The Supremes
The Constitution has figured prominently in the news of late. In the days preceding the initial discussions among members of the Administration and the Congressional leadership regarding the debt ceiling, several prominent Democrats stated that the President has the authority under the 14th Amendment to the Constitution[i] to unilaterally raise the debt ceiling. Last Sunday, the President himself told reporters he believes he has this authority, though “he acknowledged potential legal challenges could still lead the nation to default if he went that route.”[ii]
Query whether today’s U.S. Supreme Court would agree with this rather novel interpretation of the 14th Amendment,[iii] Section 4 of which reads as follows:
“The validity of the public debt of the United States, authorized by law, including debts incurred for payment of pensions and bounties for services in suppressing insurrection or rebellion, shall not be questioned.”
I don’t think I’d be venturing too far out on a limb to guess that the Court would not accept the proffered reading, albeit on a less than unanimous basis.
Nor do I think I’d be alone in observing that the Court’s announcement a couple of weeks ago that it will hear a case in which it has been asked to overturn the so-called “Chevron doctrine” will likely result in a decision by a split Court that will at least limit the doctrine’s application.[iv]
Last week, however, a unanimous Supreme Court[v] decided that the IRS is not required to give notice to any person mentioned in a summons – and may thereby deny such person the opportunity to quash the summons – when the summons is issued “in aid of the collection of . . . an assessment made . . . against the person with respect to whose liability the summons is issued.”
The IRS Summons Power
Writing for the Court, Chief Justice Roberts framed the issue with some levity:
“For as long as Americans have had to pay taxes, at least some have tried to avoid them. And for as long as Americans have avoided taxes, the Internal Revenue Service and its predecessors have tried to collect them. As an old joke goes: ‘I believe we should all pay taxes with a smile. I tried but they wanted cash.’ Congress has given the IRS considerable power to go after unpaid taxes. One tool at the Service’s disposal is the authority to summon people with information concerning a delinquent taxpayer. But to safeguard privacy, the IRS is generally required to provide notice to anyone named in a summons, who can then sue to quash it. Today’s case concerns an exception to that general rule.”
Before describing the Court’s opinion, it may be worthwhile to briefly describe the IRS’s authority to issue a summons.
The Code authorizes the IRS to inquire about any person who may be liable to pay any tax.[vi] Toward that end, the IRS is authorized to summon a witness[vii] to testify and to produce books, papers, records, or other data that may be “relevant or material”[viii] to an investigation.[ix]
Thus, the IRS is authorized to issue summonses for a variety of purposes, including the following:[x]
- To ascertain the correctness of any return;
- To determine the liability of a person for any tax;
- To collect any tax liability.[xi]
Among the persons who may be summoned by the IRS are the following:
- The person liable for the tax or required to prepare a return;
- Any officer or employee of such person who has information that may be relevant to the IRS’s investigation;
- Any person having possession, custody, or care of books, papers, records, or other data that may be relevant to the investigation; and
- Any other person the IRS deems proper.
When information or documents are sought from the taxpayer, all records of financial transactions, all books and records showing the receipt or expenditure of money by the taxpayer, and all financial transactions of the taxpayer with other persons and the names of such other persons to verify such transactions generally satisfy the relevance test.
Where information or documents are requested from third persons – a person other than the person with respect to whose liability or return the summons is issued, or any officer or employee of such person – all records or information of the taxpayer’s financial transactions with such third persons or other persons generally satisfy the relevance test.[xii]
When a third-party summons is issued, the Code[xiii] requires that notice be given to the taxpayer identified in the heading of the summons and to any other person (whether an individual or an entity) identified in the description of the summoned records.[xiv]
This notice – along with a copy of the summons and an explanation of the notified person’s right to intervene in any enforcement proceeding or to quash the summons – has to be given within three days of the date on which the summons was served, but no later than the 23rd day before the appearance date fixed in the summons as the date of production.[xv]
A person to whom notice of a summons has been given – for example, the taxpayer – may wish to prevent compliance with the summons by the third party summoned by beginning a civil action in the appropriate U.S. district court to quash the summons no later than twenty days after the day notice of the summons is given.[xvi]
A petition to quash brought by the taxpayer suspends the period of limitations for assessment[xvii] for the period in which the proceeding and any appeals are pending.[xviii]
Whether or not a petition to quash has been or will be filed, the third party is required to assemble the records and prepare to produce them on the date specified in the summons.[xix]
Significantly, notification is not required for third-party summonses issued where an assessed liability exists for each of the periods at issue, and the summons is issued “in aid of collection” of those assessments.[xx]
Which brings us to the Court’s opinion.
Summons in Aid of Collection
After acknowledging the breadth of the IRS’s summons power, the Court explained that Congress imposed certain safeguards; specifically, (i) the notice requirement described above plus (ii) the right of anyone entitled to such notice to bring a motion to quash the summons.
The Court observed, however, that there are exceptions to the notice requirement. As explained earlier, the IRS need not provide notice to a person “who is identified in the summons” if the summons is “issued in aid of the collection of (i) an assessment made or judgment rendered against the person with respect to whose liability the summons is issued.”
Before considering the third-party summons issued with respect to the Taxpayer, the Court summarized the IRS’s summons power as follows:
- the IRS may issue summonses both to determine whether a taxpayer owes money and later to collect any outstanding liability;
- when the IRS conducts an investigation for the purpose of “determining the liability” of a taxpayer, it must provide notice;
- but once the IRS has reached the stage of “collecting any such liability,” notice may not be required.
Taxpayer’s Situation
Taxpayer underpaid his federal taxes for several years. After investigating, the IRS determined that Taxpayer was liable for the unpaid tax plus other penalties, and entered official assessments against him.
Collection
The IRS then set out to collect the money. In the process, it developed a few leads in its search for assets that Taxpayer may have been concealing. The IRS focused on bank accounts belonging to Taxpayer’s spouse (Spouse). The IRS also knew that Taxpayer had paid a not insignificant portion of his outstanding tax liability from an account owned by LLC, and surmised that Taxpayer might have control over funds belonging to that company.
Summonses
To further its investigation, the IRS issued a summons to Taxpayer’s lawyers (PLC), but PLC responded that it “did not retain any of the documents requested.”
The IRS then issued additional summonses to Banks, seeking among other things “[c]opies of all bank statements” relating to Taxpayer and PLC, and also requesting the financial records of both Spouse and LLC.
District Court
The IRS did not provide notice to any of the third parties named in these summonses. However, Banks and PLC (the “Summoned Parties”) filed motions to quash in Federal District Court.
The District Court accepted the IRS’s assertion that “the purpose of [its] investigation [was] to locate assets to satisfy Taxpayer’s existing assessed federal tax liability and that the IRS issued the summonses in question to aid in the collection of these assessed liabilities.”
The District Court dismissed the case, reasoning that because the IRS did not need to provide notice, the District Court lacked jurisdiction to entertain the motions to quash.
The Summoned Parties appealed.
Court of Appeals
Before the Sixth Circuit, the Summoned Parties had argued in favor of a rule requiring that a taxpayer have “some legal interest or title in the object of the summons” for the notice exception to apply.[xxi]
The Sixth Circuit rejected this “legal interest” test and affirmed in a divided opinion, reasoning that no notice was required because “the summonses at issue fall squarely within” one of the exceptions to the notice requirement.[xxii]
The Court of Appeals explained that “as long as the third-party summons is issued to aid in the collection of any assessed tax liability the notice exception applies.”
The Summoned Parties appealed. The Supreme Court granted cert.[xxiii]
The Court’s Analysis
The question before the Court was whether the exception to the summons notice requirement applied only where a delinquent taxpayer has a legal interest in the accounts or records summoned by the IRS.
The Court observed that a straightforward reading of the Code supports the conclusion that the notice exception does not contain such a limitation.
According to the Court, the Code sets forth three conditions to exempt the IRS from providing notice in circumstances similar to Taxpayer’s:
- a summons must be “issued in aid of . . . collection”;
- the summons must aid the collection of “an assessment made or judgment rendered”;[xxiv]
- a summons must aid the collection of assessments or judgments “against the person with respect to whose liability the summons is issued” – i.e., the delinquent taxpayer.
The Court stated that none of the above three components for excusing notice mentions a taxpayer’s legal interest in the records sought by the IRS, “much less requires that a taxpayer maintain such an interest for the exception to apply.”[xxv]
The Court then addressed and rejected the Summoned Parties’ arguments in support of the proposed legal interest test.
The Summoned Parties argued that the phrase, “in aid of the collection,” refers only to inquiries that “directly advance” the IRS’s collection efforts. A summons will not directly advance those efforts, the Summoned Parties contended, unless it is targeted at an account containing assets that the IRS can collect to satisfy Taxpayer’s liability: “The only way that a summons issued to a third party will produce collectible assets is if the delinquent taxpayer has a legal interest in the targeted account.”
The Court determined that the Summoned Parties’ argument did not give a fair reading to the phrase “in aid of the collection.” According to the Court, to “aid” means “[t]o help” or to “assist.” In other words, even if a summons may not itself reveal Taxpayer assets that can be collected, it may nonetheless help the IRS find or locate such assets.
In the present case, the Court went on, the IRS’s investigation “suggest[ed] that Taxpayer often uses other entities to shield assets from the Internal Revenue Service.” According to the Court, the IRS suspected that Taxpayer was using LLC as an alter ego, and also that Taxpayer might have access to and use of Spouse’s bank accounts.
The Court described how, based on those leads, the IRS initially requested that PLC produce “cancelled checks, wire transfer/credit documents, and all other instruments used by Taxpayer to pay the firm.”
Whether Taxpayer maintained a “legal interest” in those records was irrelevant, the Court stated, because if those records showed that money from LLC was used to pay Taxpayer’s account at PLC, or to pay others through PLC, “that could aid in collecting funds” from LLC “to help pay [Taxpayer’s] debt to the” IRS. Or the IRS could use those records to try to identify other alter egos – besides LLC – where Taxpayer might have hidden assets.
By the same token, the Court continued, the summonses the IRS issued to the banks sought records to “identify . . . entities whose funds Taxpayer has control over without formal ownership” and “bank accounts associated with such entities.” Even if the bank summonses did not reveal bank accounts in which Taxpayer had a legal interest, they could lead to assets parked elsewhere that the IRS could collect to satisfy Taxpayer’s tax liability. Similarly, documents in the accounts belonging to Spouse or LLC “may be a step in a paper trail leading to assets owned by” Taxpayer.[xxvi]
Under the Code, a taxpayer’s “liability” for unpaid taxes arises before the IRS makes an official “assessment” of what the delinquent taxpayer owes.[xxvii] To dispense with the summons notice requirement, the Code requires that there be “an assessment made or judgment rendered against the person with respect to whose liability the summons is issued.”[xxviii]
The Court then addressed the final argument made by the Summoned Parties in which they emphasized the privacy concerns that led Congress to enact the notice requirement in the first place. They contended that Congress enacted the notice requirement to established a baseline rule that required the IRS to provide notice, and which authorized anyone entitled to notice to move to quash a summons.
In response, the Court stated:
“We do not dismiss any apprehension about the scope of the IRS’s authority to issue summonses. As we have said, ‘the authority vested in tax collectors may be abused, as all power is subject to abuse.’ Tax investigations often involve the pursuit of sensitive records. In this case, for instance, the IRS sought information from law firms concerning client accounts. And even the Government concedes that the phrase ‘in aid of the collection’ is not ‘limitless.’”
Notwithstanding the foregoing, however, the Court added that the present case was not an appropriate vehicle for trying to define the precise bounds of the phrase “in aid of the collection.” The Court pointed out that the parties did not argue or brief, and the lower courts did not decide, “the contours of that phrase.” Rather, the question presented to the Court focused only on whether the exception to the notice requirement was applicable.
With that, the Court affirmed the judgment of the Sixth Circuit that the exception to providing notice – and denying the opportunity to quash a summons – does not require that a taxpayer maintain a legal interest in the records summoned by the IRS.
Taxpayers Beware
Many business owners believe they can get away with what they often mistakenly believe are “relatively minor” transgressions of the Code. Their misplaced confidence is often founded upon discussions they’ve had with their advisers or with the owners of other businesses, either or both of whom seek to demonstrate the soundness of their opinion by pointing to the fact that neither they nor their clients have been audited.
Talk about a flaw in reasoning.
This behavior also manifests a lack of appreciation for the public and federal and state legislative sentiment that business owners must be more closely monitored and more frequently audited if the IRS is to ensure they pay their so-called “fair share” of taxes.
Just as concerning is the ignorance that such behavior demonstrates on the part of many business owners and their advisers of the tools that are available to the IRS, including the summons, to track down such transgressions and then to collect the assessed tax deficiency.
Of course, as the Court stated, and as the IRS conceded in the case described above, the reach of these tools is not limitless.[xxix]
However, the Court also determined that the IRS’s ability to issue a summons in aid of collecting a tax deficiency was greater than Taxpayer believed was appropriate.
It remains to be seen whether in the current “tax-the-rich” environment Congress or the Courts will seek to place limits on the introduction, and safeguards on the use, of ever more sophisticated and intrusive data collection and analytical tools.
The opinions expressed herein are solely those of the author(s) and do not necessarily represent the views of the Firm.
[i] One of the Civil War Amendments.
[ii] https://thehill.com/homenews/administration/4014068-biden-says-he-thinks-he-has-authority-to-use-14th-amendment-on-debt-ceiling/.
The President’s opinion on the 14th Amendment reminded me of a scene from the 1998 movie, “Armageddon.” Following the identification of a killer asteroid that is fast approaching the Earth, NASA tasks its best and brightest scientists and engineers to come up with alternative solutions for either destroying the asteroid or changing its trajectory.
During a meeting with the Joint Chiefs of Staff at which NASA presents its best option, the Chairman of the Joint Chiefs says that the President’s scientific advisers are suggesting that a nuclear blast could change the asteroid’s trajectory.
In response, Dr. Ronald Quincy, “pretty much the smartest man on the planet,” smiles and says, “I know the president’s chief advisor, we were at MIT together. And, at this point in time, you really don’t want to take advice from a man who got a C minus in astrophysics. The president’s advisors are wrong. I am right.”
Let me take you back to 1987. Then Senator and Presidential candidate Joe Biden claimed that he finished in the top half of his law school class. He claimed to have attended law school on a full academic scholarship. He stated that he won an international moot court competition, was the outstanding student in the political science department (as an undergraduate), and graduated with three degrees from college.
Turns out, the law school’s records indicated he finished near the bottom of his class, he received a partial, need-based scholarship and student loans, he plagiarized in law school, his resume did not mention the moot court competition, he did not win the political science award, and he received a single bachelor’s degree.
https://www.latimes.com/archives/la-xpm-1987-09-21-mn-6104-story.html. “Biden’s Law School Ranking Not as He Said,” L.A. Times, Sept. 21, 1987.
The road to the Chair of the Senate Judiciary Committee, let alone the White House?
[iii] One of the Civil War Amendments.
Crystal clear insofar as the debt ceiling is concerned, right? According to proponents of the idea, yes – the same folks who would judge historical figures by today’s “moral” standards while dismissing many of the virtues embodied by these figures.
[iv] https://www.supremecourt.gov/DocketPDF/22/22-451/246256/20221110145441811_2022-11-10%20Loper%20Bright%20Cert%20Petition%20FINAL.pdf.
What if the Court overturns Chevron? What will it mean for the Administration’s “regulate when you cannot legislate” strategy? Stay tuned.
[v] Polselli et al. v. IRS, Certiorari to the U.S. Court of Appeals for the Sixth Circuit No. 21–1599. Argued March 29, 2023; Decided May 18, 2023.
[vi] IRC Sec. 7601.
[vii] Before the IRS initiates contact with third parties for the determination or collection of a taxpayer’s tax liabilities, the IRS must provide notice to the taxpayer, at least 45 days before the third-party contact, which informs the taxpayer that the IRS intends to make third-party contacts within a specified time period not to exceed one year. IRC Sec. 7602(c).
[viii] The question of what “may be relevant or material” depends on the facts and circumstances of each case. The Supreme Court has construed the words “may be relevant” as reflecting an express intent by Congress to allow the IRS to obtain items of even “potential relevance” to an ongoing investigation. At the same time, courts generally will not allow the IRS to use a summons as a mere “fishing expedition.” The test is whether the summoned documents or testimony “might throw light upon” the subject under legitimate inquiry.
[ix] IRC Sec. 7602.
That said, the Service will issue summonses only when the taxpayer (or other witness) will not produce the desired records or other information voluntarily. When a taxpayer or third person is willing to testify and produce documents voluntarily, a summons may not be required. Moreover, before issuing any summons, the IRS will consider the possibility that judicial enforcement will be required. In other words, it has to be prepared to seek such enforcement if the summoned person fails to comply.
The judicial device for enforcing the administrative summons is provided by IRC Sec. 7402(b) and 7604. These sections provide a means of requiring the person summoned to comply. Sections 7402(b) and 7604(a) provide that jurisdiction to compel summons compliance is in the U.S. district court for the district in which the summoned person resides or is found. The effect of a proceeding under Sec. 7604 is to obtain the assistance of the court in forcing the summoned person to give the desired information to the IRS by having the court issue an order to that effect. Disobedience of such an order would be a civil contempt punishable by the court.
[x] Reg. Sec. 301.7602-1.
[xi] The summons should not require the witness to do anything other than appear on a given date to give testimony or produce existing books, papers, records, or other data. A summons cannot require a witness to prepare or create documents, including tax returns, that do not currently exist.
[xii] Third-party recordkeepers are only considered to be third-party recordkeepers when they are summoned to produce records that they made or kept of another person’s business transactions or affairs.
Banks are among the most commonly summoned third-party recordkeepers.
Included among the other third-party recordkeepers to whom a summons may be issued are the following: any person extending credit through the use of credit cards, any broker, any attorney, and any accountant. IRC Sec. 7603(b).
[xiii] IRC Sec. 7609(a).
[xiv] The IRS may petition a district court to waive notice if the court determines, on the basis of the facts and circumstances alleged, that there is reasonable cause to believe the giving of notice may lead to attempts to conceal, destroy, or alter records relevant to the examination, to prevent the communication of information from other persons through intimidation, bribery, or collusion, or to flee to avoid prosecution, testifying, or production of records. IRC Sec. 7609(g).
[xv] IRC Sec. 7609(a)(1).
[xvi] IRC Sec. 7609(b)(2).
The summoned party has the right to intervene in this proceeding and is bound by the decision in the quash proceeding whether the party intervenes or not.
[xvii] IRC Sec. 6501.
[xviii] IRC Sec. 7609(e).
[xix] IRC Sec. 7609(i).
[xx] IRC Sec. 7609(c)(2)(D).
[xxi] The Ninth Circuit had adopted this position.
[xxii] Citing IRC Sec. 7609(c)(2)(D)(i).
[xxiii] Meaning at least four Justices agreed to hear the case, following which it was placed on the Court’s docket.
[xxiv] By “assessment,” the Code “refers to the official recording of a taxpayer’s liability.” IRC Sec. 7609(c)(2)(D)(i) does not excuse notice, therefore, until the IRS makes an official assessment or a judgment has been rendered with respect to a taxpayer’s liability.
[xxv] The Court stated, “[h]ad Congress wanted to include a legal interest requirement, it certainly knew how to do so. The very next provision . . . requires the IRS to ‘establish the rates and conditions’ for reimbursing costs ‘incurred in searching for, reproducing, or transporting’ information sought by a summons. . . . But the IRS may not provide reimbursement if ‘the person with respect to whose liability the summons is issued has a proprietary interest in’ the records “to be produced.” IRC Sec. 7610(b)(1).
“We assume,” the Court explained, “that Congress ‘acts intentionally and purposely’ when it ‘includes particular language in one section of a statute but omits it in another section of the same Act.’” According to the Court, “[t]he fact that the exception to the reimbursement provision expressly turns on a taxpayer’s ‘proprietary interest’ in records summoned by the IRS strongly suggests that Congress deliberately omitted a similar requirement with respect to the notice exception.”
[xxvi] The Court stated that, “[b]y conflating activities that help advance a goal with activities sure to accomplish it, [Taxpayer] ignore[s] the typical meaning of ‘in aid of.’”
[xxvii] See IRC Sec. 6203. (“The assessment shall be made by recording the liability of the taxpayer in the office of the Secretary in accordance with rules or regulations prescribed by the Secretary.”)
[xxviii] IRC Sec. 7609(c)(2)(D)(i).
[xxix] The IRS proposed a test turning on reasonableness: So long as a summons is “reasonably calculated to assisting in collection,” the IRS stated, it can fairly be characterized as being issued “in aid of” collection.
