IRS appeals - maintaining independence, balancing enforcement, and improving currency.

A look at the Appeals function of the Internal Revenue Service today reveals a completely different organization than just a few short years ago. Once mostly income tax, it now has an inventory that is composed of 50-percent collection work. In addition, Appeals now faces other challenges, including tax shelters, penalties, an emphasis on currency, and disputes over its independence. Appeals has managed to address these challenges while achieving an agreed settlement rate of a very high level (85 percent). Getting there has been difficult but we believe Appeals has done an excellent job. While maintaining its reputation of being highly talented, the Appeals' team has had to develop additional skills to handle the new workload and challenges within the organization. This article reviews some of the developments in the large case process in Appeals and offers a peek into the future as seen by the Chief of Appeals, David Robison.

During the past several years, the IRS has emphasized the need to combat tax shelters. In addition, the agency is focused on resolving cases in a more expeditious manner, and has revised its approach to imposing penalties. In order to address these challenges, Appeals has introduced several initiatives to encourage the resolution of issues at the earliest possible time and has taken a more assertive role in the settlement of tax shelter issues and penalties. Through these initiatives, Appeals hopes to advance the goal of reducing the time it takes for taxpayers to resolve cases and to provide consistency among taxpayers. It remains imperative, however, that Appeals maintain its independent status within the organization.

We recently met with David Robison, Chief, Appeals, to discuss some of Appeals' new initiatives and some concerns of the taxpayer community.

Initiatives and Independence

Tax shelters have been the hot topic for the past couple of years, and Appeals has been in the forefront in the battle. As part of this, Appeals has played an important role by issuing Appeals Settlement Guidelines (ASGs) on several tax avoidance transactions, such as Liability Management Company transactions and Lease Stripping transactions. The purpose of these settlement guidelines is to promote resolution of an issue for a large number of taxpayers based on the hazards of litigation as perceived by Appeals. Some taxpayers have expressed concern that Appeals' independence is jeopardized by the process inasmuch as it is working with Compliance and Counsel to develop a settlement. In our discussions with Mr. Robison, it was clear that Appeals does not believe this is the case. Even though Appeals considers input from Compliance and Counsel in developing settlement guidelines, it is Appeals alone that determines the settlement positions. Appeals' early involvement provides taxpayers with an opportunity to resolve issues in an expedited manner at less cost thereby gaining earlier certainty for tax and financial statement purposes.

In developing a settlement guideline, Appeals evaluates all of the facts surrounding an issue and applies the law to those facts. Once the ASG is drafted by Appeals, it is sent to Counsel for comments. Counsel reviews the guideline and sends its advice and comments to Appeals. Significantly, Counsel is offering input, not approving the settlement guideline. After considering the comments, Appeals approves and publishes the ASG. Mr. Robison explained that the settlement guidelines are not developed with a "sweetener" or an inducement to settle early. The settlement guidelines reflect Appeals evaluation of the hazards of litigation.

Mr. Robison emphasized that if taxpayers feel that their case differs from the facts in the ASG they should discuss the variations with the government. Taxpayers always have the option of a full Appeals hearing if they believe the settlement offered in the guidelines is improper based on the facts in their case. Mr. Robison pointed out, however, that in the Son of Boss settlement initiative, the taxpayer's right to Appeals consideration of the case was denied. This was an anomaly, he explained, not the way most settlements will be structured. Indeed, it will only be in very unusual situations that the IRS will consider using a similar approach. Appeals was not involved in the development of the Son of Boss settlement; it was an administrative settlement determined by the Commissioner.

Taxpayers have also expressed concern that the authority to settle issues has been taken away from the individual Appeals Officers (AO) in many instances. They believe too many issues are controlled, thereby depriving them of the opportunity to have an independent evaluation of their case. The controlling of issues may lead to an approach that one solution fits all taxpayers in a similar situation. Mr. Robison observed that there are approximately 30 Appeals Coordinated Issues (ACIs), the majority of which are listed transactions, and 70 Industry Specialization Program issues (ISPs). Inasmuch as Appeals considers thousands of issues each year, this represents a very small percent age of the whole. An ACI or ISP issue cannot be settled by an Appeals Officer without the concurrence of the issue coordinator, another AO who specializes in the particular issue. Appeals considers the coordination of issues important to ensure that taxpayers are being treated consistently. The list of issues in these programs is dynamic. Appeals will revisit issues to determine whether the settlement guidelines remain appropriate based on the current hazards of litigation or whether they should be de-coordinated. During the past year, Appeals has de-coordinated nine issues.

Taxpayers that have a case involving a coordinated issue where the settlement position is inconsistent with the facts in their case should ask to talk with the ISP or ACI coordinator. Mr. Robison stated that requests for discussions with coordinators will be honored in all cases; that is to say, taxpayer access to an ACI or ISP coordinator is not at the discretion of the Appeals Officer.

Penalties

In the current environment, penalties are at the front of everyone's minds. In the past, taxpayers often traded an issue to have a penalty removed. In essence, they would agree to a greater disallowance of another issue in exchange for the removal of a penalty.

Appeals announced a new policy in June 2004 that this practice will no longer be allowed. (It is expected that section 8.6.1.3 of the Internal Revenue Manual will be revised by March 2005.) Appeals believes that penalties are a separate issue from tax and thus will treat penalties as a unique issue to be considered on its own merits. This new policy will likely have a significant effect on taxpayers. In recent years, one reason for Compliance's reluctance to apply penalties was concern that Appeals would not sustain them. With this change in policy, Compliance may be more willing, or even emboldened, to assert penalties. Appeals Officers will evaluate the imposition of penalties as a separate issue in the case.

New Initiative--Working Panel Cases

Appeals has introduced a new program called "Working Panel Cases." This program uses a panel of three Appeals Team Case Leaders (ATCL) to settle cases that generally involve significant, high dollar issues. The three ATCLs must reach consensus about the settlement. Under this program, a large case may have one or two issues assigned to the panel, with the remaining issues worked by an individual Appeals Officer. The inventory level of Panel Cases has been hovering around 30 but may increase now that the program has been made permanent.

Fast Track Settlement

Fast track settlement continues to be a highly successful program. Cases that could take three-plus years to go through the normal appeals process are closing in fewer than a hundred days with agreement rates essentially the same as traditional Appeals (85 percent). Many taxpayers have chosen not to use this program because they would be required to waive the ex parte rules. Mr. Robison explained that such a waiver is appropriate since fast-track cases remain under Compliance jurisdiction. While this concern should not be unduly minimized, in most instances the benefits of the program will likely outweigh the loss of ex parte prohibition. Importantly, taxpayers may withdraw from this fast-track program at any time if they are uncomfortable with the way it is proceeding.

Post-Appeals Mediation

Post Appeals mediation is an extension of the appeals process, where an Appeals mediator (and, if desired by the taxpayer, a non-IRS co-mediator paid by the taxpayer) help taxpayers resolve their dispute after good-faith negotiations in Appeals have been unsuccessful. While the program has not been highly utilized, it has produced some very impressive results. Taxpayers that have completed the process have reached a settlement almost 85 percent of the time. The costs are minimal as compared to other alternatives, and taxpayers have the same options available as they would at the conclusion of the regular Appeals process.

Vision for Large Case Appeals

We discussed with Mr. Robison his vision for Large Case Appeals. He believes that 2 or 3 years from now more than half of the large cases will be settled through the Fast Track Settlement process. Currently between 15 and 20 percent of cases are settled using the Fast-Track process. He thinks that the successful features of Fast Track will be integrated into the traditional Appeals process. Fast Track will not replace the traditional Appeals process, merely supplement it. In addition, he feels that they will use alternatives to face-to-face meetings such as email communications and other telecommunication options. He also anticipates a faster, more seamless transition from Compliance to Appeals. With the addition of these items, Appeals should continue to decrease cycle time and resolve issues faster.

Conclusion

Appeals has changed significantly in recent years, as it has adapted to a changing environment and workload. Appeals is working hard to bring new tools for earlier and faster resolution, thus providing certainty to taxpayers. The Appeals' organization values its independence and knows that maintaining it is critical to success. Appeals continues to maintain an agreement rate of 85 percent, which is a key indicator that the process is working. With innovative programs and a talented workforce, Appeals should continue to deliver quality service in the future.

JAMES A. DOUGHERTY is Director, Tax Controversy with Deloitte Tax LLP in Washington, D.C., and TRACEY A. FIELMAN is a Senior Manager, Tax Controversy in Cincinnati, Ohio. The authors offer special thanks to David Robison, Tom Roley, and Ruth Vriend of Appeals for their assistance with the development of this article.