Farhy v. Comm'r

100 F.4th 223

Alon FARHY, Appellee v. COMMISSIONER OF INTERNAL REVENUE, Appellant

No. 23-1179

United States Court of Appeals, District of Columbia Circuit

Argued February 14, 2024

Decided May 3, 2024

Appeal from the United States Tax Court

Francesca Ugolini, Attorney, U.S. Department of Justice, argued the cause for appellant. With her on the briefs were Jennifer M. Rubin and Robert J. Wille, Attorneys.

Edward M. Robbins argued the cause and filed the brief for appellee.

Before: Pillard and Wilkins, Circuit Judges, and Rogers, Senior Circuit Judge.

Pillard, Circuit Judge:

Section 6038(a) of the Internal Revenue Code requires U.S. persons to file information returns reporting their control of any foreign business. Alon Farhy acknowledges that he violated that statutory obligation when he failed to report to the Internal Revenue Service his ownership of Belizean corporations and thus owes the United States government nearly $500,000 in penalties under section 6038(b), which imposes a fixed-dollar penalty for failure to comply with the requirements of section 6038(a). Farhy disputes only the method by which the Internal Revenue Service sought to collect that sum: assessing the penalties owed and notifying Farhy that it will levy his property if he fails to pay them. He contends that the IRS lacks statutory authority for its decades-long practice of assessing and administratively collecting section 6038(b) penalties. As he reads the statute, the government must sue him in federal district court to collect what he owes under section 6038(b). The Tax Court agreed, concluding that the Code does not empower the Service to assess and administratively collect section 6038(b) penalties. We hold that the text, structure, and function of section 6038 demonstrate that Congress authorized assessment of penalties imposed under subsection (b), and so reverse and remand to the Tax Court with instructions to enter decision in favor of the Commissioner.

BACKGROUND

A.

This case is a dispute over the process available to the IRS to enforce U.S. persons' obligations to file tax returns regarding their foreign interests. Can the penalty for failure to file be assessed by the Internal Revenue Service (IRS or Service), or must the Department of Justice sue and obtain a judgment from a federal district court before it can enforce the penalty? To appreciate what is at stake, it helps to understand that the Treasury Secretary's power of "assessment" is the cornerstone of the government's tax collection authority. An "assessment" is the "official recording" of the amount a taxpayer owes the federal government. Polselli v. IRS, 598 U.S. 432, 438, 143 S.Ct. 1231, 215 L.Ed.2d 410 (2023); see also I.R.C. § 6203. The federal tax system largely relies on each taxpayer's self-assessment, meaning the taxpayer's calculation of the amount she owes in a tax return filed with the IRS along with the indicated tax payment. The Commissioner of the Service, to whom the Treasury Secretary's assessment authority is delegated, typically accepts the taxpayer's calculation and formally executes the assessment by "record[ing] the liability of the taxpayer" and crediting payments to that amount. United States v. Galletti, 541 U.S. 114, 122, 124 S.Ct. 1548, 158 L.Ed.2d 279 (2004); accord Direct Mktg. Ass'n v. Brohl, 575 U.S. 1, 9, 135 S.Ct. 1124, 191 L.Ed.2d 97 (2015). When a taxpayer fails to file the requisite return or misstates the amount owed, the Commissioner determines the assessment: It "calculates the proper amount of liability and records it in the Government's books." Galletti, 541 U.S. at 122, 124 S.Ct. 1548.

An assessment's unassuming form as a "bookkeeping notation," Hibbs v. Winn, 542 U.S. 88, 100, 124 S.Ct. 2276, 159 L.Ed.2d 172 (2004) (quoting Laing v. United States, 423 U.S. 161, 170 n.13, 96 S.Ct. 473, 46 L.Ed.2d 416 (1976)), belies its importance. "[I]t is the assessment, and only the assessment, that sets in motion the collection powers of the IRS, powers that include the seizure of assets, the freezing of bank accounts and the creation of liens, all without judicial process." Phila. & Reading Corp. v. United States, 944 F.2d 1063, 1064 n.1 (3d Cir. 1991). Within 60 days of the IRS's assessment of a liability not already paid, the Service must "give notice to each person liable for the unpaid tax, stating the amount and demanding payment thereof." I.R.C. § 6303(a). Then, if the amount remains unpaid, the IRS "can employ administrative enforcement methods to collect the tax," including liens and levies. Galletti, 541 U.S. at 122, 124 S.Ct. 1548. An IRS assessment thus serves as "the trigger for levy and collection efforts." Hibbs, 542 U.S. at 102, 124 S.Ct. 2276.

It is the rare federal tax that can only be recovered through a government-initiated lawsuit. Generally, "all taxes" imposed under the Internal Revenue Code (IRC or Code) are assessable. I.R.C. § 6201(a). That includes "assessable penalties," id., such as those authorized by Chapter 68 of the Internal Revenue Code (titled "Additions to the Tax, Additional Amounts, and Assessable Penalties"), see I.R.C. Ch. 68; see also id. § 6665(a)(1). Chapter 68 penalties cover a range of conduct such as the failure to include required reportable transactions on returns, id. § 6707A, and the failure to file information with respect to certain foreign trusts, id. § 6677(a). But not every tax-related penalty is assessable. The IRC specifies, for example, that civil penalties for willful failure to pay excise taxes related to tobacco products are "to be recovered, with costs of suit, in a civil action." Id. § 5761(a).

Collection actions ensuing from IRS assessments operate largely in the administrative realm with limited opportunities for taxpayers to seek judicial review. Generally, taxpayers can obtain judicial review of an assessed liability by paying the amount in full and then filing a refund suit in federal district court. See Flora v. United States, 362 U.S. 145, 157-58, 80 S.Ct. 630, 4 L.Ed.2d 623 (1960). Recognizing that the pay-first, challenge-later model put judicial review out of reach of taxpayers who could not pay, Congress provided for pre-collection review of assessments in two main circumstances.

First, if an unpaid tax is a "deficiency," the IRS is required to provide the taxpayer an opportunity for judicial review before assessment. The Code defines a deficiency as "the amount by which the [income, gift, estate, or excise] tax imposed . . . exceeds" the sum of "the amount shown as the tax by the taxpayer upon his return" plus any previous deficiency, less "the amount of rebates . . . made." I.R.C. § 6211(a). It thus "does not include all taxes owed by a taxpayer, but only those that are both owed and not reported." Laing, 423 U.S. at 173 n.18, 96 S.Ct. 473. Upon receipt of a notice of deficiency, a taxpayer generally has 90 days within which to petition the Tax Court for a redetermination of the deficiency. I.R.C. § 6213(a). Tax Court decisions are reviewable in federal courts of appeals. Id. § 7482(a)(1). The Service cannot assess the deficiency until the Tax Court's decision is final (or until expiration of the 90-day window to seek Tax Court review). Id. § 6213(a).

Many penalties, however, are not included in the statutory definition of "deficiency." Those exactions are not subject to deficiency procedures, so the IRS can assess them without awaiting judicial review. The IRS must notify the taxpayer of the amount due per its assessment and demand payment. I.R.C. § 6303(a). If the taxpayer fails to pay, the amount due "shall be a lien in favor of the United States upon all property and rights to property, whether real or personal, belonging to such person." Id. § 6321. When the IRS files public notice of the federal tax lien on the taxpayer's property, it must again provide notice to the taxpayer. Id. § 6320(a). Similarly, if the IRS chooses to collect the liability by levying (i.e., seizing) a taxpayer's property or rights to property, it must provide notice to the taxpayer. Id. § 6331(d).

Those lien and levy notices trigger the second main path to pre-collection judicial review. Upon notice of the IRS's filing of a lien or intention to levy property, the taxpayer is entitled to request a Collection Due Process (CDP) hearing, I.R.C. §§ 6320(b)(1), 6330(b)(1), the result of which the taxpayer may challenge in Tax Court, id. §§ 6320(c), 6330(d)(1). A CDP hearing proceeds before the IRS Office of Appeals, id. §§ 6320(b)(1), 6330(b)(1), and lacks the typical hallmarks of a judicial hearing. There are no formal discovery procedures, and the taxpayer has no right to subpoena documents or witnesses. See Treas. Reg. § 301.6330-1 (2006). The hearing may occur through written or oral correspondence rather than a single in-person event. Id. "Indeed, far from constituting a formal hearing," a CDP hearing simply provides the taxpayer "an opportunity for an informal oral or written conversation with the IRS before he must pay a tax." Our Country Home Enters., Inc. v. Comm'r, 855 F.3d 773, 780 (7th Cir. 2017).

In a CDP hearing, the taxpayer may raise "any relevant issue relating to the unpaid tax or the proposed levy," including "appropriate spousal defenses," "challenges to the appropriateness of collection actions," and "offers of collection alternatives" to facilitate his payment of the amount due. I.R.C. § 6330(c)(2)(A). If the taxpayer had no prior opportunity to dispute the tax liability—such as through deficiency proceedings—she may also challenge the "existence or amount of the underlying tax liability." Id. § 6330(c)(2)(B). The appeals officer conducting a CDP hearing must consider (1) the verification from the Service that the agency followed applicable laws and procedures, (2) any challenges raised by the taxpayer, and (3) whether "any proposed collection action balances the need for the efficient collection of taxes with the legitimate concern of the person that any collection action...