ASK THE CALIFORNIA EMPLOYMENT TAX AND PAYROLL TAX ATTORNEY – RELYING ON ERRONEOUS ORAL ADVICE FROM THE A TAXING AGENGY – IS IT A ‘GET OUT OF JAIL FREE’ CARD?
By Robert S. Schriebman
If you have ever played Monopoly, you know about the ‘get out of jail free card.’ There are no penalties and no assessments. Does the same grace apply if you rely upon erroneous oral advice from the EDD, FTB, CDTFA or the IRS?
If you have read and studied the articles on this website concerning the abatement of penalties, you learned that the standard for abatement is reasonable cause. In a nutshell, reasonable cause means that the person seeking abatement must show that he/she acted with normal business-like care and prudence. In this article I will discuss the standard of reasonable cause for reliance on erroneous oral advice from the IRS. I will then discuss provisions of the Internal Revenue Manual for penalty abatement for first time offenses. Thereafter, I will discuss the California rules relating to audit assessment and penalty abatements based on reliance on erroneous oral advice.
Reliance on Erroneous Oral Advice from the IRS
The Internal Revenue Manual (IRM) is a massive publication that discusses and instructs virtually all aspects of how the IRS does business. Chapter 20 of the IRM deals with penalties and their abatement. Subsection 18.104.22.168.3.4.2 discusses the abatement of penalties based upon erroneous oral advice from the IRS. In order for the abatement request to be successful, the taxpayer must have exercised ordinary business care and prudence in relying upon that advice. Most of the time, California adopts the same laws and procedures as set forth in the Internal Revenue Code and the IRM. Therefore, logic would dictate that California penalties would likewise be abated based upon erroneous oral advice. Let’s see if this is true.
First Time IRS Penalty Abatement
This article would not be complete unless I informed you about the IRS program of abatement for first time delinquent penalty assessments. If you had no prior late filing or late payment penalties for the past three tax years, you may be entitled to have the late filing penalty as well as the late payment penalty abated in full. The rules are also found in the IRM at Chapter 20, Subsection 22.214.171.124.3.2.1. the abatement request can be made orally over the phone in response to an IRS notice or in writing addressed to the IRS office issuing the penalty notice.
The Case of Priscilla’s Gourmet Coffee Tea & Gifts, Inc.
Suppose you could sit down with the Commissioner of Internal Revenue and his chief deputies over coffee, and receive advice on how to minimize your exposure to audits. Suppose further, that you could sit down over coffee with the head of the EDD and have an open discussion about how to audit-proof your workers as independent contractors. Would the oral advice from the top prevent audit assessments and constitute reasonable cause for the abatement of audit-related penalties, even if the advice was wrong?
Mark and Shannon Hartman were friendly with Jerome Horton, the then chairman of the California Board of Equalization (BOE now called CDTFA). They received oral advice from Mr. Horton and his key deputies about estimating taxable sales for sales tax purposes. You might say they got it straight from the horse’s mouth. Did that prevent them from being audited? Did that prevent them from receiving an audit assessment? Let’s review their case decided by the Office of Tax Appeals (OTA), (Appeal of Priscilla’s Gourmet Coffee Tea & Gifts, Inc. OTA Case No. 18073393, Jan. 28, 2020).
Back in 2011, the Hartmans opened a coffee-tea-and gift shop in Burbank. They sold food products such as coffee, tea, sandwiches, snacks and miscellaneous gift items including mugs, books and greeting cards. The business opened on July 1, 2011. In this type of business, you are allowed to pay sales tax based upon reasonable estimates of gross sales. Before opening, in February 2011, the Hartmans had several in-person meetings with Jerome Horton and members of his staff to discuss the proper way to estimate sales tax. Horton, et al, advised them to estimate sales tax between 2% and 5% of sales with 2% being too low and 5% being too high. The Hartmans were told to follow the business model of Starbucks. The Hartmans based their estimation on 3.77%. The Hartmans did not separately charge sales tax. The tax was built in to the gross price of the item purchased.
Enter the sales tax auditors: In 2016 the Hartmans were audited by the then SBE. After extensive tests and on-site inspections, the auditors established 15.43% of gross sales were subject to sales tax not 3.77%. The Hartmans had understated sales by $287,000! The Hartmans disagreed with the audit and brought their case before the OTA. There were two issues for resolution:
1. Whether the Hartmans properly relied upon the oral advice given them by Horton et al. If their reliance was reasonable, there should be no assessment.
2. Whether oral advice constitutes reasonable cause for the abatement of interest.
With regard to issue number 1, the OTA found that the Hartmans told the truth about the oral estimation range given to them by Horton. However, reliance upon oral advice does not constitute reasonable cause for abatement of the assessment. R&TC § 6596 only authorizes such relief when there is reliance on written advice. There is no provision under the law that would otherwise allow for relief of taxes, interest, and penalties based on reliance on erroneous oral advice from the SBE. The Hartmans should have gotten a letter from Horton. The OTA found that the auditors were correct on assessing sales tax based upon 15.43% of gross sales. The Hartman’s estimation of 3.77% was too low.
With regard to issue number 2, the OTA is allowed to abate interest due to erroneous oral advice. R&TC § 6593.5. It was reasonable for the Hartmans to rely upon erroneous oral advice from the top person at the SBE. The interest on the assessment was abated.
I am a long-time advocate of paper and getting things in writing. Having said this, I must tell you that if the Commissioner of Internal Revenue or the Executive Director of the EDD sat down with me over coffee and advised me how to take certain positions in representing my clients, I would have the chutzpah to ask them to put it in writing. I have testified twice before the United States Senate and my testimony caused major changes in the tax law. I am the author of Collection Due Process. If I instructed the US Senate what to do, I would have no trouble asking for written directions. I am reminded of a maxim attributed to Samuel Goldwyn of MGM, “An oral contract is not worth the paper it’s written on.”
Robert Schriebman has a successful practice in the Rolling Hills Estates area of Los Angeles County serving clients throughout California and the United States. He has successfully dedicated more than 40 years to helping individual taxpayers, business owners, CPAs, Enrolled Agents, and tax attorneys navigate the complicated tax systems of the federal and state governments. Mr. Schriebman is in private practice. He is not affiliated in any way with the EDD and he is not employed by the EDD or any other agency of the State of California.
Robert Schriebman has written the only 2 books ever published dealing with how California Employment Development Department (EDD) operates. See “California Tax Collection Practice and Procedures” and “California Taxation Practice and Procedure,” both published by Commerce Clearing House.
Robert Schriebman has written over 20 books including the major manual used nationally by practitioners and the IRS, “IRS Tax Collection Procedures – A Manual for Practitioners” published by Commerce Clearing House.
Robert Schriebman has written over 20 books including the major manual used nationally by practitioners and the IRS, “IRS Tax Collection Procedures – A Manual for Practitioners” published by Commerce Clearing House in addition to the only 2 books ever published dealing with how California Employment Development Department (EDD) operates. See “California Tax Collection Practice and Procedures” and “California Taxation Practice and Procedure,” both published by Commerce Clearing House.
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