The IRS’s admission that it backdated a document in a conservation easement case and misled the US Tax Court about it is threatening to plunge the agency further into the partisan politics of Washington.
It’s a case in which the IRS is under fire for potentially violating the law and attorney professional-conduct rules in its crackdown against a type of investment it has put on its “Dirty Dozen” list of tax scams for several years. The IRS argues that investors have taken billions of dollars in improper deductions.
Hundreds of pages of court records piece together how the agency, probably unnecessarily, spent six years failing to come clean about a paperwork mistake that potentially undercut its efforts to collect a $15 million tax penalty. The IRS says at least 19 officials were involved in Tax Court filings on the penalty issue, including multiple lawyers who reviewed a sworn statement that the agency now admits was inaccurate.
The taxpayer has hired
“This looks like a conspiracy, if you believe the complaint’s allegation,” said Frank Agostino, a former IRS lawyer and Department of Justice criminal prosecutor, who now heads Agostino & Associates. “Owning up to it and losing the penalties in one case would not have affected the mission.”
Conservation Easements
LakePoint, based in Georgia, is one of hundreds of entities formed to create syndicated conservation easements, in which a partnership donates land development rights to a nonprofit and then allocates shares of charitable deductions to investors. The IRS contends that the deductions are often based on highly inflated appraisals of what the donated rights are worth.
As part of its crackdown, the tax enforcement agency has regularly imposed penalties worth 40% of the claimed deduction for large misvaluations and denied entire deductions. Beginning in 2016, the IRS targeted LakePoint’s 2013 and 2014 returns, and in 2017, LakePoint challenged the IRS at the Tax Court.
A central issue of the case, Lakepoint Land II, LLC v. Commissioner, revolves around a requirement in a 1998 law that IRS supervisors give written approval of initial determinations to assess various tax penalties. It’s intended to stop rogue agents from using inappropriate tax penalties as bargaining chips to force taxpayers into settlements.
IRS agent Pamela Stafford and her supervisor, Catherine Brooks, twice failed to include the maximum penalty for a tax misvaluation on documents they exchanged, according to internal emails uncovered by LakePoint’s lawyers and included in the court file. Brooks digitally signed those documents, a penalty form in July 2016 and a penalty lead sheet in November 2016, which meant her signatures included software-generated timestamps.
It wasn’t until Feb. 10, 2017, that Stafford said in an email that she’d failed to get Brooks’s signature on a lead sheet that further specified the IRS was seeking the maximum penalty against LakePoint — $15.2 million, on top of disallowing a $38 million deduction. While there’s no evidence that Stafford’s failure to include the penalty in the version of the lead sheet Brooks had signed in November 2016 was intentional, she tried to rectify her mistake by adding the penalty to a lead sheet dated July 15, 2016. Brooks called the mistake a “HUGE oversight” in an email, but returned the document with her signature typed in at the bottom, along with the notation “penalties were discussed and approved by me – CCB,” and the date “7/16/2016.”
LakePoint was formally notified of the maximum penalty on March 27, 2017, in a document called a final partnership administrative adjustment, according to court documents, though other discussions had occurred earlier.
Stafford and Brooks declined to comment in separate emails to Bloomberg Tax.
While Brooks was a supervisory revenue agent at the time LakePoint was audited, she has since become program manager for eastern compliance at the IRS Large Business & International Division, according to a June 5 IRS court filing.
“This is not just a low-level person who was only involved in one case,” said Armando Gomez, a partner at Skadden, Arps, Slate Meagher and Flom, LLP working for LakePoint.
Probably Unnecessary
At the time of the backdating, there were open questions about how courts would interpret the supervisory approval requirement, including when penalty approval needed to happen. Under two court rulings since then, backdating probably wouldn’t have been necessary.
A September 2022 decision by the US Court of Appeals for the Eleventh Circuit, which sits above the Tax Court and controls LakePoint’s case, indicates that supervisory approval in February 2017 would have satisfied the law. The February approval may also have satisfied a 2019 Tax Court ruling that a penalty is invalid unless approval happens before the taxpayer is formally told what penalties will be sought.
But by the time of those rulings, Brooks had backdated the lead sheet and stood by the false date in her first sworn statement to the Tax Court in August 2022, where she asserted she “signed and approved it on July 16, 2016.” LakePoint is citing the conduct of IRS officials in asking to get its penalty voided.
Brooks admitted in an April 2023 filing that her first sworn statement was incorrect. She apologized to the court, calling it an “unintentional error.” And in June 23, 2023 admissions, the agency conceded that its previous statements to the court “admittedly fall short of the level of excellence and professionalism that the Court has a right to expect” and that it should have “more fully explained the circumstances surrounding the placement of the date” on the penalty form.
However, the agency also said its “actions do not rise to the level of fraud or bad faith,” and that the penalty should stand.
IRS lawyers “knew or should have known” about the false statements “for a long time” and failed to quickly alert the Tax Court, LakePoint’s lawyers claimed. IRS lawyers handed over the relevant emails and attachments in November 2022, but LakePoint alleges that the IRS didn’t answer questions about the emails or initially give information about how the correspondence and the attachments were related.
Shannon Craft, associate area counsel for the IRS’s Large Business and International Division, where Brooks works according to a June court filing, didn’t respond to a phone call and an email from Bloomberg Tax. Elizabeth Flores, senior level counsel at IRS, also did not respond Bloomberg Tax’s phone call or email. Robert Marvin, an IRS spokesman, said the agency doesn’t comment on pending litigation.
It’s not clear why Brooks chose to backdate the penalty lead sheet to July 2016 even if, as the notation stated, “penalties were discussed and approved by [her]” at that time. Nothing in the IRS emails or other documents in the court file answers that question.
But the questions at the time about how courts would interpret the supervisory approval requirement included not just when approval was required, but also who counts as the immediate supervisor.
The date Brooks chose to date the lead sheet was one day before she temporarily delegated her authority as team manager to another employee, according to court records. However, she resumed her managerial role just six days later.
The IRS argued in its June 23 filing that Brooks didn’t have a motivation to backdate the approval since the case law hadn’t yet developed.
‘Unintentional Error’
The Tax Court initially accepted the IRS’s representations about the penalty approval process. But later, it ordered the IRS to respond to LakePoint’s request for court help getting more documents, after LakePoint’s lawyers spotted discrepancies in two documents attached to an August 2022 motion by the IRS.
One of the two documents, known as penalty consideration lead sheets, included all the penalties the IRS asserted against LakePoint and had the typed-out July 2016 date and signature. The other did not contain all of the penalties and included a digital signature of November 2016, Gomez said.
Gomez said the discrepancies raised questions about the validity of the approval: Were all of the penalties approved in July 2016, or were others added later?
Pressing for more documents led to what might constitute a legal bombshell in the Tax Court, where the IRS’s word has long been accepted at face value.
“Traditionally, the Tax Court accepts representations made by the IRS as factual matters, and that’s the way it ought to be—the court should be able to rely on the credibility of IRS employees,” Rosenstein said in an interview with Bloomberg Tax.
“We also think it’s important that the IRS ensure that there’s no systemic problem. That is, is this just one isolated example of backdating or was there a culture that accepted this sort of thing?” he said.
Field Pressure
The Tax Court is considering whether to reverse the initial penalty approval. Meanwhile, the FOIA lawsuit is asking a DC federal court to compel the IRS to hand over any additional public records related to the misrepresentation. The IRS’s answer to the FOIA complaint is due Sept. 1.
Josh Ungerman, partner at Meadows Collier and former IRS senior trial attorney, said he’s unaware of similar allegations in other conservation easement cases. He and Nancy Ortmeyer Kuhn, a former IRS litigator who specializes in conservation easement cases as a shareholder at Schulman Rogers, said that when their clients challenge the IRS in court, the agency complies with the law and admits when it erred.
“I know there’s intense pressure on these agents to get the managerial approval because several cases have thrown out the penalties just because the manager didn’t give the proper approval of the penalty,” Kuhn said.
Several tax practitioners argued that pressure within the IRS to weed out perceived tax abuse from conservation easements could have driven the series of events in the LakePoint case.
“There are some portions of the IRS where there’s a view that all of these syndicated easements are bad and that the objective is to inflict as much pain as possible,” said Michelle Abroms Levin, a former Justice Department Tax Division attorney who has represented several high-profile easement clients as a shareholder at Dentons.
“To the extent that mentality is being pushed to people on the ground, it leads to these circumstances where we’re backdating penalty approval forms,” Levin said.
Calls to Investigate
There could be consequences for Brooks, Stafford, agency lawyers, and the IRS at large if officials conclude the conduct was knowing or intentional.
Under Rule 3.3 the American Bar Association’s Model Rules for Professional Conduct, lawyers who come to know that material evidence they, their client, or their witness provided is false must take “reasonable remedial measures, including, if necessary, disclosure to the tribunal.”
The Tax Court requires lawyers to follow both “the letter and spirit” of those rules.
US tax employees may be dismissed, fined up to $10,000, and imprisoned for up to five years under tax code Section 7214 if they knowingly demand more than the law authorizes, make or sign a fraudulent entry in a statement, fail to perform a duty in order to defeat a tax law provision, or fail to report the violation of a provision.
Even if Brooks didn’t intentionally misstate the date she signed the lead sheet, as she later claimed, “certainly the counsel that was representing her and that was asking her to file a declaration was required to undertake some level of due diligence to make sure that the declaration was accurate and truthful,” Levin said.
The Tax Court said in an Aug. 8 ruling that it is inclined to hold off on ruling on the penalty approval question until after it holds trial in October. Meanwhile, Rosenstein said he has requested a probe by the US Treasury Inspector General for Tax Administration. That office doesn’t normally announce it’s conducting an investigation until it issues conclusions, he said.
TIGTA didn’t respond to a request for comment from Bloomberg Tax.
Under the Microscope
The potential fallout for the IRS is reminiscent of 2013, when the public learned that a unit headed by IRS official Lois Lerner held up the tax-exempt status of Tea Party-affiliated groups. Republicans seethed, and Congress cut the agency’s budget by $346 million the following year.
Congressional Republicans have argued that the tens of billions of dollars allotted to the IRS under the Inflation Reduction Act would be used to hire armed agents to target small businesses and everyday taxpayers. Adding fuel to the fire against the IRS is testimony recently released by Ways and Means Committee Republicans from two whistleblowers who contend the agency mishandled the Hunter Biden case.
“The IRS does not want to give Congress any excuses to pull back additional funding, because that could really impact their ability to operate,” Kuhn said.
“So much of the last 20, 30 years they’ve not been able to do their job. And I am finally noticing faster turnaround with correspondence that I send to the IRS. They’re answering their phones. More exams are being opened,” Kuhn said.
Agostino said a proper investigation of the IRS’s conduct and the extent of the problem is vital to securing the public’s trust.
The IRS needs to show “this is not a vendetta against wealthy people who engaged with conservation easements, that they are committed to only penalizing taxpayers who didn’t follow the rules, and that they’re willing to subject themselves to the same scrutiny that they’re putting the taxpayers under,” he said.
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