A recent U.S. District Court decision has preserved the IRS’s ability to act as gatekeeper to the IRS office of Appeals (“IRS Appeals”). However, there are signs that Congress may be moving to place restrictions on this gatekeeping ability.
The decision in question involved a case brought by Facebook, Inc. (“Facebook”). The IRS had made a determination that, for federal income tax purposes, Facebook had undervalued, by approximately $7 billion, certain intangible property that the company had transferred to an Ireland-based subsidiary in 2010. Facebook filed a petition challenging this determination in the United States Tax Court.
In the course of litigation before the Tax Court, the IRS notified Facebook that it refused to refer the case to IRS Appeals for settlement, stating that a referral was “not in the interest of sound tax administration.” The IRS cited Revenue Procedure 2016-22, which states in relevant part that the IRS will refuse to refer any case or issue to IRS Appeals that: (1) has been designated for litigation by the IRS Office of Chief Counsel; or (2) whose referral has been determined not to be in the interest of sound tax administration.
Facebook filed suit in the U.S. District Court of the Northern District of California. The company requested that the District Court find that: (1) the IRS’s issuance of Revenue Procedure 2016-22 violated the Administrative Procedure Act (“APA”); (2) the IRS’s denial of a referral to IRS Appeals violated the APA; and (3) Facebook had an enforceable right to have the IRS refer its tax case to IRS Appeals. Facebook also asked the District Court to order the IRS to refer its tax case to IRS Appeals.
The Government filed a motion to dismiss, which the District Court granted.
Facebook had argued that the codification of the taxpayer bill of rights (the “TBOR”) in Section 7803(a)(3) of the Internal Revenue Code as part of the Protecting Americans from Tax Hikes Act of 2015 created an enforceable right to have its tax case referred to IRS Appeals in lieu of litigation before the Tax Court. Section 7803(a)(3)(E) provides that taxpayers have “the right to appeal a decision of the Internal Revenue Service in an independent forum.”
However, the District Court pointed out that Section 7803(a)(3) states that those rights listed in the TBOR are rights that are already afforded by others provisions of the Internal Revenue Code. The District Court took this to mean that the codification of the TBOR did not create any new rights for taxpayers. The District Court also found that prior to this codification, courts had held that taxpayers did not have an enforceable right to have the IRS refer a case to IRS Appeals. Moreover, the District Court determined that even if one were to assume that Section 7803(a)(3)(E) created a new right, Facebook had not shown that the “independent forum” mentioned in the statute referred exclusively to IRS Appeals and not other independent forums like the Tax Court. Thus, the District Court found that Facebook had not shown that it had an enforceable right to have its case referred to IRS Appeals and that Facebook thus lacked standing to brings its claim.
The District Court also found that neither the IRS’s issuance of Revenue Procedure 2016-22 nor the IRS’s refusal to refer Facebook’s case to IRS Appeals was a final agency decision action under the APA. Enacted in 1946, the APA regulates and provides judicial review over actions taken by federal administrative agencies. The District Court found that neither action that Facebook had cited as violating the APA had altered or determined Facebook’s rights as required to bring an action under the APA, because Facebook did not have any enforceable right to have its case referred to IRS Appeals in the first place. As such, the District Court determined that it did not have subject-matter jurisdiction to rule on the substance of Facebook’s APA claims.
Because Facebook lacked standing and/or subject-matter jurisdiction for its claims, the District Court dismissed Facebook’s case with prejudice.
An argument can be made that the IRS’s ability to serve as gatekeeper to IRS Appeals may help promote efficient tax administration. Budget cuts have limited the resources available to the IRS, and the ability to determine which cases will proceed to litigation and which cases will be referred in IRS Appeals may help the IRS better marshal its resources. However, this gatekeeping role means that taxpayers could be forced to go through costly litigation based upon a mere arbitrary determination by the IRS. And as this decision shows, taxpayers currently have little recourse if the IRS refuses to refer a case to IRS Appeals.
Perhaps in response to concerns about the seemingly arbitrary nature of an IRS determination of whether or not to refer a case to IRS Appeals, Congress is currently considering a bill that would create an independent office of appeals, whose chief would report directly to the IRS administrator (another change proposed by the bill would be to change the current title of “IRS commissioner” to “IRS administrator”). In its current form, the Taxpayer First Act, H.R. 5444, 115th Congress, 2d Session (introduced April 10, 2018) also would require the IRS to: (1) explain to the taxpayer the specific reasons why the taxpayer’s case is being denied referral to the independent office of appeals; (2) provide a mechanism for the taxpayer to challenge administratively a denial of referral to the independent office of appeals; and (3) submit an annual report to Congress setting out the number of requests for referral to the independent office of appeals that were denied during the year and the reasons why such requests were denied. As the bill progresses, it will be interesting to see whether Congress will also include additional funding for the new independent office of appeals so that it can better handle what is sure to be an increased work load.