Summary of the Innocent Spouse Provisions (1/19/13)

In Wilson v. Commissioner,  705 F.3d 980 (9th Cir. 2013), here, the Ninth Circuit held that the Tax Court review of the IRS's denial of innocent spouse relief under Section 6015(f), here, is de novo, so that new matters raised for the first time before the Tax Court may be considered.  The Court rejected the Government's argument that, as a review of the IRS's exercise of discretion, the review should not be de novo but for abuse of IRS's discretion on the basis of the administrative record provided to the IRS to use in the exercise of its discretion.   There is a dissent in Wilson that, properly construed, the review should be based on the administrative recorrd.

The Tax Court holds that review is de novo, and has now been sustained in that holding Wilson and the other other circuit to address the issue.  Commissioner v. Neal, 557 F.3d 1262 (11th Cir. 2009).  Wilson offers a good analysis of the statutory interpretation analysis the Court used to reach that interpretation.  I commend the decision to readers who are interested in statutory interpretation.

I blog this case principally because of its summary of the history and current status of the innocent spouse provisions (including administrative processing) currently appearing in Section 6015, here.  Here is that summary (footnotes omitted)

Thousands of citizens each year discover to their surprise that they are liable for their former spouse's tax debt. Most of them are recently divorced, separated, or widowed women. Many are victims of domestic abuse, whose ability to review or correct a joint return before it is filed is impaired. A substantial number are low-income, single parents. 

Congress has not turned a blind eye to this situation, and the legislative history of its response is important to our understanding of the Tax Court's role. 

Before 1918, each spouse was required to file a separate return. In 1918, Congress first permitted married couples to file a joint return, and in 1921 clarified that the tax on a joint return was to be computed on aggregate income. Shortly thereafter, the Internal Revenue Service ("IRS") took the position that each spouse was individually responsible for the entire tax debt. However, we rejected that joint and several liability interpretation in 1935 and held that the IRS should apportion tax liability on the basis of each spouse's respective income. Cole v. Comm'r, 81 F.2d 485, 489 (9th Cir. 1935). Congress legislatively overruled Cole in 1938, adopting the IRS theory of joint and several marital tax liability, and in 1948 created a separate tax schedule for joint returns.

The "marriage bonus" awarded when filing jointly reduced tax liability for many married couples who resided in certain states. However, joint returns also imposed a heavy burden on some spouses who discovered they were liable for extraordinary tax debts created by a former spouse's fraudulent activities. During the first five decades of the income tax, the only way a spouse could avoid joint and several liability for taxes owed was to prove that he or she signed a joint tax return under duress. Reg. § 1.6013-4(d). An individual who discovered a tax debt on illicit income concealed by her spouse had no reprieve. 

The Tax Court commented on the unfairness of the rule, noting in one case that "[a]lthough we have much sympathy for petitioner's unhappy situation and are appalled at the harshness of this result in the instant case, the inflexible statute leaves no room for amelioration." Scudder v. Comm'r, 48 T.C. 36, 41 (1967). The court concluded that "only remedial legislation can soften the impact of the rule of strict individual liability for income taxes on the many married women who are unknowingly subjected to its provisions by filing joint returns." Id. 

In 1971, Congress passed the Innocent Spouse Act to provide relief from joint and several liability for innocent spouses in limited circumstances. Act of Jan. 12, 1971, Pub. L. No. 91-679, 83 Stat. 675 (1971). Under this legislation, taxpayers were eligible for relief only in cases involving unreported income and only if they could fulfill certain strict requirements. The scope of this hardship relief was expanded in 1984, but still required a spouse seeking relief to demonstrate (1) that a joint return was made for the taxable year; (2) that the joint return contained a substantial understatement of tax attributable to grossly erroneous items of the other spouse; (3) that the taxpayer did not know, and had no reason to know, of the substantial understatement when he or she signed the joint return; and (4) that it would be inequitable to hold the taxpayer liable for the deficiency in income tax attributable to the substantial understatement. Deficit Reduction Act of 1984, Pub. L. 98-369, § 424, 98 Stat. 494, 801. 

In 1995, the American Bar Association ("ABA") examined the innocent spouse defense and, after concluding that the defense did little to help "a reasonably knowledgeable spouse to protect herself (or, in rare cases, himself) against an unknown and unexpected tax liability," proposed replacing the joint and several tax liability standard with a proportional liability standard. ABA Section of Taxation Domestic Relations Committee, Comments on Liability of Divorced Spouses for Tax Deficiencies on Previously Filed Joint Returns, 50 Tax Law. 395, 402 (1997). 

In response, Congress directed the GAO and the Department of the Treasury to study the innocent spouse relief provisions and to evaluate the ABA proposal.  After evaluating the responses, Congress engaged in innocent spouse taxpayer reform by repealing the prior provisions altogether and enacting the current innocent spouse laws, codified at 26 U.S.C. § 6015, IRS Restructuring and Reform Act of 1998, Pub. L. No. 105-206, § 3201(b), 112 Stat. 685, 734-40. Under § 6015, the IRS may grant taxpayers relief from joint liability in three contexts. Sections 6015(b) and (c) apply when taxpayers have demonstrated an "understatement" or "deficiency" on joint returns filed with the IRS. In non-deficiency cases, "where a spouse asks for relief on her own initiative, and not in response to a deficiency action or moves by the IRS to collect a tax debt," relief is available through § 6015(f), which provides for equitable relief where there is an underpayment of tax on a correct return. 

As originally enacted, § 6015(e)(1) allowed taxpayers denied relief by the IRS under subsections (b) or (c) to petition the Tax Court for relief. In Ewing v. Commissioner, 118 T.C. 494 (2002), the Tax Court concluded that § 6015(e)(1) granted it jurisdiction over non-deficiency cases brought under § 6015(f) as well. We reversed the Tax Court's assertion of jurisdiction over § 6015(f) petitions in Ewing v. Commissioner, 439 F.3d 1009 (9th Cir. 2006), after finding that the plain language of the statute precluded this interpretation. Congress thereafter amended § 6015(e) to expressly grant the Tax Court jurisdiction to review petitions for equitable relief under § 6015(f) that have been denied by the IRS, like the petition at issue here. Tax Relief and Health Care Act of 2006, Pub. L. No. 109-432, div. C, § 408, 120 Stat. 2920, 3061-62. 

In implementing the innocent spouse tax relief enacted by Congress, the Department of the Treasury promulgated a regulation establishing the factors to be utilized in analyzing requests for equitable relief. The IRS established a single processing site in Cincinnati, Ohio to handle the claims, known as "The Commissioner's Cincinnati Centralized Innocent Spouse Operation" ("CCCISO"). CCCISO staff screen innocent spouse tax relief requests to determine whether they meet basic eligibility requirements. Applications that do not meet the requirements are closed at screening, and the taxpayer is informed of the decision. If a claim meets basic eligibility requirements, the file is transferred to an examiner to further review the claim and decide whether relief should be granted. When a decision is made, the taxpayer is informed and given thirty days to appeal to the IRS's Office of Appeals. After the administrative appeal is decided, the IRS sends a final determination letter. The taxpayer then has the right to appeal the IRS decision to federal court. The taxpayer has the option of either petitioning the U.S. Tax Court for review, or paying the deficiency and filing a refund claim in federal district court or the Court of Federal Claims.