Taxpayers often regret agreeing to IRS audit adjustments. These agreements are not necessarily final when the paperwork is signed. The taxpayer typically still has time to change their mind. In Sandoval Lua v. United States, No. 2016-1313 (5th Cir. 2016), the court considered a case where the taxpayer changed his mind, but failed to act in a way that would preserve his right to change his mind.
The Facts and Procedural History
The facts and procedural history for the case are as follows:
- The IRS audited the taxpayer’s 2003, 2004, and 2005 income tax returns.
- The IRS proposed adjustments and signed a Form 4549 to waive their right to a notice of deficiency for 2003 and 2004.
- The taxpayer hired a tax adviser, who promptly submitted an audit reconsideration request.
- The IRS agent assessed deficiencies for 2003 and 2004 and continued to work with the taxpayer to prepare amended returns for 2003 and 2004.
- The amended returns were filed in 2008 that were substantially similar to the tax the IRS assessed and the taxpayer paid the tax for 2003 and 2004.
- The taxpayers filed amended returns in 2010 for the 2003 and 2004 tax year to recoup the amounts paid in 2008.
- The IRS and the Federal Claims Court denied the refunds, which the taxpayer appealed.
The IRS Notice of Deficiency Requirement
The IRS is generally prohibited from assessing or collecting income taxes until it issues a notice of deficiency to the taxpayer. The notice of deficiency gives the taxpayer the ability to petition the U.S. Tax Court. It is often referred to as a 90-day letter, as the taxpayer has to petition the tax court within 90 days.
Waiving the Notice of Deficiency Requirement
One of the exceptions to this rule is where the taxpayer waives the requirement that the IRS issue a notice of deficiency. The taxpayer generally does this by signing the Form 4549. The Form 4549 is the form the IRS typically uses to compute the amount of the tax. It is a two page form that often includes several pages of tax calculations. The waiver language is at the bottom of the second page of the Form 4549. Taxpayers sign this form to close the IRS audit as an “agreed audit” that does not end up going to appeals or to the U.S. Tax Court.
Taxpayers are not necessarily stuck with the results in the Form 4549. The Regulations say that the taxpayer can withdraw the wavier up until the tax is assessed. The term “assessment” refers to the recording of a tax liability on the IRS’s books. There may be quite a long time between the time the taxpayer signs the Form 4549 and the time the IRS makes the assessment. This is what happened in the Sandoval Lua case.
The Withdrawal of the Waiver Cannot be Implied
In the Sandoval Lua case, the tax adviser filed an audit reconsideration request without ensuring that the tax had already been assessed. In court, the taxpayer then argued that the premature audit reconsideration–which was not really an audit reconsideration request given that the audit was not previously closed–was really a withdraw of its notice waiver. The taxpayer argued that this withdrawal was implied, given that the audit reconsideration request showed that they did not agree with the adjustments in the Form 4549.
This argument is supported by the fact that the regulations do not provide any specific procedures for withdrawing the waiver. The premature audit reconsideration request would have put the IRS on notice that the taxpayer did not agree with the adjustments.
The appeals court did not agree. While the court did not directly say that the taxpayer has to provide a written statement to withdraw its waiver, the implication is just that. Since the premature audit reconsideration request in the Sandoval Lua case did not mention withdrawal or waiver, the court concluded that the waiver was not withdrawn.
So the takeaway from the Sandoval Lua case is that taxpayers who would like to withdraw their consent to IRS adjustments made on audit have time to change their minds. To do so, they should check to see whether the tax has been assessed and, if it has not been assessed, the taxpayers should send the IRS a letter expressly withdrawing their waiver of the notice of deficiency requirement.