The IRS's international collections efforts: varied tools for a formidable task.
The report concluded: "We believe that a significant factor in preventing the successful implementation of this strategy is the many managerial changes at the executive level in the International Collection program over the last few years....
Without consistent executive leadership, it is difficult to develop and implement any long-term improvement strategies" ["The Internal Revenue Service Needs to Enhance Its International Collection Efforts" ("TIGTA Report"), Treasury Inspector General for Tax Administration, Sep. 12, 2014, pp. 2-5]. In response, the IRS resolved to improve its performance. In doing so, it has at its disposal extensive, varied, and sometimes draconian powers of assessment and collection.
General IRS Collection Procedure
A tax must be assessed before the IRS can attempt to collect it. The taxpayer either self-assesses by filing an IRS tax return or receives a statutory notice of deficiency alerting him of the assessment after an audit. This statutory notice of deficiency is followed by a notice and demand for payment [U.S. v. Ball, 326 F.2d 898 (4th Cir. 1964)]. Generally, the IRS must send the notice and demand as soon as it is practical. The IRS must send the notice within 60 days after assessment, before it may attempt to collect the assessed deficiency (IRC section 6303). Notice and demand is not required, however, for the IRS to collect taxes shown as due on the taxpayer's return [Treasury Regulations section 1.6151-1(a); Meyer v. Comm'r, 97 T.C. 555 (1991)].
If a notice and demand for payment is sent and the tax remains unpaid, the government acquires a statutory lien on all of the taxpayer's real and personal property (IRC section 6321). In doing so, the government acquires an interest in the taxpayer's property to secure payment of his tax obligations.
If a taxpayer does not pay the tax within ten days of receiving the notice and demand, the IRS could collect the tax by levying on the taxpayer's property. [See IRC section 6331(a) and Treasury Regulations section 301.6331-1.] Before doing so, the government must give the taxpayer at least 30 days' notice of its intent to levy [IRC section 6331(d)]. The notice of intent to levy must set forth, in simple terms, the procedures and alternatives available to the taxpayer [IRC section 6331(d)(4)],
A taxpayer who fears that the IRS may try to levy on his personal property will sometimes try to avoid the levy by giving his assets away to friends or relatives. Such a course of conduct will be ineffectual, due to the doctrine of "transferee liability." In one case, the IRS was able to levy on the proceeds of a taxpayer's accounting practice in the hands of a transferee; the taxpayer/transferor, with knowledge of the pending IRS audit and bankruptcy proceeding, transferred the only asset of value for inadequate consideration to a corporation that did not engage in accounting services and whose sole shareholder lived with him [Kathy B Enterprises, Inc. v. U.S., 1984; U.S. Dist Lexis 17688 (D. Ariz. Apr. 11, 1984)]. The court, in examining a debtor's intent at time of transfer, may investigate whether there was a close personal relationship between the parties to the transfer, and whether the debtor retained possession of property [Roland v. US., 838 F.2d 1400 (5th Cir. 1988)].
Generally speaking, transferee liability applies when the taxpayer transfers property to another person [see U.S. v. Altmark, 331 F. Supp. 1346, 1348 (E.D.N.Y. 1971); Denton v. Comm'r, 21 T.C. 295, 302-303 (1953); U.S. v. Romano, 757 F. Supp. 1331 (M.D. Fla. 1989)] for less than adequate consideration [see U.S. v. Hickox, 356 F.2d 969, 973 (5th Cir. 1966); Stewart Title Guar Co. v. Comm'r, 15 T.C. 566, 573 (1950); and Mayors v. Comm 'r, 785 F.2d 757 (9th Cir. 1986); compare Miele v. U.S. (637 F. Supp. 998, S.D. Fla. 1986) to U.S. v. Hoffman, 643 F. Supp. 346 (E.D. Wis. 1986) and see also Hagaman v. Comm 'r, 100 T.C. 180 (1993)] during or after the period for which the taxpayer is liable for the tax, whether or not it was actually assessed or known at the time of the transfer [Casey, Federal Tax Practice section 12.15 (2011); see also RG Cope, Jr Inc. v. Comm'r, 781 F.2d 852 (11th Cir. 1986); Harwood v. Eaton, 68 F.2d 12, 14 (2d Cir. 1933); Newman & Carey Subway Constr. Co. v. Comm'r, 37 BTA 1163, 1168 (1938), aff'd in part and rev'd in part, Helvering v. Roth, 115 F.2d 239 (2d Cir. 1940)], if he is insolvent at the time of the transfer or becomes insolvent as a result of the transfer [CBC Super Markets, Inc. v. Comm V, 54 T.C. 882, 899 (1970); Graham v. Comm'r, 26 BTA 301, 303 (1932); see also U.S. v. Edwards, 572 F. Supp. 1527 (D. Conn 1983) and compare to Hagaman v. Comm 'r, 100 T.C. 180],
The transferee's liability is secondary, meaning he is only liable if the transferor is in fact liable for the tax [Januschke v. Comm V, 48 T.C. 496, 501 (1967)], and the government has unsuccessfully attempted to collect the tax from the transferor first [Healy v. Comm 'r, 345 U.S. 278, 284 (1953); Harper v. U.S., 769 F. Supp. 362, 367 (M.D. Fla. 1991); Anderson v. Bowers, 117 F. Supp. 884, 892 (W.D.S.C. 1954)].
If those conditions apply, the transferee is personally liable, even if he is no longer in possession of the transferred assets [Estate of Cury v. Comm 'r, 23 T.C. 305, 339 (1954)] for the lesser of: 1) the value of the transferred assets, along with any interest with respect thereto from the time of transfer, as provided by state law [Harper v. Comm'r, T.C. Memo 1993-126], or 2) the amount of unpaid tax, plus penalties and interest, owed by the transferor [Mysse v. Comm'r, 57 T.C. 680, 703 (1972) and Lowy v. Comm 'r, 35 T.C. 393 (I960)]. The transferee's liability is also limited to the extent that money or property is returned to the transferor prior to the notice [Eyler v. Comm 'r, 760 F.2d 1129 (11th Cir. 1985); Mendelson v. Comm'r 52 T.C. 727 (1969)].
Instead of, or in addition to, filing a lien or seizing the taxpayer's property, the IRS could also sue the taxpayer to collect the tax [IRC section 7401; see also IRC section 7403 and U.S. v. Gibson, 817 F. 2d 1406 (9th Cir. 1987)]. Generally, the IRS must bring the lawsuit within ten years of the assessment, and may do so only if the assessment was itself made within the statute of limitations [IRC section 6502; U.S. v. Wodtke, 627 F. Supp. 1034 (N.D. Iowa 1985); U.S. v. Holloway, 798 F.2d 175 (6th Cir. 1986)]. If the IRS succeeds in obtaining a judgment, the lien is extended with respect to the taxpayer's interest in the property under state law. The judgment itself is enforceable at any time [U.S. v. Overman, 424 F.2d 1142 (9th Cir. 1970); U.S. v. Wodtke, 627 F. Supp. 1034 (N.D. Iowa 1985); U.S. v. Jones, 699 F. Supp. 248 (D. Kan. 1988)].
International Collection Tools
The IRS has a more varied set of collection tools aimed specifically at international taxpayers and assets: If a taxpayer has not paid his U.S. tax and is currently located in the United States, the U.S. government can effectively hold him hostage. The U.S. government can obtain a writ of ne exeat republica, which is a court order directing a person not to leave a particular jurisdiction in order to compel him to pay taxes [see U.S. v. Shaheen, 445 F.3d 6, 9-10 (7th Cir. 1971)]. The district courts are authorized to issue writs of ne exeat republica and other orders, as well as to render judgments and decrees necessary or appropriate to enforce U.S. tax laws [IRC section 7402(a)]. The writ is an extraordinary step to be issued only in exceptional cases. At the discretion of the court, the writ may be obtained without the taxpayer being present (see U.S. v. Shaheen). Otherwise, the taxpayer is entitled to a full hearing, with the government bearing the burden of proving that the judicial requirements are satisfied [U.S. v. Robbins, 235 F. Supp. 353, 357 (E.D. Ark. 1964)]. If a writ has already been obtained, the taxpayer is entitled to a hearing to determine whether the writ should be continued [see U.S. v. Mathewson, 1993 WL 113434 at 2 (S.D. Fla. 1993)].
A Customs Order, or a Prevent Departure Order, is similar to writ of ne exeat republica, but is a creature of the executive branch rather than the judicial branch. A Prevent Departure Order prevents a non-U.S. citizen from leaving the country until a collection matter has been resolved [22 CFR section 46.2(a) and 46.3(h); see U.S. Customs and Border Protection Inspector's Field Manual, ed. Charles Miller (2008)]. The IRS can warn the U.S. Department of Homeland Security that a particular individual may attempt to leave the country in violation of his tax obligations. In response, Customs and Border Protection will issue an order to that individual directing him not to leave the country.
When the individual receives the Prevent Departure Order, he has 15 days to request a hearing before a special inquiry officer [CFR section 215.2], If he fails to request a hearing, the order preventing departure becomes final. If a timely request is made, the government must inform him of the nature of the case against him and schedule the hearing. The special inquiry officer presents the case on behalf of the government, questions the individual, and ultimately recommends that the temporary order preventing departure either be made final or be revoked. The government then transfers the case to the Department of Homeland Security regional commissioner with jurisdiction over that district. The commissioner reviews the case and renders a final decision, after which point no administrative appeal is possible. A Prevent Departure Order is lifted when the IRS informs Customs and Border Protection that the individual's presence is no longer necessary, or that he has complied with U.S. income tax laws [8 CFR section 215.5],
The writ of ne exeat republica and Prevent Departure Order are ways of keeping delinquent taxpayers inside the United States. Taxpayers not already in the country can be tracked down by the IRS upon arrival. Similar to a Prevent Departure Order but in reverse, the IRS can request that a Customs Hold be entered into the Treasury Enforcement Communication System for delinquent taxpayers. Once a taxpayer is in that database, the Department of Homeland Security alerts the IRS whenever the individual enters the United States. Customs and Border Protection officers can stop the taxpayer arrival and determine where he or she will be during the visit This gives the IRS an opportunity to contact taxpayers while in the country or locate their assets (TIGTA Report, pp. 13-14).
Keeping money overseas may also be a poor strategy. There are several ways in which the U.S. government can reach foreign assets or force their transfer to the United States [IRC section 7402]. For example, a federal judge may issue a repatriation order after a hearing. The order requires a delinquent taxpayer who has transferred assets to a foreign country to transfer them back to the United States. Failure to do so results in contempt proceedings [IRM 22.214.171.124 (Dec. 4, 2013)]. The standard for repatriation is low: the court only needs to find that 1) a substantial tax liability exists, and 2) the government's ability to collect might be jeopardized [United States v. Greene, 1984 WL 256 (N.D. Cal. 1984)]. Repatriation is a readily available remedy; there is no requirement to show fraud. In an opinion affirmed by the Court of Appeals for the Second Circuit, the District Court for the Southern District of New York stated:
Only for the most compelling reasons should a court refuse relief to the Government where a citizen of the United States keeps most of his assets in a foreign country and claims that they are immune from application to his income tax liability because of their situs in a foreign country [U.S. v. Ross, 196 F. Supp. 243, 245-46 (S.D.N.Y. 1961), affd, 302 F.2d 831 (2d Cir. 1962)].
The U.S. government can also use its jurisdiction over a U.S. branch of a foreign bank to levy offshore funds [26 CFR 301.6332-1(a)(2)]. In one case, a taxpayer who owed almost $9 million in taxes (plus penalties and interest) had allegedly used the Miami branch of his bank to facilitate transactions with its Panamanian branch [U.S. v. Harvey, 63 AFTR 2d 89-1236, 891 USTC P 9374, *1, *2 (S.D. Fla. 1989)]. The U.S. government sent a notice of levy to the taxpayer and his bank. The bank refused to turn over the taxpayer's funds, claiming that its disclosure of account information would violate Panamanian law, and it moved for dismissal and summary judgment. The court denied the motions based on precedent establishing that a bank subject to the jurisdiction of the U.S. courts may be compelled to disclose information, even if doing so might expose the bank to criminal sanctions in another country. The court observed that such a conflict, while unfortunate, is inevitable in the context of international commercial transactions.
It should be noted, however, that a 2014 New York case limited the authority of the U.S. government to force repatriation [Motorola v. Standard Chartered Bank et al., 2014 WL 5368774 (N.Y.), 2014 N.Y. Slip Op. 07199 (N.Y. App. Div. 2014)]. The court based this limitation on the "separate entity rule." Under that rule, even when a court has personal jurisdiction over a garnishee bank with a New York branch, the bank's other branches are to be treated as separate entities for certain purposes. The court recited three basic rationales for this rule: 1) the importance of international comity and the fact that any banking operation is subject to the laws and regulations of its own country; 2) the need to protect banks from competing claims and from dual liability; and 3) the burden that banks would bear if they had to monitor the status of accounts in various branches in other countries. The New York Appellate Division held that under the separate entity rule, a judgment creditor cannot order a bank with New York branches to freeze a debtor's assets in the bank's foreign branches. In reaching its decision, the court reasoned that undermining the separate entity rule would threaten New York's preeminence in the international banking arena. To uphold that policy consideration, levies on accounts of foreign banks that have branches in New York will not be enforced. Moreover, most foreign banks have structured their "U.S. banks" as separate entities rather than branches, thereby shielding them from being subject to other jurisdictions [see Koehler v. Bank of Bermuda Ltd., 12 N.Y. 3d 533 (N.Y. 2009)].
The U.S. government can only use the collection tools described above to the extent it has jurisdiction over the taxpayer or the taxpayer's assets. Without such jurisdiction, collection is exceedingly difficult, because foreign courts are reluctant to interfere with the internal tax matters of another country. This "revenue rule" is a long-standing common law doctrine designed to keep governments from stepping on one another's toes. Under that rule, the courts of one country will not enforce final tax judgments or unadjudicated tax claims of another [see Brenda Mallinak, "The Revenue Rule: A Common Law Doctrine for the Twenty-First Century," Duke Journal of Comparative and International Law, vol. 16, no. 79 (2006); Attorney General of Canada v. R.J. Reynolds Tobacco Holdings, Inc., 268 F.3d 103, 109 (2d Cir. 2001)].
Given these constraints, it is challenging for the U.S. government to serve process on and to obtain jurisdiction over a taxpayer located outside the country. It has, however, sometimes found some creative, albeit limited, ways to do so.
One case involved taxpayers who were located in Mexico, and whose attorney was located in the United States. Each taxpayer had executed a power of attorney in Mexico authorizing the attorney "to do all things that are necessary in defending me before all tax bodies and all courts." The U.S. government used the power of attorney as a basis for serving a summons and complaint on the attorney as the taxpayers' agent, but the document did not specifically authorize the attorney to receive service of process on behalf of the taxpayers. However, the court determined that such authorization was implied under the broad terms of the document, and held that service was proper [[7.5'. v. Davis, 38 F.R.D. 424-426 (N.D.N.Y. 1965)].
Another case involved a deceased U.S. taxpayer who had worked in Canada for a Canadian company. He allegedly owed the U.S. government almost $10 million in tax, penalties, and interest when he died. The U.S. government served process on his executor, which was a trust company located in Canada, asserting that the estate was subject to its jurisdiction. Service had been based on New York's long-arm statute, which grants jurisdiction in causes of action that arise out of activity within the state. The court found that while the taxpayer did not transact any business in New York, his personal agents--whom he allegedly enlisted to divert his own income to relatives and friends in order to evade income tax-- did: they negotiated the terms of their contracts with him in New York, signed those contracts in New York, and paid his relatives and friends from New York. The court held that these activities constituted sufficient business in the state to justify service of process on the taxpayer's estate [U.S. v. Montreal Trust Co., 358 F.2d 239-243 (2d Cir. 1965)].
If the U.S. government cannot establish jurisdiction over a taxpayer or his assets under a theory of agency, a long-arm statute, or other grounds, it may turn to a tax treaty. One exception to the revenue rule comes in the form of collection assistance provisions in income tax treaties. The treaties that the United States has with Canada, Denmark, France, the Netherlands, and Sweden, for example, contain collection assistance provisions. Those provisions authorize the United States and the other country to collect tax on the other's behalf (see IRM 126.96.36.199.7). It should be noted that citizens of the assisting country are safe from such collection efforts; each country will not collect from its own citizens taxes owed to the other country, and vice versa [e.g., see U.S.-Canadian Tax Treaty Article XXVI A, para. 8(a)(b)].
Trends are shifting, though, and a broader collection assistance provision is forthcoming. In January 2013, the United States and Japan signed a proposed protocol to amend their tax treaty (which has not yet been ratified). The proposed protocol contains a collection assistance provision that, unlike the currently existing ones, does not exempt citizens of the assisting country. Each country agrees to assist the other in collecting tax from its own citizens if the individual has 1) filed a fraudulent tax return or claim for refund in the other country; 2) willfully failed to file a tax return in order to evade tax in the other country; or 3) transferred assets into the country to avoid the collection of tax in the other country [Proposed Protocol to U.S.-Japan Tax Treaty (2013), Article XIII (amending Article 27 of the treaty)]. The agreement of each government to collect from its own citizens on behalf of the other country is a significant shift from the current collection assistance treaty provisions currently in place.
Stronger Enforcement Ahead
Those who engage in high-risk tax behavior or have clients who do so may become acquainted with one or more of these collection methods. According to the recent IRS audit report, implementation has been spotty. However, with the IRS's increased focus on international income and assets, stronger enforcement in this area is likely to come.
Robert S. Fink, JD, LLM, is a partner at Kostelanetz & Fink LLP, New York, N.Y., as well as an adjunct professor of law at New York University Law School's Graduate Tax Program. Wilda Lin, JD, LLM, is an associate at Kostelanetz & Fink LLP, and focuses on federal income and estate tax issues.
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|Title Annotation:||Taxation: tax practice & procedure|
|Author:||Fink, Robert S.; Lin, Wilda|
|Publication:||The CPA Journal|
|Date:||Apr 1, 2015|
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