Paul L. Caron

Monday, April 24, 2023

Lesson From The Tax Court:  Prepare Once, File Twice

Camp (2017)Most of us don’t think about what it means to file our tax return.  We may rely on software or a hired return preparer to transmit our return to the IRS. The returns are either snail-mailed to the applicable Service Center, or they are e-filed to that amorphous “cloud.”  We know it is important to file our returns in order to trigger the 3-year limitation period for assessment in §6501(a).  But once we send them in, we’re done.

But most of us do not claim to live in the U.S. Virgin Islands (USVI).  Taxpayers who do may need to file twice, as we learn in David W. Tice v. Commissioner, 160 T.C. No. 8 (Apr. 10, 2023) (Judge Pugh). a reviewed Tax Court opinion.  In holding that the taxpayer was obligated to file his returns with both the USVI and the IRS, the opinion reverses the Court’s prior approach, which we learned about in Lesson From The Tax Court: Forms Follow Function In Return Filing, TaxProf Blog (Jan. 5, 2018).  Previously, the Court had focused on the passive voice of §6501(a) to decide that filing only once with USVI triggered the three year limitation period when the USVI sent a couple of pages of the return to the IRS.  Today’s opinion reads the active voice of §932(a)(2) as imposing a more robust obligation.  Intervening Treasury Regulations might comfort those who believe they only need file once.  However, more cautious advisors may still want to prepare once and file twice.  See what you think.  Details below the fold.

Law: Filing Requirements In General
The concept of filing a return is important, because the 3-year assessment limitations period in §6501(a) is triggered only when a valid return is “filed.”  Today is not a lesson about what constitutes a valid return because, to start the limitation period, that valid return must also be properly filed.  To be properly filed, the return must be received in the proper Service office as described in I.R.C. § 6091.  That's the physical delivery rule.  See Bongam v. Commissioner, 146 T.C. 52 (2016).  Generally, returns must be received in proper Service Center for processing that type of return.  Receipt in the wrong office does not start the limitation period.

Importantly, §6501(a) is written in the passive voice.  It says “the amount of any tax imposed by this title shall be assessed within 3 years after the return was filed.”  Courts have interpreted that passive voice to mean that even if the taxpayer files a return in the wrong office, the return is still “filed” once it gets to the proper office, regardless of who actually sends it there.  Therefore, taxpayers returns mailed to the wrong office or handed to an IRS employee can still be filed for §6501(a) purposes when the return reaches the proper office for processing.  See e.g. Winnett v. Commissioner, 96 T.C. 802 (1991) (return filed with wrong Service Center did not trigger limitations period until transmitted to proper Service Center); In re O'Neill, 134 B.R. 48 (Bankr. M.D. Fla. 1991) (same).

The Ninth Circuit briefly lost its mind to find that handing the return to any IRS employee constituted “filing” on the date it was received by that employee.  Seaview Trading, LLC v. Commissioner, 34 F.4th 666 (9th Cir. 2022) (purported copy of return filed when faxed to a Revenue Agent).  But then the Ninth Circuit found sanity about a year later, reversing itself to conform with the traditional reading of §6501(a) that a return must reach the correct office to be considered “filed”). Seaview Trading LLC v. Commissioner, 62 F.4th 1131 (9th Cir. 2023) (en banc).

Most taxpayers just need to meet this proper filing requirement once.  USVI Residents, however, have a different rule.

Law: Filing Requirement for USVI Residents
As the Eighth Circuit recently explained in Coffey v. Commissioner, 987 F.3d 808 (8th Cir. 2021), the United States and the USVI are separate taxing entities. The USVI administers a mirror code of the Internal Revenue Code where ‘Virgin Islands’ is basically substituted for the United States.  As I understand it, bona fide USVI residents get some pretty dope tax breaks (as my son would say).  See Huff v. Commissioner, 135 T.C. 222 (2010). So there appears to be some strong financial incentives for taxpayers to claim to be bona fide USVI residents.  I welcome comments on that.

Taxpayers who are bona fide USVI residents need only file their tax returns once, with the USVI Bureau of Internal Revenue (VIBIR). §932(c)(2).  In contrast, any other taxpayer with USVI-related income “shall file his income tax return ... with both the United States and the Virgin Islands.” § 932(a)(2) (emphasis supplied).  That means filing twice.

Alert readers will see the problem.  Taxpayers have every incentive to claim to be bona fide USVI residents, even if they are not.  And when they so claim, they only file with the VIBIR, which has little incentive to audit that claim.  But the IRS, which has every incentive to audit that claim, does not get the return from the taxpayer.  Over time, the IRS and the VIBIR have created an information-sharing regime whereby the VIBIR sends information to the IRS.  It’s called the Tax Implementation Agreement (TIA) and if insomnia is a problem for you, you can read it here: 1989-1 C.B. 347.

In Hulett v. Commissioner, 150 T.C. 60 (2018), the Tax Court said that this TIA information-sharing regime meant that the taxpayer there—who filed with only with the VIBIR—thereby also filed with the IRS.  I blogged about that in Lesson From The Tax Court: Forms Follow Function In Return Filing, TaxProf Blog (Jan. 5, 2018).  There were three opinions in that fully reviewed case, two pluralities and one dissent.  Neither of the plurality opinions commanded a majority of votes.  But, as I explained then, all three opinions focused on the ambiguity created by §6501(a)’s passive voice and resolved that ambiguity by focusing on the function of the limitation period to provide closure and how filing returns fit that function.

When the case went up on appeal to the Eighth Circuit (under its new name “Coffey”), however, that Court did not care that the IRS had somehow learned of the taxpayer’s return.  The “IRS's actual knowledge of the income did not begin the three-year statute of limitations.” Coffey v. Commissioner, 987 F.3d at 813.  Nope.  What was critical to that Court was whether the taxpayer had met their filing obligation.  It decided that the taxpayer needed to have fulfilled that obligation, echoing Judge Marvel’s dissent below. And in that case, “[i]t is undisputed that the Coffeys did not intend to file tax returns with the IRS, but only with the VIBIR.”  Id.

The taxpayer in today’s case was not in the Eighth Circuit.  Mr. Tice was in Austin and so would take any appeal up to the Fifth Circuit.  Therefore, the Tax Court did not believe itself bound by the Eighth Circuit’s opinion, Golsen v. Commissioner, 54 T.C. 742 (1970). For more on what Golsen means and does not mean, see Bryan Camp, The Tax Court As An Excellent Conversationalist, TaxProf Blog (Oct. 25, 2017).

In fact, in this case Judge Pugh notes that the government erroneously thought Golsen somehow required the Tax Court to follow the Eighth Circuit!  Op. at 10, note 10.  Nope.  That is why the Tax Court issued this, second, fully-reviewed opinion addressing the same issue as in Coffey.

So let’s see what we can learn.

Lesson:  Plain Language of Statute Requires Taxpayers to File Twice
The tax years at issue are 2002 and 2003.  For those years Mr. Tice filed his returns only once, with the VIBIR.  Eventually, the IRS audited the returns and concluded Mr. Tice was not a bona fide USVI resident and so was not entitled to the substantive tax benefits he claimed. It took a long time to figure that out and the IRS did not issue the NOD until 2015.

In Court, Mr. Tice urged the Tax Court to stick with it’s opinion in Hulett and find that the NOD was way too late.  He argued that his filing having filed, only once, with VIBIR, was enough to trigger the start of the three years, regardless of whether he was or was not a bona fide USVI resident.

The government urged the Tax Court to follow the Eighth Circuit’s Coffey decision.

In its unanimous opinion, the Tax Court here followed the Eighth Circuit’s result, but on different reasoning.  Whereas the Eighth Circuit had still focused on interpreting the passive voice in §6501, Judge Pugh instead focused on the active voice in §932 which imposes the filing requirement regarding USVI residents and non-residents.  Heck, Section III of her opinion ( titled “Analysis”) starts off with Section A, titled “Petitioner’s filing requirement under section 932(a)(2)” and in only two paragraphs Judge Pugh gives a robust textual analysis of §932(a)(2)’s language.  To accept the taxpayer’s argument here, she reasons, would make §932(a)(2) “meaningless.”  Remember that 932(c)(2) requires bona fide USVI residence to just file once, but 932(a)(2) requires all other taxpayers to file twice, once with VIBIR and once with IRS.  So if filing just once with VIBIR always satisfies the file-twice requirement, then §932(a)(2) ceases to have any meaning.

There is one wrinkle on this seemingly simple lesson: an intervening tax regulation.  Building on the information-sharing agreement with the VIBIR, Treasury issued a regulation in 2008 that tax returns filed only once with the VIBIR can indeed start the three-year statute of limitations, so long as the taxpayer claims to be a bona fide USVI resident (even if it turns out they are not) and so long as the IRS has an appropriate information-sharing protocol with the Virgin Island government. See Treas. Reg. 1.932-1.  The regulation is effective for tax years on or after December 31, 2006.

Some readers might wonder why the Tax Court went to the trouble of issuing this fully reviewed precedential opinion if it only applies to USVI returns prior to 2006.  Mr. Tice in fact tried to convince the Tax Court to allow him to come under the regulation.

The Court refused to allow Mr. Tice the shelter of the regulation, which by its terms did not apply to the tax years at issue here.  That’s part of the lesson.  The statutory language is controlling, period.  It requires filing twice.  While Treasury has considerable power to create a regulation that deems a filing with the VIBIR to also be a filing with the IRS, that does not alter the statutory requirement of filing twice.  It just helps taxpayers avoid unintentional failures to meet that requirement by creating a deeming rule based on administrative processes.  In so doing, the regulation channels all three of the Tax Court opinions in the Hulett case in that it recognizes and furthers the function of §6501(a) to bring closure to a given tax year.

Coda On Power of Regulations: Congress writes the tax statutes.  We all know, however, that Congress does not always write clearly.  That is especially true in statutes regulating tax administration.  The supervisory approval requirement for penalties in §6751(b)(1) is a primo example.  See Lesson From the Tax Court: A Practical Interpretation of the Penalty Approval Statute §6751, TaxProf Blog (Jan. 13, 2020).  Tax regulations can help clarify poorly written statutes.  A couple of weeks ago, Treasury published this proposed regulation that attempts to make sense out of the §6751(b)(1) nonsense.  I personally think it is well done and strikes a good balance between competing concerns.  Your opinion may vary! 

Bryan Camp is the George H. Mahon Professor of Law at Texas Tech University School of Law. He invites readers to return each Monday (or Tuesday if Monday is a federal holiday) to TaxProf Blog for another Lesson From The Tax Court.

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Thanks for the excellent post,

The Tice court assumed that Tice was “was not a bona fide USVI resident under section 932(c), but rather a U.S. citizen other than a bona fide USVI resident under section 932(a). Tice v. Commissioner, 160 T.C. ___, No. 88 (2023), * 7. That assumption required Tice to file both the U.S. return and the V.I. return (to report V.I. sourced income).

If Tice were a bona fide resident of V.I., he would have a single filing requirement to V.I.; with no filing requirement to the U.S., the U.S. should have no jurisdiction to tax and would have to look to V.I. to cover over the share of the V.I. mirror code tax attributable to the U.S.

I litigated a facet of this issue in Preece v. Commissioner, 95 T.C. 594 (1990). The mirror code provision there was the Commonwealth of the Northern Marianas Islands (“CNMI”) which piggybacked on the Guan mirror code. The issue decided in the opinion was which Code test applied – the statutory objective substantial presence test (7701(b) based on number of days) or the loosey-goosey facts and circumstances test of residence). The Tax Court held that the facts and circumstances test applied, thus requiring trial of the facts and circumstances. We moved to trial on the facts and circumstances question but there remained also a question of whether (i) the U.S. or CNMI had the authority to make the determination that the Preeces were residents of CNMI (Note the facts and circumstances test, like 7701(c), only applies to the determination of whether a noncitizen is a resident) and, if CNMI made that determination, the U.S. could not make a different determination requiring the taxpayer to file in the U.S. In other words for the mirror code single filing requirement, CNMI’s determination that the Preeces were residents in CNMI should be preclusive of that issue for U.S. tax purposes.

Of course, issues of comity are apparent but even more important fit is implicit in the single filing requirement. Congress could not have meant to permit the two jurisdictions to double-team the taxpayer with different positions. The single filing provision was intended to force the two countries to work it out rather than double-teaming the individual.

So, in support of my position, my exhibit list included persons with the IRS most familiar with the mirror code and application of the single filling and cover system. One was George Sellinger whom you may recall and whom I knew from DOJ Tax. I also sought the depositions or live testimony of the tax officials with CNMI and Guam. Before trial, we settled on a basis quite favorable to the Preeces. Of course, we had a pretty good case on the facts and circumstances test of residency, but I think the favorable settlement was heavily influenced by the fact that the dispute was really between the IRS and CNMI and as between the two CNMI should be the one making that determination as to whether the Preeces were residents of CNMI. The testimony was likely to expose in the public that the U.S. and CNMI tax authorities were having difficulties with each other because CNMI had determined as it was entitled to that the Preeces were CNMI residents and, in effect, the IRS position was that the CNMI authorities were acting in bad faith. I don’t think that was a battle they wanted to fight in public.

I discuss these issues in The Mirror Code Concept; Some Thoughts and Ruminations (5/27/13), here.

Thanks again.

Jack Townsend

Posted by: Jack Townsend | Apr 24, 2023 10:49:59 AM

Thank You Professor Camp for a most informative and well-referenced article on this quirk in U.S. tax lore. I am adding a copy of it to each of my files of returns I have prepared and will be preparing for taxpayers with a USVI nexus. If we are called upon to defend those returns, I feel certain the tax attorneys we would retain will enjoy your commentary and benefit from the work You have done here.

Posted by: Rusty Tyson, CPA | Apr 24, 2023 8:12:52 AM

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