Module 2: Taxpayer Rights
(Note: This is an abbreviated excerpt from the Module 2 text)
Section 2.4.1 – Income Tax Examinations
(Note: This is a further abbreviated excerpt from Section 2.4 of Module 2 text)
Statute Extension Requests – Sign or Don’t Sign? First of all, your options are not simply limited to a sign or no sign decision. Further, the decision may also depend upon what is in the best interest of the client, so let’s explore all the options you have available:
1- Don’t sign the consent form- Use extreme caution when exercising this option. Failure to extend the statute will result in the immediate issuance of an audit report for complete disallowance of any unresolved issues as well as the timely issuance of a statutory notice of deficiency (90-day letter) to assess tax with or without the taxpayer’s consent. In a few rare circumstances, this could be a favorable outcome. For example, if the examiner has refused to provide any status updates, repeatedly issued excessive Information Document Requests (IDRs) or has otherwise failed to conduct a timely examination, the report issuance can be a blessing for two reasons: First, the audit scope will be clearly reduced to only those items listed on the audit report. Second, you will now know what your client is up against in terms of audit exposure.
2- Sign the consent form provided by the IRS examiner –This is the expected outcome that the IRS examiner is looking for. If you have established a good rapport and feel comfortable that the audit is drawing to a conclusion in a timely manner, perhaps it can be favorable to simply comply with the request. In any case, the audit report issuance is circumvented with the extension and a sensitive client will not be exposed to what can be a very substantial proposed audit assessment.
Practitioner’s Tip: The Appeals Division of the IRS will not accept cases without a minimum amount of time remaining on the statute. Hence, signing or not signing the consent is not an option if you plan on pursuing a hearing with an IRS Appeals Officer.
3- Request and sign a Form 872 with a different period than suggested by the IRS examiner – The period for extension is a subjective versus objective decision-making process. Just because the examiner wants to add 12 or 18 more months to the statute expiration date does not justify immediate compliance. A good line of thinking is to inquire as to why an extension is needed. The explanation can then be quantified into a definitive time period that may be considerably shorter than the initial period proposed by the examiner.
4- Request a restricted consent - Restricted consents became very prominent during the tax shelter era in the mid to late 1980’s. Some clients fell prey to abusive promoters and enrolled in illegitimate tax shelters. In the majority of situations, however, the only questionable items on the tax return were those directly attributable to the tax shelter scheme. The remaining items on the tax return were untainted. Accordingly, the IRS legal staff assisted examiners with the development of legalese to place on the statute extension request that limited the purview of the statute extension to only the tax shelter line items – all other items were excluded. The theory of limiting/restricting the scope of a statute extension to select items under examination continues to be a sound practice in the post-tax shelter era as well. That is not to say that the IRS examiners will be delighted to oblige with your request. Quite the contrary, unless your client is involved in a project of some type (e.g., multiple taxpayers selected as part of a central audit scheme) the examiner will likely be required to proffer your request for a restricted consent to the IRS legal staff for assistance with the wordsmith process to ensure that the language on the statute extension is legally enforceable. The onus, however, is on the IRS examiner to come up with the proper language. As the representative, your request should indicate that it is in the client’s best interest to limit the statute extension to include only those issues currently under examination.
Example #2.4.1-1: The return under examination is a 2003 income tax return. The date is October 2006. The client has been under examination for two years. The IRS examiner has issued a total of seven Information Document Requests (IDRs). Each time the representative complies with an IDR request, it seems the examiner is compelled to issue another one. The statute is due to expire on April 15, 2007 and the examiner sends the representative a Form 872 requesting an extension of the statute for an additional year to April 15, 2008. At this point, the representative is very frustrated with the scope and depth of examination being conducted by the examiner. Quite candidly, he is unsure where the examiner is headed since no issues have been either presented or even suggested as questionable by the examiner. But he knows that if he refuses to sign the consent, the examiner will be required to issue a detrimental report disallowing a host of items – an approach that will likely cause great stress to his client.
5- Request a Form 872-A – As a front-line IRS manager, this option was by far the one most preferred. Interestingly, the taxpayers generally signed and returned the form “as is” whereas the representatives consistently challenged the use of the form and asked to substitute the traditional Form 872 providing for a one-year extension period. Representatives were primarily concerned that the use of an 872-A allows the IRS examiners unlimited time to “drag their feet” with the audit process. While it is true that in theory an 872-A is an open-ended statute extension, the legal termination process can result in exactly the opposite outcome – a shorter extension period than the traditional Form 872.
Example #2.4.1-2: The client signed a Form 872-A on January 2, 2007 for a 2003 income tax return with a statute that was due to expire on April 15, 2007. The examiner completed the audit report on March 1, 2007, the client agreed with the findings and signed the report on March 15, 2007. When does the statute terminate on the 2003 tax return? Suppose the client signed a Form 872 (normally utilized in 12-month increments). When does the statute terminate on the 2003 tax return for this extension?
The main reason for IRS denial of the form 872-A is predicated upon a past track record of isolated abuse by tax shelter participants of the form 872-T. This termination form contains essentially the same taxpayer information as the 872-A and is used to elect out of the prior statute extension period. Simply stated, it terminates the 872-A. Upon receipt, the IRS only has 90 days to process an assessment; otherwise, the statute will toll.
Example #2.4.1-3: Assume the same facts as the preceding example #2.4.1-1, except that in lieu of signing a Form 872 restricted consent, the client signs a Form 872-A with no restrictions. One year later, the examiner continues to issue additional IDRs and the audit is coming no closer to completion. The representative would have every right to submit a Form 872-T to terminate the statute in 90 days. Although the client may express concerns with the forthcoming audit report and statutory notice of deficiency, in this particular situation the representative now has a much more formidable argument to support “aggressively pushing” for a timely resolution of the audit.
Practitioner’s Tip: For added clarification, the actual termination of the 872-A is triggered on the 90th day after: (1) the IRS receives from the client a Form 872-T, which terminates consent to the extension of time to assess tax; (2) the IRS mails a Form 872-T to the client; or (3) the IRS mails a notice of deficiency to the client. The form further provides that the agreement to extend the time for assessment ends either when one of those three events occurs or on “the assessment date of an increase in the tax that reflects a final determination of tax and the final administrative appeals consideration,” if earlier. Finally, the form provides that the client “may file a claim for credit or refund and the [IRS] may credit or refund the tax within 6 months after the agreement ends” (US 9th Circuit Ct of Appeals – Tosello V. USA).
Practitioner’s Tip: Another option would be to ask for the manager before submitting the statute termination Form 872-T. Openly express your concerns with the examiner’s poor work habits and solicit a firm commitment from the manager to restore the audit process to a more effective timetable. If you feel you have accomplished this mission, you can opt not to file the Form 872-T at this time (perhaps at a later date if the manager does not fulfill his/her promise).
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