Current Federal Tax Developments

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Despite Apparent Issues in the IRS Records, IRS Properly Applied Overpayment to Earlier Year

In the case of Luque v. Commissioner, TC Memo 2016-128 the taxpayers had overpaid their 2011 tax. However, between the time the taxpayers filed a 2011 return in April of 2012 and when the IRS determined that the tax for 2011 was higher than that reported, the original overpayment amount had been applied by the IRS to an outstanding liability the taxpayers had for 2009.

At trial the IRS conceded that there was, in fact, no underreporting of tax for 2011 and so that the Tax Court should rule at this point that there is no tax due nor any overpayment on the 2011 return. The taxpayers, while agreeing they did not owe anything to the IRS wanted the Court to order the IRS to pay them the amount of the 2011 overpayment.

The IRS countered that the Tax Court had no jurisdiction to rule on the propriety of the application of the overpayment—but the Tax Court disagreed and found it had jurisdiction. However, unfortunately for the taxpayer the Court did find the IRS had properly applied the overpayment claimed to the 2009 tax.

The taxpayers argued that the IRS’s authority to apply an overpayment to a prior year’s tax does not come into being until there has been a final determination of the taxpayer’s tax since no overpayment would exist until that time.

The Tax Court disagreed with that view, holding:

Section 6402(a) applies to the crediting of refunds shown on a return even before any final determination of the taxpayer’s tax liability for the year covered by the return. In Savage v. Commissioner, 112 T.C. at 48-49, for example, we concluded that, after relying on section 6402(a) to apply a taxpayer’s overpayment for one year against the taxpayer’s liability for another year, “the Commissioner is not precluded from subsequently determining a deficiency for the taxable year in respect of which the overpayment was originally claimed and allowed.” See also sec. 301.6402-3(a)(5) and (6), Proced. & Admin. Regs. (allowing a refund shown on a return to be credited under section 6402 against any outstanding tax liability of the taxpayer). Obviously, if the Commissioner can still determine a deficiency for the taxable year that generated the credit, the overpayment initially credited under section 6402(a) cannot have been based on a final determination of the taxpayer’s tax liability for that year.

But, the Court noted, it could review whether, in fact, the IRS had actually applied the overpayment. And it did note some apparent inconsistencies in the IRS’s records:

Respondent alleged in his motion, however, that “[p]etitioners filed their 2011 tax return late, and respondent processed the return on May 21, 2012.” Petitioners fairly ask how respondent could have credited the overpayment shown on their 2011 return to their 2009 account before processing that return. Moreover, because petitioners’ 2011 return would have been timely if filed on April 17, 2012 (April 15 having fallen on a Sunday and April 16 having been a holiday in the District of Columbia), if they filed their return late, as respondent alleged, the 2011 Form 4340 on which he relies would show the crediting of the reported overpayment as having occurred even before petitioners filed their return.

The Court asked the IRS to explain the records they had submitted in light of this apparent problem of applying a refund before they actually had a return in hand.

The IRS did offer up an explanation for the file, as follows:

1. For the purposes of the application of the overpayment credit, the overpayment is considered available for offset on its availability date, which is determined by the payments constituting the overpayment. See Internal Revenue Manual (IRM) pt. (Sept. 3, 2010).

2. In accordance with section 6513(b), the Internal Revenue Service (IRS) credits withholding to a taxpayer’s account on the date the tax return for that year is due. The credits are applied as of the due date, without regard to any extension of time to file and whether the return is filed timely or late. Id.

3. Therefore an overpayment comprising prepayment credits, such as withholding, is available to be used as an offset as of the date the return is due, even if the return is filed or processed after the due date. This benefits the taxpayer, as the payment will be applied to the account with a liability at an earlier date, preventing some interest accrual.

As well, that year April 15 fell on a Sunday and Monday was a holiday in the District of Columbia. So that leads to another problem—if we accept the IRS is going to apply the overpayment on the due date, why is it their records showed it applied on April 15 rather than the actual due date that year of April 17?

The IRS had an explanation for that as well:

Respondent adds that, in processing returns, even when the last day for filing a return is a Saturday, Sunday, or legal holiday (without distinction, holiday), so that returns filed on the next day that is not a holiday are considered timely, the IRS considers those deemed timely returns as filed on the day on which, without extension, they were due. IRM pt. (2) and (3) (Jan. 1, 2010). For that reason, the due date will appear as April 15 in IRS systems even for years in which the due date is extended because of holidays. That, respondent explains, allows the IRS to avoid reprogramming all of its systems for every year in which a holiday extends the time to file returns.

Thus the Tax Court concludes:

In May 2012, when respondent processed petitioners’ 2011 Federal income tax return, it appeared to respondent that petitioners had made a $4,223 overpayment of 2011 income tax resulting from excess wage withholding for 2011. The withheld tax was deemed paid by petitioners on April 15, 2012, and, as of that date, respondent credited the apparent $4,223 overpayment shown on petitioners’ 2011 return against an assessed liability of petitioners for 2009, which reduced petitioners’ 2011 overpayment to zero. As explained by respondent, and as borne out by the statute, it is immaterial that respondent did not process petitioners’ 2011 return until May 2012. It is also immaterial that petitioners may have filed their 2011 return late, sometime after April 17, 2012, and before May 21, 2012 (which respondent now disclaims). In short, the documentation respondent submitted establishes that petitioners’ $4,223 overpayment of 2011 tax was in fact credited against their 2009 tax liability. For the reasons explained above (and in our prior order), section 6512(b)(4) denies us jurisdiction to review the propriety of that credit.

The case is of general interest for the explanation of how the IRS will handle overpayments and the date of crediting in such cases. That can be important due to the impact on interest and penalties of the exact date on which a payment is determined to have been made against an outstanding tax liability.