Speaking at the July 29 meeting of the ABA Section on Taxation, Practice and Procedure, Internal Revenue Service (IRS) officials and Chief Counsel shared a look behind the scenes of recent IRS implementation and enforcement initiatives, including two compliance campaigns spearheaded by the IRS’s Large Business and International Division (LB&I). Taxpayers should be aware that the IRS has restarted enforcement operations and will begin additional audit campaigns soon.

Michael Desmond, the Chief Counsel of IRS, first offered an update of the many activities in the IRS Office of Chief Counsel. He pointed out the wealth of recently published guidance addressing pandemic issues, such as the volume of guidance issued under the Coronavirus Aid, Relief, and Economic Security (or CARES Act). The CARES Act became law on March 27 and since then, the IRS Office of Chief Counsel and the Treasury Department have been working at a furious pace to release guidance under the new law. The new law responds to the current market volatility and uncertainty resulting from the coronavirus pandemic, and it includes a number of important tax law changes in addition to corporate and individual relief.  

Mr. Desmond observed that Chief Counsel lawyers have been busy addressing CARES Act projects while working simultaneously with Treasury to complete outstanding TCJA guidance. As such, his office together with both IRS and Treasury have been balancing the competing publication demands. He made clear that additional guidance is expected throughout the summer, especially with respect to the TCJA measures. 

Sunita Lough, Deputy Commissioner for Services and Enforcement, stated that enforcement activities resumed on July 15. Although the organization has prioritized examinations that were postponed due to COVID-19, IRS will also begin new examinations now that its offices are reopening. New examinations will be conducted consistent with the organization’s People First initiative. To protect its personnel from exposure to the virus, the IRS will make every effort to conduct all upcoming examinations on a virtual basis. In that regard, the IRS has invested in technology to facilitate virtual meetings with new digital enhancements and expanded secure email capacity. Thus, taxpayers should expect to meet remotely in most cases, although the IRS is willing to arrange an in-person meeting when the situation merits. 

With respect to new examinations, Deputy Commissioner Lough noted that agents will place special emphasis on global high-wealth taxpayers in the coming year, which includes taxpayers with “assets over a certain amount and enterprises that span different areas of tax law.” She also remarked that the IRS has reached unprecedented levels of internal cooperation across units as well as with other federal agencies (beyond its usual partner, the Department of Justice). This has greatly enhanced the IRS’s enforcement issue-linking and data mining capabilities, especially in the area of LB&I compliance campaigns. 

LB&I’s compliance campaigns generally aim to reduce taxpayer noncompliance in an area which, in LB&I’s view, presents a substantial risk. Campaigns may vary in goal or approach, but their main purpose is to focus limited resources on issue-based examinations (rather than specific industries and taxpayers). And now, LB&I’s efforts in this regard will be enhanced by interagency cooperation and agency-wide use of data analytics to identify high-risk taxpayers, transactions, and structures. This tool in the IRS arsenal will help the IRS cut through the massive trove of over 9.5 billion currently searchable documents and “improve return selection” for examination.

On July 6, LB&I announced an “improve[ment]” to an existing compliance campaign targeting Internal Revenue Code section 965.¹ Section 965 generally requires U.S. shareholders to pay a transition tax on the untaxed foreign income of certain foreign corporations earned prior to 2018 as if the taxpayer had repatriated those earnings in the year earned. The determination of the section 965 tax liability is subject to a number of complex calculations and, according to IRS LB&I Commissioner Doug O’Donnell, the complexities involved increased taxpayer noncompliance. The IRS indicated that taxpayers should expect enforcement action beginning this October. 

Commissioner O’Donnell stated that LB&I “believe[s] there is a high likelihood of noncompliance in [the section 965] space because of two reasons: one, there is the complexity . . . but also we understand there is a difficulty in obtaining information regarding a number of items that are important in computing what the actual liability will be for the shareholder,” such as previously deferred untaxed earnings.

The section 965 campaign now has two facets, split across taxpayer type. LB&I’s Cross Border Activities group launched the first part of the campaign in November 2019, which primarily concerns multinational enterprise compliance. The new initiative, coordinated by Withholding and International Individual Compliance, “focuses on those individuals that are owners of the specified foreign corporations,” both direct and indirect owners. For both taxpayer types, the section 965 calculation is important because it is a one-time tax on foreign earnings at the time of the transition to the post-TCJA international tax system. In addition to impacting the tax liability for the transition year, the determinations made under section 965 will have a continuing impact on the treatment of distributions made by controlled foreign corporations, particularly as to pools of previously taxed earnings and profits and the ability to claim foreign tax credits.  

The Commissioner elaborated on the new facet of the campaign, stating that “we have two treatment streams to approach this. One, we are going to send letters to several thousand individuals where we’ve observed the potential for noncompliance and suggest that they take another look and perhaps file an amended return. There’s another group of several hundred where we’re going to actually put them into the audit pipeline because we think that the risk there requires an enforcement intervention.” LB&I has already started the process and will initiate letters and examinationsbeginning as soon as this October. Taxpayers should review section 965 determinations to evaluate whether compliance measures should be taken in advance of this campaign.

Finally, Commissioner O’Donnell spoke briefly about LB&I’s TCJA campaign, and he noted how “different this [initiative] is from other compliance campaigns LB&I has previously rolled out.” Instead of focusing on an enforcement issue under a particular Code provision, this campaign seeks to improve the IRS’s understanding of how taxpayers responded to TCJA by examining C corporations, S corporations, and partnership returns filed under the TCJA. In particular, LB&I wants to understand “whatever planning went in to take advantage of the change in the tax rates from 35% to 21%” and how taxpayers have “engaged in transactions with related parties.” Commissioner O’Donnell stated that LB&I is using the campaign, in concert with subject matter experts, to build a “robust” feedback model that will inform future work selection and training. He “also expect[s] this to generate new single issue campaigns that may have one of a number of different treatment streams,” such as future audits, soft letters, or additional guidance.

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^{1 All section references are to the Internal Revenue Code of 1986, as amended.}

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