The threat of parallel investigations: when civil isn't civil.

• Author: Andreozzi, Justin J.

PREVIEW

* The IRS's move in recent years to performing coordinated "parallel" civil and criminal investigations to save time and duplication of effort has increased the danger to taxpayers of unwittingly providing the IRS damaging information for a criminal prosecution.

* Courts have held that while the IRS cannot actively mislead a taxpayer about a criminal investigation, it generally is not obligated to tell a taxpayer when a criminal investigation has been opened in parallel with a civil investigation.

* In light of the uncertainties presented by this IRS practice, CPAs must carefully weigh the options of how to proceed in certain, more susceptible civil investigations to best protect their client's interests in both the civil and criminal investigations.

Government investigations of tax shelter promoters and their clients have increased pressure on practitioners to consider the practical consequences of aggressive enforcement of tax laws. (1) The publicity generated by the prosecution of tax cheats enhances the IRS's ability to encourage taxpayers to comply with their obligations under the Internal Revenue Code. (2) Numerous provisions of both the Internal Revenue Code and Title 18 of the U.S. Code criminalize tax evasion, filing false returns, and other improprieties in tax reporting and payment. These statutes and their civil counterparts constitute a formidable governmental arsenal against noncompliant taxpayers, (3) providing sanctions that can range from monetary penalties to imprisonment.

To hone these tools, the IRS has taken procedural steps to enhance its tactics in enforcing the federal tax laws. (4) One particularly intriguing development has been so-called parallel investigations. The IRS first devised this strategy to expedite the processing of civil and criminal investigations of the same taxpayer by allowing them to be conducted simultaneously. Traditionally, when a civil agent deems a taxpayer worthy of criminal investigation, the civil exam is frozen and the criminal matter proceeds to its conclusion. The gradual evolution of parallel investigations, however, has generated extensive interaction between criminal and civil enforcement personnel, with consequences that range from trivial inconveniences to much more serious landmines such as a tax adviser's unwittingly waiving a client's constitutional rights. (5) Such prospects, which represent truly worrisome potential pitfalls to the unwary practitioner, highlight the shifting landscape of tax practice and procedure in which tax advisers must exercise greater care in protecting their clients' interests.

This article examines recent developments in parallel investigations as they have been reinvented over the past decade. (6) This article also describes the leverage parallel investigations give IRS agents in their investigatory work and discusses practical situations where the agents may blur the fines between their rights and obligations in both civil audits and criminal investigations. It further offers advice for tax advisers as they shift their strategies in audits and other interactions with the government from trust-based communications designed to foster fair resolution of tax issues to those of police-type investigations, requiring appropriate protection of client rights.

Who's Who Within the IRS

To navigate the roads in parallel investigations, it helps to understand the role of some of the key IRS players:

Revenue officer: A revenue officer is assigned to collecting taxes that have already been assessed. A revenue officer may, among other things, file notices of federal tax lien and levy wages or bank accounts. The revenue officer's responsibilities are civil.

Revenue agent: A revenue agent audits tax returns. The revenue agent is trained to find unreported income and to examine the propriety of deductions and credits claimed on tax returns. Similar to the revenue officer, the revenue agent's responsibilities are civil.

Special agent: A special agent conducts criminal investigations of issues such as willful attempts to evade taxes or otherwise defraud the U.S. Treasury. When necessary, a special agent recommends prosecution of such violations to the U.S. Attorney's Office, which is part of the Department of Justice (DOJ). The IRS itself does not have the authority to prosecute tax crimes; its role in the courtroom is strictly civil. (7)

Revenue agents and revenue officers are tasked with determining or collecting the true and correct amount of tax owed. They work as an advocate for the IRS toward the correct disposition of tax cases under the law. These agents can close cases as "unagreed," which means those cases will move on to the IRS Appeals Division for settlement discussions or to IRS or DOJ lawyers for litigation on the merits. However, revenue agents and revenue officers work hard to resolve cases at their level. Knowing this, experienced tax practitioners traditionally do their best to work cooperatively with the revenue agents and revenue officers and comply with informal or formal requests for information.

Working with a special agent, however, is a radically different prospect. The special agent's presence means that the client is being investigated for a crime, and any information the special agent can generate may form the basis of future criminal charges. In this realm, a practitioner must be careful to protect the client's Fourth Amendment right against unlawful searches and seizures and Fifth Amendment right against self-incrimination, because any evidence provided voluntarily can be used against the client. The Internal Revenue Manual (IRM) instructs special agents to inform a taxpayer of his or her rights before conducting questioning, so as to avoid violating the taxpayer's constitutional rights. (8) Significantly, revenue officers and revenue agents are not required to take this step (9) because the information they gather is intended for civil use only. This distinction, when overlaid upon parallel investigations, exposes the troubling constitutional issues raised by using IRS civil agents for criminal prosecution.

Tweel and Parallel Investigations

The IRS may conduct its civil investigation before, during, or after any criminal investigation of the same taxpayer. If the investigation is conducted simultaneously with the criminal investigation, the process is referred to in the IRM as a parallel investigation. (10) The words "simultaneous" and "parallel" imply the two investigations are conducted at the same time but are unconnected--as with parallel lines. However, this is not how the IRS conducts its parallel investigations. (11) While the IRM stresses that parallel investigations are not "joint investigations," it does require "significant coordination" throughout the civil investigation and litigation processes. (12) In practice, this means the criminal and civil agents communicate, confer, strategize, and share information throughout their investigation.

Parallel investigations were first devised by the IRS as a way to speed up the process of civil and criminal investigations by allowing them to be conducted simultaneously, with information passing freely between both. This allowed civil agents to make criminal referrals of cases as necessary, without always having to suspend audits or seek extensions of statutes of limitation on their civil examinations. It also facilitated a more thorough development of cases. However, abuse of the parallel investigation format generated serious constitutional questions (13) that the Fifth Circuit examined almost 40 years ago in the landmark case Tweel. (14)

Tweel involved a criminal tax conviction stemming from a civil audit conducted by a revenue agent. At the beginning of the audit, the accountant for the defendant-appellant, Nicholas Tweel, suspicious of the revenue agent's motives, asked the agent whether a special agent was also investigating. The revenue agent truthfully replied that no special agent was involved but did not mention that the audit was being conducted at the specific request of the Organized Crime and Racketeering Section of the DOJ. Assuming the investigation was strictly civil, Tweel's accountant voluntarily gave the revenue agent certain records in an attempt to resolve the amount of tax owed. The revenue agent copied the records for use in a criminal prosecution. In the later criminal case, Tweel's attorneys moved to suppress the records, arguing that the government conducted an illegal search in violation of the Fourth Amendment because the accountant's consent to produce the records was obtained through deception. (15)

A taxpayer who consents to a search cannot later argue the search was unreasonable under the terms of the Fourth Amendment. (16) However, the Tweel court noted that "a consent search is unreasonable under the Fourth Amendment if the consent was induced by the deceit, trickery or misrepresentation of the Internal Revenue agent." (17) The court found that the revenue agent's failure to apprise Tweel's accountant of the criminal nature of the investigation constituted a deliberate deception. "Because the IRS requires only special agents to warn taxpayers of their rights, by assigning a revenue agent the IRS still succeeded in masking the undeniable criminal nature of this investigation and materially deceived this appellant," (18) the court said, adding, "We cannot condone this shocking conduct by the IRS. Our revenue system is based upon the good faith of the taxpayers and the taxpayers should be able to expect the same from the government in its enforcement and collection activities." (19) The court recognized the consequences of IRS audit tactics that prevent tax advisers from effectively and efficiently resolving tax matters while protecting client rights.

Tweel precludes the IRS from pursuing a criminal investigation under the guise of a civil examination, as such conduct deceives a taxpayer into...