Reasonable cause - failure to file - entity

IRS Letter Ruling 200915045

LTR Report Number 1676, April 15, 2009 IRS REF: Symbol: CCA_2009021816043926 [Code Sec. 6651]

February 18, 2009

From: *****

Sent: Wednesday, February 18, 2009 4:04:41 PM

To: *****

Cc: *****

Subject: Reasonable Cause Defense to Penalty

I am following up on our conversation of a few weeks ago regarding your questions about reasonable cause where an employee has committed acts that possibly inhibited an entity from properly filing or reporting their correct tax liability.

To determine what test a court might apply in this case, there are several cases that address the standard for reasonable cause in the employment tax area which are analogous to your facts and from which we can extrapolate a standard. In nearly all of the case I looked at an employee or outside accountant hired by the entity had embezzled money or had taken some action so that the company had not timely paid their employment taxes and the IRS asserted that a penalty was due under sections 6651(a) and 6656. See e.g., Pediatric Affiliates, P.A. v. United States , 2006 WL 454374 (D.N.J. 2006)(reliance on outside accounting service did not render taxpayer unable to fulfill its tax obligations); Classic Printing v. United States , 2001 WL 283799 (M.D. Pa. 2001)(taxpayer failed to exercise ordinary care and prudence by failing to insure its tax obligations were met and putting in place controls to oversee employee handling these obligations); Conklin Brothers of Santa Rosa, Inc. v. United States , 986 F.2d 315 (9 th Cir. 1993) [ 93-1 USTC ¶50,116 ] (employee's concealment of failure to timely file and pay employment taxes did not create a disability that prevented the use of ordinary business care and prudence as the employee was subject to supervision by the company's president). In none of these cases did the court find the facts supported a finding of reasonable cause.

The Supreme Court established a bright line rule in United States v. Boyle , 469 U.S. 241 [ 85-1 USTC ¶13,602 ] that a taxpayer's reliance on an agent to file a timely return when the due date of the return was ascertainable by the taxpayer does not constitute reasonable cause excusing the taxpayer from the statutory penalties for late filing. The Supreme Court went on to state that to be excused from the failure to timely pay taxes owed a taxpayer must be able to show that the failure (1) did not result from willful neglect, and (2) was due to reasonable cause. Id. at 244. Willful neglect is a "conscious, intentional failure or reckless indifference." Id. at 245. Reasonable cause exists if the taxpayer exercised "ordinary business care and prudence, but nevertheless was unable to file the return within the prescribed time." Id. at 246. Your facts do not suggest that there is any willful neglect, leaving only the issue of reasonable cause to be resolved.

What elements constitute reasonable cause is a question of law and whether those elements exist is a question of fact. Id. at 249. Because the duty to file and pay taxes has been imposed by Congress on the entity, the entity cannot rely solely on its agent to comply with the tax laws to avoid its obligations. The cases referenced above made clear that an entity has a obligation to exercise ordinary business care and prudence and must, therefore, properly oversee its employees. As I recall, there were facts in your case that suggested that a CFO oversaw the employees maintaining the books and records and, the CFO, while not a tax specialist should have know there were at least some accounting irregularities. Under the cases referenced above, these facts suggest reasonable cause may not be established by the taxpayer.

One case did distinguish between an entity's misplaced reliance on an agent versus a taxpayer's disability to comply with its tax obligations. The court in In the Matter of American Biomaterials Corp., 954 F.2d 919 (3 rd Cir. 1992) [ 92-1 USTC ¶50,194 ] found that the criminal acts of the CFO and CEO, which caused the company's failure to fulfill its tax obligations, did not automatically make the company liable for the penalties resulting from the failure to pay taxes. The government had argued that the malfeasance of its agents should be imputed onto the entity and, therefore, no reasonable cause could exist as a matter of law. The court, however, did not address the issue of whether the corporation had adequate internal controls in place so as to establish ordinary business case. Cf. Janice Leather Imports, Ltd. v. United States , 391 Supp. 1235 (S.D.N.Y. 1974) [ 74-2 USTC ¶9607 ].

Ultimately it is the agent's determination based on this legal standard to determine whether there are sufficient facts to support a finding a reasonable cause. These cases did not address whether the taxpayer came forward regarding their tax obligations. The forthright nature of the taxpayer may be a fact that appeals, or other fact finder, may consider and, therefore, represents a potential litigation hazard. But, at the exam level the decision is whether the facts support a penalty or not.

Please let me know if you have any further questions.

Reasonable cause. --Addition for Failure to File Tax Return or Pay Tax: Reasonable cause

The imposition of the penalty is not mandatory if reasonable cause for not filing is shown.

Kirchner, 46 BTA 578, Dec. 12,433 (Acq.).

McCream, 7 TCM 584, Dec. 16,564(M). Aff'd per curiam, CA-6, 50-2 USTC ¶9481, 184 F2d 842.

If the cause assigned is carelessness, oversight, or other trivial cause, the penalty will be assessed.

T.D. 2584, Nov. 20, 1917.

F.W. Carver, 11 TCM 995, Dec. 19,231(M).

J.D. Stice, 39 TCM 894, Dec. 36,731(M), TC Memo. 1980-14.

The Tax Court erred when it found the taxpayer liable for a late filing penalty and discounted his history of timely tax filings, his use of an accounting firm for the timely preparation of his return, and the inadvertent omission of a trusted employee to mail his return. A failure to excuse the late filing, and thereby apply a per se rule, would totally vitiate the meaning of the term "reasonable cause" and, in effect, strike that language from Code Sec. 6651.

G.C. Willis, CA-4, 84-2 USTC ¶9555.

The Tax Court abused its discretion in approving the IRS's imposition of penalties for failure to file tax returns and for failure to pay estimated tax. The husband, who had pro se status, should have been given the opportunity to explain whether his failure to timely file was due to reasonable cause.

G.L. Moretti, CA-2, 96-1 USTC ¶50,162, 77 F3d 637.

A corporation was entitled to a refund of a tax overpayment that was erroneously applied by the government and resulted in the imposition of fuel tax penalties. The corporation's filing and payment of tax under the wrong taxpayer identification number was an innocent error and constituted reasonable cause.

Gandy Nursery, Inc., DC Tex., 2001-1 USTC ¶50,266.

A corporation was liable for penalties for its failure to timely pay and deposit employment taxes absent a showing of reasonable cause for its noncompliance with the tax laws. Having intentionally failed to timely pay over the employment taxes, the corporation did not exercise ordinary business care and prudence. Its request for an abatement of penalties was rejected.

Q.E.D., Inc., FedCl, 2003-1 USTC ¶50,213.

Penalties for failure to timely file were properly imposed on domestic corporations that did not report or withhold taxes on payments made to related foreign corporations. None of the following constituted reasonable cause: the legal provisions governing the reporting and withholding requirements were highly complicated and susceptible to honest and reasonable misunderstanding, because there was no evidence that the taxpayers were not aware of their filing obligations; the treatment of several of the payments as loans, because no evidence was provided to support the loan characterization; the availability of an exemption under the U.S.-Netherlands income tax treaty, because there was no evidence of reliance on the treaty; efforts to comply with the law, because they were made years after the obligations arose, and only after prompting by an IRS agent; and reliance on a tax professional, because there was no evidence that an attorney and an uncertified accountant employed by a tax service possessed sufficient relevant expertise to warrant reliance on their judgment.

Ellwest Stereo Theatres of Memphis, Inc., 70 TCM 1655, Dec. 51,074(M), TC Memo. 1995-610.

A nonfiler was properly assessed failure to file penalties. Her attempts to secure explanations from the IRS with regard to her position were not a reasonable basis for her decision to discontinue filing tax returns.

A.M. Rogers, 81 TCM 1078, Dec. 54,225(M), TC Memo. 2001-20. Aff'd on unspecified issues, CA-5 (unpublished opinion), 2002-1 USTC ¶50,311, 281 F3d 1278.

The IRS was not obligated to consider a taxpayer's overpayment in calculating additions to tax for failure to timely file. In stipulations, the taxpayer conceded that none of the overpayment could constitute a payment or credit against his subsequent underpayment in the next year. Moreover, the individual did not establish that his failure to file was due to reasonable cause and not due to willful neglect. The taxpayer was an experienced and successful businessman who was aware of his duty to file timely his returns and pay timely any tax liability reflected in those returns; and the record established that he made no effort to determine timely his tax obligations for the year at issue.

R.A. Mason, 81 TCM 1283, Dec. 54,270(M), TC Memo. 2001-58.

Taxpayer was liable for penalties for failure to timely file his returns, as even if his name was misspelled, as he contended, on several Forms 1099, his social security number was accurately printed on each form. Thus, it should have been obvious to the taxpayer that he was taxable on the amounts.

E. O'Toole, 84 TCM 471, Dec. 54,911(M), TC Memo. 2002-265.

Bank holiday in a taxpayer's community was no ground for avoiding penalty for delinquency.

Special Ruling, Feb. 28, 1933.

The IRS could assess an addition to tax for late filing, even though a service center's director determined that a taxpayer's failure to file its tax return and pay its taxes on time was due to a reasonable cause. The determination of reasonable cause by the director of a service center is an administrative action that can be reviewed. The IRS had no binding agreement with the taxpayer concerning the finality of the initial determination of reasonable cause.

IRS Letter Ruling 9111005, December 6, 1990.

Reasonable cause for failure to file was not shown.

Charlotte's Office Boutique, Inc., CA-9, 2005-2 USTC ¶50,593.

T. Thomas, 84 TCM 178, Dec. 54,840(M), TC Memo. 2002-200.

C.K. Nunn, 84 TCM 403, Dec. 54,895(M), TC Memo. 2002-250.

W. Pratt, 84 TCM 523, Dec. 54,929(M), TC Memo. 2002-279.

P.H. Witcher, 84 TCM 582, Dec. 54,945(M), TC Memo. 2002-292.

G.J. Mantakounis, 84 TCM 652, Dec. 54,962(M), TC Memo. 2002-306.

W. Maher, 85 TCM 1053, Dec. 55,093(M), TC Memo. 2003-85.

R.E. Crittendon, 85 TCM 1548, Dec. 55,201(M), TC Memo. 2003-186.

S.P. Arnold, 86 TCM 341, Dec. 55,284(M), TC Memo. 2003-259.

F.C. Kumpel, 86 TCM 358, Dec. 55,291(M), TC Memo. 2003-265.

W.H. Johnston, 87 TCM 125, Dec. 55,624(M), TC. Memo. 2004-107.

R.W. Coulton, 90 TCM 154, Dec. 56,122(M), TC Memo. 2005-199.

J.M. Thomas, 90 TCM 477, Dec. 56,187(M), TC Memo. 2005-258.

J.H. Jordan, 90 TCM 506, Dec. 56,197(M), TC Memo. 2005-266.

D. Cote, 91 TCM 1288, Dec. 56,548(M), TC Memo. 2006-129.

N.W. Klootwyk, 91 TCM 1290, Dec. 56,549(M), TC Memo. 2006-130.

R.D. Braun, 91 TCM 1198, Dec. 56,528(M), TC Memo. 2006-110.

N.R. Escandon, Dec. 56,942(M), TC Memo. 2007-128.

M. Alemasov, Dec. 56,944(M), TC Memo. 2007-130.

D. Zisskind, 93 TCM 1037, Dec. 56,874(M), TC Memo. 2007-69.

S.R. Olmos, 93 TCM 1084, Dec. 56,891(M), TC Memo. 2007-82.

T. Miles, DC D.C., 2007-1 USTC ¶50,414.

B.K. Bhattacharyya, 93 TCM 711, Dec. 56,820(M), TC Memo. 2007-19.

An attorney and his wife were liable for additions to tax for their failure to timely file their return. Neither the taxpayers' replacement of their accountant nor natural disasters occurring in the areas where they lived and owned property established reasonable cause for their late filing because they were able to continue performing other business and personal activities. Moreover, a press release allowing victims of hurricane disasters in the taxpayers' locale an automatic extension of time did not apply to them because their return was not normally due on October 15th, as the release stipulated.

C.R. Godwin, 86 TCM 451, Dec. 55,320(M), TC Memo. 2003-289. Aff'd, per curiam, CA-11 (unpublished opinion), 2005-2 USTC ¶50,462.

Late filing penalties were imposed against an individual where the IRS established, through the introduction of copies of his two tax returns, that they were both delinquent. The taxpayer offered no evidence to show that his untimely filings were due to reasonable cause and not due to willful neglect.

I. Israel, 86 TCM 694, Dec. 55,374(M), TC Memo. 2003-338.

A corporate controller's alleged embezzlement was not reasonable cause for a corporation's failure to pay its employment taxes for twelve consecutive quarters. During that period, the corporation deducted money from its employees' paychecks and failed to remit the money to the IRS. Furthermore, the corporation admitted that it consciously failed to pay the IRS, choosing instead to pay other, more pressing, bills. Therefore, the corporation was not entitled to an abatement of the trust fund penalty.

Pacific Wallboard & Plaster Co., DC Ore., 2004-1 USTC ¶50,248, 319 FSupp2d 1187.

An estate was liable for an addition to tax under Code Sec. 6651(a)(2) for failure to timely pay its federal estate tax without a showing that the failure to pay was due to reasonable cause and not willful neglect. The estate had failed to exercise ordinary business care and prudence in waiting more than a year to transmit escrowed funds to the IRS. Furthermore, the executor's "plan" to raise capital to pay the estate tax did not constitute a serious attempt to pay the tax timely. Moreover, the executor's method of selling certain estate properties demonstrated a lack of ordinary business care and prudence, the executor was unable to demonstrate that pending litigation imposed an extraordinary administrative burden on the estate and the estate neglected to seriously pursue other sources of potential financing or income to pay the tax, such as a loan.

A. Hartsell Est., 88 TCM 267, Dec. 55,751(M), TC Memo. 2004-211.

A staffing company was not entitled to an abatement of penalties for failure to pay employment taxes. The company attempted to expand, paying expenses toward that goal rather than its payroll obligation. The undisputed evidence showed that the company did not exercise ordinary care and prudence in arranging to pay its tax liability.

Staff It Inc., DC Tex., 2006-1 USTC ¶50,188.

A taxpayer was liable for penalty for failure to timely file his tax return for the year at issue because his illness did not constitute reasonable cause. The taxpayer continued to perform his normal business operations. He continued to work extensive hours, operated business in two states, signed all timely filed employment tax returns, filed annual reports with the appropriate State governments, and received his full wages for the year.

J. Rappaport, 91 TCM 1079, Dec. 56,498(M), TC Memo. 2006-87.

The IRS properly imposed on an estate a late-filing penalty and a late-payment penalty for the estate's failure to timely file its tax returns and pay its taxes within the extended filing deadline. The estate offered no evidence to support a determination that it had reasonable cause for its failure to timely file or pay. The arguments by the executor of the estate that the estate qualified for the reasonable cause exception to the penalty due to its reliance on the advice of an IRS attorney were vague and unsubstantiated. The estate also did not provide any evidence to support its claim that it exercised ordinary business care and prudence.

D.T. Welch, DC N.J., 2006-1 USTC ¶50,351.

A tax protestor failed to file returns because he frivolously believed his pension income to be nontaxable "labor property" received in exchange for rendering services. A penalty was imposed for failure to file and the individual's tax protestor argument indicated that his failure to file was willful and not a reasonable cause not to file.

H. Link, 92 TCM 23, Dec. 56,565(M), TC Memo. 2006-146.

An individual failed to prove any basis for abatement of failure to pay penalties assessed. Although she claimed that her failure to report royalty income was due to her reliance on a tax professional's advice, there was no evidence of such advice or that she relied upon or followed any advice. Moreover, she claimed that her prolonged mental illness and personal problems during the tax years at issue warranted abatement. However, her counsel's affidavits submitted to support her claim were inadmissible because the counsel was not qualified to offer mental health opinions or permitted to provide expert testimony on this matter.

J.L. Meisner, DC Neb., 2007-1 USTC ¶50,344.

A staffing company was not entitled to an abatement of penalties for failure to file returns and pay payroll taxes. The company failed to show that the financial hardships it suffered constituted reasonable cause for its failure to file or pay. It did not exercise ordinary business care and prudence because, despite financial difficulties, it continued to pay other creditors, employees, contractors, officer-stockholders and operating expenses in preference to its payroll tax obligations. In addition, although financial difficulties might have affected its ability to pay taxes, those difficulties had no discernible effect on the company's ability to file returns.

Staff IT, Inc., CA-5, 2007-1 USTC ¶50,403.

The taxpayers had to pay additional tax for failure to timely file their tax returns. The husband, who was an accountant and tax preparer, could not claim reasonable cause due to an illness where he was able to prepare his clients' returns during the period at issue.

E.W. Arnold, 93 TCM 1432, Dec. 56,985(M), TC Memo. 2007-168.

A nonfiler was liable for the penalty for failing to file returns because he did not establish reasonable cause. He claimed that his belief that he was not required to file a return was based on his careful review of the law, but it did not appear that he had conducted such a review or sought advice from a competent tax professional.

P.E. Ballmer, 94 TCM 338, Dec. 57,122(M), TC Memo. 2007-295.

A married couple, sole proprietors of a concrete company and a complex business structure consisting of various complex trusts and limited partnerships, and their return preparer admitted they knew the couple's return was untimely filed. Consequently, the addition to tax for failure to timely file was sustained without further comment.

R.L. Tarter, 94 TCM 408, Dec. 57,150(M), TC Memo. 2007-320.

A taxpayer was liable for additions to tax as determined by the IRS for failure to file tax returns and pay taxes for all tax years at issue. The taxpayer was an attorney and was fully aware of his obligation to file returns and that he had unpaid tax liabilities. In spite of personal adversity that he encountered, including a divorce and the collapse of his employer, he succeeded in generating substantial income. Consequently, his personal obstacles did not rise to a level amounting to reasonable cause for failure to file his return or pay the tax liabilities.

C. Klein, 94 TCM 423, Dec. 57,156(M), TC Memo. 2007-325.

An individual was liable for an addition to tax for failure to file a timely return under Code Sec. 6651(a)(1) and for failure to pay his tax liability under Code Sec. 6651(a)(2). His only explanation for failing to file was that he was not sure that he was required to file, which does not constitute reasonable cause. A statement that he would pay his tax liabilities when the IRS would take action against the nonparty organization did not establish that he failed to pay his tax liabilities due to a reasonable cause.

C.J. Pearson, 94 TCM 471, Dec. 57,175(M), TC Memo. 2007-341.

A husband and wife were liable for a late-filing penalty because they did not establish that, despite the husband's health problems, and their ongoing correspondence with both the IRS and their financial institutions concerning an IRA distribution, their failure to file a return was due to reasonable cause.

R.M. Kopty, 94 TCM 480, Dec. 57,177(M), TC Memo. 2007-343.

An individual was liable for additions to tax for failure to timely file his tax returns because he did not have reasonable cause for such failure. Although he claimed that emotional distress caused by marital discord was reasonable cause for his failure to timely file, he did not provide evidence indicating that such stress caused him to be incapacitated and unable to prepare his returns on the dates they were due.

R.B. Talmage, 95 TCM 1122, Dec. 57,338(M), TC Memo. 2008-34.

A married couple was not subject to penalties for failure to timely pay their taxes from when the couple first attempted to make payment until they stopped payment on the lost check. Their bank statements established that they had issued a check to the IRS in April, which the IRS never received. Therefore, they made a good faith effort to remit their tax liability before the deadline and the lost check constituted a reasonable cause for the abatement for that period.

R. DeSabato, Jr., DC Mass., 2008-1 USTC ¶50,219, 538 FSupp2d 422.

Married taxpayers were liable for additions to tax under Code Sec. 6651(a)(1) because they did not have reasonable cause for their failure to timely file their income tax returns.

J.D. Dunne, 95 TCM 1236, Dec. 57,368(M), TC Memo. 2008-63.

Penalties were properly imposed on a corporate subsidiary for unpaid taxes under the Railroad Retirement Tax Act (RRTA) and the Railroad Unemployment Repayment Tax Act (RURTA) because it did not show reasonable cause for its failure to pay the taxes owed. Because the penalties accrued only after the IRS had given notice and demand of taxes due, and because the IRS had, by then, ruled that the corporation was liable for these taxes, the corporation could not rely on a previous ruling ruling to the contrary.

Trans-Serve, Inc., CA-5, 2008-1 USTC ¶50,238, 521 F3d 462.

A taxpayer was liable for penalties for failing to file a timely return and failing to pay income tax when due. Her belief that she could not file the return or pay the taxes until her late husband's employer prepared and filed her returns for the previous two tax years did not constitute reasonable cause.

S.T. Bray, 95 TCM 1417, Dec. 57,418(M), TC Memo. 2008-113.

An individual was liable for the addition to tax for failure to timely file his return. The taxpayer did not show that his failure to timely file was due to reasonable cause. Although he had a long history of alcoholism and drug addiction, he was not hospitalized and he did not present medical records or any evidence of his incapacity. Thus, he failed to show that he was incapacitated during the time the return should have been filed.

M. Hazel, 95 TCM 1528, Dec. 57,444(M), TC Memo. 2008-134.

An individual who failed to file tax returns and report taxable income he received from his business activities, which included fraudulent investment schemes, was liable for additions to tax for fraudulent failure to file under Code Sec. 6651(f). The taxpayer's intent to evade tax was established by his failure to maintain adequate books and records or to submit records of his income-producing activities to the IRS and by his false and misleading statements made to IRS revenue agents during examination of his income tax liabilities.

D.N. Gross, Dec. 57,541(M), TC Memo. 2008-218.

A taxpayer who filed a joint return almost four years late, and habitually filed prior years tax returns at least three years late, was liable for the late filing and payment penalties because he did not show reasonable cause for his failures. Although his wife suffered from a severe case of Lyme disease, he maintained his business interests with no disruption during the illness period and his history of late filings mitigated against a showing of reasonable cause. Moreover, the taxpayer's incorrect belief that he was in an overpayment position did not constitute reasonable cause for his failures.

T.P. Ruggeri, Dec. 57,637(M), TC Memo. 2008-300.

A blues singer was liable for the penalty for failing to timely pay her taxes absent evidence that she had reasonable cause. She offered no evidence for her claim that she was unable to pay because of a bad investment, and her evidence regarding her ill health related to other tax years.

C. Taylor, Dec. 57,729(M), TC Memo. 2009-27.