One year later: Practitioner observations on the IRS’s new examination procedures

On Feb. 28, 2014, the IRS issued a Large Business and International (LB&I) Directive, LB&I-04-2014-004, to establish updated procedures for the issuance and enforcement of Information Document Requests (IDRs). The directive made two fundamental changes to the IRS’s examination procedures: (1) a new process to draft and respond to IDRs, and (2) specific procedures for the issuance of a summons. Practitioners’ reactions to this directive were generally ambivalent. While the directive was designed to promote efficiency for taxpayers and the IRS, the directive also established seemingly rigid enforcement procedures, which could strain relationships between taxpayers, the IRS, and practitioners.

Summary of the new LB&I directive

The directive requires meaningful communication between the IRS and taxpayers prior to the issuance of an IDR. As part of this process, IRS agents are now required to submit draft IDRs to taxpayers prior to the issuance of final IDRs. The draft IDRs must be clear, concise, and industry specific, and there should be only one IDR per issue. Taxpayers and the IRS must discuss the issues raised in the draft IDRs and establish a reasonable time for the taxpayer to respond. At this point, the IRS Agent issues a final IDR that must contain a specific due date. If additional time is needed, the directive provides that IRS Agents can grant up to a fifteen-day extension from the due date established in the final IDR.

The directive next establishes an enforcement process for IRS agents to use when taxpayers fail to respond to IDRs. The enforcement process has three graduated steps: (1) a Delinquency Notice on IRS Letter 5077; (2) a Pre-Summons Letter on IRS Letter 5078; and (3) an IRS Summons. The Delinquency Notice and Pre-Summons letters will generally each require a response within ten business days.

Observations on the new LB&I directive

While the effectiveness and administration of these new procedures can vary between IRS agents, the procedures have had a variety of positive effects. First, taxpayers have seen clearer and more pertinent IDRs. IRS Agents no longer issue generic IDRs that request information not applicable to a given taxpayer. IDRs have also been more reasonable in terms of volume of documentation requested. IRS Agents and taxpayers can agree at the draft IDR stage to provide partial submissions to avoid voluminous documentation. Ultimately, more pertinent IDRs are better for both taxpayers and the IRS.

Second, taxpayers and IRS agents have a more established IDR timeline. Prior to this new directive, IDR due dates were more arbitrary, and frequently a point of tension between IRS agents and taxpayers. Because meaningful communication occurs prior to the issuance of a final IDR, taxpayers can communicate to IRS agents reasons why additional time is needed for a particular response. IRS agents also have a better understanding of a taxpayer’s business demands, record retention, and support staff to better determine a reasonable response time.

Third, taxpayers now have numerous opportunities to respond to an IDR before the issuance of a formal summons. Taxpayers can request fifteen-day extensions to respond to IDRs. Failure to timely respond results in the issuance of two letters, each of which will require a response within ten business days. While a timely IDR response is always preferable, the new directive effectively provides twenty-five businesses days after an IDR-established due date for taxpayers to provide the requisite information. As a practical matter, these steps will likely reduce the number of IRS summonses.

The rigidity of the new directive can cause problems for certain taxpayers. IRS agents, in an attempt to precisely follow the directive, may feel compelled to issue a summons, even when good reason exists for the taxpayer’s failure to respond to an IDR. The directive is mandatory for IRS agents without exception. As such, taxpayers may be compelled to escalate extension requests to IRS managers. Taxpayers are, therefore, well-advised to meet deadlines whenever possible to demonstrate a general willingness to cooperate. If the IRS can see a history of cooperation, an IRS manager is more likely to grant leniency when an isolated deadline is missed. Taxpayers should begin to gather requested documentation after a draft IDR is issued, rather than wait for a final IDR. Taxpayers should also be prepared to have meaningful discussions with IRS agents about draft IDRs. Taxpayers and professionals who are mindful of these new procedures will likely obtain better results during IRS examinations.

For more information on this topic, or to learn how Baker Tilly tax specialists can help, contact our team.

The information provided here is of a general nature and is not intended to address the specific circumstances of any individual or entity. In specific circumstances, the services of a professional should be sought. Tax information, if any, contained in this communication was not intended or written to be used by any person for the purpose of avoiding penalties, nor should such information be construed as an opinion upon which any person may rely.  The intended recipients of this communication and any attachments are not subject to any limitation on the disclosure of the tax treatment or tax structure of any transaction or matter that is the subject of this communication and any attachments.

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