Fitzpatrick v. Comm'r, T.C. Summary Opinion 2009-102 (T.C. 2009).
I recently had a discussion with the Internal Revenue Service regarding a client’s account. The customer service representative kept saying to me, “the computer says…” At one point I wanted to say, “let me speak to the computer, because the human here is not helping.”
Mr. & Ms. Fitzpatrick felt the brunt of the Service’s bureaucracy, but at least in the end they received restitution. I have taken a few liberties with the facts here for comedic effect…but not many.
The Story of Bud and Sally
The problems started when the IRS’s computer (let’s call him Bud) sent a notice to the Fitzpatricks in March 2007 indicating they failed to report $22,581 in social security benefits on their 2005 tax return. Bud apparently received an SSA-1099 and matched the form to their 2005 return. When Bud identified a mismatch, he generated a deficiency notice.
The taxpayers responded to Bud with a letter stating they did not qualify for nor did they receive social security benefits during 2005. In response, Bud instructed them to get a letter from the Social Security Administration acknowledging the mistake. After contacting the SSA, Mr. Fitzpatrick learned he was due $196.00 in survivor’s benefits but that nothing had been paid in 2005. Naturally, SSA’s computer (let’s call her Sally – equal opportunity) failed to provide documentation, so Bud sent another deficiency notice in August 2007.
In November 2007, the taxpayers filed a petition with the Tax Court. Not long after, Bud assigned the case to an Appeals officer – finally a human! The Appeals officer’s records indicate several conversations with the Fitzpatricks and their representative, an Enrolled Agent. The AO’s records – really Bud’s records - indicate the difficulty the Fitzpatricks faced trying to contact and obtain a corrected SSA-1099 from Sally. There is no indication, however, that anyone from the Appeals office attempted to call a human where Sally works.
Attempts to contact Sally still failing, the AO processed the case for trial. In early July 2008, as part of the pre-trial activities, a paralegal (human) from the IRS hand-delivered a letter to the Boston SSA office to obtain certified records for trial. The SSA office responded; viola! Sally issues a corrected 1099.
Issue for the Tax Court
In total, the Fitzpatricks spent $3,982 in court fees trying to resolve the error started by Sally and compounded by Bud. The issue for the Tax Court is whether the Fitzpatricks are due litigation costs under section 7430.
Sections 7430(a) and (b) allow reimbursement for reasonable administrative costs and reasonable litigation costs to the prevailing party, unless the prevailing party either unreasonably protracted the proceeding or has not exhausted available administrative remedies.
The IRS concedes all the requirements here except that the Fitzpatricks are a prevailing party as that term is defined in section 7430(c). A prevailing party means, a party that has “substantially prevailed” with respect to either an amount in controversy or a significant issue. section 7430(c)(4)(A)(i)(I), (II). If, however, the IRS substantially justifies their position, then no party is considered the “prevailing party.” section 7430(c)(4)(B).
The Court points out that Tax Payer Bill of Rights 2 shifted the burden under 7430(c)(4) from the taxpayer to the IRS. Thus, the IRS must produce evidence their position was substantially justified. The IRS need only show they “acted reasonably on all facts and circumstances and the legal precedents relating to the case…” to substantially justify their position. In addition, under section 6201(d):
In any court proceeding where a taxpayer asserts a reasonable dispute with respect to income reported on a third-party information return and fully cooperates with the IRS, ‘the Secretary shall have the burden of producing reasonable and probative information concerning such deficiency in addition to such information return.’(emphasis added).
The IRS argues they acted reasonably by relying on the third-party information reported by the SSA. The Fitzpatricks argue that once the IRS was informed in mid-2007 that the SSA-1099 was erroneous it was not reasonable to litigate the case without first meeting their burden under 6201(d).
The Court agrees with the Fitzpatricks. The IRS did not meet their burden under 6201(d) until July 2008 (remember the human paralegal), three months after the Court issued a notice of trial. “Thus, on this record, it is clear that between the filing of the petition in November 2007, and the paralegal’s inquiry in July 2008, respondent did not conduct any independent investigation despite petitioners’ continuing challenge to the accuracy of the Form SSA-1099.”
The IRS makes several policy argument in response to the Court’s holding. Among others, they suggest that the decision will require them to validate all third-party information returns prior to issuing a notice of deficiency. They also argue the administrative burden would be both “unreasonable and overwhelming.”
The Court rejects both arguments by pointing out that section 6201(d) “does not apply to prelitigation actions.” “The issue here is whether respondent was reasonable in adopting and maintaining the administrative position as his litigation position, in view of the affirmative duty imposed by section 6201(d)…”
Unfortunately, or fortunately depending on your view, this case no precedential weight and it may not be appealed, because it is subject to the provisions of section 7463(b).
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