It’s Apparently Impossible for the IRS to Commit a Graev Error in Issuing a Notice of Deficiency

First, taxpayers were left without a Legg to stand on.[1] Now, one has to wonder if the IRS is bound by any provision in the Code when it comes to issuing a Statutory Notice of Deficiency (90-day letter).

It is rare to get a fully reviewed opinion out of the Tax Court – especially one in the Estates, Gifts & Trusts area.  From my quick research, we got a total of four fully reviewed opinions last year.  So, when we do get a fully reviewed opinion (especially one that deals with our area of expertise), we take notice.

This past November, the Tax Court decided the case of Graev v. Commissioner, 147 T.C. No. 16 (Nov. 30, 2016).  The facts of the case were very similar to the facts of Legg v. Commissioner, 145 T.C. 344 (2015).  Both cases dealt with the charitable contribution of easements where the taxpayers overvalued the underlying property.  In Legg, the IRS asserted that the taxpayer was liable for the §6662(a) substantial understatement of tax penalty and calculated that 20% penalty in the 90-day letter. Alternatively, the examiner’s report determined that the taxpayers were liable for the §6662(h) gross valuation misstatement penalty but, apparently, did not make any calculation with respect to that 40% penalty.

Graev involved the opposite of Legg. The IRS issued a 90-day letter calculating the 40% penalty and asserted the 20% penalty as an alternative but calculated the 20% penalty as ZERO in light of the fact that the IRS cannot claim both the 40% penalty and the 20% penalty.  Graev also involved another IRS snafu.  The examining agent determined that the taxpayer was liable for the 40% penalty.  The agent prepared a penalty approval form that was approved by his supervisor.  This approved form did not assert the 20% as an alternative.  The agent then prepared the 90-day letter that included only the 40% penalty.  However, before the 90-day letter was issued, a Chief Counsel attorney reviewed a draft of the 90-day letter. Through a memorandum approved by his supervisor, the attorney advised that an alternative 20% penalty should be added to the 90-day letter. The 90-day letter was then revised to include the 20% penalty (setting out the calculation to yield a zero 20% penalty to avoid stacking with the 40% penalty) and was issued as revised.  However, the agent did not obtain further approval from  his supervisor to add the 20% penalty. After litigation was commenced, the IRS conceded liability for the 40% penalty but continued to assert the alternative 20% penalty as a nonzero amount.

In upholding the imposition of the 20% penalty, the majority of the Tax Court judges held for the IRS.  The vote was 12-5.  However, Judge Nega issued a concurring opinion (joined by Judges Goeke and Pugh) whereby he agreed with the majority opinion in result only. Therefore, the actual vote was 9-3-5.

Like Legg, this case boils down to whether the IRS complied with the legal requirements of §6751.  Pursuant to §6751(b)(1), no penalty can be assessed “unless the initial determination of such assessment is personally approved (in writing) by the immediate supervisor of the individual making such determination.”  The majority held that any argument by the taxpayer that the IRS failed to comply with §6751(b)(1) because the examining agent did not obtain his supervisor’s approval is premature.  According to the majority, the examining agent need only obtain his supervisor’s approval before the tax is assessed.  Since the penalty cannot formally be assessed until after the 90-days runs or until after the Tax Court issues an opinion (which is not appealed), then the examining agent has until that time to obtain supervisory approval.

In my humble opinion, the dissent correctly points out the absurdity of that conclusion.  The Code requires that the examining agent obtain supervisory approval in determining deficiencies and penalties in THE INITIAL DETERMINATION, not the FINAL DETERMINATION.  How can the Tax Court suggest that the “initial determination” can be made at the very end of the process, i.e., right before the mere administrative notation of the formal assessment?

Like Legg, it seems that the Tax Court in Graev is completely writing-out a provision of the Code. The majority states that “Section 6751(a) does not provide a ‘consequence for noncompliance’ if the IRS fails to include a computation of the penalty in the notice.” The majority would also make the taxpayer prove that he was prejudiced by the examining agent’s failure to obtain his supervisor’s approval.  It is as though the majority believes that the Code is just there as a guide and does not place any real burdens on the IRS in attempting to administer the tax laws.

The majority also believed that the IRS complied with the supervisory approval language because the Chief Counsel’s attorney obtained approval to add the 20% penalty from his supervisor.  As the dissent points out, the §6751(b)(1) makes it clear that the approval must be obtained “(in writing) by the immediate supervisor of the individual making such determination * * *.”

Between Legg and Graev, one has to wonder, is there any procedural provision of the Code that the IRS is bound to follow in issuing a 90-day letter?  Will the Tax Court excuse every instance where the IRS fails to follow the strict language of the Code?  I know a lot of attorneys in private practice who wish that the Tax Court was as equally lenient in excusing procedural failings of taxpayers – most of whom are not quite as knowledgeable about the tax laws as IRS agents and their supervisors.


[1] See Joseph J. Ecuyer, Taxpayers Left Without a Legg to Stand on as Tax Court Imposes 40% Gross Valuation Misstatement Penalty, Bloomberg BNA Estate Tax Blog (January 7, 2016).



For everything necessary to research, plan, and implement strategies for maximizing your clients’ control while minimizing taxes, take a free trial to the Estates, Gifts and Trusts Portfolios Library.