Madame Chairman and Members of the Subcommittee:

My name is N. Jerold Cohen. I am the Chair-Elect of the American Bar Association's Section of Taxation. The views I will express today are presented on behalf of the Section of Taxation. Unless otherwise noted, they have not been approved by the House of Delegates or the Board of Governors of the American Bar Association and, accordingly, should not be construed as representing the position of the Association.

The Tax Section of the American Bar Association is comprised of approximately 25,000 tax lawyers located throughout the United States. It is the largest and broadest-based professional organization of tax lawyers in the country. The Section has a longstanding, and we hope that you would agree, excellent relationship with the Oversight Subcommittee. Madame Chairman, as you begin your period of leadership of this very important Subcommittee, we extend to you our congratulations and our commitment to work with you, the other Members of the Subcommittee, and the Subcommittee staff in your efforts to further improve the U.S. tax system.

We appreciate the opportunity to appear before the Subcommittee today to comment on legislative interest in a second taxpayer bill of rights. Our comments will be divided into three parts: first, I will offer some general comments on taxpayer rights legislation; second, I will comment on H.R. 661, the Taxpayer Bill of Rights 2, introduced in the House by Congressman Thornton; and, third, I will discuss a related matter that is of interest and concern to our members.

I. Taxpayer Rights Legislation - General Comments

Permit me to begin by reemphasizing the Tax Section's strong support for the ongoing work of the Oversight Subcommittee in monitoring the state of U.S. tax administration, including the effectiveness and efficiency of the Internal Revenue Service ("Service"). The Congress' oversight responsibility with respect to the tax system is extremely important to the confidence that the American people have in their tax system and, frankly, in their Government.

In our view, the Subcommittee's oversight activities often are more important in improving the functioning of the tax system than the enactment of specific legislation. Subcommittee hearings, such as today's, provide the American people an important forum for the discussion of perceived problems with tax administration and, thus, serve as a constructive mechanism for helping the Service properly carry out its mission.

Our experience indicates that increasingly the Service has welcomed the oversight process and has responded positively to concerns of the Subcommittee, without the necessity of legislation. This hearing is an important continuation of the oversight process, and we compliment the Subcommittee Members and staff for your willingness to devote the necessary time.

We have a very strong interest as an organization of tax professionals in fostering a tax administration system that:

• applies the tax laws in a fair and evenhanded manner, aids taxpayers in fulfilling their obligations under the law,

• is sensitive to the impact that taxes and tax administration have on peoples' lives, and

• operates efficiently and effectively.

Notwithstanding our view that perhaps the greatest value of this Subcommittee's activities is its public oversight function, we recognize that there are issues of tax administration that cannot be solved merely by talk or administrative action but, rather, require legislative resolution. Occasionally, when we raise an administrative issue with the Service, we are told that restrictive legislation or a lack of legislative authority precludes the Service from correcting the problem. In such cases, we will bring the issue to the Subcommittee's attention, and, if appropriate, propose or support the Treasury Department's proposal of specific remedial legislation.

Inevitably there will be instances when we, as tax practitioners, and the Service or Treasury will disagree on a tax administration issue. While we have great respect for the abilities and dedication of Service and Treasury employees, if we believe that a proposal will aid tax administration, we are quite prepared to support the proposal before this Subcommittee, even in the face of institutional opposition. There also may be legislative initiatives put before you that appear to be very popular with the public but which we believe, if enacted, would damage the tax system by seriously impeding the Service's ability to perform its tax administration obligations. In such cases, in spite of a proposal's public popularity, we will express our opposition.

One of the possible consequences of consideration of further taxpayer rights legislation is the danger that the Congress will attempt to micro-manage the Service. After all, when any of us within or outside government identify a problem, it is natural that we also try to develop and implement what we consider to be the best solution. However, micro-management of the Internal Revenue Service by the Congress, in our opinion, is a mistake. As our country's "Board of Directors," the Congress plays a central role in making sure that the tax system is functioning satisfactorily. But as with any large organization, the day-to-day management of the Internal Revenue Service is best left to its officers and key employees. In this way, the oversight responsibilities and skills of the Legislative Branch are blended with the management and operational responsibilities and skills of the Executive Branch.

As I indicated, we think that one of the values of a public discussion of taxpayer rights is the opportunity to identify issues that do not necessarily require a legislative response, but are of sufficient importance that the Subcommittee may wish to encourage a more in-depth analysis by the Service, the Treasury Department, the Subcommittee staff, the staff of the Joint Committee on Taxation or the General Accounting Office. There are four such areas that I would like to mention briefly today. If, following these hearings, you or your staff would like to discuss these matters in greater detail, we would be pleased to do so.

Field Service Advice - The first matter involves what is known as "field service advice." This term encompasses a variety of ways in which the National Office of the Internal Revenue Service in Washington communicates with revenue agents, collection officers and other personnel in the District and Regional offices located throughout the country.

During the past two years, the Service has adopted procedures governing communications between field and National Office personnel with respect to issues that arise in the audits of specific taxpayers. Although generally the Tax Section recognizes the importance of, and supports efforts to facilitate, interaction between Service field personnel and their lawyers in the National Office, the lack of any taxpayer involvement in the National Office's consideration of taxpayer-specific issues brought to its attention in the field service process and the lack of any ability to challenge positions taken by National Office personnel troubles us. We have expressed our concerns in a July 14, 1994, written submission to the Service, and we hope that the Service will take our comments and those of other interested organizations into account as these procedures are refined. Field service advice is a very sensitive area from the taxpayer's perspective, and it may merit future review by the Subcommittee.

Third-party information - The second matter relates to the Internal Revenue Service's access to so-called "third-party information." The need for such information arises with increasing frequency in connection with cross-border transfer pricing cases, although it is not necessarily limited to these cases.

The Service apparently is of the view, perhaps properly, that it needs factual information in addition to that which it can obtain from the taxpayer under audit or from public sources in order to administer a system of arm's length transfer pricing. A potentially attractive source of additional information is third parties engaged in the same or a similar business to that of the taxpayer under audit. However, these third parties may have absolutely no relationship to the matter at issue and often are competitors of the taxpayer under examination. Under such circumstances, an inquiry from the Service into the third party's business affairs, using the Service's administrative summons authority, raises very important issues regarding the confidentiality of third-party information, particularly proprietary information. It also potentially imposes a significant data collection burden on the third party in connection with a matter with which it is not concerned.

Use of third party information obtained in this manner may be necessary to the enforcement of the transfer pricing laws, but because of its sensitivity, the Subcommittee might consider examining the relevant policy issues.

Advance rulings process - A third area that may merit possible review by the Subcommittee is the Service's advance rulings process. Based on our experience, we think two developments relating to the Service's rulings program are of concern. First, the number of published revenue rulings, revenue procedures, and other advice of general applicability has gone down dramatically over the past 10-15 years.( This comment excludes an analysis of the issuance of regulations.) Second, access by individual taxpayers to advance rulings on specific transactions appears also to have decreased as the Service has expanded the number of areas in which it will not rule.

Service rulings, both published rulings of general applicability and those that are taxpayer specific, are an important part of a properly functioning self-assessment system. It goes without saying that our tax laws are complex; it is virtually impossible to address most business tax issues without confronting important unresolved questions. If taxpayers are expected to file accurate returns that correctly apply the law, then the Internal Revenue Service must be given the resources - and it must devote those resources - to provide the necessary advance guidance. Otherwise, not only will taxpayers be frustrated by the lack of guidance, but we also are convinced that in some cases they will be reluctant to undertake desirable business transactions because of the uncertain tax results. In other instances, we fear that compliance levels will decrease.

Installment Agreement User Fees - Section 6159 of the Internal Revenue Code of 1986 ("Code") authorizes the Service "to enter into written agreements with any taxpayer under which such taxpayer is allowed to satisfy liability for payment of any tax in installment payments if the Secretary of the Treasury ["Secretary"] determines that such agreement will facilitate collection of such liability." On December 26, 1994, the Service issued proposed regulations (PS-39-94) that would impose user fees on taxpayers who enter into installment agreements for paying their tax liabilities. Under the proposed regulations, the fee for entering into a new installment agreement would be $43.00, and the fee for restructuring or reinstating an existing agreement would be $24.00.

Although the dollar amounts of these user fees might appear minimal to most taxpayers, we are very concerned that they will impose a financial burden on low income taxpayers and, therefore, we believe that the proposed regulations should be limited so that persons with tax deficiencies and income below certain dollar levels would be exempt from payment of user fees.

We find it particularly troublesome that these fees could be imposed on low income taxpayers who by entering into payment agreements with the Service are attempting to meet their obligations to the Federal Government. Moreover, as a practical matter, requiring payment of a user fee for the privilege of entering into an installment agreement by persons with scarce resources will have the effect in many cases of merely reducing the amount of tax that the Service ultimately would receive. For these reasons, the Section recommends that the Subcommittee urge the Service to exempt low income taxpayers from the proposed installment agreement user fees. If the Subcommittee concludes that legislation is necessary to accomplish this objective, we would strongly support such legislation.

Let me again emphasize that in identifying these four general areas of concern, we are not suggesting a need for any immediate legislative initiative. However, we do think that these are areas in which taxpayer rights potentially are very much affected, and therefore, we recommend that the Subcommittee consider the merit of future hearings or other appropriate oversight activity.

II. Taxpayer Bill of Rights 2 (H.R. 661)

Now, I would like to turn to the second part of our statement, which contains our specific comments on H.R. 661, the Taxpayer Bill of Rights 2. (The bill also has been introduced in the Senate by Senator Pryor as S. 258.) As background, we note the substantial similarity between H.R. 661 and Title V of H.R. 11, the Revenue Act of 1992, 102d Cong., 2d Sess. (1992), which as you know was vetoed by President Bush and, therefore, never became law.

In June and July 1992, the Tax Section transmitted to the Congressional tax staffs the comments of certain of our members on Title V ("1992 Comments"). These comments form the basis of the following comments on H.R. 661, with changes that we deem appropriate to reflect differences between the two bills as well as our further consideration of the proposals. Our comments follow the order of H.R. 661.

A. Taxpayer Advocate (Sections 101-102)
(Unless otherwise indicated, section references are to H.R. 661.)

Section 101 provides for the appointment of a senior Service official to be known as the Taxpayer Advocate, who would report directly to the Commissioner of Internal Revenue ("Commissioner") The Taxpayer Advocate would have the responsibility to supervise and direct the activities of all problem resolution officers and would be responsible for assisting taxpayers in resolving problems with the Service and improving taxpayer service. Annually, the Taxpayer Advocate would be required to submit reports to the Congressional tax-writing committees. These reports would identify significant problems that taxpayers face in dealing with the Service, the Taxpayer Advocate's activities in improving taxpayer service, recommendations for administrative and legislative action, and certain other matters.

Section 102 provides that any Taxpayer Assistance Order issued by the Taxpayer Advocate could be modified or rescinded only by the Taxpayer Advocate, the Commissioner, or any superior of either.

In the 1992 Comments, our members opposed the provisions relating to the establishment of a Presidentially-appointed Taxpayer Advocate, for two principal reasons. First, they were concerned about the danger of improper influence within the Internal Revenue Service by a political appointee and second, they thought that, as a Service official, the Taxpayer Advocate should be accountable to the Commissioner. We are very pleased that H.R. 661 has abandoned the prior proposed structure and has made it clear that the Taxpayer Advocate will report to the Commissioner. (We also presume that the Taxpayer Advocate will be appointed by the Commissioner, although Section 101 does not so state.)

Notwithstanding the changes that have been made in Section 101, we continue to oppose its enactment. It would appear that the provision essentially codifies the present Service position of Taxpayer Ombudsman. In response to prior Congressional oversight activities relating to taxpayer service, the Service has put a taxpayer service management structure in place that seems to be working. If the Subcommittee has specific concerns about that structure, we suggest that these concerns be brought to the attention of the Commissioner and perhaps the Secretary. We do not think a legislatively-mandated management structure is desirable.

As more fully discussed below, we also oppose the provisions relating to Congressional reports and Taxpayer Service Orders.

Congressional reports - We do not think that the Commissioner or the Treasury Department should be precluded from reviewing and commenting on the Taxpayer Advocate's reports prior to the time that they are transmitted to the Congress. As a practical matter, it is difficult for us to believe that the reports envisioned by H.R. 661 could be assembled by the Office of the Taxpayer Advocate without input and assistance from others in Service field offices and in the National Office. Moreover, to preclude review and comment by the Commissioner and the Treasury Department, in our opinion, is an insult to the integrity of these latter two offices. A contemporary review and comment process should result in higher quality reports from the Taxpayer Advocate and more timely and complete commentaries from the Commissioner and Treasury.

Taxpayer Assistance Orders - We think that it would be inappropriate to prevent the Commissioner from delegating to other senior Service officials the right to modify or rescind Taxpayer Assistance Orders issued by the Taxpayer Advocate. The Service is a very large organization and each year deals with millions of taxpayers in District and sub-District offices throughout the United States and in offices located in a number of foreign countries. It is impossible for the Commissioner to deal on a regular basis with matters involving individual taxpayers, in connection with Taxpayer Assistance Orders or otherwise. Furthermore, because the Commissioner is the Chief Executive Officer of the Internal Revenue Service, with responsibility for all of the management challenges facing the organization, such involvement clearly is not the best use of her time. She must be able to delegate authority to field personnel and should be empowered to do so in the Taxpayer Assistance Order context.

We also wish to express our strong disagreement with the implication contained in Section 102 that a superior of the Commissioner (presumably the Secretary or Deputy Secretary of the Treasury or the President or Vice President of the United States) would have the authority to become involved in taxpayer-specific matters pending before the Service. In the past, interference by people outside the Agency in matters involving specific taxpayers has created trouble in the tax system. We do not think it is advisable to alter the practice that the Commissioner's superiors have followed over the past 20 years of strictly avoiding any such involvement.

B. Installment Agreements (Sections 201-204)

1. Certain Mandated Agreements: Notice (Section 201)

This section would amend Section 6159(a) of the Code to require the Service to enter into an installment agreement for the payment of tax if the agreement is requested by a taxpayer, the tax liability is less than $10,000 and the taxpayer has paid any tax liability for the three preceding taxable years.

We think that a requirement that the Service enter into installment agreements for liabilities of less than $10,000 without taking into consideration case-specific facts is ill advised and, therefore, we oppose its enactment.

Our principal concern with the provision is that it may mandate the Service to accept an installment agreement from a taxpayer even when the taxpayer is able to make immediate payment of the entire tax liability or installment payments of larger dollar amounts. For example, assume that a taxpayer can be expected to have a future annual cash income of $50,000 per year and incurs a tax liability of $5,000. It is not clear that an installment agreement would be warranted in such a case. Furthermore, as drafted, the provision could be interpreted to require the Service to accept any installment proposal made by the taxpayer regardless of its reasonableness. Thus, suppose our hypothetical taxpayer making $50,000 per year with a $5,000 tax liability proposes to pay the liability at the rate of $5 per month over the next 83 years. H.R. 661 might be deemed to require the Service to enter into that agreement.

In our view, the availability and terms of an installment agreement should be related to the taxpayer's ability to pay. Thus, if there is to be a mandate, we recommend that the Secretary be directed to enter into an agreement provided the agreement reasonably reflects the taxpayer's ability to make payments consistent with his or her reasonable living expenses.

Because the Code generally defines tax to include penalties and interest, there is a question whether the $10,000 threshold amount refers only to the amount of tax due or whether it also is intended to include penalties and interest. We suggest that this point be clarified if this provision is included in a Subcommittee Bill. We also think that it would be appropriate to make clear that any time sensitive underpayment penalty would not continue to accrue during the review process, but, instead, again would begin to run from the date of the notice of denial.

We think the specific notification requirement contained in Section 201 is desirable if this provision is adopted.

2. Relaxation of failure to pay penalty (Section 202)

Section 202 would amend Section 6651 1 of the Code to provide that the penalty for failure to pay (Code Section 6651(a)(2) and (a)(3)) would be disregarded for the period of time an installment agreement is in effect, provided that the taxpayer requests an installment agreement prior to the due date for the return, including extensions.

We think this is a desirable and appropriate provision. We suggest that Committee report language urge the Service to prominently describe the rights of taxpayers under this section in the appropriate tax return instruction booklets.

3. Notice of termination or denial of installment agreement (Section 203)

Section 203(a) would require the Service to inform a taxpayer of a proposed termination of an installment agreement or of a proposed denial of a taxpayer's request for an installment agreement no later than 30 days before termination or denial and include in that notice an explanation of the reasons for the proposed termination or denial.

It should be recognized that notices of federal tax lien may be on file securing whatever equity the taxpayer may have in assets. The tax lien secures the payment of the tax. Thus, as a practical matter, the only asset that would not be covered by the lien will be the cash earnings of the taxpayer for the 30-day period. In most cases, this amount is not going to be significant in comparison with the amount of tax owed. Accordingly, because the Service will be protected by its notice of federal tax lien, in most instances the delay will not imperil the collection of tax due. Therefore, we think that the requirement of a 30-day notice is appropriate.

4. Administrative Review of Denial of Installment Agreement (Section 204)

This section would require the Service to establish an independent administrative procedure to review denials of requests for installment agreements or terminations of existing agreements.

We do not object to this proposal. However, we hope that Committee report language would leave to the Commissioner the determination of precisely how this review function should be organized and where in the Service structure it should be located. While it may make sense to place this function in the Appeals Office or in the Problem Resolution Office, it may be more effective to establish another review function. We think that Service management can best make this determination.

We also think that the Subcommittee should address the questions of what happens to the Service's collection efforts during the pendency of the review proceeding and what happens to an existing installment agreement during the review of a proposed termination. Unless there is a jeopardy situation, we recommend that collection efforts or action to terminate an existing agreement be suspended during the review process.

C. Interest (Sections 301-302)

1. Interest Abatement (Section 301)

This provision would change existing law for small taxpayers by mandating an abatement of interest in certain circumstances and would extend, in some cases, the period for interest-free payment of amounts demanded by the Service if an unreasonable delay or error in the determination of a taxpayer's tax liability was caused by the Service. The provision also would expand the authority of the Service to abate interest for all other taxpayers in certain circumstances if an unreasonable delay or error in the determination of a taxpayer's tax liability was caused by the Service.

Under present law, the Service is authorized to abate interest in situations in which a delay in making an assessment is the result of a "ministerial" action or omission by the Service. Section 301 would authorize the abatement of interest where the Service has made an unreasonable error or is responsible for an unreasonable delay and, in the case of small taxpayers, mandate abatement in such circumstances. "Small taxpayers" is defined by reference to those taxpayers who are eligible for an award of attorney's fees under Section 7430(c)(4)(A)(iii) of the Code. This section defines taxpayers who may be eligible for an award of attorney's fees as those individuals with a net worth of $2,000,000 or less and any unincorporated business, partnership, or organization with a net worth that does not exceed $7,000,000 and which does not have more than 500 employees.

Since the adoption of Section 6404(e) of the Code by the Tax Reform Act of 1986, the Service has taken a very conservative approach, because of concern that the interest abatement provisions would result in a flood of requests. T.D. 8150, filed in the Federal Register on August 10, 1987, states, "The legislative history to Section 6404(e)(1) provides that Congress 'does not intend that this provision be used routinely to avoid payment of interest.' S. Rep. No. 313, 99th Cong., 2d Sess. 208 (1986)." Consequently, the Service adopted very restrictive regulations defining the term "ministerial act" and restrictive abatement procedures. See TIR 87-91 (August 10, 1987), now set forth in Rev. Proc. 87-42, 1987-2 C.B. 589.

Since adoption of the revenue procedure and temporary regulations, taxpayers, on occasion, have requested courts to review Service actions in denying abatement requests on the ground that such actions constitute an abuse of authority. The courts have held that they do not have the jurisdiction to review a Service interest abatement action because of (a) the legislative history indicating this action was to be purely discretionary without any reviewable standard and (b) the Tax Court's historical position that, absent a grant of specific authority, it may not review interest computations. See generally, 508 Clinton Street Corp. v. Commissioner 89 T.C. 352 (1987); Selman v. United States, 733 F. Supp. 1444 (D.C. W.D. Okl. 1990), aff'd 941 F.2d 1060 (10th Cir., 1991); see also Horton Homes. Inc. v. United States. 936 F.2d 548 (11th Cir. 1991); Argabright v. United States 35 F. 3d 472 (9th Cir. 1994); Brahms v. United States, 18 C1. Ct. 471 (1989); McDonnell v. Peterson, 93-1 USTC 11 50,241 (D.C. Calif. 1992); and Robert Norris & Associates. P.C. v. United States. 92-1, USTC 11 52,212 (N.D. Ala. 1992).

We understand from informal meetings between tax practitioners and Service representatives that the Service agrees to abate interest in about 18 percent of the requests for abatement filed by taxpayers. We further understand that during the 23-month period from May 1988 through March 1990, the total dollar amount of interest that was abated was $2,446,630, or approximately $1,250,000 per year.

Informal discussions with Service personnel indicate that they would like to be able to abate interest in a broader range of sympathetic cases than is possible under the present-law, restrictive "ministerial act" standard. Nevertheless, in comments before the Subcommittee on Private Retirement Plans and Oversight of the Internal Revenue Service of the Senate Finance Committee on February 21, 1992, on the corresponding provision of Senator Pryor's 1992 version of the Taxpayer Bill of Rights 2, the Service opposed the provision on the grounds that:

"Expansion of this provision seriously erodes the long-standing principle that interest is a charge for the use of money. Further, the term unreasonable delay is so imprecise as to leave open to question almost all Service action. By providing for the justifiability of abatement of interest claims, taxpayers would routinely challenge interest assessments. Representatives and taxpayers would have an obligation to their clients to routinely request such abatements thereby substantially increasing the costs of the government."

Section 301 would require that interest be abated in cases involving small taxpayers and would be authorized in cases involving other taxpayers where there is an unreasonable delay or error in processing a case. "Unreasonable delay or error" currently is not classified as a "ministerial act" in most circumstances. The Service considers "ministerial act" as essentially equivalent to a clerical act which does not involve any choice of action or managerial decision.

We support Section 301 in concept, but we think the following modifications are appropriate: (a) the term "unreasonable errors" should be clarified; (b) a point in time should be specified for the determination of small taxpayer status; and (c) the mandatory abatement of all interest in cases involving small taxpayers should be reconsidered, since, in some cases, such abatement may be excessive and therefore subject to abuse. For example, we do not think that an abatement of all interest is appropriate in a case in which the taxpayer has been uncooperative during the audit process, such as by failing to respond timely to Service information document requests and thereby contributing to the delay. Complete interest abatement also seems inappropriate if the underlying tax deficiency is the result of a tax-motivated transaction or involves civil or criminal fraud, even though the Service also may have committed unreasonable error or acted in a clearly unreasonable manner.

We note that the term "unreasonable error" is not defined or explained. Section 301 already incorporates an element of Code Section 7430, concerning the award of attorney's fees where the position of the United States in the proceeding was not "substantially justified." The courts have interpreted this provision to establish an "unreasonable standard," which was the standard contained in section 7430 prior to the Tax Reform Act of 1986. See Sher v. Comm. 89 T.C. 79, 84 (1987), aff'd on other grounds, 861 F.2d 131 (5th Cir. 1988).

To avoid some of the inevitable litigation that will result from the proposed reasonableness standard, at least as to mandatory abatement for small taxpayers which will now be subject to judicial review, we recommend adoption of the not substantially justified/unreasonable standards of Section 7430 already significantly developed by case law. A point in time also should be designated for the determination of small taxpayer status (such as the due date of the return to which the tax relates or, alternatively, the assessment date). These steps could be accomplished either by Committee report or revised statutory language.

Also of concern is the mandatory interest abatement provision. We support the principal behind this provision since it implicitly recognizes that there is a significant penalty aspect to the interest charged on tax deficiencies under Internal Revenue Code Section 6621. This occurs because the statutory interest rates on deficiencies are compounded daily, tied to the Federal short term rate plus 3 percentage points and, in some cases, even higher rates as to large corporate underpayments and some tax motivated transactions.

These interest rates generally are higher than the amount a taxpayer can earn, without incurring significant investment risk on the tax due but not yet paid to the Service. Further, individual taxpayers generally must pay tax on the income earned on the unpaid tax but may not, in most cases, deduct the interest paid on the tax deficiency for Federal income tax purposes. (See Code Sections 61 and 163(h)(2).) It is inappropriate in a self-assessment system to penalize the taxpayer for "unreasonable errors and delays" caused by the Service in determining the tax due.

While the Service has made efforts to ameliorate this problem by permitting taxpayers to prepay their tax and stop interest, this solution may require the taxpayer to commence a refund action if the tax is overpaid to recover the overpayment. The Service also permits a deposit in the nature of a cash bond to stop the running of interest under Revenue Procedure 84-58, 1984-2 C.B. 501. This procedure also is insufficient since the United States does not pay interest on any excess amounts that may be deposited.

Unfortunately, specific taxpayers are not the only parties who may be abused by the interest provisions. Where additional tax is due all taxpayers and United States citizens are penalized if the tax is paid late without any interest since the Government has incurred cash out-of-pocket borrowing costs to make up for the unpaid tax. Likewise, the underpaid taxpayer has derived a benefit since the taxpayer may invest the unpaid tax and receive the earnings. If all interest is to be mandatorily abated because of errors or delays in the tax process, the taxpayers involved will reap a windfall.

To resolve this problem, we recommend the mandatory abatement of interest be limited to interest in excess of the Federal short term rate coupled with a continued discretionary abatement of the balance of the interest. We also recommend that Congress consider providing some measure of judicial review of a decision by the Service not to abate interest, at least on an abuse of discretion standard.

2. Interest-free payment period (Section 302)

Section 302 would lengthen from 10 to 21 days, the time during which a taxpayer may comply with a demand for payment without the further accrual of interest, but only where the liability is less than $10,000. We agree that it is appropriate to lengthen the "interest-free" payment period. We note that some of the considerations which support such an extension apply with equal force to demands for the payment of $10,000 or more. That is, mail delays and the like are the same for small and large demands. Perhaps some consideration should be given to an extension in the case of a larger demand when the taxpayer does not receive the demand at least five days before the period during which interest would begin to accrue.

D. Joint Returns

1. Disclosure of collection efforts; election to file (Sections 401-402)

These provisions would permit disclosure to both signers of a joint income tax return of the status of collection efforts by the Service against the other signer and would relax somewhat the requirements for electing to file jointly after first having filed separately.

In the case of an assessed income tax deficiency with respect to a joint return, each spouse is jointly and severally liable, and the Service is free to effect collection from either or both up to the limit of the assessed liability, including interest and any additions to tax. The Service is not obligated to pursue collection efforts against both spouses even where, for example, they have agreed, inter se, that only one would be liable for any deficiencies or where there is a court decree to that effect. Under Section 401, the Service "may" disclose to a divorced or separated spouse whether it has attempted to collect the deficiency from the other spouse, the general nature of any collection activities, and the amount actually collected. In our view, the objective of the statute is desirable, but some technical issues should be addressed.

1. The disclosure either should be mandatory or the Service should have discretion to refuse disclosure only if it determines that disclosure will seriously impair Federal tax administration, in a manner similar to that provided in existing Code Section 6103(e)(7).

2. There would appear to be no reason to limit the disclosure to cases in which non-divorced spouses no longer are living in the same household. There are situations in which, for economic reasons, spouses continue to live under the same roof even though they are effectively separated and no longer are sharing tax or financial information. We believe that whatever level of disclosure is permitted or required, it should apply in favor of any signatory to a joint return with respect to which there is an assessed deficiency that the Service seeks to collect from one or both signers.

3. We believe that the collection information which is requested should be disclosed forthwith, and under ordinary circumstances, before the Service begins enforced collection against the spouse requesting the information. Otherwise, that spouse may not be able to take timely state court or other action to compel the other spouse to respond in accordance with whatever written agreement or decree may be applicable to the situation.

We support, without reservation, proposed Section 402 which would permit an election to file joint returns after having filed separately, even if the taxpayers lack the means to first pay the entire liability which would be due on the joint return. We can think of no sound policy justification for the present restriction.

2. Elimination of joint and several liability (Tax Section legislative recommendation)

Under present law, married taxpayers are liable for their spouses' federal income taxes when they file joint returns. In community property jurisdictions, each spouse is liable for tax on one-half of the other spouse's earned income, even if they file separate returns. In 1994, the ABA, upon the recommendation of the Tax Section, concluded that for reasons of fairness and simplicity, both rules should be repealed.

In many families today, both spouses work and follow separate business career paths. One spouse may have little or no direct knowledge of the business earnings and expenses of the other spouse. Even in the case of a family in which only one spouse works outside the home, that spouse may have little or no knowledge of the business affairs of the other spouse. Yet, in both situations, the spouse who did not earn the income can be liable for income taxes on the other spouse's income, even years after the couple has separated or divorced.

Joint liability may be derived from unwarranted assumptions about economic unity and permanence of marriage. In most other developed countries, the trend is toward elimination or moderation of joint liability rules holding one spouse liable for the other's taxes. Moreover, no country with community property laws imposes income tax liability by attributing income between spouses. We think that the United States also should eliminate joint income tax liability and, therefore, the ABA recommends that married persons be taxed only on their own individual income, without liability for tax on the income of their spouses, even when they file joint returns or reside in a community property jurisdiction. (In recognition of the sometimes harsh effects of joint liability, Congress enacted the "innocent spouse" provisions of Sections 6013(e) and 66. These rules are restrictive and ambiguous; they are among the most frequently litigated rules in the Internal Revenue Code. Repeal of joint liability would permit repeal of the innocent spouse provisions, resulting in a significant simplification of the tax system.

E. Collection Activities (Sections 501-504)

These sections would expand the authority of the Service to withdraw notices of lien and to return levied property, raise the level at which public notice regarding compromises is required and perhaps broaden the scope of authority for acceptance of compromises, increase the exemption level for levies, generally require written notice to the taxpayer regarding proposed tax investigations, increase the cap on damages for abusive collection activities, require a higher level of approval of issuance of designated summons, and require notice to a corporate taxpayer of the issuance of such a summons to any other person.

1. Withdrawal of Recorded Lien (Section 501)

Section 501(a) would authorize the Service to withdraw a recorded notice of lien under specified circumstances. As a threshold matter, it is important to recognize that for many purposes, actual notice of the existence of a tax lien (whether or not recorded) may deny a claimant priority over a tax claim, and the withdrawal of the notice would not change the fact that someone would have actual knowledge of the existence of a tax lien. The tax lien, under the proposal, would not be affected, nor do we believe that it should be affected. In other cases, claimants are given priority unless they have actual knowledge of a recorded tax lien. It is not clear whether, if the authority granted by this provision is exercised, a claimant having actual knowledge of the earlier recording is intended to be restored to a position in which, for example, it can enter into additional commercial lending arrangements with the taxpayer which will be entitled to the priority benefits of Code Section 6323(c).

The last of the specified circumstances in which withdrawal would be authorized is one in which the Taxpayer Advocate determines whether withdrawal would be in the best interests of the taxpayer, and the Service determines whether withdrawal would be in the best interests of the Unite States. As proposed, this provision also requires the consent of the taxpayer or the Taxpayer Advocate for withdrawal. The provision, however, does not contain any basic guidance or standard for determining what is meant by "best interests." To the extent that it is meant to refer to the fiscal interests of the United States, it would seem superfluous since those are fairly well taken care of by the preceding circumstances. If what is meant is that the Taxpayer Advocate on behalf of the taxpayer and the Service on behalf of the United States should take into account hardship or other equitable considerations in order to help a deserving taxpayer return to full tax compliance, that should be made explicit, at least in the Committee report. Whether withdrawal should be permitted on such non-fiscal grounds is an important policy issue. If it is adopted, the exercise of such authority could exacerbate existing problems with disparity of treatment in collection matters among the Districts. Additionally, we do not believe the advance consent of the taxpayer or the Taxpayer Advocate should be required if the Service is prepared to authorize withdrawal on its own. Assuming withdrawal on this ground would require a relatively high level of approval within the Collection Division, this review should be sufficient protection against abuse, particularly if there is a provision for post-review.

With respect to the provision for notice to the public of a lien withdrawal, we believe that the requirement that the Service furnish an official notice of withdrawal to the taxpayer will facilitate dissemination of the information by the taxpayer. Such notice also might reduce the prospects for litigation over the consequences of a failure by the Service to disseminate such notices on a timely basis to those credit and financial entities, as well as other creditors, listed in a written request to the Service from the taxpayer.

We support the proposed authority to return levied property subject to the comments previously made concerning the absence of guidance where the return is to be based on the "best interests" of the taxpayer and the United States and to any requirement for advance consent of the taxpayer or the Taxpayer Advocate.

We support the increase in the exemption level from levies.

2. Accepted Offers in Compromise (Section 502)

We support the proposed provisions of Section 502 regarding public filings relating to accepted offers in compromise, with two comments. What is meant by continuing quality review should be clarified. Presumably, it is intended that there be post-review to assure uniformity of practice and to insure against abuse. We also urge the Subcommittee to consider doing away with the requirement that the written opinions of the Chief Counsel be made available to the public. Alternatively, if some notice is required, perhaps a procedure similar to that used in the expurgated release of Service letter rulings can be developed so that the public will be aware of the standards currently being applied by the Service without requiring the release of identifying information.

3. Notice of Examination (Section 503)

The purpose of the proposed notice of examination provisions of Section 503 is not clear to us. In the case of office audits, the original contact is by mail and appears to us to be adequate in practice. In the case of field audits, unless there are suspicious circumstances, the initial contact ordinarily is with the taxpayer and the examination usually is conducted at the taxpayer's place of business. In general, whether notice is oral or in writing does not seem to be especially significant. The situation in which the requirement of notice may make a significant difference is one in which there are facts which lead the Service to investigate through contact with third parties first. Such investigations may lead to allegations of criminal or civil fraud, but that can hardly be known at the outset. We do not believe the Service should be required to provide advance written notice in such cases. At most, we believe, the Service might be required to provide the taxpayer with copies of any summons served upon a third party, as is now required in many instances. Moreover, tying the notice requirement to that applicable to notices of deficiency seems likely to lead to the all too familiar sort of litigation as to "last known address," particularly if the failure to give the requisite notice provides the taxpayer with any substantial rights. The proposed statutory language is silent on the issue of the consequence of a failure to give the required notice. If the provision is adopted, the Subcommittee should make explicit what it intends in that circumstance.

4. Designated Summons (Section 505)

As a preface to our comments on the proposals relating to the designated summons procedure contained in Section 505, we wish to note our view that this relatively new procedure, which accords the Service an extraordinary audit tool, should continue to be considered by the Congress as in the experimental stage. We think its future will depend upon how the designated summons process is administered by the Service, and we encourage the Subcommittee to monitor this enforcement area.

Proposed Section 505 would require Regional Counsel to "review" the issuance of every designated summons. We oppose this requirement. Review by the Deputy Regional Counsel already is an administrative requirement, and we see no need to make such a requirement statutory. Such high level internal review has been effective in limiting multiple examinations of taxpayer books and records under Section 7605(b) without statutory specificity regarding the identity of the reviewer and should be just as effective in the case of a designated summons. Moreover, the existence of such a statutory requirement easily can lead to litigation regarding whether any "review" occurred in the particular case, and regarding what constitutes an adequate review. Similar litigation arose concerning whether the Service was using its summons power improperly as an aid to a criminal investigation.

Section 505 also would require the "prompt" issuance of notice to the taxpayer in the case of certain designated summonses. We believe that potential disputes can be avoided if the Service is required to mail the notice to the taxpayer on the same date the summons either is served or mailed. Alternatively, the statute might provide for notice to the taxpayer within three days after service of such a summons. Code Section 7609(a)(1) contains a similar three-day notice rule in connection with third party record keeper summonses, and Section 7609(a)(2) contains rules for the "sufficiency" of such notices that likewise might be useful in connection with designated summonses issued to third parties.

The Service apparently believes that the use of a designated summons serves as an important method to obtain necessary information at the examination level. Under present law, however, the Service can use this method to extend the statute of limitations with respect to a taxpayer that has fully cooperated with the Service during the examination. Although this extraordinary compliance tool was designed to give the Service an additional means to deal with taxpayers who have resisted disclosure of necessary information, procedural fairness to all taxpayers is necessary to eliminate the potential for abuse outside this narrow context. Accordingly, the Subcommittee may wish to consider the following revisions to the statute to ensure the use of the designated summons as originally intended by Congress:

a. Provide that the taxpayer may, within 10 days of receiving a designated summons, file a petition in a District Court or the Tax Court seeking to quash or modify the summons, or seeking a court determination that the statute of limitations should not be suspended. In the event such an action is filed, the statute of limitations would remain suspended unless and until the court determined the existence of one or more of the following circumstances: (i) the Service had not previously requested in writing the information sought in the summons, (ii) the previous information request was not timely, or (iii) the person summoned did not have sufficient time to respond to the previous information request before the designated summons was issued. In order to quash or modify the summons, the taxpayer also would have to establish to the court's satisfaction that the person summoned had not failed to comply substantially with the previous information request. This right of judicial review would discourage the Service from issuing a designated summons in a case in which the taxpayer has cooperated in good faith during the examination and would allow an impartial court to decide whether the Service was attempting to misuse its designated summons authority.

b. Provide that the Service must identify the specific issue(s) and Code section(s) to which the designated summons relates, and that the statute of limitations may be suspended only with respect to the identified issue(s). This provision would ensure that the Service is using the designated summons to obtain only the information that it needs to develop a specific issue and would preserve the relevancy of the statute of limitations as an element of fairness in practical tax administration.

c. In lieu of the current requirement that the designated summons be issued at least 60 days before the date the statute of limitations is set to expire, provide that the designated summons must be issued at least 120 days before the date the statute of limitations is set to expire. This provision would protect the taxpayer against attempts by the Service to extend the statute of limitations at the very last minute.

F. Information Returns (Sections 601-603)

These sections would require payers to put their telephone numbers and the name of a contact person on information returns; would provide that if a person willfully files a false or fraudulent information return with respect to payments purported to be made to another person, the other person may bring a civil action for damages; and would provide that if a taxpayer asserts a reasonable dispute with respect to any income reported on an information return and has fully cooperated, the Service would have the obligation in court to introduce evidence of the deficiency (beyond the Form 1099 itself) in order to prevail.

Under present law, payers are required to provide their names and addresses on information returns. Taxpayers, however, frequently need to contact payers to resolve questions about the accuracy of the information returns. In practice, some payers do provide their telephone numbers on the information returns they issue, but, apparently, the majority do not provide such phone numbers.

1. Third-party Information Returns (Section 601)

Section 601 would require that information returns contain the name, address, and phone number of the payer's information contact. This provision would apply to statements required to be furnished after December 3l, 1995 (determined without regard to any extension).

We agree that taxpayers generally have difficulty in contacting payers and in quickly resolving questions. Therefore, we support this provision. As a practical matter, however, we question whether payers, especially large volume filers having many different departments or groups that each issue a different type of information return, could comply with this provision beginning with 1995 information returns. Accurate compilation of the necessary data to be provided for each and every information contact, and the programming of such data to be placed in (as of yet) non-existent fields or boxes on the various information returns, could present a significant reporting problem for information returns due for 1995. Accordingly, we recommend that the effective date of this provision be delayed one year. This would allow payers sufficient lead time to gear up for the new reporting requirement and permit the Service time to develop and provide payers with modified information returns containing an appropriate place for the required data.

2. Private Cause of Action (Section 602)

Present law does not provide for civil damages for the fraudulent filing of information returns. Yet, some taxpayers have suffered significant personal loss and inconvenience resulting from the receipt by the Service of false or fraudulent information returns. These information returns have been filed by payers who generally are intent on harassing the Service or the taxpayers. Because the Service has no way of knowing whether the information returns are correct, it must contact the taxpayers, thus causing substantial problems for both the Service and the taxpayers.

Section 602 would provide that if any person willfully files a false or fraudulent information return with respect to payments purported to be made to another person, the other person may bring a civil action for damages against the person filing such return. Recoverable damages would be the greater of $5,000 or the amount of actual damages (including the cost of the action). A damage action would have to be brought within the later of six years from the time the information return was filed with the Service or one year after the date such false or fraudulent information return would have been discovered by exercise of reasonable care.

Currently, Section 7206(1) makes willful filing of false or fraudulent information returns a felony punishable by fines of up to $100,000 and imprisonment of up to five years. Although some state laws may provide adequate remedies that can be pursued by payees against payers who intentionally file false or fraudulent information returns, we support the enactment of Section 602. As we see it, the importance of the purpose of eliminating the issuance of false or fraudulent information returns, by means of a Federal private cause of action, far outweighs the consequences of the risk of harassment of payers in unwarranted civil actions for damages. It is anticipated that the threat of a suit under Section 602 by a taxpayer suffering damage because of a false or fraudulent information return will be highly effective. It should be made clear that what is meant by "false" is "known to be false when prepared," not merely that it is, in fact, erroneous.

We also support the provisions contained in Section 602 that would require taxpayers bringing suit to provide a copy of the complaint to the Service and would demand that any court judgment include a finding of the correct amount which should have been reported in the information return. We believe the Service should be informed when these damage actions are initiated and when the courts render judgments which impact upon a person's tax liability.

3. Burden of Proof (Section 603)

Section 603 would require the Service to conduct a reasonable investigation of information returns in a case in which the taxpayer asserts a reasonable dispute with respect to any item of income reported on the information return. When making a determination of a deficiency based on an information return, the Service would have the burden of proof with respect to such determination unless the Service has conducted a reasonable investigation to corroborate the accuracy of such information return.

As stated in the 1992 Comments, we support this position, which would require, as stated in Portillo ( Portillo v. Commissioner, 988 F.2d 27. 5th Cir. 1993.), that the Service make a thoughtful and considered determination that it is entitled to an amount not yet paid. This is a fair requirement and one that the Service can accomplish in most cases when making a determination of a tax deficiency based on an information return. We do not believe that this section will force the Service to substantially curtail its information document matching program. Rather, it would require the Service to strengthen its current procedures for investigating taxpayer claims that information returns received by them are inaccurate and to document such efforts. Obtaining credible evidence that establishes the accuracy of an information return is within the power and ability of the Service where the taxpayer has asserted a reasonable dispute with respect to any item of income reported to the Service on such return.

G. 100 Percent Penalty Provisions (Sections 701-703)

Before discussing the specific provisions of H.R. 661 relating to the 100 percent penalty, I would like to refer briefly to a Policy Statement issued by the Service on February 3, 1993 (Internal Revenue Service Revised Policy Statement P-5-60 on Trust Fund Recovery Penalty Assessments. February 3, 1993.), relating to the Service's current policy on the determination of "responsible persons" and the application of payments to trust fund liabilities. We think this statement represents a constructive effort by the Service to refine its collection philosophy in this area, and we want to compliment the Service for issuing the statement.

l. Preliminary notice of liability (Section 701)

Except in jeopardy situations, Section 701 would require the Service to issue a preliminary notice 60 days in advance of any demand for payment of the 100 percent penalty imposed under Code Section 6672. In cases in which the period of limitations for assessment of the penalty might expire during the notice period, the limitations period would be extended to a date no earlier than 60 days after the date of mailing of the notice.

We agree that, whenever feasible, there should be notice of possible liability for the 100 percent penalty and an opportunity for an administrative review of the Service's determination of liability. However, when notice has not been given, we do not think that the appropriate consequence should be an inability by the Commissioner to make an assessment. The making of an assessment and a subsequent demand for payment are the prerequisites to the existence of a lien which gives the Government certain priorities against third parties, and we do not believe the present ability of the Service to establish its lien priority should be changed. Instead, sufficient protection may be afforded to someone who received no advance notice by precluding enforced collection and deferring the Service's right to record a notice of lien prior to an opportunity for administrative review, provided these restrictions on the Service apply only if in a non-jeopardy situation.

As a practical matter, extending the statute of limitations until 60 days after the mailing of the advance notice seems to us to be an inadequate time for the preparation of a protest and the holding of a hearing in the Appeals Office. We suggest that if this provision is to be adopted, the taxpayer be given a fixed time within which to request a hearing and file a protest (60 or 90 days, for example), and that if the taxpayer files such a protest, the statute of limitations be extended until ninety days after the date of the Appeals hearing.

2. Disclosure of collection activity (Section 702)

Section 702 would require the Service to disclose to any responsible person whether the Service is seeking to collect or has already collected the penalty, in part, from one or more other responsible persons. We support this provision, but we do not think that it goes far enough.

3. Right of Contribution

The American Bar Association previously has recommended legislation permitting a responsible person who has made payment of the 100 percent penalty to the Service to initiate a third-party action seeking contribution from the other responsible persons (Tax Section Recommendation 1981-6, 34 Tax Law. 1409 (1981)). We restate that recommendation today and, on behalf of the ABA, we strongly urge the Subcommittee to include a right of contribution in any legislation reported by the Subcommittee.

Too often the Service is satisfied with collecting the 100 percent penalty in the easiest situations. As a result, more culpable persons often escape liability. Unfortunately, state law does not always provide a remedy. Even states that permit joint tortfeasors to obtain contribution from one another do not permit a right of contribution in Section 6672 cases. These states believe that this is a Federal matter and defer to the uniform rule in the Federal courts against contribution by other responsible persons.

The Federal rule against contribution is premised on the common law rule prohibiting wrongdoers from seeking contribution from one another. That common law rule has ceased to be the rule in many jurisdictions, and there is no reason to continue this rule in the case of a Section 6672 penalty. Moreover, we believe that the most effective way to assure that the Service will maximize its administrative collection efforts against all responsible persons is for each potentially liable person to know that contribution can be compelled. We would expect that, under these circumstances, more responsible persons will agree among themselves to contribute all that is necessary to satisfy the entire liability without the need for litigation.

We understand that there has been a reluctance to enact legislation granting a right of contribution because of the concern that it might lead to wealthier and more culpable people seeking contribution from less responsible persons. In our experience, it is more often true that the less responsible people suffer from the absence of a right of contribution. More importantly, however, if contribution were based on the culpability of a person regarding his or her control over the disbursement of available corporate funds, there would be no reason for any such person to be shielded from liability. However, additional protection might be provided by permitting someone in a contribution proceeding who is found not responsible to recover attorney's fees from the person(s) found responsible.

The Tax Section's 1981 Recommendation proposed granting the responsible party a right of contribution by cross-claim or third-party action in any litigation with the Internal Revenue Service regarding the 100 percent penalty, as well as the right to bring a third-party action against the other responsible persons in an independent judicial proceeding. The Association of the Bar of the City of New York Committee on Personal Income Tax also has proposed the enactment of a right of contribution ("New York City Bar Proposal"). The New York City Bar Proposal would require an action for contribution be brought in a separate lawsuit (rather than by cross-claim or third-party action in litigation with the Service) so that the Treasury's ability to collect the 100 percent penalty would not be obstructed by the action for contribution. Although judicial economy might be fostered by having the contribution issue resolved in the same civil matter as the suit over the penalty, we think there is merit to avoiding any procedure that might delay the Government's ability to obtain a judgment against the multiple responsible persons. Therefore, if the Subcommittee were to prefer the New York City Bar's recommendation of a separate proceeding, we would support that decision.

4. "Warnings" and Honorary Members of Exempt Organizations Boards (Section 703)

Under Section 703(a)(1), the Service would be required to publish warnings of certain employee liability for the 100 percent penalty on the employment tax deposit coupon booklets and on the Form 941 tax return. The Service also would be obligated to publish a special information packet (Section 703(a)(2)). We generally support these provisions requiring the Service to take steps to publicize the obligation to pay trust fund taxes and the potential liabilities for failure to do so. However, we would prefer to see the Subcommittee encourage the Service to take these actions administratively without the need for specific legislation.

We also note the logistic problem concerning the warnings. While the contemplated warnings may reach some employees, such as the bookkeeper who merely signs returns, they likely will not reach the other "non-significant owners." A directive to the Service, in the Committee report accompanying any taxpayer rights legislation, to take appropriate measures to publicize the existence of the 100 percent penalty, including on the appropriate tax returns, in our view would be a preferable, more flexible method of implementing an effective system of warnings than trying to legislate a pre-designed format.

While we doubt that non-involved, honorary members of boards of directors of tax-exempt organizations actually would be found liable for the 100 percent penalty, we endorse Section 703(b) as providing formal comfort to those individuals. Where such board members have actual knowledge of the tax delinquency, it should be understood that the question will remain whether such knowledge by an honorary board member, by itself, will support a determination of "responsibility."

Section 703(c) provides that the Service must notify all persons who have failed to make a timely and complete deposit of any taxes described in Section 6672 of such failure within 30 days determination the return was filed, or after the date on which the Service is first aware of such failure. If the person is an entity and not an individual, the entity is required to notify, within 15 days of Service notification, all officers, general partners, trustees, or other managers of the failure.

We agree that the Service should take the initiative of notifying trust fund delinquents as soon as possible. However, we recommend that this matter be left to Congressional oversight and that it not be legislated as proposed in Section 703(c). We believe that such a statute could lead to litigation over the consequences of the failure to give prompt notice in such areas as the reasonable cause penalty exception (Section 6656), the existence of requisite willfulness under Section 6672, and a claim that the failure to give the notice was in some way the real cause of later delinquencies.

H. Attorney's Fees (Sections 801-804)

1. Present Law

Code Section 7430 provides for the recovery by certain taxpayers of reasonable administrative and litigation costs from the Government in any Federal tax case if the taxpayer has exhausted administrative remedies before the Service and if the taxpayer establishes that the position of the Service was not "substantially justified." No recovery is allowed if the taxpayer has unreasonably protracted the proceeding. The taxpayer also must have "substantially prevailed" with respect to the amount in controversy or the most significant issue or set of issues presented. These provisions do not apply in declaratory judgment tax litigation.

Reasonable litigation costs include reasonable court costs, expert witness fees, necessary reports or analyses, and attorney's fees, except that attorney's fees may not exceed $75 per hour, subject to court determination of a higher per hour rate based on cost of living increases or special factors.

These provisions are applicable only if the taxpayer is an individual with a net worth of $2 million or less, or is a business or other organization with a net worth of $7 million or less and with no more than 500 employees.

2. H.R. 661

H.R. 661 would amend Code Section 7430 to increase the limit on attorney's fees to $110 per hour and provide for automatic cost of living adjustments of that limit. Further, it would provide that a refusal by the taxpayer to agree to an extension of the statutory period for assessment would not be taken into account in determining whether the taxpayer failed to exhaust administrative remedies.

3. Present Law Section 7430 Has Failed To Achieve Its Objective

In its present form, Section 7430 has failed to achieve its objectives -- deterrence of unreasonable Government positions and relief to taxpayers who have been forced to contest unreasonable positions. Total awards have averaged only $220,000 per year, and only $6,300 per award. The revenue estimates in 1982, when these provisions were enacted, and in 1986, when they were substantially revised, projected that the annual revenue loss would be $5 million, more than 25 times the actual amounts that have been paid out by the Government.

4. Additional Changes Needed

The changes proposed in H.R. 661, in our opinion, are appropriate, and we support them. However, we think that there are other far more important changes that should be considered by the Subcommittee.

a. The Subcommittee should consider raising the ceilings on the net worth limitation and on the restriction of number of employees in order to make Section 7430 available to a broader range of individuals and small businesses.

b. The Subcommittee should consider whether taxpayers involved in declaratory judgment tax proceedings, as provided for in the Internal Revenue Code, should be eligible for awards.

c. The Subcommittee should consider whether any dollar limit on attorney's fees is necessary or appropriate. The law already requires that such fees must be reasonable. This reasonableness test could be amplified to apply in light of prevailing levels of attorney's fees for work of similar nature in the geographical area in which the services are rendered. A fixed dollar limit on attorney's fees in any such proceeding also could be imposed.

With these additional changes, the provision for recovery of reasonable administrative and litigation costs in any Federal tax dispute will accomplish far more effectively its dual purposes of deterring unreasonable Government positions and providing reasonable relief to taxpayers who prevail in such cases.

5. Attorney's fees following certain offers of settlement

We understand that the Subcommittee may consider allowing a taxpayer to recover costs and expenses, including attorney's fees, if the taxpayer makes an offer of settlement to the Service during the administrative audit or appeals process, such offer is not accepted by the Service, and the matter is later resolved, either by settlement or in litigation in a manner that is more favorable to the taxpayer than the terms of such offer.

A similar provision now exists in Federal court litigation under Federal Rule of Civil Procedure 68, and a special provision applicable to Federal civil diversity litigation adopted by the House on March 7, 1995 as part of H.R. 988, the Attorney Accountability Act of 1995, � 2. Neither of these provisions is applicable to the administrative process.

We believe that any extension of this or a similar mechanism must be carefully studied before it is applied to the civil tax audit process. For example, while it may be desirable to impose such a procedure during the litigation phase of a tax controversy, we do not think it would be advisable for it to apply during the audit and any administrative appeal. It would not be prudent tax administration policy to give a taxpayer the ability to make such an offer until all of the facts have been developed and the matter has reached a sufficiently high level within the Service so that a reasonable determination regarding liability and hazards of litigation can be made.

We also are concerned about the possible significant additional complexity that may result from the application of this procedure in a tax matter. Two items come to mind. First, we would expect that enactment of such a procedure will result in controversies seeking to define the settlement offer, debating the adequacy of the offer and comparing the terms of the offer to the terms of the final judgment. Second, it is important to recognize that in a tax controversy, collateral issues unrelated to the amount of tax in dispute often are very important. For example, if a current expense is disallowed and the expenditure is capitalized, it is important to determine to what existing asset, if any, the cost is allocable and what depreciable or amortizable period will apply to the capitalized cost. Frequently, settlement offers rise or fall on the resolution of these collateral matters. It is not clear how they would be taken into account in comparing a settlement offer to a final judgment.

We also note that although Federal Rule of Civil Procedure 68 has been available for some time to taxpayers in litigation with the Service in Federal district courts, anecdotal evidence indicates that it is used only in extremely rare cases. Accordingly, while this type of procedure may warrant additional consideration, we recommend that any legislative effort proceed cautiously. We will be happy to work with the Subcommittee and its staff in further analyzing this legislative option.

I. Other Provisions (Sections 901-905)

These provisions would augment the information required to be included in deficiency and collection notices, would confirm the legal status of returns prepared by the Service under the authority of section 6020 for purposes of delinquency penalties, would require the Service to give prompt notice as to amounts received which it is unable to credit properly, and would create a new felony consisting of the improper inducement of a professional to disclose certain information concerning a taxpayer.

1. Content of Notices (Section 901)

We agree that there should be more information in the notices presently required by Section 7522 of the Code, but we do not believe that Section 901 goes far enough. We recommend that the required information be described as follows:

The adjustments which are the basis for, and the amounts of tax, interest, additions to tax and assessable penalties due or alleged to be due, should be described with sufficient particularity so that the taxpayer may reasonably be expected to understand the nature of and the basis for those adjustments.

2. Returns Executed by the Service (Section 902)

We endorse proposed Section 902, which would make it clear that a return filed by the Service under Code Section 6020 is not a return for purposes of the failure to file penalty imposed under Section 6651, but is a return for purposes of the failure to pay penalty imposed under that Section.

3. Retroactive Regulations (Section 903)

a. Overview of Present Law

The Federal tax system is a complex system which is established by statute and fleshed out by a body of published guidance. The published guidance takes many forms, including regulations, revenue rulings, private letter rulings, revenue procedures, technical advice memoranda, actions on decisions, notices and announcements. The published guidance is vital to the efficient, effective operation of our tax system.

One of the most important forms of published guidance available to taxpayers and practitioners alike is the Treasury regulation. Treasury regulations are administratively promulgated rules which provide guidance concerning how the Internal Revenue Code will be interpreted and applied.

Historically, Treasury regulations have been classified into several categories. Treasury regulations are categorized as interpretive (or, in the parlance of the Administrative Procedure Act, interpretive) regulations, legislative regulations and procedural regulations. These categories are important because the legal principles that determine how a regulation must be promulgated depend upon the category into which a particular regulation falls.

The process by which Federal regulations must be promulgated is defined and controlled generally by the Administrative Procedure Act ("APA"), a statute enacted originally in 1946 to introduce greater uniformity of procedure, standardize administrative practice among Federal agencies, and facilitate judicial review of administrative action. E.g., Shaughnessy v. Pedreiro, 349 U.S. 48 (1955); Wong Yang Sung v. McGrath, 339 U.S. 33 (1950), modified on other grounds. 339 U.S. 908 (1950). The APA generally requires Federal agencies to publish a general notice of proposed rule making ("NPR") before a legislative regulation may be promulgated in the Federal Register (5 U.S.C. � 553(b)). An NPR is not required, however, for "interpretive" rules, general statements of policy, or rules of agency organization, procedure, or practice, or when an agency, for good cause, finds that notice and the resulting public procedure are "impracticable, unnecessary or contrary to the public interest" (and the agency incorporates the finding and the reasons for it in the rules issued) (5 U.S.C. � 553(b)(A)-(B))

After the required notice is given, the agency must give interested persons the opportunity to participate in the rule making process (5 U.S.C. � 553(c)). After the process is completed, the agency may promulgate the regulation. However, the regulation must be published not less than 30 days before its effective date unless:

(i) the regulation is a substantive rule which grants or recognizes an exemption or relieves a restriction;

(ii) the regulation is an "interpretive" rule or statement of policy; or

(iii) the agency otherwise provides for good cause found and published with the regulations.

5 U.S.C. � 553(d).

Under the APA, retroactive rules are disfavored. E.g. Bowen v. Georgetown University Hospital, 488 U.S. 204 (1988); Iowa Power and Light Co. v. Burlington Northern, Inc., 647 F.2d 796 (8th Cir. 1981), cert. denied, 466 U.S. 949 (1984). In fact, by reason of 5 U.S.C. � 553(d), a substantive rule cannot be retroactive unless it fits within one of the exemptions set forth in paragraphs (1)-(3) of 5 U.S.C. � 553(d). As a general proposition, however, interpretive rules generally and substantive rules for good cause may be retroactive even under the APA.

In the tax area, unlike other areas of Federal rule making governed solely by the APA, retroactivity is not disfavored. Section 7805(b) of the Code provides that the Secretary may prescribe the extent, if any, to which regulations shall be applied without retroactive effect. Rather obliquely, Section 7805(b), as presently drafted, presumes that a final regulation will be applied retroactively unless Treasury specifically states otherwise.

Some form of Section 7805(b) has been in existence since 1921. Originally, the authority to apply a regulation solely on a prospective basis was limited to a situation where a regulation or Treasury decision was reversed by a subsequent regulation or Treasury decision (Revenue Act of 1921, � 1314; see also, "Report on Exercise by the Treasury Department and the Internal Revenue Service of the Authority Granted by Internal Revenue Code Section 7805(b) to Prescribe the Extent to Which Tax Rulings or Regulations Shall Be Applied Without Retroactive Effect," 42 Tax Law. 621, 622-624 (Spring, 1989) ["the Section 7805(b) Report"]). Section 506 of the Revenue Act of 1934 amended the provision to expand the authority for prospective treatment to all rulings, regulations or Treasury decisions without regard to whether they amended or reversed prior ones. Id. In its present form, Section 7805(b) confers broad discretion on Treasury to authorize prospective effective dates for rulings, regulations and other types of guidance.

The authority conferred upon Treasury by Section 7805(b) has been the subject of considerable commentary over the years. E.g., John Nolan and Victor Thuronyi, "Retroactive Application of Changes in IRS or Treasury Department Position," 61 Taxes 777 (1983); the Section 7805(b) Report, supra and articles cited therein. Although some problems were identified, several commentators, based on rather extensive studies of Treasury's practice, have concluded that Treasury and its designee, the Service, generally have acted responsibly and reasonably in determining effective dates for regulations under Section 7805(b). E.g., The Section 7805(b) Report, supra at 632; Nolan and Thuronyi, supra at 787.

b. H.R. 661

Section 903 would amend Code Section 7805(b) as follows:

(1) Except to the extent authorized by statute, any temporary, proposed, or final regulation must apply prospectively from the earliest of the following dates:

(a) The date on which such regulation is filed with the Federal Register;

(b) In the case of any final regulation, the date on which any proposed or temporary regulation to which such final regulation relates was filed with the Federal Register;

(c) The date on which any notice substantially describing the expected contents of any temporary, proposed, or final regulation is issued to the public.

(2) Treasury may provide that a temporary or proposed regulation may be applied retroactively to prevent abuse or to correct a procedural defect in the issuance of a prior regulation.

(3) Treasury also may provide for a taxpayer to elect to apply a temporary or proposed regulation retroactively from the date of its publication.

(4) Regulations relating to internal Treasury Department policies, practices or procedures also may be applied retroactively.

(5) Congress may supersede the general rule requiring prospectivity by authorizing the Secretary to prescribe the effective date with respect to a statutory provision.

(6) Treasury may prescribe the extent to which rulings including judicial decisions or administrative determinations as well as regulations relating to Internal Revenue laws shall be applied without retroactive effect. ( As discussed below, the Tax Section opposes the proposed wholesale change in Section 7805. However, we do not object to this particular change to the extent its intent is to clarify the language of Section 7805(b) allowing the Secretary to inform taxpayers of the retroactive or prospective treatment of court decisions as well as administrative decisions and regulations.)

c. Tax Section Comments Concerning the Proposed Amendment to Section 7805(b)

The Tax Section has had a long-standing interest in the process by which tax regulations are promulgated. ( For prior analyses of this subject, see Tax Section Recommendation 1974-A-19, 27 Tax Law. 940 (1974), and Tax Section Recommendation 1978-A-8, 31 Tax Law. 1465. 1978.) It appears that the proposed amendment to Section 7805(b) is a response to perceptions in the minds of its proponents that Treasury on occasion has not properly exercised its authority to determine the effective date of its regulations. Although we do not dispute that regulations have been promulgated from time to time which have had inappropriate retroactive effective dates, we do not believe that the problem is so acute that it warrants a complete restructuring of the operating rules governing the effective dates of tax regulations. We are very concerned that such a radical departure from existing law could have unintended adverse consequences for the administration of the tax laws. We also are concerned that the proposed amendment to Section 7805(b) does not adequately consider or resolve issues concerning the relationship of Section 7805(b) to the APA and may even create some issues that do not exist under present law. At a minimum, if this proposal is adopted by the Subcommittee, it should deal directly with the issue of how Section 7805 and the APA should interrelate.

Unless and until the Treasury and the Service are exempted from the definition of "agency" contained in the APA (5 U.S.C. � 551(a)), the APA applies to the promulgation of certain Treasury regulations. Under 5 U.S.C. � 553(d), a regulation must be published not less than 30 days before its effective date unless it is a substantive rule which grants or recognizes an exemption or relieves a restriction, an interpretive rule, a statement of policy or a regulation covered by the good cause exception. The proposed amendment to Section 7805(b) appears to ignore the provisions of the APA (particularly those set forth in 5 U.S.C. � 553(d)) and, in fact, would establish a completely separate and distinct rule concerning effective dates for tax regulations which otherwise would appear to be subject to the provisions of the APA. The amendment is less favorable to taxpayers than the APA rule because it arguably would permit a regulation that might otherwise be covered by the APA to become effective from the date of its publication, not at least 30 days after its publication date as required by the APA. We oppose such a result. If the APA applies to tax regulations, as we believe it does, the Code should not contain rules which undercut the provisions of the APA, at least without specifying how those rules relate to the requirements of the APA.

While it is certainly true that many tax regulations are classified as interpretive and, therefore, not subject to the APA's notice and comment procedures, we believe that Treasury generally has attempted to balance the need for fairness with the desire to achieve uniformity in its application of the law to taxpayers. Treasury has struggled in recent years to find ways of providing timely guidance while, at the same time, foreclosing the use of planning techniques designed to circumvent the requirements of the law. It has resorted increasingly in recent years to the use of temporary regulations and notices in an effort to fill the gap occasioned by the need to prepare, propose and finalize regulations giving due regard for notice and opportunity for comment to taxpayers. Although some have complained vociferously about the use of temporary regulations that are effective immediately or even retroactively to the effective date of the underlying statute, many in the practitioner community are equally vociferous about the need for more guidance and greater certainty more quickly.

We are concerned that the proposed amendment to Section 7805(b) will slow the issuance of published administrative guidance thereby creating even more of a problem for taxpayers and practitioners than the occasional (and often debatable) case of abuse in regulatory effective dates. As a policy matter, such a result would be catastrophic given the complexity of our tax laws, the frequency with which they are changed, and the crying need for timely guidance in interpreting and applying the tax law.

d. Conclusion

The Tax Section urges the Subcommittee to reject the proposed amendment to Section 7805(b) contained in Section 903. The rules applicable to the effective dates of tax regulations should not be changed without a careful study of what the Service and Treasury have done in the past in establishing regulation effective dates, a determination of how the APA impacts on the promulgation of tax regulations generally, and a determination of the impact of any change on the administration of the law. We believe that a provision similar to Section 903 cannot be justified at least without a clear showing that the abusive cases of retroactivity, if any, are the norm rather than the exception.

In our view, a blanket restriction on retroactivity is unwarranted. Given the limited available resources, the Service and Treasury need a reasonable period of time to issue regulations. If regulations are timely issued, they should apply to all taxpayers similarly situated. If there are abuses resulting from the use of retroactive effective dates, it may be preferable to limit the period of time following enactment during which the Treasury could promulgate a retroactive regulation. Certainly the Congress has the ability to take such action on a case-by-case basis as part of the consideration of specific pieces of proposed tax legislation.

Just as both Houses of Congress have recognized the unique status of tax regulations in the current consideration of proposals relating to a regulatory moratorium and changes in the regulatory process, we think the Subcommittee must consider very carefully any proposed change in Section 7805(b).

4. Notice regarding credit of tax payment (Section 904)

Section 904 would require the Service to give prompt notice of the fact that it is unable to credit properly a payment received from a "taxpayer." We endorse this provision but recommend that its scope be expanded to any "person" making such a payment. There are instances in which payments are made by third parties on behalf of a taxpayer, and we believe notice of inability to credit such payments is, if anything, an even more important requirement than notice with regard to taxpayer payments.

5. Certain Civil Damage Actions (Section 905)

Section 905 would allow taxpayers to bring a civil action for damages against the Government in cases where any Federal Government officer or employee intentionally compromises the determination or collection of any tax due from an attorney, C.P.A., or enrolled agent representing a taxpayer in exchange for information conveyed by such taxpayer to such professionals for purposes of obtaining tax advice. This civil action would be the exclusive remedy, and damages would be limited to the lesser of $500,000 or actual, direct economic damages plus costs. The action must be brought in District Court within two years of the date the actions creating the liability could have been reasonably discovered. An exception is provided and no remedy is provided for information conveyed for the purpose of perpetrating a fraud or crime.

We endorse the objective of this proposal which is designed to prevent Government employees from intentionally compromising tax liabilities in exchange for tax information. In addition to providing for a civil damage action, the Committee should consider whether to prohibit the use by the Internal Revenue Service of information obtained through enticement.

The Internal Revenue Service also frequently obtains the same information from more than one source. Therefore, language should be added to allow for a civil action in the case of enticement, even if the same information is independently obtained from other sources as well.

J. Forms Modifications (Sections 1000-1003)

We endorse these provisions which would provide for additional information in or accompanying various forms and instructions and which deal with notifications of changes of address.

In the case of a change of address, we note that a number of courts have held that in order to comply with the requirement of mailing to the taxpayer's last known address, the Service must make a reasonable review of its own computer records, and in one instance, was required to demonstrate whether it had updated its central computer file in a timely manner. We believe that if a taxpayer gives the Service notice of a change of address in the manner specified by the Service, the Service should be deemed to have notice of that address after a specified period of time. We do not believe the matter should be left to litigation as to the reasonableness of the time period within which the files were actually updated. In this regard, under current procedures, we recommend that the new address be treated as the taxpayer's last known address not more than 60 days after the notice of change has been mailed, as evidenced by notice of certification or registration of mailing, or by a legible U.S. post office postmark.

III. Proposed Shift in Burden of Proof (H.R. 390)

Finally, Madame Chairman, I would like to discuss another matter that we think is of extreme importance to future tax administration, namely, the proposal in H.R. 390 to shift the burden of proof in tax cases.

H.R. 390, 104th Cong., 1st Sess. (1995), would amend the Internal Revenue Code to place the burden of proof on the Secretary of the Treasury in all court proceedings involving tax matters. Specifically, the bill would add a new section to the Code, entitled "Burden of Proof," which would provide as follows:

"Notwithstanding any other provision of this title, in the case of any court proceeding, the burden of proof with respect to all issues shall be upon the Secretary." H.R. 390, � 1(a).

Under this provision, the Government would bear the burden of proof in all tax litigation, whether before the Tax Court, the Federal district courts, or the Court of Federal Claims, and regardless of the nature of the cause of action. ( The Code provides for numerous causes of action in addition to Tax Court proceedings, tax refund suits, and collection actions. See 26 U.S.C. �� 7401-7433. For example, Section 7431 provides a cause of action against the government for wrongful disclosure of tax return information, Section 7426 provides non-taxpayer third parties a cause of action for wrongful levy. Section 7428 provides an action for declaratory judgment that an organization is tax exempt, Section 7430 provides for costs and attorneys' fees, and Sections 7432-7433 allow for certain damage actions to be brought against the United States for certain improper administrative collection activity. Because the bill applies to "any court proceeding," it would modify the burden of proof in cases brought under these provisions.)

The bill would reverse current law, which generally provides that the burden of coming forward with the evidence and the ultimate burden of proof rest on the taxpayer with respect to the correctness of the tax liability in question or other claims against the Government. The proposed legislation is explicit in stating that the Government would bear the burden of proof on all issues. The bill's directive that the new burden apply to "all issues" also appears to abrogate the presumption of accuracy that courts traditionally have accorded the Commissioner's tax deficiency determinations.

The Tax Section is of the view that the proposal to shift the burden of proof to the Government in all tax proceedings will have a potentially dramatic adverse effect on tax administration generally and tax compliance specifically and, therefore, as more fully discussed below, we strongly oppose H.R. 390.

A. Allocation of the Burden of Proof - Current Law

1. General

The allocation of the burden of proof to the taxpayer in Federal civil tax litigation has a long history and reflects the practical factors involved in tax administration. In the Tax Court, the allocation of the burden of proof dates to the creation in 1924 of the Tax Court's predecessor, the United States Board of Tax Appeals. B.T.A. Rule 20, 1 B.T.A. 1290 (1924) ("Upon hearing of appeals the taxpayer shall open and close and the burden of proof shall be upon him."). Similarly, in tax refund litigation, the allocation of the burden of proof to the taxpayer-plaintiff has its basis in the common law principle that a claimant seeking recovery of money in court has the burden of proving that the defendant actually owes the money. See Lewis v. Reynolds, 284 U.S. 281, 283 (1932); United States v. Rexach, 482 F.2d 10, 16 (1st Cir. 1973); Compton v. United States. 334 F.2d 212, 216 (4th Cir. 1964).

2. Burden of Proof in the Tax Court

Under Tax Court Rule 142, (Pursuant to Code Section 7453, the Tax Court may promulgate rules of practice and procedure, but not rules of evidence. 26 U.S.C. � 7453.) the burden of proof generally rests on the taxpayer to prove each element of his or her case by a preponderance of the evidence. The Commissioner's tax deficiency determination carries a presumption of correctness, and the taxpayer has the burden of proving that the deficiency is incorrect. A distinction exists between the presumption of correctness and the burden of proof. The presumption of correctness requires the taxpayer initially to produce competent evidence that the deficiency determination is incorrect. If the taxpayer does not come forward with this evidence, the Tax Court will uphold the deficiency. Once the taxpayer comes forward with evidence that the deficiency is incorrect, the burden of going forward with evidence shifts to the Commissioner. The ultimate burden of persuasion, however, remains on the taxpayer, who must establish his or her claim by a preponderance of the evidence.

3. Burden of Proof in Tax Refund Litigation

As in the Tax Court, when a taxpayer sues for a refund of tax in a United States District Court or the United States Court of Federal Claims, the taxpayer must overcome the presumption of correctness that attaches to the Commissioner's determination and, in addition, must establish the correct amount of the refund due. United States v. Janis, 428 U.S. 433, 441 (1976); Compton v. United States. 334 F.2d 212, 216 (4th Cir. 1964). This allocation of the burden of proof in tax refund litigation has its genesis in the common law. That is, the courts have repeatedly held that a tax refund suit is like the common law action of assumpsit or unjust enrichment. Stone v. White, 301 U.S. 532, 534 (1937); Compton, supra at 216 (citing Taylor v Commissioner. 70 F.2d 619, 620 (2d Cir. 1934) (Hand, J.)). In order to prevail in this type of action, the plaintiff must prove that the defendant is actually holding money or property that belongs to the plaintiff resulting in unjust enrichment of the defendant.

4. Under Current law, the Burden of Proof Rests on the Government in Certain Circumstances

Under current law, the burden of proof is upon the Government in certain specific circumstances where policy and other considerations so dictate.

• The Code provides that the Government has the burden of proof on issues involving fraud with intent to evade tax or the knowing conduct of tax-exempt foundation managers, trustees, or organization managers concerning prohibited transactions (Code Section 7454).

• In deficiency litigation in the Tax Court, the Commissioner has the burden of proof with respect to (1) new matters, increases in deficiencies, or affirmative defenses that are raised for the first time by the Commissioner in her answer to the taxpayer's petition; (2) the liability of a transferee as a result of the receipt of property from a transferor-taxpayer; and (3) certain deficiencies relating to the accumulation of corporate earnings and profits beyond the reasonable needs of the business. (Code Sections 534, 6902; Tax Court Rule 142.)

These assignments of the burden of proof to the Government generally are based on the rationale that the Internal Revenue Service has possesses all of the underlying facts in these circumstances and the assertion of these issues impose particular hardships upon a taxpayer.

Finally, even in the context of tax deficiency and refund litigation, the courts have eased the taxpayer's burden of proof in individual cases where the Government has taken some action that interferes with a taxpayer's ability to satisfy that burden. For example, in a case where the Government seized and then lost the taxpayer's business records, the taxpayer was permitted to offer testimony on the records in support of its position, and the Tax Court could infer that the records were as the taxpayer testified. Andrew Crispo Gallery. Inc. v. Commissioner 16 F.3d 1336, 1343-44 (2d Cir. 1994). In another example, the Government admitted that it had lost or destroyed all of the evidence underlying the assessment, including the taxpayers' own records, and the court found that the taxpayers had met their burden of establishing that the assessment was arbitrary and unenforceable. Coleman v. United States 704 F.2d 326, 329 (6th Cir. 1983).

B. Tax Section Comments - The Current Allocation of the Burden of Proof Encourages the Efficient Administration of the Tax System

The general allocation of the burden of proof to the taxpayer is consistent with our self-assessment system of tax administration, which relies on the taxpayer to maintain the necessary records to report accurately his or her income and expenses on a tax return at the end of the year. See Code Section 6001 ("Every person liable for any tax . . . shall keep such records, render such statements, make such returns, and comply with such rules and regulations as the Secretary may from time to time prescribe.").

Accurate records, of course, are critical to resolving tax controversies, whether during the audit and administrative appeals processes before the Internal Revenue Service or in the courts. Because the taxpayer generates and is responsible for maintaining his or her business and other tax records, the taxpayer is in the best position to prove the amount of his or her income. Thus. the allocation of the burden of proof to the taxpayer ensures that taxpayers maintain accurate records and promotes the efficient administration of the tax system and the resolution of tax controversies.

Placing the burden of proof on the Government in tax litigation would require the Government to produce the business records, testimony or other evidence necessary to demonstrate the taxpayer's tax liability. This would place the Government at a fundamental disadvantage and likely would have three distinct effects on tax administration:

(1) Taxpayers might be inclined to be less forthright in preparing and filing their tax returns and, notwithstanding the potential for civil penalties (for which the Government would have the burden of proof), we predict that taxpayers would take more aggressive positions on their returns.

(2) Because taxpayers would have less incentive to volunteer the evidence supporting the positions reported on their returns, the Service would be forced to use its administrative summons power more frequently and intrusively during the audit process to gather the necessary information to support its determinations.

(3) More taxpayers would litigate the Service's audit determinations, particularly in the Tax Court where prepayment of the contested amount is not required.

The potential consequences of these effects on tax administration could be very dramatic. We would expect that the Internal Revenue Service no longer would be able to assure general compliance with the tax laws, the high level of tax compliance in the United States would decrease -- perhaps substantially -- and the revenues collected by the Federal Government from income and other taxes likely would correspondingly decrease, perhaps substantially. In a nutshell, this single change in the law could further significantly complicate the fiscal condition of the United States.

Madame Chairman, permit me to thank you again for including the Tax Section in this important Subcommittee hearing. This concludes my prepared remarks. I would be pleased to answer any questions.