IRS’s Taxpayer Advocate Speaks Out Against the IRS

Feb 07, 2012   
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Last year the Internal Revenue Service (IRS) Taxpayer Advocate released Taxpayer Advocate Directive 2011-1 speaking out against the IRSs failure to implement Frequently Asked Question (FAQ) 35 of the 2009 Offshore Voluntary Disclosure Program (OVDP) to numerous taxpayers.

OVDP FAQ 35 provides that: 

[IRS] [v]oluntary disclosure examiners do not have discretion to settle cases for amounts less than what is properly due and owing.  These examiners will compare the 20 percent offshore penalty to the total penalties that would otherwise apply to a particular taxpayer.  Under no circumstances will a taxpayer be required to pay a penalty greater than what he would otherwise be liable for under existing statutes.

Under existing law, United States (US) persons are generally required to file Form TD F 90-22.1, Report of Foreign Bank and Financial Accounts, (FBAR) disclosing their interest in foreign financial accounts and report income generated from these on their US income tax returns.  Notwithstanding the potential for criminal prosecution, the maximum civil penalty for willful FBAR violations can amount to the greater of $100,000.00 or 50 percent of the account balance for each violation for each year; the maximum civil penalty for non-willful violations amounts to $10,000.00 per violation and no penalty if the taxpayer qualifies under the reasonable cause exemption. 

Additionally, under “existing statutes,” various non-willful FBAR violations call for the implementation of reasonable cause, placing the burden of proving willfulness on the IRS.  Also, the IRSs application of existing statutes requires the imposition of lower penalty amounts for certain taxpayers with relatively low account balances under the IRSs “mitigation” guidelines.  Thus, under the rubric of OVDP FAQ 35, program participants with non-willful FBAR violations or relatively low account balances believed that they would not be required to pay a penalty greater than that that they would have been liable for under existing statutes.

On March 1, 2011, however, the IRS “clarified” FAQ 35 directing examiners to stop accepting less than the 20 percent offshore penalty under the program, regardless of whether a taxpayer would be liable for a lower penalty under existing statutes, except under narrow circumstances.  Even during those instances in which the IRS was applying existing law, it did not consider reasonable cause and assumed that a taxpayers failure to file an FBAR was subject to the maximum penalty for willful violations unless the taxpayer could prove that the violation was not willful. 

Following the IRSs clarification of FAQ 35, the Taxpayer Advocate highlighted various problems related to this change.  First, the Taxpayer Advocate stated that several of the 2009 OVDP participants entered into the program relying on its original terms and with the idea that they would be treated like similarly situated taxpayers.  Instead, the IRS applied the original FAQ 35 to those taxpayers whose applications were processed prior to March 1, 2011, while applying the clarified FAQ 35 to those taxpayers whose applications were processed after March 1st.  By doing so, and though no fault of the taxpayer, those cases that were processed before March 1, 2011, received a better deal than those processed thereafter. 

The Taxpayer Advocate then argued that a court may require the IRS to follow FAQ 35, if the Court determines that the taxpayer relied to his or her detriment on FAQ 35.  Particularly, the Taxpayer Advocate stated that the court may base its decision on the “Accardi” doctrine or similar legal theories based on the “duty of consistency” or “equality of treatment.”  Often, courts acknowledge that taxpayers generally may not rely on the Internal Revenue Manual (IRM) or similar types of guidance; however, when taxpayers have reasonably relied on IRS procedures, courts have required the IRS to follow its procedures in an effort to avoid inconsistent results.  Even though the Accardi doctrine is limited to situations in which taxpayers have detrimentally relied on the governments procedures, one may argue that several taxpayers relied to their detriment when seeking participation in the 2009 OVDP.

Next, the Taxpayer Advocate argued that the IRS did not publish its March 1, 2011, memo clarifying FAQ 35 as required by the Freedom of Information Act (FOIA).  Specifically, the Taxpayer Advocate states that an item that is not properly published and does not otherwise give “timely” notice to the taxpayer may not be “relied on, used, or cited” by the IRS against a taxpayer.  Thus, the IRSs March 1st memo may be invalid and the IRSs use and reliance on it may constitute a second FOIA violation.

Finally, the Taxpayer Advocated argued that the IRSs new FAQ 35 damages the IRSs credibility with practitioners and taxpayers alike thereby reducing voluntary compliance and participation in future initiatives. 

After the Taxpayer Advocates outcry against the new FAQ 35, there have been several communications between the IRS and the Taxpayer Advocate office in an effort to resolve their dispute.  The most recent communication required a response from the IRS on January 26, 2012; that has not yet been published.

Fuerst Ittleman will continue to monitor the exchange between the IRS and the office of the Taxpayer Advocate for more developments.  You may also monitor these exchanges here.  If you have any questions regarding the 2009 OVDP or offshore voluntary disclosure generally, please contact us at

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