Tax Executives Institute - LMSB liaison meeting: February 3, 2004.

On February 3, 2004, Tax Executives Institute met with Deborah M. Nolan, Commissioner of the IRS's Large and Midsize Business Division, and other representatives of LMSB. TEI President Raymond G. Rossi led the Institute's delegation to the meeting. The agenda for the meeting was published in the March-April 2004 issue of The Tax Executive. These minutes were prepared by Tax Executives Institute and, although reviewed by LMSB, they have not been formally approved by the agency.

On behalf of the Large and Mid-Size Business (LMSB) Division of the Internal Revenue Service, Commissioner Deborah M. Nolan welcomed TEI President Raymond G. Rossi and the other members of the delegation from Tax Executives Institute to the liaison meeting. LMSB's and TEI's delegations to the liaison meeting are set forth below.

1. Opening Comments

Mr. Rossi expressed his appreciation to LMSB Commissioner Nolan and her staff for meeting with TEI. The agenda for the meeting, he noted, is full of opportunities and challenges. He cited as evidence of the Institute's cooperative relationship with LMSB the presence of Mr. Riley, who participated in the LMSB-TEI Joint Audit Planning Process Task Force. He also noted that TEI representatives recently participated in several LMSB "breakthrough" meetings to discuss better ways of auditing large companies. If we can do it better, he concluded, it is in both taxpayers' and the IRS's best interests to pursue different ways of doing business.

Ms. Nolan referred to the history of TEI's relationship with LMSB since the IRS's reorganization, thanking the Institute for its helpful and candid comments. You keep us informed of what is going on in the field, she stated, and you provide us with opportunities to interact with members not only nationally, but by inviting us to local chapter meetings. She cited the Institute's involvement in the redesign of Schedule M as positively affecting the way the agency approached the project. In addition, the participation of members in the reengineering process is proving invaluable, she said, adding that all taxpayers benefit from the TEI-LMSB relationship. The key is transparency, she said; LMSB expects it of taxpayers and you deserve it from us.

Mr. Rossi commended LMSB for involving taxpayers early in the development of new programs and processes. A "real-time" dialogue enables taxpayers to highlight concerns and suggest changes during the development phase of a project.

2. Audit Initiatives

a. Breakthrough Initiative. Mr. Rossi referred to IRS Commissioner Everson's objective of making audits more current. A recent survey of TEI members reveals that the push for currency is moving forward in the field, he stated. TEI supports the currency initiative, he said, but cautioned that a balanced approach to enforcement and taxpayer rights is needed. Flexibility and communication remain the keys to efficient and timely audits.

Ms. Nolan responded that the IRS needs to improve currency and cycle time. Taxpayers also need to have a level of certainty that the return is substantially correct. Initiatives such as the pre-filing agreement program and the limited issue focused examination (LIFE) are aimed at pushing audits closer to the point of filing a return. We need to focus on taxpayers and issues that warrant enforcement efforts, she explained.

The agency is at the data-gathering stage in the breakthrough initiative, Ms. Nolan said. The goal is not only to do more Coordinated Industry Case (CIC) audits quicker, but to rebalance the IRS's examinations among mid-market taxpayers. She said that an LMSB team, involving Messrs. Petrella and Ng, would be meeting in Philadelphia to design an implementation plan. The plan should be drafted by March, the LMSB Commissioner stated, with a limited rollout in 2004. When we have something more concrete, she added, we will share it with TEI.

Mr. McCormally inquired whether implementing the new initiative will require statutory changes. Ms. Nolan replied that the design team will not be limited by statute or technology in considering solutions. Mr. DeNard said that the team is starting with a "white board," adding that the proposal will be discussed with (and required the support of) the union. (One issue to be considered is the manner in which agents are measured.) Ms. Nolan added that the IRS is undergoing a significant amount of new hiring and training.

Mr. Boyle noted that one issue explored during the breakthrough meetings was the possibility of doing audits on a real-time basis. One suggestion was to increase the amount of disclosure in order to determine whether a company should be audited. Ms. Nall added that she left the January brainstorming session wondering what the next step will be.

Ms. Nolan stated that Commissioner Everson has been briefed about the initiative, including a suggestion that additional organizational measures may be required, but it was unclear what the outcome would be. Mr. Ng noted that the meetings with stakeholders have proven invaluable in the IRS's planning process. He explained that compliance reeingineering does not mean throwing out all the processes now in place, but rather taking a fresh look at new ideas. The goals are to provide certainty and reduce administrative burden for taxpayers and the government. He explained that the design team will meet during the last two weeks in February to formulate the compliance concept, including possible legislative changes. There are, however, several administrative steps we can take right now, he added.

b. Currency Initiative. Mr. Rossi noted that as part of the currency initiative LMSB has imposed several deadlines to review old cases and close old audits. Mr. Boyle asked about the effect of the currency initiative on taxpayers already undergoing a LIFE audit. Is it intended to affect agreements already worked out with taxpayers? he asked, noting that several TEI members have reported that the time limits agreed upon in their LIFE memorandum of understanding (MOU) have been adjusted to respond to this new initiative. Mr. Riley cited his experience with a LIFE examination in which the team manager attempted to change the deadlines after the MOU was signed. After discussing the issue with the Director of Field Operations, the original deadlines were affirmed.

Ms. Nolan agreed that the LIFE agreement should control. Mr. Petrella noted that the currency initiative is taking hold in the field, but that it has several exceptions to the deadlines and a LIFE audit is one of them. Ms. Nolan stated she will clarify the issue at an internal Industry Directors meeting scheduled for the following week. Mr. DeNard added that currency is a goal; the tools used to reach that goal should not matter so long as the objective is obtained.

Mr. McCormally remarked that tax department resources are only a small part of responding to IRS requests for information during an audit. The tax director may also need to commit resources from other departments. If the IRS changes direction, he stated, it will have a ripple effect beyond just the tax department.

It is our understanding, Mr. McCormally said, that 50 percent of all CIC cases are excluded from the currency initiative. Ms. Nolan noted that the exclusions demonstrate the complexity of LMSB returns. She emphasized that the IRS has established control checks to ensure that the agency does not walk away from certain issues just to gain currency. The percentage of returns excluded from the process has increased, she added. Mr. Petrella noted that in his industry group (Heavy Manufacturing and Transportation) LIFE audits are increasing.

Mr. Rossi stated that an informal survey of TEI members showed that the currency initiative is making progress. Mr. Petrella stated that the IRS does not want to derail what is working well. Ms. Nolan added that the involvement of the Directors of Field Operations is key to the initiative. The initiative depends upon the relationship between the taxpayer and the audit team, she stated, noting that there will always be room for improvement.

c. The Effect on Appeals. Mr. Boyle stated that speeding up the conduct of examinations will undoubtedly have an effect on Appeals. What steps are being taken, he asked, to ensure that Appeals has the resources it needs to consider cases in a timely and efficient manner? Ms. Nolan expressed hope that the currency initiative will not result in more unagreed cases going to Appeals. Mr. Petrella stated that the goal is to resolve issues at the lowest level. Mr. Ng explained that the IRS is considering process changes. If the IRS can become more current in its audit cycles, it will make such changes easier to implement, he said.

d. Effect on IDR Response Time. Ms. Wielenga reported that at a recent planning conference her IRS team proposed a 15-day response time for answering information document requests (IDRs). Not all IDRs can be responded to in such a short time frame, she said. Mr. O'Connor noted that the perception that the IRS is ready to impose a 15-day response time for IDRs is a concern among TEI members. We need to speed up audits, he stated, but complex issues relating to net operating loss carry forwards or information regarding a foreign subsidiary may not easily be addressed in a 15-day--or even 30-day--response time. Flexibility is needed.

Ms. Nolan acknowledged that one IRS team had considered proposing a shorter response time for IDRs. Such an approach has not been approved, she emphasized, adding that LMSB recognizes that "one size does not fit all." Mr. Petrella stated that the attempt to obtain more consistency across examinations is laudable, but agreed that a 15-day time frame to be too limited. LMSB is still studying this issue, he concluded, and several suggestions have already been considered and discarded.

e. Standards for LMSB Examiners. Mr. Rossi remarked that if the currency initiative is to succeed, the audit team must respond to taxpayers in a timely manner. Are steps being taken, he asked, to include such a measurement in the managers' and agents' performance evaluations? Mr. DeNard responded that LMSB is reviewing accountability standards for its agents; for example, agents have been asked to "age" IDRs and seek explanations for any delays in response. These are issues we have been working with for the last three years, he said, adding that taxpayers should work with the IRS to ensure more timely audits.

f. The Use of Specialists. Mr. Rossi stated that the recent survey of TEI members showed that the integration of specialists into the audit process remains a challenge. There seems to be some confusion over who is in charge of the audit. Ms. Nolan said that LMSB is concerned about the customer satisfaction survey results relating to the use of specialists. Mr. Bernard noted that behavioral change for both taxpayers and the IRS agents is key. Team managers try to keep the cases on track, he said, but delays in resolving issues by international examiners or economists may impede resolution of the case. The specialists need to be brought into the audit early, he added. Mr. Rossi suggested that they participate in the audit planning meeting. Mr. Silbiger added that the use of specialists in the pre-filing agreement program may also place a strain on their resources.

Mr. Jones stated that the IRS's position is that the team manager has 51 percent of the authority to resolve an issue. He admitted that specialists may feel passionately about an issue, but the ultimate decision is the team manager's. He suggested that if problems occur, the taxpayer should feel free to seek the intervention of a supervisor. These issues are usually resolved at the territory-manager level, he said.

Specialists are also accountable for cycle time, Mr. Jones emphasized, noting this is a change from the "old" IRS. We try to minimize the time needed to review an issue, he said, but noted that unlike the audit team, a specialist may be responsible for seven or eight other cases. LMSB is trying to hire more people to ease the burden, he added.

In respect of the PFA program, Mr. Jones stated that the program often requires the expertise of the engineers, which may create scheduling problems. The IRS is working to resolve the matter, he assured the group.

Mr. Traubenberg stated that better IDR management--including discussions of proposed IDRs before they are issued--has helped move the audit forward. The same level of dialogue about potential IDRs is often lacking with specialists, he said. Mr. Jones stated that he would discuss the issue at a meeting of territory managers later that month. We should be able to resolve this issue fairly easily, he concluded.

g. Corporate Governance Issues. Mr. Traubenberg noted that one topic discussed during the reengineering meetings is how corporate governance developments (at the Securities and Exchange Commission and other agencies) may affect tax administration. The Sarbanes-Oxley Act is affecting companies's internal processes, he said.

Ms. Nolan stated that the IRS wants to leverage off the requirements of other laws as much as possible. The agency has met with the SEC to discuss the possibility of joint training programs. Mr. Ng remarked that public accounting firms will perform more detailed audits under the new law, requiring more documentation and possibly creating tensions for taxpayers. We want to explore what taxpayers are doing, he stated.

Mr. Rossi inquired whether the IRS will request copies of a taxpayer's documentation prepared for purposes of complying with this law. He questioned whether the information will be useful. Mr. Murray asked whether the IRS is making suggestions to the SEC. Mr. Ng replied that the two agencies are working on establishing a high-level relationship. In response to a question, Mr. Ng stated that the increased focus on tax reserves is a significant issue outside the IRS. We need to understand the issue better, he said.

Mr. McCormally referred to the April 2003 Chief Counsel Notice announcing a change in IRS policy concerning obtaining tax accrual workpapers. He asked whether the IRS is contemplating additional changes to the policy. Mr. Ng stated that the IRS's policy remains one of restraint. He added that the IRS has recently issued a clarification of what is--and is not--a tax accrual workpaper. Ms. Mattson stated that Chief Counsel's office has only a very small number of active requests for the workpapers. Field counsel report the activity directly to her, she explained, and there are only two or three cases pending. Mr. Petrella emphasized that there has been no change in the number of requests at the field level, noting that approval of the Director of Field Operations is required before a request for the workpapers may be initiated. The currency initiative has not changed the IRS's policy of restraint, he stated, nor will it.

3. Schedule M-3 Project

Mr. Traubenberg referred to the IRS's project to revise the Form 1120, Schedule M to provide more information at the time of filing. The goal of the revised schedule is to permit the agency to screen returns for audit (or non-audit) issues within 90 days of filing. The intent is to be more selective in choosing returns to be audited; some returns that are now routinely audited will not be selected for audit. This will permit the IRS to review returns that have been rarely looked at in the past. The revised schedule was issued on January 29 and the IRS has invited comments.

Mr. Traubenberg commended the IRS for reaching out to stakeholders in revising the schedule. The transparency effort has the potential of serving both the IRS's and taxpayers' needs. Noting the presence of IRS staff charged with reducing taxpayer burden, Mr. Traubenberg explained that the January 23 meeting focused on the processes taxpayers have in place to comply with the law. If taxpayers are required to change their internal processes to fill out the proposed form, there could be a huge increase in burden. Taxpayers are already mapping their systems for 2004, he stated.

Ms. Zelisko noted that the burden may be particularly acute for decentralized taxpayers. In addition, companies with recent acquisitions may not have the same reporting structure in place throughout the company. There may be different mapping systems from the general ledger accounts to the tax return, she said. It will be time-consuming and costly for these companies to complete the new form, she concluded.

Mr. Adams stated that the IRS recognizes that the new form may require systems changes, noting that the IRS is trying to build upon existing systems and software for tracking financial information. The goal is to receive more information upfront, which will benefit the taxpayer by reducing the number of IDRs. We are seeking ways to eliminate some taxpayers from audit, he stated, and focus on areas where we can be more effective.

In response to a question about timing, Ms. Nolan noted that comments on the proposed form are due by April 30. Ms. Petronchak is gathering the internal and external comments on the proposal, she added. Mr. Adams noted that the IRS is continuing to meet with outside stakeholders about the project. A meeting with software vendors is scheduled for early March. The IRS is hopeful that the vendors will be able to revise their products to permit the Schedule M-3 to be used for the 2004 year.

Mr. Rossi stated that taxpayers need to see some benefit to the new schedule, perhaps in fewer IDRs or even obtaining a pass on an audit cycle. Mr. Adams said that TEI will play an active role in finalizing the schedule. The IRS has adopted some Institute suggestions already, he explained. The IRS must have the new schedule completed by October in order to include it in the electronic 2005 forms, he added. [Note: the instructions were issued on March 11 and a meeting was held with the IRS and Treasury Department on March 25.]

Mr. Silbiger reiterated that calendar-year taxpayers have already started mapping their systems for 2004. He expressed concern about the availability of the software needed to complete the new schedule. Mr. Adams acknowledged that the IRS needs to determine how soon the software will be available. Mr. Trager stated that the lack of instructions for the Schedule M-3 could hamper efforts to comment on the proposal, noting that the lack of definition of a restatement is causing some concern. Mr. Adams said the instructions are in draft form and should be released within the next few weeks.

Mr. Rossi asked whether consideration is being given to modifying the tax shelter regulations' filter for book-tax differences, in light of the new --and redundant--information to be required on Schedule M-3. Mr. Adams replied that the Treasury Department is reviewing whether some requirements for filing the Form 8868 can be streamlined or even eliminated. Ms. Petronchak noted that the IRS Office of Tax Shelter Analysis (OTSA) works closely with Treasury to review the disclosures in an attempt to recognize trends and to determine whether some disclosures are unnecessary.

4. APA Program

Ms. Norton referred to the advance pricing agreement (APA) program, noting the request from Senators Grassley and Baucus of the Senate Finance Committee for more than 400 APAs and their underlying documentation, the names of all professionals employed by the APA unit in the last 10 years, and a summary of all disciplinary actions brought against APA and competent authority personnel for the last three years. The APA program has worked well for more than a decade, she said, permitting taxpayers to work with the IRS to determine the appropriate price for transferring goods and services across international borders between related entities. She expressed concern that the congressional inquiry could cause delays in reaching agreements.

Mr. Green expressed the IRS's strong support for the APA program, noting that the IRS is making every effort to respond to the request as soon as possible. He called the process an education effort by the IRS. The Senate Finance Committee wants to understand the process, he said, as part of its oversight responsibilities. The focus is on how to improve that process, he said.

Ms. Lange noted that the inquiry has delayed the negotiation of her company's bilateral agreement between the United States and Japan. The IRS has not been able to review the agreement, she stated, and thus it will not be on the agenda for a meeting with Japan later in the month. It will be six months before another meeting is scheduled, she lamented.

Mr. Green noted that the IRS hopes to respond to the request in full by the end of March. Mr. Rossi stated there is apparently a misconception about the effect of an APA. The program is designed not to "give away the store"--as some have intimated--but rather to reach a fair and equitable resolution of contentious issues between governments before the return is filed. Mr. Green reiterated that the issue is an educational one, i.e., that the APA program is a matter of apportioning tax liability between countries. Ms. Lange asked whether users of the program will be asked for comments. Mr. Green stated that it was unlikely, but that hearings on the program are a possibility.

Mr. Hedgpeth noted that the letter accompanying the congressional request arguably linked APAs with tax shelters. We have moved beyond that perception, he said, adding that the Committee members realize there is a difference.

5. Audits of Executive Compensation

Mr. Trager explained that one issue with the potential for affecting the taxpayer-IRS relationship is the IRS's examination of not only the annual corporate Form 1120, but also the individual income tax returns of the top corporate executives for the years under audit. It is unclear what procedures the IRS will use to obtain these Form 1040 tax returns, since it is unlikely that the companies under audit would have the individuals' tax returns in their possession. It is also unlikely the corporate tax department would (or should) be involved in the executives' tax return audit. The requests will strain the taxpayer's relationship with the audit team, as well as the tax department's relationship with company executives, he said.

Mr. Jones noted that the audit team may either request the returns from the tax department or order them from the IRS Service Center. It is often quicker to obtain the return directly from the tax department, he added. He suggested that if tax departments do not want to seek copies of the returns, they should instruct the audit team to order them from the Service Center.

Mr. O'Connor explained that TEI is concerned about the slippery slope, i.e., the tax department does not want to become involved in answering questions about the executive's return. Mr. Jones agreed that the audit team should not ask the tax department about the return. Mr. Bernard noted that in his experience company executives do not want the tax department involved in responding to questions about an individual's personal return.

Mr. Jones stated that he understood the Institute's concerns. He will work with the Directors of Field Operations to determine whether there are better ways to address the problem than involving the tax department. A meeting the following week with the Industry Directors will provide an opportunity to resolve the issue, he said.

6. Tax Shelter Disclosure Regulations

Mr. Rossi noted that in December, the IRS and Treasury Department issued final regulations that narrow the "confidential transaction" category of reportable transactions that must be disclosed under section 6011 of the Internal Revenue Code. The new regulations also remove the presumption against confidentiality for transactions containing a provision for a "tax confidentiality" waiver. The regulations have been well received, he stated. He asked how the IRS will process the disclosures they will receive under the final regulations.

Ms. Petronchak stated that the OTSA is adding more staff to review the disclosure statements. If the IRS discovers that some disclosures do not merit review, it will work to narrow the regulatory filters to minimize the burden on taxpayers. The IRS wants to review the disclosures in a timely manner to determine whether any action is required, she added.

Ms. Mattson referred to the proposed changes to Circular 230 that were issued in December. She invited comments on the effect of these rules on opinions issued by in-house counsel on tax planning ideas. Ms. Petronchak also invited comments on issues taxpayers may discover in respect of the tax shelter disclosure regulations.

Mr. Boyle referred to a recent statement by an IRS Industry Director that the IRS will no longer treat monetary penalties asserted against a taxpayer for participating in a listed transaction as a "bargaining chip" in negotiations to obtain a settlement. Ms. Nolan emphasized that the imposition of a penalty will not be automatic, but agents will be required to consider asserting one. The IRS is concerned with some opinion letters issued in respect of transactions. We are seeking a consistent and more responsible strategy for dealing with penalties, she said. Mr. Traubenberg remarked that the emphasis on "responsible" imposition of penalties is an appropriate one.

7. Conclusion

Mr. Rossi thanked Ms. Nolan and the LMSB representatives for their participation in the meeting. Ms. Nolan thanked TEI for its preparation for the meeting.

IRS Delegation

Deborah M. Nolan, LMSB Commissioner

Cynthia J. Mattson, LMSB Division Counsel

Frank Y. Ng, Acting LMSB Deputy Director

Keith M. Jones, Director, Field Specialists

Paul D. DeNard, Director, Financial Services Industry

John Petrella, Jr., Director, Heavy Manufacturing & Transportation

Robert D. Adams, Senior Industry Adviser, Heavy Manufacturing & Transportation

Robert H. Green, Director, International

Elvin T. Hedgpeth, Deputy Director, International

Kathy K. Petronchak, Acting Director, Pre-Filing and Technical Guidance

Susan W. Linden, Director, LMSB Communications & Liaison

Matthew Beaulieu, Manager, LMSB Legislative Affairs and Liaison

Dale Ammons, Executive Assistant-Operations

Pam Oliveras, Senior Program Analyst, IRS National Office of Public Liaison

TEI Delegation

Raymond G. Rossi, Intel Corporation, TEI President

Judith P. Zelisko, Brunswick Corporation, TEI Senior Vice President

Michael P. Boyle, Microsoft Corporation, TEI Secretary

David L. Bernard, Kimberly-Clark Corporation, TEI Treasurer

Deborah A. Lange, Oracle Corporation, TEI Executive Committee

Lisa Norton, Amazon.com Inc., TEI Executive Committee

Mitchell S. Trager, Georgia-Pacific Corporation, Chair, TEI Executive Committee

Terilea J. Wielenga, Allergan, Inc., TEI Executive Committee

Paul O'Connor, Chair, TEI IRS Administrative Affairs Committee

Nell D. Traubenberg, Storage Technology Corporation, Chair, TEI Federal Tax Committee

Kelly A. Nall, Electronic Data Systems Corp., Vice Chair, TEI IRS Administrative Affairs Committee

Christopher T. Riley, Archer-Daniels-Midland Co., Vice Chair, TEI IRS Administrative Affairs Committee

Mark C. Silbiger, The Lubrizol Co., Vice Chair, TEI IRS Administrative Affairs Committee

Timothy J. McCormally, TEI Executive Director

Fred F. Murray, TEI General Counsel and Director of Tax Affairs

Mary L. Fahey, TEI Tax Counsel

Gregory S. Matson, TEI Tax Counsel

Jeffery P. Rasmussen, TEI Tax Counsel