TEI member comments on the proposed IRS process to manage claims: May 2003.

Note: The IRS proposed process for managing claims is reproduced in italics; TEI members' comments follow in roman type.

Overview

Several things are driving the need to improve the claims process. Under the current system, taxpayers often file both formal and informal claims late in the audit cycle or in Appeals. This causes workload problems for the Service as well as frustration for the taxpayer when closing dates are extended in order to address claims and affirmative issues. Contributing to the problem is the increase in marketed (contingency fee) claims and the lack of documentation submitted with these claims. A team was formed to design a process to better manage claims. The team was asked to design procedures that would ensure consistent and timely processing, identify recurring and emerging issues, and issue timely guidance for claims. The team consisted of a Territory Manager, a Counsel Attorney, a Team Manager, four Revenue Agents, and two Appeals members. Input was solicited externally from TEI, AICPA, and ABA. Internally, the team received input from Team Managers, Revenue Agents, Territory Managers, and others. External feedback showed some concerns about increased cycle time but most respondents thought the current process was working well. Internally, there were concerns about losing control of the audit process, not being able to complete planned work, and not completing the audit within the planned time frame.

TEI Member Comments: Not all taxpayers submit claims late in the audit cycle or at Appeals. The perceived problems appear to be specific instances that should not affect all taxpayers. The IRS has issued new guidelines for handling R&E refund claims and could issue similar guidance for specific "marketed claims" to address those situations.

The goal of timely processing of claims does not specifically address turnaround time by the examining agent. To be consistent, uniform standards of response time should be used. If a claim must be filed within X days, a response by the examining agent should be made within Y days.

A separate regime for filed claims places restrictions on a process that could otherwise be handled administratively between the taxpayer and IRS. In many cases, the IRS and taxpayer smoothly work through the process. Cases in which the timing and types of claims filed concern the IRS should be worked based on the rules and procedures already in place.

We are all after the same goal, and the IRS has worked hard at pushing things down to the team level. Now the agency is putting in changes from the top, where the team and the taxpayer could probably work things out satisfactorily for both sides. I am not filing R&D claims until after the current cycle closes to help out my Case Manager; that's how we decided to work it since we are coming up on the end of our current cycle. That way it doesn't hurt his time frame, and we didn't need the National Office to tell us how to do it. This does not help the goal of currency; it probably only gets worse due to increased paperwork for the IRS team.

Scope

This procedure applies to Coordinated Industry Cases (CIC) only. Industry Cases (IC) are not included. The new process does not limit the right of taxpayers to file claims. Instead it reminds all parties of the requirements for filing a valid claim.

Definitions

Claim. For purposes of this process, a claim is defined as: "any request for a decrease in taxable income, increase in credit or change in calculation method which, if allowed, would result in a reduction of the tax as reported on the originally filed return. This would include what has commonly been referred to as affirmative adjustment requests and/or informal claims, but would not include 'rollover' type adjustments, carrybacks from a later period or simple math errors."

TEI Member Comments: A definition of "simple math errors" is needed.

During the audit cycle, agents often identify adjustments in the taxpayer's favor, but are reluctant to make these changes. It is therefore necessary for the taxpayer to file claims.

Valid Claim. For purposes of this process, a valid claim is a claim (whether formal or informal) that meets the requirements of Treasury Regulation [section] 301.6402-2(b).

TEI Member Comments: Treas. Reg. [section] 1.301-6402-2(b) requires a written declaration signed under penalties of perjury. We understand the reason this requirement was added in respect of informal R&E credit claims, but suggest that it is not necessary for all informal claims that happen to exceed a certain threshold.

Significant Claim. For purposes of this process, a claim (or claims) will be considered significant if it involves taxable income in excess of $2 million or $700,000 in tax (cumulative amount). However, cases in the LIFE program will refer to the materiality agreement between the Exam team and the taxpayer.

TEI Member Comments: The threshold for a significant claim should be adjusted, based on the size of the taxpayer and the complexity of the claim. It may be more efficient to work some large claims as part of the regular examination cycle without opening a separate claims cycle. The threshold could be determined based on a percentage of taxable income or tax liability (as filed) rather than a fixed number.

It makes more sense to base the claims considered "significant" on the size of the taxpayer. The $2 million taxable income seems small for the largest CIC taxpayers. Also, what about claims of more than $2 million to reduce the earnings and profits of CFCs that have no effect on U.S. tax or claims for additional foreign tax credits for companies in an excess credit position? Can these be submitted after the 90day period? Also, would a claim of additional E&P for a CFC of $1 that triggers additional foreign tax credits that reduce taxpayers U.S. tax by over $2 million be considered if presented after 90 days? This process seems to be just another complicated regime to administer.

The Claims Process

* The audit team will issue a proforma Claim IDR at the start of the examination cycle stating that:

** Claims should be filed within 90 days of the opening conference;

TEI Member Comments: The time for submitting claims should be calculated based on the planned end date of the audit cycle. Generally, claims submitted three-to-six months prior to the end of the cycle should still be worked within that cycle. Even a date that is halfway through the examination cycle would be more reasonable than the 90day proposal.

The 90-day time frame for filing claims doesn't make sense in many cases when the need for the claim is only identified during and as a result of an audit process that could take more than 24 months.

Many claims for the years under audit are identified only during the preparation of tax returns when the accountants refer to the prior year returns for consistency and understanding. This process is ongoing and continues more than 90 days after the start of the next audit cycle. When the audit is current, the gap is narrow. For example, an audit cycle for tax years 2000/2001 starting in October 2002 will hit the 90-day limit in December 2002--long before the accountants start preparing the 2002 return.

Claims are also sometimes the result of IRS pronouncements as well as court cases. These can happen throughout the audit cycle.

Presumably, the 90-day time frame for filing claims would apply irrespective of the number of months planned for the cycle (e.g., whether the cycle is targeted for 12 or 36 months). That doesn't make sense.

** Documentation must be submitted with the claim to allow for joint planning and timely resolution;

** A statement setting out the grounds and facts must be provided, verified by a written declaration that it is made under the penalty of perjury;

TEI Member Comments: It should not be necessary for all informal claims over a certain dollar threshold to be accompanied by a signed declaration.

** Submissions that do not meet the requirements of the Regulations will be returned for additional information; and

** Claims without proper documentation will be disallowed.

TEI Member Comments: The term "proper documentation" has not been defined in this proposal.

Note the statement "claims without proper documentation will be disallowed." Once a claim has been formally disallowed by the IRS, the taxpayer has two years to file a suit for refund in the courts. If such a claim is disallowed early in the audit process, this could lead to the filing of a suit before the end of the audit; that suit must include all items relating to the taxable year at issue. This could lead to significant confusion and administrative problems associated with this process. I think the IRS needs to address whether, because of lack of documentation early in the audit process, the disallowance would constitute the formal disallowance triggering the commencement of the two years for filing the cause of action in the courts.

* If a "valid claim" with supporting documentation is filed within 90 days of the opening conference, it will be included in the current audit cycle.

* If a "significant claim" is filed after 90 days from the opening conference, the Team Manager will establish the claim in a separate claims cycle, with its own estimated completion date, and work the claim separately but as soon as possible (either simultaneously with regular cycle or after the regular cycle closes). Any deviation from this procedure must be approved by the appropriate Director, Field Operations.

TEI Member Comments: The proposal does not specifically address what happens to claims below the threshold for "significant claims" that are filed outside the prescribed time frame. Presumably, these claims will be disallowed and must be pursued at Appeals. If a claim is not examined by the field, however, it is usually sent back to the examination team by Appeals.

If a "new cycle" is opened for a claim, what happens if new issues are discovered? Are there any restrictions on pursuing the newly uncovered issue, or is this in essence going to extend the "regular cycle" even longer? Will taxpayers be prevented from submitting new claims that arise out of this "new" cycle since the "regular" cycle may be closed?

The Team Manager should have discretion to deviate from this policy without approval from the DFO.

Some taxpayers are concerned about new issues being raised when the closing date of an examination is extended. If a separate claim cycle is to be opened, the IRS should not be allowed to raise new issues during this period.

* The Limited Issue Focused Exam or "LIFE" process sets forth new techniques for a shorter exam cycle focusing on more material issues. For cases being worked in the LIFE program, claims would be due during the agreed upon planning portion of the exam, taking into account materiality levels as appropriate.

TEI Member Comments: It seems that all CIC taxpayers should be permitted to negotiate a claims handling process specific to their case within the audit plan, not just those with a LIFE agreement.

* If a claim is submitted to Appeals by the taxpayer, Appeals will refer it to the field for appropriate action.

* If a separate claim cycle is established, the regular audit cycle may be completed and closed with a "Notice of Completion of Regular Exam Activity." This is not a 30-day letter and does not trigger the beginning of "Hot Interest":

** If the regular cycle is agreed, then the tax will be assessed with a freeze on collection up to the claim amount

TEI Member Comments: How can tax be assessed without a notice of deficiency and a signed waiver of restrictions?

** If the regular cycle is unagreed, the case closes to Appeals (with protest & rebuttal) using a process similar to the Early Referral to Appeals

** The Fast-Track process may also be used if appropriate

* The claim cycle will be addressed either during the regular cycle or after the regular cycle closes. In those cases where the claim cycle closes after the regular cycle:

** If the case is still open in Appeals, the claim case (agreed or unagreed) is transferred to Appeals for final resolution. LMSB will issue a Preliminary Notice of Deficiency (30-day Letter) at that time

** If the regular case has been returned from Appeals (agreed or unagreed) and the claim case is agreed, LMSB will issue final report (agreed or stat notice format)

** If the regular case has been returned from Appeals (agreed or unagreed) and the claim case is unagreed, the entire case will be returned to Appeals for final resolution. LMSB will issue a Preliminary Notice of Deficiency (30-day Letter) at that time

Data Collection, Analysis, and Issue Development

The design team developed a process that will ensure data is collected and analyzed for all LMSB claims. Recurring and emerging issues as well as marketed claims that show a trend will be identified. In some cases, where an emerging issue is identified, examination work may be suspended and an issue team may be assigned. Guidance will be issued to the field for resolution of claims to ensure consistency. This process will involve personnel from:

* Ogden Service Center

* Strategy, Research, and Program Planning

* Pre-Filing Technical Guidance

TEI Member Comment: It appears that if a taxpayer files an affirmative claim after 90 days that is similar to another taxpayer's affirmative claim, data will be collected and analyzed. Essentially, a taxpayer's "separate claim cycle" now depends on other taxpayers with similar claims. Issues that a taxpayer may have otherwise been able to resolve at the field level during the current cycle will now be held up until all data on similar claims have been collected and analyzed. Someone ("an issue team") then decides whether or not this claim type appears to be a "marketed claim" that will be disallowed for insufficient documentation across the board for all taxpayers identified and categorized in a "trend" or "potential marketed claim" group.

A process to collect data on "all" LMSB claims seems ill-advised. If something smells wrong to the team, they should set it up.

Implementation

* A Revenue Procedure describing the process to manage claims will be issued in 2003 setting out details of how the new process works.

* Taxpayers already under audit will have 90 days from the date of the Revenue Procedure to submit valid claims and have them addressed in the current cycle.

* Various form letters and a pro forma IDR will be approved, including:

** Pro forma "Claims Information Document Request" to be issued at the beginning of each Coordinated Industry Case cycle;

** A "Letter of Incomplete Submission" to be returned with submissions not meeting requirements of the Regulations; and

** A "Notice of Completion of Regular Examination Activity" letter to be sent at the end of a regular examination cycle when a separate claim cycle has been established.

* A training module is being developed for IRS personnel.

* An implementation team has been formed to ensure that the new claims process is properly put into practice.

Additional TEI Member Comments: The change seems one-sided and could really pose a problem in a long audit. How does it improve the process to inefficiently have the issue removed from the audit stream? If it is an easy issue, the auditor can easily resolve it. If it is a difficult issue, the auditor and team manager are probably in the best position to deal with it. Maybe the IRS should just accept that claims for refund are a part of taxpayer life and that they will delay some audits. Maybe they need to get more credit for that activity in their statistics.

Often, error claims take little work on the part of the IRS. The examining team will ultimately work the claims. The timing is just affecting some artificial measurements.

This appears to be initiated by the IRS, not by taxpayers. This does not seem to be a process improvement from the taxpayer perspective. The IRS apparently believes that late-filed claims are slowing the process. It seems counter-productive, however, to have claims handled outside the regular audit process.