IDR Enforcement Process.
The new IDR Enforcement Process deployment date is January 2, 2014. However, no Delinquency Notices may be issued prior to February 3, 2014, so as “to ensure a smooth transition to these new enforcement procedures....” Quite possibly, IRS leadership is betting on the threat of formal summons processes – including the disruptive impact of service of process on a senior corporate officer eligible to accept service – to motivate taxpayers within the LB&I sector to clean up IDR responses without the ultimate need to deploy the “stick” of the mandatory summons.
The new IDR Enforcement Process presents real consequences to taxpayers and LB&I examiners alike in examination management. We certainly hope examiners will follow the Directive’s guidelines described above by giving more consideration to the description of information sought by an IDR. Overly-broad, ambiguous, or unrefined requests will almost invariably generate incomplete responses and will compel initiation of the IDR Enforcement Process when it is fully effective. This is potentially so notwithstanding the requested information is irrelevant, unavailable, or extremely costly to procure or assemble. IDRs requesting information that is nonexistent, voluminous, or irrelevant are not the norm, but do seem to be increasing as a result of inadequate training of IRS examiners or a lack of her understanding of the taxpayer, its industry and its circumstances.
Once the IDR Enforcement Process is fully deployed, taxpayers should proactively participate in IDR formulation by the examiner in order to establish a record of whether the examiner met the requirements of the guidelines. Failure of the examiner to do so may serve as a bargaining chip or defense to the issuance of a Delinquency Notice. Further, the taxpayer should review its examination management policies and procedures to reflect the Directive, including carefully establishing and monitoring IDR response deadlines and then monitoring IRS actions with respect thereto. Currently, in practice, response deadlines are often unilaterally and loosely set by the examiner and usually may be informally extended. Delinquencies due to unrealistic IDR response deadlines could require the examiner to initiate the IDR Enforcement Process, regardless of whether he or she views such process as necessary or a prudent use of government resources. Thus, taxpayers should ensure that deadline extensions and other communications with the IRS regarding IDRs are documented in writing.
Finally, taxpayers should carefully consider the amount of time necessary to respond to an IDR and communicate this information to the examiner during the vetting of the IDR. Under-estimation or less than adequate communication of difficulties in compiling information can now subject a taxpayer to the IDR Enforcement Process. If delays in gathering information require a taxpayer to miss a deadline, it is difficult to see the circumstances under which a summons can be avoided given the brevity of the cure periods in Steps 1 and 2.
Of course, the true magnitude of these implications will not be fully known until implementation of the new IDR Enforcement Policy begins next year. Sunita Lough, the LB&I pre-filing and technical guidance director, was recently quoted as suggesting she does not anticipate a “huge surge” in IDR enforcement measures under the IDR Enforcement Process. This statement was based on her hope the IDR planning discussions between the examiner and taxpayer described above will yield behavioral change. We expect, to the contrary, that full appreciation of this new Policy and incorporation of its guidelines into exam management protocols will require at least one exam cycle; there will be some stubbing of toes along the way.
Attorneys in Taft’s Tax Controversy Practice area have significant experience counseling clients all phases of an IRS audit, and are well positioned to assist LB&I clients with managing information exchange during IRS examinations, through IDRs, formal summons processes, or otherwise.
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