Tax News and Developments April 2024

In brief

On 22 March 2024, Treasury proposed regulations identifying exceptions to the 45-day advance notice period that the IRS must provide taxpayers before contacting third-parties during audit. 

Key Takeaways

The proposed regulations set forth several circumstances where section 7602(c)’s 45-day advance notice requirements for third-party contacts are materially shortened or eliminated altogether.

These proposed regulations apply to any contacts made 30-days after the publication of the final regulations in the Federal Register. Comments and requests for a public hearing on these regulations must be submitted electronically or in writing by 21 May 2024.

In depth   

The Taxpayer First Act (2019) made several structural changes to the IRS and the Code that—in theory—establish some degree of equilibrium in the audit process and protect taxpayers from (real or perceived) process-related abuses.

One such change was requiring the IRS to provide taxpayers substantive, advance notice before contacting third-parties for information during an exam. Prior to the Taxpayer First Act, section 7602(c)(1) required the IRS to provide taxpayers with “reasonable notice in advance” of making third-party contacts. The IRS previously took the position that it satisfied this requirement by placing boilerplate warnings in “existing IRS notice[s]” provided to taxpayers. See IRM 25.27.1.3.1 (10-19-2017). That notice, IRS Publication No. 1 (Your Rights as a Taxpayer), was included as part of an opening package forwarded to taxpayers at the start of every audit. Unsurprisingly, the policy rendered toothless Section 7602(c)(1)’s intended protections. 

The Taxpayer First Act amended section 7602(c)(1)’s vague “reasonable notice in advance” requirement, requiring the IRS, subject to some exceptions, to definitively inform taxpayers of third-party contacts 45 days prior to the start of a contact period (which cannot exceed 1-year)¹. Amended section 7601(c) also, for the first time, requires the IRS to have an actual intention to contact parties during the relevant period when it issues the notice, foreclosing potential IRS circumnavigation of these protections through mechanical, periodic audit notices: “[t]he IRS may not issue a notice under section 7602(c) unless the IRS intends, at the time the notice is issued, to contact third parties during the period specified in that notice. The IRS may meet this intent requirement based on the assumption that the information sought to be obtained by the contact will not be obtained by other means before such contact.” Like its predecessor, new section 7602(c) excepts from the notice requirement contacts: (1) which the taxpayer has authorized, (2) where the IRS determines for good cause shown that the notice would jeopardize collection of any tax or such notice may involve reprisal against any person; and (3) related to any pending criminal investigation.

On 22 March 2024, Treasury issued proposed regulations for section 7602(c) (REG-117542-22) addressing the Taxpayer First Act amendments and providing further clarifications and additions. The proposed regulations reiterate the amended statutory test, clarifying that the notice to taxpayers must be in writing and specify the period during which the IRS intends to make third-party contacts. Prop. Treas. Reg. § 301.7602–2(d)(1). The proposed regulations, however, go beyond section 7602(c)’s plain text, proposing to shorten the 45-day notice period to 10-days in the following circumstances: 

• Cases where the IRS has the burden of proof. When there is one year or less remaining before the expiration of the statutory assessment period if the case involves an issue in which the IRS would have the burden of proof in any court proceeding (e.g., civil fraud) and the taxpayer has not provided a previously requested executed Form 872, Consent to Extend the Time to Assess Tax, by the requested date.
• Cases involving collection actions. When there is one year or less remaining in the time period (or, in cases involving multiple time periods, “in any time period in the case”) within which the IRS may collect an assessed tax by levy or by a proceeding in court, and either— (A) the IRS intends to refer the case to DOJ to file suit to reduce assessments to judgment or to foreclose Federal tax liens, or (B) the IRS is unable to contact the taxpayer or the taxpayer refuses to pay and the revenue officer concludes that the advance notice period should be reduced in order to maximize the amount of unpaid tax that can be collected by levy.
• Cases where trust fund recovery penalties may be at issue. When the IRS is examining the potential liability for trust fund recovery penalties under section 6672 if there is one year or less remaining before the expiration of the statutory assessment period “for any period included in the investigation”.
• Cases involving a potential nonjudicial sale redemption. When the IRS intends to make a third-party contact in connection with an investigation into a potential nonjudicial sale redemption.

In addition, the proposed regulations eliminate completely the 45-day requirement for fuel compliance audits, permitting the IRS to make third-party contact any time after the third-party contact notice has been given to a taxpayer. 

The proposed regulations, therefore, limit section 7602(c)’s protections, arguably in a manner inconsistent with the statute’s plain text. If finalized in their current form, the regulations may be subject to future controversy.

1  The IRS may issue multiple notices to the same taxpayer for the same tax liability that, taken together, cover an aggregate period greater than one year.