The Tax Court had an important holding regarding whistleblower awards on August 3rd in Whistleblower 21276-13W v. Commissioner (it is really hard to come up with bad puns about the case titles when they don’t include the names), where the whistleblower was successful in arguing, over the IRS’s objections, that criminal fines and civil forfeitures collected by the IRS were included in “collected proceeds” for whistleblower awards. This is another IRS loss (seems like they lose all these whistleblower cases), and another case where it looks as though the IRS is actively attempting to thwart the program or minimize payments to whistleblowers. Although I agree the government should not overpay awards, I still get the impression that the IRS has not found the right balance with what to contest in this realm.
In this case, the whistleblower provided information regarding a financial institution*** that eventually pled guilty to conspiring to defraud the IRS, filing false returns, and evading income tax. As penance for its terrible behavior it paid the IRS $74MM and change (damn!) in tax restitution, criminal fines, and civil forfeitures under 18 USC § 3571. The financial institution and the Service agreed that the tax restitution was $22MM, the fine was $22M, and the forfeiture was about $16MM (plus another $16MM previously forfeited).
Before getting to the underlying conflict in this case, it should be noted that Mr. and Mrs. Whistleblower already have had a tough go at getting paid. These folks had already taken at least one stop to the Tax Court in Whistleblower 21276-13W v. Commissioner, 144 TC 290 (2015). We were lucky enough to have Dean Zerbe, the attorney on at least the 2015 case (current case has counsel listed as sealed) and essentially the guru of all that is IRS whistleblower claims, write up that case, which can be found here. The 2015 case was a major case also, where the Service tried to argue the whistleblowers had failed to provide the evidence leading to the collection of tax (somewhat because they had not filed Form 211 very early on), and highlighted the immense importance of de novo review in these cases, as opposed to the abuse of discretion standard argued by the Service. I would encourage everyone to review Dean’s prior post (and we’ll reach out and see if he has any comments on this case also).
Back to the August 3rd holding. All parties agreed the whistleblowers were going to get paid 24%, but they did not agree on what. The whistleblowers argued it should be 24% of the full recovery, but the Service argued it should only be based on the tax restitution. That gave the whistleblowers about thirteen million reasons to ask the Court to clarify.
The Law – Don’t Blow the Statutory Interpretation!
Under Section 7623(b), certain whistleblowers are entitled to mandatory awards if certain requirements are met. That amount can be between 15% and 30% of the “collected proceeds” under (b)(1), which has a parenthetical indicating that is “(including penalties, interest, additions to tax, and additional amounts),” and the sentence further states these amounts can be “resulting from the action (including any related actions) or from any settlement in response to such action.”
As stated above, the Service took the position collected proceeds did not include criminal penalties and civil forfeitures. The Service based this on the claim that Section 7623 should only apply to proceeds assessed and collected under the federal tax laws found in Title 26 of the United States Code. As the fines and forfeitures here were imposed under Chapter 18, they could then not be “collected proceeds” subject to the statute; unlike the restitution, which as per 2010 law can be assessed and collected in the same manner as tax.
The Whistleblowers responded, “screw you, we help you bust a tax cheat and this is how you treat us?” That may be inaccurate, as I did not review the brief. Their position, as summarized by the Court, was that the statute put no such restrictions on payments, and the total amount was a settlement resulting for actions taken by the IRS based on information provided by the whistleblowers.
The Court found the in favor of the whistleblowers, first, finding the statute was clear on its face; there was no restriction on collected proceeds to amounts assessed and collected under Title 26. The Court further noted the statute was expansively written with regard to collected amounts, and the IRS’s narrow reading was improper. With the assistance of statutory construction, the Court found the term “proceeds” to be a “word of great generality.” The Court declined to read limiting language into Congress’ broad language. In addition, the Court stated that “internal revenue laws”, as used in various other places regarding the whistleblower statute, were not limited to those found in Title 26. It gave various examples of this, and then dropped the hammer indicating “perhaps the most telling instance: The very provisions establishing the Whistleblower Office are found outside [Title 26].”
The Court did also highlight an interesting distinction to a similar prior holding, that facially appeared to hurt the whistleblower’s claim. From the Tax Court:
Our holding in this matter is not in conflict with our holding in Whistleblower 22716-13W v. Commissioner, 146 T.C. __, wherein the Court examined the $2 million threshold requirement of section 7623(b)(5)(B). Section 7623(b)(5)(B) provides that for a whistleblower to qualify for the mandatory whistleblower award, “the tax, penalties, interest, additions to tax, and additional amounts in dispute [must] exceed $2,000,000.” … In arguing his case before us, the whistleblower asserted that FBAR penalties constituted an “additional amount” as used in section 7623(b)(5)(B).
We rejected the whistleblower’s assertion. In interpreting what constitutes “additional amounts” we held that the phrase “additional amounts” as it appears in the series in section 7623(b)(5)(B), i.e., “tax, penalties, interest, additions to tax, and additional amounts”, was a term of art. We noted that the phrase “additional amounts” when used in a series that also includes “tax” and either “additions to tax” or “additions to the tax” appeared nearly 40 times in title 26, and when the words were tied together, as they are in section 7623(b)(5)(B), they had a specific technical meaning. We stated we repeatedly have held that the phrase “additional amounts”, which the whistleblower sought to extend to FBAR penalties, “is a term of art that refers exclusively to the civil penalties enumerated in chapter 68, subchapter A” of title 26 which are assessed, collected, and paid in the same manner as taxes.
In reaching our holding, we determined that the wording in the threshold requirement of section 7623(b)(5)(B) (”if the tax, penalties, interest, additions to tax, and additional amounts in dispute exceed $2,000,000”) is different from that of section 7623(b)(1), which provides for an award of a percentage of the collected proceeds (”including penalties, interest, additions to tax, and additional amounts”).
A couple of parting thoughts. This is a major win for whistleblowers, and it will be interesting to see if there is an appeal. On a policy basis, I think this is the right decision. I think a different decision could possibly result in bad outcomes, but I have not researched what I am about to bloviate on. It does not seem inconceivable that the taxpayer, or other prosecuted party, and the government could negotiate the allocation of these amounts in a way that would detriment the whistleblower, who would not be involved in the negotiations. And, the tax may not be the first item recouped by the Service, which could harm the whistleblower. I should note, Jack Townsend beat us to the punch, and already published a write up of this case, which can be found here. As always, a good summary, and a good conclusion, relating to the distinction raised by the Court above to the prior case relating to FBAR collections. Jack states, “it would seem that, in light of this holding, the Tax Court is poised to hold that FBAR penalty collections would clearly be collected proceeds.”
Les also noted that Treasury regulations promulgated in 2014 limit the definition of collected proceeds to “amounts collected under the provisions of title 26, United States Code.” The regulations did not apply in this case, though unless the IRS and Treasury throw in the towel on this, the Tax Court will have to consider it in the future under Chevron. While not written in a Chevron framework, however, this opinion is a strong indication that the Tax Court might strike down the regulatory definition of collected proceeds.
***Correction: I noted in an earlier version that information was provided about a taxpayer and the taxpayer had negotiated the allocation above, but the prosecuted entity here is a bank that assisted other taxpayers in the evasion. Jack Townsend was kind enough to email me about the error, and explain there is a good chance the restitution is an estimated figure and the Service may not know who the underlying taxpayers actually are.