4.10.7  Issue Resolution (Cont. 1)

4.10.7.2 
Researching Tax Law

4.10.7.2.13  (01-01-2006)
Engineering Citator

  1. The Engineering Citator, Document 5262, contains annotations (short summaries of cases and rulings) and citations of precedents and published tax law developments pertinent to administering Internal Revenue Code provisions involving engineering matters.

  2. Copies of the Citator and supplements are distributed to Service personnel most concerned with engineering issues.

4.10.7.2.14  (01-01-2006)
Other Research Sources

  1. A wide range of tax literature is available to Service personnel. Monthly publications such as The Journal of Taxation, Taxation for Accountants, and Taxation for Lawyers, published by Warren, Gorham & Lamont.

  2. Numerous books presenting detailed analyses of tax laws and issues are available and provide excellent sources of information. One of the better known is Federal Income Taxation of Corporations and Shareholders by Bittker and Eustice, published by Warren, Gorham & Lamont, which has been cited by the Supreme Court.

  3. A number of tax services are available from commercial publishers that provide explanations and annotations on a variety of tax issues. For example, CCH Incorporated’s Standard Federal Tax Reporter, Bureau of National Affairs’ Tax Management Portfolios , and Research Institute of America’s American Federal Tax Reports.

  4. There are numerous sources of information available through on-line research. IRS has electronic access to thousands of data bases. See IRM 4.10.7.2.15.1 for more detail.

4.10.7.2.15  (01-01-2006)
Electronic Tax Research

  1. Electronic tax research using computers, compact discs, and on-line tax services is also available. Information can be accessed quickly and all references to a given topic, obtained by searching, by specific words or word groups. Most of the documents discussed above are available from commercial vendors on compact disc or online.

4.10.7.2.15.1  (01-01-2006)
Electronic Research Services

  1. Employees needing access to electronic research tools should consult with their manager and visit the SPDER web site http://spder.web.irs.gov/. This site provides information on available services, training, and password access information.

4.10.7.2.15.2  (01-01-2006)
Examination Specialization and Technical Guidance

  1. The Examination Specialization and Technical Guidance (ESTG) Program Office focuses on compliance on an industry segment basis, issue basis, or return type basis. ESTG analysts/technical advisors facilitate the development of examiners’ expertise by providing guidance on issues specific to certain industries or return types and provide technical support to field examiners. They are responsible for preparing issue guidance and Audit Technique Guides(ATG) (also know as MSSP Guides) that provide auditing techniques, assist with issue identification and development, and tax law interpretation. Audit Technique Guides can be access from the SB\/SE home page by selecting Exam and then under the title "Industries" select Industry Specialization for the Technical Guidance home page or Audit Technique Guides to go directly to the ATGs. (http://sbse.web.irs.gov/Exam). This information was formerly housed on the IS Bulletin Board.

4.10.7.2.15.3  (01-01-2006)
Technical Advisor Program

  1. The Technical Advisor Program, under the operation of Large and Mid-Size Business Division (LMSB), has been established to:

    1. Ensure uniform and consistent treatment of issues nationwide.

    2. Provide for better identification, development and resolution of issues.

    3. Provide a vehicle for coordination of technical issues for LMSB and other Operating Divisions.

  2. Technical Advisors, each serving as a nationwide expert in a particular industry or issue area, ensure consistent treatment of all taxpayers within their specific industry or issue area. Visit the LMSB Intranet web site for a current listing of all Technical Advisors and the industry or issue areas they represent, and also to access information available for their industry or issue areas.

  3. For more information about the Technical Advisor Program, see IRM 4.10.1.

4.10.7.3  (01-01-2006)
Evaluating Evidence

  1. Examiners gather facts to correctly determine a taxpayer’s tax liability. This determination must be made on the basis of all available facts, including facts supporting the taxpayer’s position. For this reason, examiners should determine all the facts supporting both sides of an issue.

  2. Examiners should pursue an examination to a point where a reasonable determination of the correct tax liability can be made. In the daily application of this responsibility, examiners must deal with problems of evidence and its evaluation. The following discussion is presented as a series of definitions and explanations to assist examiners in determining the nature and sustaining value of various types of evidence.

4.10.7.3.1  (01-01-2006)
Evidence Defined

  1. Evidence is something which tends to prove a fact or point in question. Evidence is distinguished from proof, in that proof is the result or effect of evidence.

4.10.7.3.2  (01-01-2006)
Oral Testimony

  1. The Internal Revenue Code requires all taxpayers to keep adequate records. There are times, due to unusual circumstances, when records do not exist. In such cases, oral testimony may be the only evidence available. Therefore, oral statements made by taxpayers to examiners represent direct evidence which must be thoroughly considered. Although self-serving, uncontradicted statements which are not improbable or unreasonable should not be disregarded. The degree of reliability placed on a taxpayer’s oral statements must be based on the credibility of the taxpayer and surrounding circumstantial evidence (IRM 4.10.7.3.10 below). The following general guidelines should also be considered:

    1. Oral evidence should not be used in lieu of available documentary evidence.

    2. If the issue involves specific recordkeeping required by law and regulations (e.g., IRC § 274), then oral evidence (testimony) alone cannot be substituted for necessary written documentation.

    3. Oral testimony need not be accepted without further inquiry. If in doubt, attempts should be made to verify the facts from other sources of evidence.

  2. In some instances a summary of a conversation or statement made by a taxpayer or witness should be prepared as documentation of the oral testimony and the taxpayer (or third party) should be requested to sign the document. It should always be signed by the examiner or examiners party to the interview. If the taxpayer or third party does not sign the documentation, then it is considered a report of the interview. This summary document should always contain:

    1. Date, time and place of contact,

    2. Name of the parties present, and

    3. Description of what transpired.

  3. Sometimes a more formal written statement is needed when documentation is not available and oral testimony will significantly affect the outcome of the case. In these cases examiners should assume that the case may eventually be resolved through litigation and should use formal written statements such as affidavits to record taxpayer or third party statements. An affidavit is an attested statement and has great validity when properly prepared and voluntarily given. Affidavits should be completed using Form 2311. Affidavits may be used:

    1. When other documentary evidence is unavailable,

    2. When the examiner wants the taxpayer’s statements to become part of the case file,

    3. To help accumulate complete and accurate information.

    4. To record the testimony of a witness, and

    5. To prevent a taxpayer from changing testimony.

  4. If oral testimony is accepted or where oral testimony is not allowed, the workpapers should reflect a full development of the facts, oral statements, corroborating evidence and conclusions, including an explanation of the factors supporting the conclusion. "Per oral testimony" or "as reasonable" are insufficient unless the amounts are both de minimis and reasonable.

4.10.7.3.3  (01-01-2006)
First Hand Knowledge

  1. One of the basic rules of evidence is that witnesses (either taxpayers or third parties) can testify only about facts of which they have first hand knowledge. In other words, witnesses must be able to say the facts to which they testify are true.

4.10.7.3.4  (01-01-2006)
Expert Testimony

  1. Some issues are so difficult that the ordinary person needs assistance from someone more familiar with the subject to understand and resolve the matter at hand. An expert opinion is made by someone with the education and experience to qualify as an expert. Thus, expert testimony is needed.

    Note:

    An examiner is not compelled to accept expert testimony; expert testimony can be challenged.

4.10.7.3.5  (01-01-2006)
Hearsay

  1. Hearsay is what a witness says another person was heard to say. It is a secondary source of information and generally the reliability and trustworthiness of the evidence rests upon the veracity and reliability of a person giving testimony.

  2. A common example of hearsay evidence is testimony of taxpayers’ representatives. It should therefore be recorded in the workpapers by examiners. Hearsay often leads to primary sources of information.

4.10.7.3.6  (01-01-2006)
Admission Against Interest

  1. A statement that is harmful to the person making the statement is considered an "admission against interest" . When an admission is made voluntarily and with deliberation, it represents substantial evidence that the fact admitted is probably true.

    Example:

    If someone tells a friend that they shoot par golf, the friend may be skeptical. But if they said that they have trouble breaking 100, the friend might be inclined to believe them because it would be more likely.

4.10.7.3.7  (01-01-2006)
Opinions

  1. An opinion is a belief not based on absolute certainty, or a judgment or evaluation of what seems to be true. Opinions are statements of personal feelings.

  2. An opinion is not conclusive evidence of a fact. But opinions may be the only evidence available. Before accepting an opinion as evidence, the examiner should solicit other documentary evidence.

  3. Opinions emphasize connotative meaning, that is, how someone feels about something; how they value it.

  4. Opinions cannot be proven or verified. The only criterion for testing an opinion is whether it is acceptable or not, believed or not believed.

  5. There are three primary types of opinions:

    1. Unqualified Opinion: An unqualified opinion is made by someone who is only guessing. The individual has neither the education or work experience to make an intelligent estimate.

    2. Biased Opinion: A biased opinion is made by someone whose relationship with the taxpayer influences the opinion. Suspect bias when a valuation or opinion is rendered by a family member or someone receiving a substantial benefit from the taxpayer.

    3. Expert Opinion: An expert opinion is made by someone with the education and experience to qualify as an expert, but biases, for example, family or employment relationships, should be considered. Any doubt about the validity of an expert’s opinion should be resolved by seeking a second expert’s opinion.

4.10.7.3.8  (01-01-2006)
Observations

  1. Observations are statements, judgements, or inferences of fact based on something observed. It is the act of recognizing and noting a fact or occurrence.

4.10.7.3.9  (01-01-2006)
Documentary Evidence

  1. Documents are another form of evidence. Documentary evidence is generally regarded as having great probative (providing proof or evidence) value. Writings made contemporaneously with the happening of an event generally reflect the actual facts and show what was in the minds of the parties to the event.

  2. While documentary evidence has great value, it should not be relied on to the exclusion of other facts. Facts can also be established by oral testimony and there will be occasions when courts will give greater weight to oral testimony than to conflicting documentary evidence.

4.10.7.3.10  (01-01-2006)
Circumstantial Evidence

  1. Circumstantial evidence is evidence from which more than one logical conclusion can be reached. To be useful, both the credibility of the evidence and the reasonableness of the conclusion should be evaluated.

4.10.7.3.11  (01-01-2006)
Best Evidence

  1. The best evidence rule requires that, when possible, original evidence be used. Therefore, examiners should always ask to the see original documents when there is reason to believe such documents are available.

4.10.7.3.12  (01-01-2006)
Secondary Evidence

  1. Secondary evidence is used when original evidence is unavailable. Examples of acceptable secondary evidence are copies of original documents made by an examiner. In the absence of original documents, copies made by the examiner become the best evidence available.

4.10.7.3.13  (01-01-2006)
Inferences

  1. The fact in dispute can, in some cases, be proved by showing other facts from which the fact can be inferred. In other words, as a matter of logic, an inference can be made from facts to decide a disputed fact.

  2. An inference is a logical conclusion based on facts. Things beyond the range of what can be observed are inferences.

4.10.7.4  (01-01-2006)
Arriving at Conclusions

  1. After all the facts have been gathered through taxpayer interviews; examination of the books, records and supporting documents; interviews with third parties; and, having researched questionable items, the examiner has all the information to be considered in resolving the issues. At this point the examiner will use his/her professional judgement in considering all the information to arrive at a conclusion.

  2. Examiners are expected to arrive at a definite conclusion by a balanced and impartial evaluation of all of the evidence. Examiners are given the authority to recommend the proper disposition of all identified issues, as well as any issues raised by the taxpayer.

  3. Once the examiner has reached a conclusion for an issue, the examiner should communicate their decision to the taxpayer and/or representative. Copies of the examiner’s workpapers may be provided to the taxpayer and/or their representative. The examiner should attempt to resolve issues as the audit progresses.

  4. Examiners will employ independent and objective judgment in reaching conclusions on issues being examined and in all aspects of their duties and will decide all matters on their merits, free from bias and conflicts of interest. Fairness will be demonstrated by:

    1. Making decisions impartially and objectively based on consistent application of procedural and the applicable tax law,

    2. Treating individuals equitably,

    3. Being open-minded and willing to seek out and consider all relevant information, including opposing perspectives,

    4. Voluntarily correcting mistakes and improprieties made by themselves or someone else in the Service and refusing to take unfair advantage of mistakes or ignorance of citizens, and

    5. Employing open, equitable, and impartial processes for gathering and evaluating information necessary to decisions.

  5. Examiners will use their professional judgment in evaluating all evidence to reach a conclusion. Examiners seldom have all of the information they would like to have to definitively resolve an issue. Examiners, therefore, must decide when they have enough, or substantially enough, information to make a proper determination for all issues under consideration. The sooner this point is reached, the more timely the case can be completed and the less burden will be placed on the taxpayer.

  6. IRC section 274(d) specifies recordkeeping rules that are required in certain situations. Treasury Regulations 1.274–5(c)(2)(v) states that it is permissible to allow a deduction without complete documentation if the taxpayer can show he or she has "substantially complied" with the adequate recordkeeping requirements. The examiner will use his/her skill and judgement in developing the surrounding evidence when less than the required documentation is available, so that the taxpayer is treated fairly, but does not profit from failure to keep records.

  7. To determine if the taxpayer has "substantially complied, " the following factors should be considered:

    1. Number and type of expenditures involved,

    2. Elements of documentation missing,

    3. Reason(s) why deduction was not properly substantiated,

    4. Availability of other information to substantiate the expenditure,

    5. Materiality of unsubstantiated items, and

    6. Relative tax significance of the items.

4.10.7.4.1  (01-01-2006)
Taxpayer Credibility

  1. A determination of taxpayer credibility is most often required in connection with evaluating oral evidence presented by taxpayers (see IRM 4.10.7.3.2, Oral Testimony).

  2. It is the responsibility of examiners to establish the taxpayer’s or third party’s credibility as part of the evaluation of oral evidence. Corroborative or contradictory details will have an important bearing on determining the reasonableness and probability of the statements.

  3. If the statements of taxpayers, in the judgment of examiners, suggest some degree of unreliability, the decision to accept some, all or none of the oral statements as credible evidence should take this into account. However, unless taxpayers’ statements are found to be wholly unreliable, they must be given some weight in the conclusion reached.

4.10.7.4.2  (01-01-2006)
Reasonable Determinations

  1. When deductions (such as exemptions for dependents) are based on a substantial number of small expenditures all of which cannot be substantiated by documentary evidence, examiner judgement will be used to reach a reasonable determination. This is provided there is basis for allowance under the law and regulations.

  2. These instructions are not intended to relieve taxpayers of the burden of proof, nor to sanction their failure to comply with the recordkeeping requirements of the law and regulations. Rather, they are intended to give examiners flexibility in the evaluation of incomplete evidence that is often encountered in everyday administration of the tax laws.

  3. Examiners will exercise sound judgment to make reasonable determinations. The examiner must be sure that there is a basis for each allowance. This involves consideration of the following elements, which will vary according to the nature of the items involved and the circumstances of the case:

    1. Considering the extent to which detailed documentation is required,

    2. Examining all existing records essential to adequate substantiation, and

    3. Determining the weight to be accorded oral statements and explanations.

  4. Close approximations of items, not fully supported by documentary proof, can frequently be established through reliable secondary sources and collateral evidence. For example, in questionable exemption cases, the fact that taxpayers cannot furnish documentary evidence in support of some of the amounts contributed need not be fatal to allowance of the exemption. Taxpayers may be able to demonstrate the total cost of support with reasonable certainty and satisfy examiners, for example, by third-party affidavits, that only nominal amounts were contributed by others.

  5. Due consideration should be given to:

    1. Reasonableness of the taxpayers’ stated expenditures in relation to the taxpayers’ reported income,

    2. Reliability and accuracy of the taxpayers’ records (determined by examining items on the return more readily lending themselves to detailed recordkeeping) , and

    3. General credibility of the taxpayers’ statements in the light of the entire record in the case.

  6. The practice of disallowing amounts claimed because there is no documentary evidence available, which will establish the precise amounts beyond any reasonable doubt (even though it is clear that the taxpayer did incur some expense) ignores commonly recognized business practice, as well as the fact that proof may be established by credible oral testimony. However, an arbitrarily computed portion of deductions in this situation will not be allowed merely for the purpose of expediting the closing of the case.

  7. For instance, if a taxpayer cannot precisely document amounts spent for expenses while away from home on business, examiners may establish that reasonable amounts were spent for such items if taxpayers can clearly establish the following:

    1. Time: Dates of departure and return for each trip away from home, and number of days away from home,

    2. Place: Destinations or locality of travel, for example, name of city or town,

    3. Business Purpose: business reason for travel or nature of business benefit derived or expected to be derived, and

    4. Proof that Expenditures were incurred: a reasonable showing, based upon secondary evidence, including oral testimony, that out-of-pocket expenses were paid.

  8. The extent of the allowance in (7) above should be governed by the principles stated in (4), (5) and (6) above. Allowances should be consistent with an appraisal of the facts and conservative to ensure that taxpayers do not profit from failure to keep required records of all elements of travel expenses.

4.10.7.4.3  (01-01-2006)
Tolerances

  1. The Law Enforcement Manual (LEM) contains tolerances to be observed for deficiencies and various types of penalties. Consult the applicable section as needed.

4.10.7.4.4  (01-01-2006)
Significant Items

  1. The definition of "significant" or " material" depends on an examiner’s evaluation of a return as a whole and the items that comprise the return. There are several factors, however, that examiners must consider when determining whether an item is significant. These factors include:

    1. Comparative size of the item,

    2. Absolute size of the item,

    3. Inherent character of the item,

    4. Evidence of intent to mislead,

    5. Beneficial effect of the manner in which an item is reported, and

    6. Relationship to/with other item(s) on a return.

  2. Generally, automatic adjustments (obvious errors or omissions on the return) in excess of tolerances are to be considered significant items.

4.10.7.4.5  (01-01-2006)
Compliance

  1. The impact on compliance within a segment of the population, sector of the economy, or similarly situated taxpayers will be considered when making a decision whether or not to raise an issue.

4.10.7.4.6  (01-01-2006)
Collectibility

  1. Once an examination has begun and a decision is made to limit the scope of an examination on account of collectibility, examiners will complete the examination at the earliest possible opportunity.

  2. In making the determination, the following should be considered:

    1. Are the taxpayers considering bankruptcy proceedings?

    2. Are there net operating losses that could be utilized in the current year to absorb any potential tax liability resulting from an examination?

    3. Are the taxpayer’s bank accounts overdrawn?

    4. Do the taxpayer’s liabilities exceed the taxpayer’s assets?

    5. Are there collectibility indicators on the Charge-Out document?

    6. Factors such as future earning power, age, assets, liabilities, education, profession or trade, and health.

  3. The steps taken to determine whether to limit the scope of the examination are to be documented in the case file.

    1. When an issue is examined and based on the findings, the examiner decides further issue development is not warranted, the examiner should use the Issue Lead Sheet to document what work has been performed, findings, and conclusions to support the examiner’s determination to get out of the issue

    2. For field examinations, if the examiner decides based on information developed during the examination that the examination of remaining issues as originally planned is no longer warranted, the examiner should use the Risk Analysis Workpaper to document the decision. The Risk Analysis Workpaper should be filed as a separate line item in Section 600.

    3. For office examinations, if the examiner decides based on information developed during the examination that the examination of remaining issues as originally planned is no longer warranted, a risk analysis workpaper is not required, only a comment on the leadsheet or Form 4700 is needed.

  4. The scope of the examination may be limited on an employment tax examination. However, examiners should avoid taking any action that would give the taxpayer a safe haven. As an alternative, examiners should limit the number of returns examined. This approach minimizes the potential tax liability, while avoiding the likelihood of giving the taxpayer a safe haven.

  5. When permission has been given to limit the scope of the examination due to collectibility, the following adjustments should be included in the audit report:

    1. Adjustments in the taxpayers’ favor,

    2. Automatic disallowances,

    3. Statutory adjustments,

    4. Other issues "developed," up to the point of limiting the scope of the examination.

  6. Judgment should be exercised when identifying which issues are to be considered "developed." The following areas should be considered in making the decision:

    1. The additional time required to complete the issue. Avoid raising an issue unless the audit work is substantially complete.

    2. The potential for future non-compliance,

    3. The extent of statutory authority. Avoid issues in which the statutory authorities are inconclusive unless there are overwhelming compliance considerations.

  7. Once a determination to limit the scope has been made and approved, the determined tax liability will always be assessed.

4.10.7.4.7  (01-01-2006)
Rollover vs. Tax Deferrals

  1. In examinations conducted by examiners using field techniques, timing issues should be dealt with at the planning level. Generally, planning an examination to include short-term timing issues is not an effective use of resources. However, unplanned timing issues which are uncovered or arise as a correlative adjustment during an examination of non-timing issues should be made if cost effective to do so.

  2. The pre-contact and/or examination plan should preclude the inclusion of timing issues, except those with long term, flagrant short term, indefinite, or permanent deferral features.

4.10.7.4.8  (01-01-2006)
Coordinated Issues

  1. Coordinated Issues may be proposed by LMSB Technical Advisors to ensure that key issues within particular industry or issue areas are raised, developed and resolved on a consistent basis. The purpose of Coordinated Issues is to provide examiners with guidance on significant national issues that are not being resolved consistently. Coordinated issues establish uniform positions within industry or issue areas. Examiners cannot deviate from such positions without the concurrence of the responsible LMSB Industry/Issue Team. See IRM 4.40.1.1.1.8 for more information on Industry/Issue teams.

  2. Visit the LMSB Intranet web site for a listing of coordinated issues.

  3. For more information on Coordinated Issues, see IRM 4.40.3.

4.10.7.4.9  (01-01-2006)
Whipsaw (a/k/a correlative adjustments)

  1. The term whipsaw refers to situations where the government is subjected to conflicting claims by taxpayers. A potential whipsaw situation exists whenever there is a transaction between two parties and correct reporting of the transaction may benefit one and adversely impact the other for tax purposes.

  2. A potential whipsaw situation could be present in almost any transaction; however, experience has shown the following issues to generate the majority of whipsaw cases:

    1. Goodwill vs. covenant not to compete,

    2. Alimony vs. child support,

    3. Allocation of purchase price,

    4. Buyer vs. seller,

    5. Sale vs. rental/royalty,

    6. Employee vs. independent contractor,

    7. Payments to widows (gift vs. taxable income),

    8. Dependency exemptions for children of divorced parents,

    9. Husband and wife filing separate returns,

    10. Grantor, trust, and beneficiaries,

    11. Parent and child,

    12. Decedent and decedent's estate,

    13. Taxpayers in which the Commissioner has invoked the provisions of IRC section 482, and

    14. Parent and subsidiary corporations .

  3. When whipsaw issues require ( i.e. material tax consequence), an examination of both parties, examiners will secure the name, address, and the tax identification number (TIN) of the related party. A transcript will be requested to determine the related party's examination status.

    1. If a related party is under examination, then the examiner assigned to the case will be notified.

    2. If the related party is not under examination, then the examiner will determine if they can examine the return or if a referral is needed. If a collateral examination is warranted, then Form 6229, Collateral Examination, will be prepared.

  4. The primary objective of requiring support examinations of these returns is to assure consistent treatment of related taxpayers or taxpayers involved in the same transaction.

4.10.7.5  (01-01-2006)
Proposing Adjustments to the Taxpayer and/or Representative

  1. Communication with the taxpayer or representative on an on-going and continuous basis is a critical part of the examination process. Generally, the taxpayer should feel more involved in the audit process and will be better informed of the status of the examination. The examiner should discuss the progress of the audit and issues proposed with the taxpayer and/or representative at frequent intervals as the examination continues.

    1. In office examinations, the examiner can discuss issues as they are concluded during a scheduled appointment or at the conclusion of the appointment. Whenever possible, the examiner should prepare an audit report at the conclusion of the appointment and discuss audit issues with the taxpayer and/or representative in a face to face meeting versus just mailing the report later.

    2. In field examination, the examiner should discuss issues as they are concluded. This allows the resolution process to begin as the examination continues. Each issue is discussed as it is completed and resolved so that at the conclusion of field work the status of each issue is known. The examiner can then take the appropriate steps to close the case.

4.10.7.5.1  (01-01-2006)
Closing Phase of the Examination

  1. This section focuses on techniques for conducting closing conferences, presenting examination findings, explaining proposed adjustments, and soliciting agreements. Each situation is unique and techniques vary widely, but there are basic procedures which should always be followed. See IRM 4.10.8 for report writing requirements.

  2. Generally, substantive issues should be proposed and discussed with taxpayer and/or his representative in a face to face meeting. In some circumstances, a telephone conference or call may suffice, but this would be the exception.

  3. Generally, a report will not be mailed to the taxpayer prior to discussing findings and proposed issues with the taxpayer and/or his representative. Exceptions to this rule would be for the following:

    1. no-show/ no-response appointments,

    2. uncooperative taxpayers, or

    3. when additional records are provided for the examiner to consider.

  4. A revised report may be mailed to the taxpayer rather than presented in a face to face meeting.

  5. To facilitate discussion at closing conferences, the examiner may provide the taxpayer with a listing and brief description of items to be discussed.

  6. The examiner should choose the order in which issues will be presented at the closing conference. The order can be modified during the conference. While there is no "right" order or order which is best for all occasions, it is generally easier to resolve factual issues or issues involving an established application of law. These issues should be discussed first. Less certain issues should be discussed last.

  7. Closing conferences vary in the degree of formality, but generally the following areas are covered:

    1. The examiner discusses his findings with the taxpayer and/or representative.

      Note:

      The examiner should be prepared to converse knowledgeably and explain proposed adjustments and provide the taxpayer with copies of relevant court cases, lead sheets and workpapers showing computations.

    2. The examiner provides the taxpayer and/or representative with the authority for his findings (law, argument and conclusion).

    3. The examiner receives information from the taxpayer and/or representative and addresses any taxpayers concerns. It is very important that the examiner listen to the taxpayer and gets a clear understanding from all persons present that there are no pertinent facts other than those of which the examiner is aware. This can be done in a positive manner by stating, "This is my understanding . . .," and then detailing the facts as the examiner understands them. "Are we all in agreement on this? Are there any other material facts or circumstances of any consequence? "

    4. The examiner solicits an agreement from the taxpayer.

      Note:

      When a joint return is being examined and only one spouse is present at the interview, a copy of the examination report must be mailed to the other spouse. If the taxpayers are represented by a power of attorney and he signs the audit report, copies of the audit report will be sent separately to each spouse.

    5. On agreed cases, the examiner solicits payment of tax, interest and penalties.
      (1) If taxpayer indicates an inability to pay the tax due at closing, alternative payment methods should be discussed. An installment agreement should be offered if the taxpayer meet the requirements. Form 9465, Installment Agreement Request, can be used to solicit a payment agreement.
      (2) If the taxpayer and/or representative agree with the findings, but do not wish to pay the deficiency immediately, explain that a statement for the deficiency plus interest will be mailed. Their cancelled check will be their receipt. Secure appropriate waivers and close the case.

    6. On unagreed cases, the examiner will
      (1) Offer the taxpayer a managerial conference.
      (2) Determine if the case is wholly or partially agreed.
      (3) Solicit the taxpayer(s)’ position on unagreed issues.
      (4) Advise the taxpayer of the appellate process and his Appeal Rights.

4.10.7.5.2  (01-01-2006)
Office Examinations Procedures

  1. This section provides additional information for the processing of office examination cases. See IRM 4.10.7.5.1 for general information.

  2. If the taxpayer says he has additional information to consider at the end of the initial meeting, this should not delay the issuance of a report. The taxpayer should be informed that the report will be revised or voided if adequate additional information is provided. The general rule is to issue a report at the conclusion of the initial appointment. The additional information the taxpayer wants considered can be mailed or faxed in for consideration. The examiner and taxpayer should agree on a mutually acceptable date (generally 15 days) for submission of additional information to be considered.

  3. If the examiner do not issue a report at the conclusion of the initial appointment, the examiner and the taxpayer should agree on a mutually acceptable date (generally 15 days) for submission of additional information needed. The examiners will advise the taxpayer that if the additional information is not received, or is inadequate, an examination report will be issued based on the information currently available.

  4. A focused IDR, using Form 4564, Information Document Request, should be issued to request additional information..

  5. The examiner should explain to taxpayer that they are entitle to a managerial conference if they do not agree with the examination findings. The examiner should advise that a managerial conference is optional and has no impact on the taxpayer's right to request an appeals hearing.

4.10.7.5.3  (01-01-2006)
Field Examinations

  1. When the communication process between the examiner and the taxpayer is working well, the examiner will know at the end of field work which issues are agreed and which are unagreed.

  2. If the desired level of communication and cooperation is not achieved, once the examination is completed, examiners will explain the basis of the proposed adjustments to taxpayer and/or his representative. The examiner should solicit agreement to the issues and attempt to secure agreement to the proposed tax liability. Examiners should be prepared to cite the law, regulations, rulings, and court decisions on which their conclusions are based and provide the taxpayer with copies of workpapers explaining the proposed adjustments.

    1. Over assessment and no-change cases are generally not controversial and, in most instances, there is no need to hold a formal closing conference.

    2. For agreed cases a closing conference is generally not required as the issues were probably discussed and resolved throughout the audit. However, in some instances, a formal closing conference will be needed. The examiner should discuss the revenue agent’s report with the taxpayer and/or representative to ensure that all questions are answered and that payment arrangements are made.

    3. For unagreed cases a closing conference will generally be held.

4.10.7.5.3.1  (01-01-2006)
Unagreed Cases

  1. Taxpayers who disagree with any of the proposed adjustments will be informed of their right to discuss the proposal with the examiner’s group manager. Taxpayers will also be informed of formal appeal rights, as well as the right to pay any deficiency and file a claim for refund.

  2. Examiners are required to inform all taxpayers about the Fast Track Mediation (FTM) program. All examiners must offer taxpayers the opportunity to use FTM on all unagreed cases that meet the criteria as described in Publication 3605. FTM is designed to expedite the resolution of disputes with taxpayers. A key feature of this program is the recognition of taxpayers as customers who are entitled to have their disputes handled as expeditiously as possible. FTM involves an appeals or settlement officer who has been trained in mediation techniques acting as a mediator between the taxpayer and Compliance.

    • At the completion of a disputed examination/collection determination, the examiner/revenue officer or manager will inform the taxpayer of the opportunity to request FTM to resolve the case.

    • Both the Service and the taxpayer must complete and sign a simple agreement, Agreement to Mediate Form, to use mediation. All necessary documents are accessible on the official FTM website at: http://appeals.web.irs.gov/ftm/.

    • An appeals or settlement officer is assigned to work as a mediator between the taxpayer and Compliance. The case is not transferred to Appeals.

  3. FTM is generally available for all non-docketed cases and collection source work over which SB\/SE has jurisdiction except for campus cases. Cases worked at the campuses are generally not eligible for FTM due to the lack of a manager's closing conference. The following is a list of issues/cases currently excluded from FTM:

    • An issue designated for litigation;

    • Issues for which there is an absence of legal precedence and/or conflicts between circuit courts of appeal;

    • Issues included in the IRS' Compliance Coordinated Issue Program and Appeals Coordinated Issue Program (ACI). ISP issues are listed on the Appeals web site. (See IRM 8.7.3.2.1 and IRM 8.7.3.2.2)

    • Competent Authority cases;

    • Campus penalty appeal cases;

    • Campus (streamlined) offer-in-compromise cases;

    • Collection Appeals Program cases;

    • Automated Collection Site cases;

    • Frivolous issues, such as, but not limited to those identified in Rev. Proc. 2002-2, 2002-2 C.B. 82;

    • No show/no response cases (due to a lack of cooperation by the taxpayer and/or representative).

  4. If agreement can be reached on one or more, but not all issues or years, taxpayers should be encouraged to enter into a partial agreement by executing a waiver such as Form 870, covering the agreed issues or years.

  5. In attempting to reach agreement, Examination personnel have the authority and responsibility to reach a definite conclusion based on a balanced and impartial evaluation of all the evidence (refer to IRM 4.10.7.4 above, Arriving At Conclusions). This authority does not extend to consideration of the hazards of litigation.

  6. If a taxpayer requests a written record of what has been agreed to at the time a partial agreement is entered into, an appropriate letter or statement may be furnished covering such agreed issues or years.

4.10.7.5.3.2  (01-01-2006)
Agreed Cases

  1. When agreement is reached on the last of the disputed issues, examiners should review all questioned items and confirm that taxpayers and/or representatives are in complete agreement.

  2. Calculate the deficiency or overassessment. Unless the tax computation is very complicated, it may be completed immediately and a report prepared. If everyone is in agreement, there is no reason for delay in execution of the waiver.

  3. Examiners will solicit payment of the tax due including accrued interest and applicable penalties.

  4. If taxpayers indicate an inability to pay the tax due at closing or within 120 days of the first notice, alternative payment methods should be discussed. An installment agreement should be offered if the taxpayers meet requirements.

  5. If the taxpayer and/or representative do not wish to pay the deficiency immediately, explain that a statement for the deficiency plus interest will be mailed. Their cancelled check will be their receipt. Secure appropriate waivers and close the case.

4.10.7.5.4  (01-01-2006)
Notice of Proposed Adjustments

  1. In the examination of large, complex tax returns, numerous issues will likely be proposed. Adjustments need to be fully developed before they are presented to taxpayers for review. If adjustments are not adequately developed, the review process may take longer. Records should be maintained of proposed adjustments and every effort taken to secure taxpayers’ responses in a timely manner.

  2. Form 5701 may be used to present proposed adjustments to taxpayers. Form 5701 is a three part form designed to provide written record of proposed adjustments. It is distributed as follows:

    1. Part I is kept by the taxpayers.

    2. Part II is returned by the taxpayers with their response to the issue.

    3. Part III is maintained by the examiners.

  3. Use of Form 5701 is not mandatory. Any method which provides a record of what was presented to taxpayers may be used.

  4. The issuance of Form 5701 is recorded on the Issue Control Sheet, Form 5700. Form 5700 is a log which provides a record of outstanding Forms 5701, along with their current status.

  5. Preparation of Form 5701 must be tailored to the peculiarities of the issue, the taxpayer, and the expected agreed or unagreed status of the proposed adjustment. Form 5701 may serve as a cover sheet for a Form 886A, Explanation of Items. This facilitates incorporation of an explanation of the issue into the Revenue Agent’s Report.

  6. The suggested format for preparation of an issue proposal is as follows:

    1. Issue,

    2. Facts,

    3. Law,

    4. Government’s Position,

    5. Taxpayer’s Position, and

    6. Conclusion.

4.10.7.5.5  (01-01-2006)
TEFRA Cases

  1. The Tax Equity and Fiscal Responsibility Act of 1982 (TEFRA) changed examination and administrative procedures for partnership examinations. The Sub-Chapter 5 Revision Act of 1982 made similar revisions to S corporations. Under the 1982 Acts, examinations, appeals, and judicial proceedings are, in general, conducted at the entity level. Closing conferences and issue proposals relating to TEFRA entities must by law follow rigid guidelines. Refer to the Tax Shelter/TEFRA Handbook for a complete discussion of TEFRA examinations and procedures.

4.10.7.5.6  (01-01-2006)
Payment Expectations

  1. Payment for agreed deficiency cases should be solicited and secured at the closing conference whenever possible. Taxpayers should be informed of the following benefits of making a current payment:

    1. It decreases future interest that is compounded daily,

    2. The interest and the failure to pay penalty will begin to accrue if the tax is not paid within 10 days from the date of the first notice,

    3. Any personal interest will not be tax deductible.

  2. If taxpayers state they cannot pay, ability to pay should be determined. The interview should include the following dialogue:

    1. The total amount you owe, which includes tax, interest, and penalties, is $. Are you going to pay by check, money order, or cash? (If a taxpayer desires to make payment by cash, assistance will be requested, through the group manager, for Collection assistance in the acceptance of the payment.)

    2. Given that full payment cannot be made today, what is the maximum amount that you can pay today?

    3. Can you make full payment upon receipt of the first notice?

    4. Do you have any assets which you can easily liquidate?

    5. Can relatives or friends lend you the funds?

  3. If taxpayers indicate that they will not be able to full pay at the conclusion of the examination or upon receipt of first notice, examiners have the additional responsibility to discuss installment agreement provisions.

  4. If taxpayers state a willingness to pay, but do not meet the installment agreement criteria, examiners, through their group manager, will involve Collection.

  5. Case files must be documented to reflect the taxpayers’ responses and actions taken to verify the taxpayers’ statements, if appropriate.

4.10.7.6  (01-01-2006)
Burden of Proof Shifts to the Service

  1. IRC section 7491 provides that the burden of proof in a court proceeding will shift from the taxpayer to the Service effective for court cases arising out of examinations started after July 22, 1998 in the following areas:

    1. Income, estate, gift, and generation skipping taxes, if the taxpayer meets certain requirements described below.

    2. Cases where any item of income is based solely on statistical information from unrelated taxpayers.

    3. Shift burden of production only with respect to penalties.

  2. The term examination includes an audit, the matching of amounts from information returns (IRP), and the review of a claim for refund prior to the issuance of the refund.

  3. Congress reasoned that individual and business taxpayers were at a disadvantage in court against the IRS, and that there was fundamental unfairness in the process. With the burden of proof on the taxpayer, there was a presumption of "guilt, until proven innocent." Congress believed that if a taxpayer is generally law abiding, then the Service should prove that the position taken by the taxpayer is wrong.

  4. IRC section 7491 applies specifically to income, estate, gift, and generation-skipping transfer taxes. For this purpose. self-employment taxes are treated as income taxes. It should be noted that the Director, Compliance (Examination) has determined the policy of Examination is that the general burden of proof provisions should apply to all Examination determinations of Federal tax liability. The proper identification, development, proposal and resolution of as many issues as possible is a good examination practice.

4.10.7.6.1  (01-01-2006)
General Burden of Proof

  1. IRC section 7491(a)(1) shifts the burden of proof in a court proceeding from the taxpayer to the Service if the taxpayer produces credible evidence regarding the factual issues relevant to determining tax liability and also satisfies the criteria below.

4.10.7.6.1.1  (01-01-2006)
Criteria to Be Met

  1. The new legislation provides the criteria for shifting the burden of proof to the Service. For the shift to apply, the taxpayer has the burden of proving the following:

    1. Met all substantiation requirements of the Code and regulations;

    2. Maintained all records required by the Code and regulations;

    3. Cooperated with any reasonable request for information, documents, and witnesses by the Service;

    4. Exhausted all its administrative remedies, including appeal rights; and,

    5. Met certain net worth qualifications but only if the taxpayer is a partnership, corporation, or trust. Special rules apply to Qualified Revocable Trusts (see Section 7491(a) of the Internal Revenue Code). There is no net worth qualification for individuals (an estate is considered an individual).

4.10.7.6.1.2  (01-01-2006)
Relationship with IRC section 6201(d)

  1. IRC section 6201(d) became effective in 1996 and applies without regard to IRC section 7491. If the taxpayer meets the conditions of IRC section 6201(d), the Service has the burden of producing information to support income items reported on the information return.

  2. IRC section 6201(d) requires that the Service produce " reasonable and probative information" in any court proceeding regarding a deficiency based on an information return if: (1) the taxpayer raises a reasonable dispute and (2) the taxpayer has fully cooperated with the Service. Full cooperation includes timely compliance with requests for information, including access to witnesses and documents within the control of the taxpayer. If the taxpayer does not raise a "reasonable dispute" , the Service will not be required to produce any information beyond the information return.

  3. The examiner should take the following actions when a taxpayer disputes receipt of income reported on an information return (IRP), or disputes the accuracy of the information return:

    1. Contact the third party payer and request verification of the accuracy of the information document;

    2. Document the examiner’s activity record to show the date the letter was sent;

    3. Retain a copy of the letter and third party payer’s response in the case file;

    4. If the third party payer does not respond to the verification letter, or responds that the records no longer exist, the adjustment may need to be conceded if the Service cannot obtain reasonable and probative information from another source.

4.10.7.6.1.3  (01-01-2006)
Documentation of Case Files

  1. It should be noted that relatively few audits result in litigation, the outcome of tax litigation rarely turns on who has the burden of proof, and those cases where the taxpayer refuses to provide documents and refuses to cooperate are not affected at all by IRC section 7491(a). However, this does not mean examiners should not follow sound audit practices.

  2. Even before the burden of proof provisions were enacted in 1998, the Service sought to make sure that its technical positions were well thought out, the facts were appropriately developed, audit conclusions were well supported, and the case file was well documented.

  3. If the examination ultimately reaches litigation, and it becomes necessary to determine whether examiner requests for information were made and were reasonable, the determination will depend upon the facts and circumstances of each case as documented in the case file.

4.10.7.6.1.3.1  (01-01-2006)
Use of Examiner Activity Reports

  1. The use of Form 9984, Examining Officer's Activity Report, or the RGS equivalent, is required for:

    1. Uniform case file documentation of examination activities,

    2. Examination Quality Measurement System (EQMS) case reviews,

    3. The possibility of having to respond to a taxpayer's claims for interest abatement under IRC section 6404(e), and

    4. Determining whether taxpayers fully cooperated with reasonable requests for information.

  2. Examiners and any person (Group Manager, Group Secretary, Appointment Clerk, Audit Accounting Aid, Tax Examiner, Reviewers, etc.) are required to document each action taken on the case using the Form 9984 (or RGS equivalent). Documentation of activity begins on the date the taxpayer is notified in writing of the commencement of an examination. Actions after assessment (i.e., audit reconsiderations, collection referrals, etc.) must also be documented on Form 9984.

  3. The following information will be accurately documented on Form 9984 for each action taken on a case:

    1. Date of the activity,

    2. Location of the activity,

    3. Contact code,

    4. Time charged, and

    5. Remarks and/or actions taken.

  4. In the Remarks, Notes, Actions Taken section of Form 9984 it is very important to record all activity, as well as inactivity (i.e., details, training, extended leave, etc.), including but not limited to:

    1. All contacts with the taxpayer and/or representative, whether in writing or by telephone,

    2. Appointments, conferences, meetings, etc. with the taxpayer and/or representative, group manager, or other persons,

    3. Research conducted,

    4. Report preparation and issue resolution,

    5. Date the case is closed to the manager, as well as the date the case is closed from the group to Case Processing, and

    6. Any other activity that assists in bringing the examination to a resolution.

4.10.7.6.1.3.2  (01-01-2006)
Use of Workpapers and Reports

  1. Examiners should utilize workpapers and audit reports to support audit adjustments and document the extent of taxpayer cooperation. This includes making complete copies of documents submitted by the taxpayer in appropriate cases.

  2. These workpapers/reports should be used to:

    1. Explore and document all requirements of the law with respect to the treatment of an item for tax purposes;

    2. Fully describe all documents reviewed or inspected that support audit conclusions and proposed tax adjustments; and,

    3. Fully describe the audit steps taken and analysis which supports audit conclusions.

4.10.7.6.2  (01-01-2006)
Use of Statistical Information—Burden of Proof

  1. IRC section 7491(b) places the burden of proof on the Service in any court proceeding when the Service reconstructs any item of the taxpayer’s income using solely statistical information. See IRM 4.10.4.6.1.3 for more detailed discussion on the use of Bureau of Labor Statistical (BLS) data.

4.10.7.6.2.1  (01-01-2006)
Overview of New Procedures

  1. The use of BLS or Consumer Price Index (CPI) information is still appropriate in some situations. If the Service has some direct or indirect evidence that links the taxpayer to unreported income generating activities, the burden of proof does not shift to the Service under this specific burden of proof. When this supplemental evidence is present, then the general burden of proof rule applies.

  2. The Nonfiler manual, which contains specific audit procedures for the Nonfiler Examination Program, has not been changed in any way by the new Burden of Proof legislation. That section of the IRM discusses what an examiner should do when examining a taxpayer who procrastinates or is an uncooperative nonfiler.

  3. Remember that if an examiner determines that a taxpayer has unreported income, the use of statistical data must be supported by supplemental information that links the taxpayer to an income producing activity.

4.10.7.6.2.2  (01-01-2006)
Supplemental Information

  1. When using statistical information provided by either BLS or CPI, an examiner must develop supplemental information to support the finding of unreported income. Such evidence could include proof of assets owned, verification of personal living expenses, and verification of the likely source of income.

  2. Most importantly, the examiner should develop direct or indirect evidence that links the taxpayer to income generating activities. Some audits steps which would support such a determination could include:

    1. Checking for business listings in the local phone book;

    2. Contacting any known employers;

    3. Identifying any non-taxable sources of income;

    4. Securing copies of financial statements from lending institutions who have made loans to the taxpayer;

4.10.7.6.3  (01-01-2006)
Assessment of Penalties Burden of Proof—Overview of New Procedures

  1. IRC section 7491(c) states that the Service now has the burden of production in a court proceeding when the issue is a penalty, an addition to tax, or an additional amount imposed by the Internal Revenue Code. In any court proceeding, the IRS must first present evidence that imposition of the amount is appropriate. Only then must the taxpayer assume the burden of persuasion to raise appropriate defenses, such as reasonable cause, to the imposition of the penalty. IRC section 7491(c) applies only to individuals.

4.10.7.6.3.1  (01-01-2006)
Definitions

  1. The following definitions are related to the burden of proof requirements for assessment of penalties:

    1. Penalties include all penalties assessed under this title. An example is IRC section 6662 that imposes the accuracy related penalty.

    2. Addition to Tax is any amount computed by reference to the amount of tax. An example is the addition to tax imposed by IRC section 6654 for failure by an individual to pay estimated income tax.

    3. Additional Amount refers to an amount that can be assessed by the Service that is not an addition to tax or penalty. An example is the amount imposed under IRC section 6673 for the sanctions and costs awarded by a court when a taxpayer’s position is frivolous.

      Note:

      (Note: That the definition of additional amounts under IRC section 7491(c) does not include excise taxes imposed by chapters 42 and 43 of the Internal Revenue Code nor does it include interest under IRC section 6601.)

4.10.7.6.3.2  (01-01-2006)
Explanation & Example

  1. The Service must first present evidence that a penalty, addition to tax, or additional amount is appropriately applied to the taxpayer. It is then the taxpayer’s responsibility to present evidence of reasonable cause, substantial authority, or other similar defense in showing that the amount should not be asserted.

  2. For example, if a delinquency penalty is asserted under IRC section 6651, the Service would meet its burden of production by showing that the filing date was after the due date for the tax return, and that there was no evidence the taxpayer filed for an extension.

  3. Examiners should treat a penalty issue as any other issue by including the following information in the case file:

    1. The facts surrounding the issue

    2. Applicable law

    3. Application of the facts to the law

    4. Audit conclusion

    5. Taxpayer’s Position

  4. Examiners should consult IRM 4.10.6, and IRM 20.1, Penalties, for additional information when developing penalty issues.

Exhibit 4.10.7-1  (01-01-2006)
Court of Appeals Jurisdictions

First Second Third
Maine Connecticut Delaware
Massachusetts New York New Jersey
New Hampshire Vermont Pennsylvania
Rhode Island   Virgin Islands
Puerto Rico    
     
Fourth Fifth Sixth
     
Maryland Canal Zone Kentucky
North Carolina Louisiana Michigan
South Carolina Mississippi Ohio
Virginia Texas Tennessee
West Virginia    
     
Seventh Eighth Ninth
     
Illinois Arkansas Alaska
Indiana Iowa Arizona
Wisconsin Minnesota California
  Missouri Hawaii
  Nebraska Idaho
  North Dakota Montana
  South Dakota Nevada
    Oregon
    Washington
    Guam
     
Tenth Eleventh District of Columbia
     
Colorado Alabama Washington, D.C.
Kansas Florida  
New Mexico Georgia  
Oklahoma    
Utah   Federal *
Wyoming    
    U.S. Claims Court
     
* The Court of Appeals for the Federal Circuit was created to hear decisions appealed from the U.S. Court of Federal Claims.

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