By Sam Brunson
You may remember about a decade ago, when Wesley Snipes was sentenced to three years in prison for willfully failing to file tax returns. During his sentencing, Snipes apologized for his “mistakes and errors,” and promised that “[t]his will never happen again.”
He did not, however, mention taxes in his apology. And apparently, the “this” that he promised would never happen again was not failing to pay his taxes.
Yesterday, the Tax Court issued an opinion holding that the IRS did not abuse its discretion in denying Snipes’s offer-in-compromise.
Now, understanding the opinion requires a little unpacking. First, on the issue of offers-in-compromise: Congress provided that the IRS could compromise with taxpayers on their unpaid taxes. In an offer-in-compromise, a taxpayer proposes to the IRS that she pay less than the full amount of taxes the IRS says she owes. Sounds great, right? The thing is, there are only three situations in which the IRS is going to accept the offer: doubt as to liability, doubt as to collectibility, or to promote effective tax administration.
The first two classifications are self-explanatory: the first happens when there is genuine doubt as to the fact or amount of the tax liability. The second occurs when the taxpayer’s assets and income are less than the tax liability. And the third is where paying the tax liability would cause economic hardship to the taxpayer.
For tax years from 2001 through 2006, the IRS assessed unpaid tax liabilities of about $23.5 million. It issued a notice of federal tax lien against his property. Snipes proceeded to request a collection due process hearing, and, as part of it, requested an offer-in-compromise, claiming doubt as to collectibility. His offer-in-compromise was an oddly specific $842,061; if the IRS accepted his offer, he would have paid less than 4 percent of his tax liability.
Under the Treasury regulations, the IRS cannot reject an offer-in-compromise just because it’s tiny. A taxpayer must, however, provide all of the financial information that the IRS requests. And Snipes apparently did not provide all of that information. Essentially, it looks like Snipes claimed to have lost or transferred certain properties. But he couldn’t provide documentation demonstrating that he no longer owned the property.
In the course of its review, the IRS determined that Snipes’s “reasonable collection potential” was about $17 million, and eventually reduced it to just under $10 million. Snipes refused to budge from his $842,061 offer, though, and eventually the IRS rejected his offer and sustained the tax lien.
Snipes argued that the IRS had abused its discretion in rejecting his offer-in-compromise. The Tax Court disagreed.
And this is, perhaps, the important part: Snipes never disputed the underlying liability. On questions of liability, the courts exercise de novo jurisdiction (meaning they can disagree with the IRS). On questions of administrative determinations made on non-liability questions, though, the courts will only reverse the IRS if the IRS abused its discretion. Essentially, as long as the IRS follows the rules and provides a reasonable and balanced decision, the courts will uphold its decision.
And sure, the court said, the IRS didn’t have all of the information, and didn’t precisely determine exactly how much Snipes could afford to pay. But, it said, the gulf between his offer and what the IRS determined he could afford to pay was enormous. And a significant reason the IRS didn’t determine how much he could afford to pay with precision was because Snipes couldn’t provide the documentation the IRS needed. In fact, the court said, he held assets through a confusing series of entities. As a result, the IRS’s imprecision didn’t constitution abuse of discretion.
Lessons from Snipes’s tax problems? The first is, file your returns and pay your taxes. And the second: if you haven’t done that, and you’re applying for an offer-in-compromise, provide the IRS with the financial data it requests. If you don’t do that, the IRS can reject your offer, and, should you challenge the rejection in court, you’ll have to demonstrate that the rejection was an abuse of discretion. And frankly, that’s a tough row to hoe if you’re not forthcoming in your application.