Last month, the Tax Court handed a large victory to a taxpayer who failed to report certain U.S. income. The Tax Court held that the taxpayer was not liable for penalties because the taxpayer reasonably relied on its CPA. In so holding, the Tax Court dismissed the IRS's argument that the taxpayer should have conducted additional investigation into the CPA's credentials, or was required to hire a CPA that specialized in a certain area of the law.
In Grecian Magnesite Mining (“GMM”) v. Comissioner, 149 T.C. No. 3, GMM, a privately owned foreign corporation, failed to report income that it realized on its redemption of interests in an LLC with U.S. real property interests. GMM had no office, employees, or businesses in the U.S. other than its ownership interest in the LLC. GMM redeemed its interest in the LLC in 2008 through two payments, one of which was paid in 2008 and one of which was paid in 2009. GMM did not report gains from either redemption payment.
GMM filed an 1120-F return for foreign corporation in 2008, reporting its share of the LLC's income, gain, loss, deductions and credits, but not in 2009. The IRS prepared a substitute for return for 2009 reporting the income relating to the second redemption payment. The IRS imposed late filing and late payment penalties under section 6651. At trial, the taxpayer conceded that the gain associated with the redemption of the LLC was taxable, but argued that it had reasonable cause for failing to file the 2009 return (and failing to report the gain on its 2008 return) because it relied on the advice of the CPA, who prepared its returns and who was recommended by GMM's United States attorney.
The IRS tried to undermine GMM's reliance on the CPA, claiming that GMM should not blindly rely on its lawyer's recommendation and should have independently investigated the CPA. The Tax Court disagreed, finding that GMM, a Greek company unfamiliar with US tax laws, could not make an informed investigation of the CPA. Instead, relying on the recommendation of its trusted US counsel was sufficient. The Tax Court also dismissed the IRS's arguments that GMM should have hired a CPA with specialized experience in international tax law. The Tax Court explained that the bar for a “competent professional” was not as high as the IRS was claiming, and that the CPA's 40 years of experience preparing returns was sufficient to justify reliance. As a result, GMM was not liable for failure to file, failure to pay, or accuracy related penalties.
This case is a taxpayer victory in the area of penalties. The IRS tried to narrow the scope of “reasonable reliance” on a tax professional, but was unsuccessful. This is a good reminder of the importance of seeking advice from seasoned professionals to save yourself from penalties – even if that advice turns out to be wrong.