September 27, 2006

IRS Private Tax Debt Collection Agencies

Houston Tax Attorney Blog

Houston Tax Attorney


Congress recently enacted new Section 6306. That section provides for the IRS to assign certain delinquent tax accounts to private collection agencies. The IRS has recently made some progress in implementing this program (see Announcement 2006-63 and Publication 4815).

While this arrangement may sound good on paper, my bet is that the program will just add yet another layer of delay and dysfunction to the IRS tax administration process. Because of this I am looking forward to adding additional litigation services related to the third party tax debt collectors to my firm’s menu of services. Here are some general thoughts about this new program:

First, these third party tax collectors present tax litigators with a new and promising target. Generally tax litigators have been prevented from pursuing the IRS for civil damages outside of the limited provisions provided under federal law because the IRS, as a government agency, enjoys some immunity against suit. These third party tax collection firms do not have this type of immunity.

There will be at least three types of cases that taxpayers may want to pursue against these third party tax debt collectors, namely agent-principal contract cases, unlawful disclosure and other torts, and debt collection violation cases.

The agent-principal contract cases will likely involve the third party tax collector having exceeded their authority, resulting in damage to taxpayers. Section 6306 and IRS rules provide a number of limitations on the third party tax debt collector’s authority. For example, the IRS (in its Announcement cited above) specifies that the private tax collector is not able to bind the IRS with regard to certain installment agreements that it offers to taxpayers. Given that most of the employees of these third party tax firms will probably be temporary workers who earn low wages (which will result in substantial employee turnover) and the firm is paid by the IRS based on the amount of tax collected, there will no doubt be many instances where the third party tax debt collector exceeds their authority.

Every state has principal-agent laws and that the third party debt collector agency may, assuming that it offers an agreement beyond its scope, be binding itself to the terms of the agreement. As such we will probably see a lot of civil cases brought against these third party tax collectors based on principal-agent and authority issues. If we do not see this type of litigation up front, we will no doubt see class action law suits at some later point.

The unlawful disclosure and other tort litigation that will probably arise will consist of third party debt collector firms violating the disclosure and contact rules in 6306, defamation cases, and even unlawful disclosure of taxpayer return information. In each of these cases the third party tax debt collection agency will be subject to the state and federal laws which regulate this type of conduct.

The debt collection violation cases will also be problematic for these agencies. Section 6306 specifies that these agencies are subject to the rules outlined in the Federal Fair Debt Collections Practices Act. These agencies will also be subject to the state debt collection acts – the rules for which vary from state to state. In many cases these acts provide specific “do’s” and “do not’s” for debt collectors and violations often result in stiff penalties and even treble damages (i.e., three times actual damages).

Given these new litigation options, a viable strategy that taxpayers will now have to consider is whether they should seek damages from these third parties under state and federal law to offset the tax that they will have to pay to the IRS. In many cases this may prove to be the best way for taxpayers to pay their underlying tax debts.

In anticipation of these types of litigation, Congress specifically included a provision in Section 6306 that states “The United States shall not be liable for any act or omission of any person performing services” under 6306. This provision will no doubt be challenged on Constitutional and other grounds at some point, as even a government agency will not be fully immune from rampant and obvious abuses of its agents that it is mandated to approve and supervise.

Aside from this type of litigation, the new program also raises a number of other issues.

For example, an interesting question is whether a taxpayer refuses to deal with a third party tax collector and litigation ensues between the IRS and the taxpayer, if the failure to cooperate with the third party tax debt collector will be sufficient to prevent the taxpayer from shifting the burden of proof in the court proceeding to the IRS pursuant to Section 7491. Section 7491 specifies that the burden of proof only shifts to the IRS if the taxpayer “cooperated with reasonable requests by the Secretary for witnesses, information, documents, meetings, and interviews.” A literal reading of the Code leads me to believe that failing to cooperate with the third party taxpayer would not be sufficient to prevent the burden of proof from being placed on the IRS, as the statute does not specify that it includes requests made by the Secretary “or the Secretaries agents.”

If that is the case, what is the harm if the taxpayer simply ignores the third party tax debt collector? Section 6306 limits the function of the private tax collectors to locating the taxpayer, asking for full payment and offering certain installment agreements, and obtaining financial information about the taxpayer. What makes a debt collector effective, be it a private or governmental debt collector, is their ability to (1) report the debt to third parties (such as credit bureaus) and (2) to use our courts to force the debtor to pay. Because these third party tax collectors do not have these powers, taxpayers are going to learn very quickly that they can just ignore the third party tax collector and there is nothing that the third party debt collector can do about it.

Other interesting issues involve how the third party tax debt collector is going to have the correct information given that the IRS’s records are often incomplete and inaccurate, how the third party tax debt collector is going to know if the IRS will pay them for their efforts (as the IRS has a practice of not paying IRS tax informants, why would they pay these third parties), and whether taxpayers will start using disenfranchised employees of third party tax debt collection agencies to provide inside information to bolster their tax case against the IRS.

It will be interesting to see how some of these issues play out. My guess is that these third party debt collectors will really only be people locater services, in that their function will be so limited that all they do is find taxpayers and provide that information to the IRS. Personally, as a taxpayer, I do no know if that type of service should entitle the tax debt collection firm to substantial monetary compensation from the government that is provided for in Section 6306.

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