The US District Court for the Northern District of California on May 14 rejected Facebook’s argument that taxpayers have a right to be referred to the IRS Office of Appeals after a case has been brought in US Tax Court. The implications of this decision for taxpayers are significant, and will likely embolden the Internal Revenue Service as it increasingly seeks to unilaterally limit taxpayer access to Appeals to those cases that the IRS itself deems appropriate—potentially forcing taxpayers into costly litigation.
In its decision, the court dismissed Facebook’s complaint alleging that the government’s decision to deny access to the IRS Office of Appeals (Appeals) constituted a violation of the Administrative Procedure Act (APA). The court held that Facebook had no guaranteed right to be referred to Appeals and thus lacked standing to bring its action in the first place. The court then summarily dismissed Facebook’s complaint.
The IRS audit of Facebook’s 2008–2010 tax years (with 2010 currently before the Tax Court) commenced in 2011. Over the course of that audit, Facebook agreed to extend the statute of limitations five times. Before consenting to extend a sixth time, however, Facebook sought an agreement from the IRS that it would issue a “30-day letter” giving Facebook the opportunity to appeal the IRS adjustments to Appeals. The IRS rejected Facebook’s request and, in July 2016, issued a notice of deficiency claiming that Facebook had understated the value of intangible property it had licensed to its Ireland subsidiary by billions of dollars. In response, Facebook petitioned the Tax Court to contest the deficiency.
In March 2017, however, the IRS advised Facebook that it was refusing to transfer settlement authority over the case to Appeals, citing IRS authority to block access when, in the agency’s view, a transfer to Appeals was not in the interest of “sound tax administration.”
In November 2017, Facebook sought a writ of mandamus from the Northern District of California to order the IRS to refer the matter to Appeals. In its complaint, Facebook alleged that the government’s denial of access to Appeals constituted a violation of the APA. Facebook further argued that the decision infringed on its right to an independent administrative resolution of the case as provided under the Taxpayer Bill of Rights (TBOR).
The IRS filed a motion to dismiss Facebook’s lawsuit, claiming the “unilateral ability” to deny a taxpayer access to Appeals in any docketed case under Rev. Proc. 2016-22, 2016-15 IRB 577. The IRS asserted that Facebook had attempted to invent an entirely new right—the right to an independent administrative forum—that did not previously exist. The IRS, therefore, contended that TBOR did not grant taxpayers any new right to Appeals.
As the court described in its opinion, Appeals was established in 1927, and Congress subsequently mandated its existence in 1998 as part of the IRS Restructuring and Reform Act of 1998 (RRA). The mission of Appeals is “[t]o resolve tax controversies, without litigation, on a basis that is fair and impartial to both the government and the taxpayer in a manner that will enhance voluntary compliance and public confidence in the integrity and efficiency of the Service.” While the IRS had issued guidance previously asserting that it had discretion to deny certain taxpayers access to Appeals, two years following the enactment of the RRA, the IRS issued further guidance reasserting that it still had discretion to deny access to Appeals. In Rev. Proc. 2016-22, the IRS reaffirmed its discretion to deny access to Appeals following the enactment of the Protecting Americans from Tax Hikes (PATH) Act.
In legislation proposed in the Taxpayer First Act (TFA) dated March 26, 2018, Congress proposed legislation establishing the IRS “Independent Office of Appeals.” In so doing, Congress noted that, while the IRS “initially established an independent process, over time the agency increasingly exercised its discretion to withhold certain taxpayers from accessing the review process.” In drafting the proposed legislation, Congress sought to “ensure that generally all taxpayers are able to access the administrative review process, allowing for their cases to be heard by an independent decision maker. For the first time, this provision codifies the IRS Independent Office of Appeals and provides for additional Congressional oversight over decisions to withhold taxpayers from the administrative review process.”
Taxpayer Bill of Rights
TBOR was codified in 2015 as part of the PATH Act. Specifically, Section 7803(a)(3) provides, in part, that “[i]n discharging his duties, the Commissioner shall ensure that employees of the Internal Revenue Service are familiar with and act in accord with taxpayer rights as afforded by other provisions of this title, including . . . the right to appeal a decision of the Internal Revenue Service in an independent forum.”
In Facebook’s view, Section 7803(a)(3) granted it the right to access Appeals as a matter of law. Facebook pointed to language taken from the Taxpayer Advocate’s website—specifically, that “[t]axpayers are entitled to a fair and impartial administrative appeal of most IRS decisions, including many penalties, and have the right to receive a written response regarding the Office of Appeals decision. Taxpayers generally have the right to take their cases to court”—as reflecting congressional intent in enacting the statute. Facebook, further, contended that the IRS’s bald rejection of Facebook’s right to Appeals as “not in the interest of sound tax administration” was arbitrary and capricious rulemaking in violation of the APA.
The IRS, for its part, had argued that the omission from the statute of the above-referenced Taxpayer Advocate language constituted a rejection of that language. The IRS, further, argued that the introductory sentence to Section 7803(a)(3) represented a limitation on the 10 rights that followed the introductory sentence, including “the right to appeal a decision of the Internal Revenue Service in an independent forum.” In the government’s view, the fact that Congress included the prefatory sentence in the statute—rather than merely listing the 10 rights—indicates that the TBOR, rather than establishing new taxpayer rights, merely restates rights that already existed. Thus, in the government’s view, TBOR’s codification as part of the PATH Act changed nothing, and the IRS still retained the ability to deny taxpayer access to Appeals at its discretion.
The Court’s Ruling
On May 14, 2018, the court granted the IRS motion to dismiss Facebook’s complaint. In so doing, US Magistrate Judge Laurel Beeler first stated that “[t]axpayers did not have an enforceable right to take tax cases to IRS Appeals before the 2015 PATH Act and the statutory enactment of a TBOR.” Nor did TBOR’s enactment, in Judge Beeler’s view, grant taxpayers an independent basis for a substantive right to appeal. Further, even if TBOR had granted taxpayers new substantive rights to appeal, the court found, Facebook still failed to establish “that the TBOR right on which it relies—‘the right to appeal a decision of the Internal Revenue Service in an independent forum,’ 26 U.S.C. § 7803(a)(3)(E)—refers to a right to take its tax case to IRS Appeals, as opposed to another independent forum such as the Tax Court.”
In rejecting Facebook’s argument that the IRS’s issuance of Rev. Proc. 2016-22 was “arbitrary, capricious, [and] an abuse of discretion” that violated the APA, the court held that Rev. Proc. 2016-22 was not a “final agency action” to which the APA applied in the first instance. Rather, the court found, Rev. Proc. 2016-22 “is an internal procedural rule that does not create or determine any rights, obligations, or legal consequences.” The court further determined that “[t]he IRS’s decision not to refer Facebook’s tax case to IRS Appeals similarly is not a final agency action because it is not an action ‘by which rights or obligations have been determined, or from which legal consequences will flow.’”
The implications of the court’s decision for taxpayers are significant. Access to Appeals presents a valuable opportunity for taxpayers to resolve disputes with the IRS short of litigation that is lengthy and costly to both taxpayers and the government. A Facebook victory would have represented a significant victory for the taxpayer community in stemming the apparent assault on Appeals from within the IRS. The court’s decision will likely embolden the IRS as it increasingly seeks to limit taxpayer access to Appeals to only those cases that the IRS itself deems unilaterally appropriate, and, thus, could force taxpayers into undertaking more and more costly litigation to have its grievances against the government fairly and fully heard.