On January 2, 2014, the new IRS Large Business & International Division (“LB&I”) Directive announced in November went into effect. The directive outlines mandatory procedures for IRS employees to follow in the information gathering process during an examination. Specifically, it outlines requirements for Information Document Requests (“IDRs”) and enforcement when Taxpayers fail to cooperate in this process.
Under the directive the following is mandatory:
- Discussion with Taxpayer (or the Taxpayer’s representative) prior to issuing the IDR:
- Discuss the issue that will be the subject of the proposed IDR.
- Discuss how the information requested is related to the issue under consideration and why it is necessary.
- After consultation with Taxpayer, determine what information to ultimately request in the IDR.
- Each IDR should clearly state the issue that is being considered and the IDR should only request information relevant to the stated issue.
- Only one IDR per issue.
- IDR must be written using clear and concise language.
- Customized IDRs to the taxpayer or industry.
- Draft of the IDR must be provided and discussed with the taxpayer.
- Taxpayer and examiner determine the response due date.
- If the information requested in the IDR is not received by the response date, the examiner or specialist must follow the IDR Enforcement Process.
- Mandatory enforcement process.
- No exceptions.
- No discretion at manager level.
The Directive also sets forth a mandatory 3 step enforcement process wherein the IRS will issue: (1) a Delinquency Notice; followed by (2) a Pre Summons Letter; and finally (3) a Summons. The examiner will allegedly have little latitude to extend the response time as determined with the input of the Taxpayer and the 3-step enforcement will begin after the due date passes without a response.
What Does this Mean for LB&I Taxpayers?
With the new year beginning and in light of this new directive, large Taxpayers and their representatives should use this time to evaluate their procedures in dealing with the IRS during examinations. Just like the IRS, Taxpayers need to create a plan and develop strategies on how best to deal with the IRS. Here are 3 critical components of any plan on how to deal with the IRS and this new Directive on IDRs:
- The plan should consider how best to determine the amount of time needed to respond to IDRs and how to timely prepare responses to an IDR.
As part of the new procedures, the IRS must discuss with the Taxpayer and come to an agreement on a reasonable time for the Taxpayer to respond to the IDR. The response date for the IDR will mandatorily set other deadlines set by the IRS for enforcement of the IDR. The IRS has absolutely no discretion with respect to the subsequent deadlines so it is now more important than ever that the taxpayer is able to meet the deadline agreed upon by the parties. This means having a good grasp of the Taxpayer’s internal record keeping and maintenance procedures as well as those for third parties that may possess the requested information.
- The plan should consider what must be turned over to the IRS.
In too many instances, Taxpayers turn over information requested by the IRS (or other government agencies) without questioning whether the information is required to be produced or is protected from disclosure. A Taxpayer should remember that once a document is turned over, an admission is put in writing, a spreadsheet is created at the examiner’s request, or a recorded interview is complete, you cannot take back the document, the admission, the spreadsheet or the interview responses. Consider turning over only what is asked and required, not privileged. Your smoking gun today is the IRS’ smoking gun tomorrow.
- And most importantly for the new IDR, the plan should consider who talks to the IRS about the ‘issues’.
The discussion with the IRS before each IDR will determine the scope and the depth of the examiner’s requests for information. The Taxpayer has 3 options for who should meet with the IRS in those circumstances: (i) the tax department; (ii) the return preparer; or (iii) outside counsel. As the tax department is the taxpayer and the return preparer reported the positions on the return, a Taxpayer should consider if it should use a representative to meet with the IRS.
The Code specifically provides that a Taxpayer may be represented in any IRS inquiry. By engaging an experienced and cooperative advocate, the Taxpayer can ask the IRS to deal with its representative. Under the Code, such a representative may appear on behalf of the Taxpayer. Such a plan prevents the “gotcha” admissions that occur when the Taxpayer, including in-house professionals or the return preparer meets with the IRS. And such a plan allows the Taxpayer to match the IRS’ strategy of carefully considering the impact of each issue on the ultimate resolution of the IRS inquiry after the meeting.