Sec. 7491(c)'s burden-of-production requirement for penalties.

• Author: Moore, Philip E.
• Position: Internal Revenue Code; tax penalties

In Higbee, 116 TC No. 28 (2001), the Tax Court ruled that the Service can satisfy Sec. 7491(c)'s burden-of-production requirement for all penalties assessed against individuals, by presenting sufficient evidence in court that the penalty is appropriate. This interpretation creates a minimal requirement and does not shift the burden of proof from the taxpayer to the IRS. The court also interpreted "credible evidence" in Sec. 7491(a), which shifts the burden of proof to the Service if the taxpayer satisfies several conditions.

In general, the courts have long held that a deficiency notice is presumptively correct, and the taxpayer must prove that it is incorrect. However, there are certain specific exceptions in the Code (e.g., fraud), when the IRS has the burden of proof on the issue. In 1998, Congress enacted Sec. 7491, effective for examinations occurring after July 22, 1998. Sec. 7491(a) shifts the burden of proof on any factual issue in any court proceeding from the taxpayer to the Service if the taxpayer introduces credible evidence. In addition, prior to trial, the taxpayer must comply with the recordkeeping and substantiation requirements of the Code and regulations, and also cooperate with the IRS's reasonable requests for documents, witnesses, information and meetings. Sec. 7491(a) applies to income, estate and gift taxes for all individuals, and for corporations, trusts and partnerships with net worth not exceeding $7 million.

Congress enacted Sec. 7491(a) because it believed that individuals and small businesses were at a disadvantage when forced to litigate with the Service. Under Sec. 7491(b), the IRS has the burden of proof for any item of income of individuals reconstructed by it solely through statistics on unrelated taxpayers.

Sec. 7491(c) specifies that, regardless of any other Code provision, the Service "shall have the burden of production in any court proceeding with respect to the liability of any individual for any penalty, addition to tax, or additional amounts imposed by this title." Sec. 7491(c) applies to penalties and additions to tax on all Federal taxes, but only for individuals. Unlike Sec. 7491(a), Sec. 7491(c) does not require the taxpayer to satisfy any conditions. Congress enacted Sec. 7491(c) because it believed that the IRS should not be able to rely on its presumption of correctness if it presents no evidence at trial regarding penalties.

In Higbee, the Service assessed deficiencies averaging over...