In August 2016, Ropes & Gray LLP published an article commenting on IRS’s practice in seeking increasing amounts of discovery during the examination process, where IRS benefits from substantially looser enforcement standards than those available under the Federal and Tax Court Rules. The article pointed to the recent summons enforcement case filed by the government against Facebook as an illustration of these divergent standards. The whole article can be found here.
The Facebook dispute has since deepened, with Facebook filing a response to the government’s summons enforcement petition on October 11, as well as a separate FOIA lawsuit and tax court petition on the same date. Facebook’s response describes that Facebook cooperated with a more than four year-long audit by IRS, extending the statute of limitations five times, making multiple employees available for interviews, and producing thousands of pages of documents, and “stood ready” to produce many more documents. Despite this, when IRS and Facebook disagreed about a further extension to the statute of limitations, Facebook claims that the IRS “ended its audit” by issuing a Notice of Deficiency, but still “chose to convert its requests into the formal Summonses and rushed to court to seek immediate enforcement” although it was aware that the still-ongoing dispute would change its forum shortly and move into Tax Court.
Facebook’s response, like the article, highlights that the Federal and Tax Court Rules provide greater limitations on court-ordered discovery than on IRS summonses. Facebook nonetheless argues that the summonses are overbroad and lack sufficient particularity. Despite these challenges, Facebook’s initial response states that it intends to comply with the summonses, and seeks only for the court to enter a 502(d) order, protecting the company from waiving privilege by making inadvertent disclosures of privileged documents. Facebook also requests that the court set a reasonable timetable for the company to respond to the summonses. Meanwhile, in its separate FOIA action, Facebook demands that the IRS National Office and Examination Division produce documents relating to the Facebook audit, including emails, and a variety of examination and technical assistance work papers.
Facebook’s Tax Court petition also alleges that the IRS’s proposed deficiency for the tax year 2010 of $1.7 million and its reduction of Facebook’s net operating loss by $90 million is “a naked assessment” “without . . . any legal, factual, or economic support.” These proposed changes resulted primarily from IRS’s determination to increase Facebook’s gross royalty income from its Irish subsidiary (Facebook International) from $100 million to $185 million. Although the Notice of Deficiency did not explain in detail the government’s methodology, the government apparently valued Facebook’s worldwide intangible property at $13.8 billion, more than twice Facebook’s estimate, which valued its US intangible property at $1.6 billion and its international intangible property at roughly $4 billion. Interestingly, the government also indicated in the summons enforcement case that the IRS’s audit is not over and the Notice of Deficiency could still change.
While the underlying tax dispute will not be soon resolved, Facebook and the government agreed on a 502(d) order on November 7 and a schedule for production of documents on November 16, which included a briefing schedule in the event that the parties continue to disagree about the appropriate scope of Facebook’s summons response at the end of the product schedule. Under that schedule, the initial brief will not be filed until May 15, 2017.