- 4.46.4.1 Overview
- 4.46.4.2 Examination Techniques Used to Gather Evidence
- 4.46.4.3 Researching Federal Tax Law
- 4.46.4.4 Information Document Request Management Process
- 4.46.4.5 Penalty Consideration
- Exhibit 4.46.4-1 IDR Management Process
- Exhibit 4.46.4-2 Taxpayer Memorandum of Understanding - IDR Management Process
- Exhibit 4.46.4-3 Form 4564, Information Document Request- First Follow Up
- Exhibit 4.46.4-4 Form 4564, Information Document Request - Second Follow Up
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LMSB examiners, individually or as a team member, conduct independent examinations and related investigations of the most complex tax returns filed by large businesses, corporations, partnerships, and other organizations, which may include those with extensive subsidiaries, diversified activities, multiple partners, and national or international scope and operations. Examiners must be able to identify areas of noncompliance and factually develop issues to determine the correct tax liability as prescribed by the Internal Revenue Code. Examiners must correctly interpret and apply the law in light of congressional intent, in a fair and impartial manner, based on the facts and circumstances of the case.
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The examiners must review sufficient documents/information to determine the accuracy of the taxpayer's return. The amount of documents/information to be reviewed and the depth of the examination is a matter of professional judgment. This decision is important because of the prohibitive cost of examining and evaluating all available documents/information.
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Researching Federal tax law is essential to developing issues and supporting audit determinations. Various authorities should be consulted and cited when resolving issues.
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The Information Document Request (IDR) Management Process is a formal, structured process to request and secure information from the taxpayer. This process will be used for both Coordinated Industry Cases (CIC) and Industry Cases (IC).
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The Internal Revenue Code contains numerous civil tax penalties that examiners must address and document during their examinations. Examiners must also be alert to indications of criminal fraud.
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The following are some of the examination techniques used to gather evidence:
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Interviews;
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Tours of Business Sites;
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Evaluation of the Taxpayer's Internal Controls;
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Examining the Taxpayer's Books and Records;
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Analyzing Schedules M-1, M-2, M-3;
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Balance Sheet Analyses;
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Testing Gross Receipts or Sales;
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Testing Expenses: Cost of Goods Sold;
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Sampling Techniques.
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Further guidelines and procedures that can be used in conducting an effective examination are found in IRM 4.10.3, Examination Techniques.
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Section 7602 authorizes the Secretary or a delegate to examine books and records and to take testimony under oath.
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) Interviews provide information about the taxpayer's financial history, business operations, and books and records. They are used to obtain leads, develop facts, and establish evidence. The testimony of witnesses and the confessions or admissions of alleged violators are major factors in resolving tax cases. Cases may be developed through the testimony of witnesses. The record of interviews will usually take one of the following forms:
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Transcript of interview;
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Question -and-answer statement;
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Affidavit;
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Memorandum of interview; or
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Recording.
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Treasury Regulation 301.7605-1(d)(3)(iii) states: "regardless of where an examination takes place, the Service may visit the taxpayer's place of business to establish facts that can only be established by direct visit, such as inventory or asset verification. The Service generally will visit for these purposes on a normal workday of the Service during the Service's normal tour of duty hours."
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Tours of business sites should be conducted during examinations of all business entities. Generally, the principal location, and any locations acquired during the period under examination, should be visited. See IRM 4.10.3.3.2, Conducting Tours of Business Sites.
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The evaluation of internal controls will assist examiners in determining the accuracy and reliability of the taxpayer's books and records. Additionally, the evaluation of internal controls should be part of the decision making process used to determine the scope and depth of the examination.
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It is important to determine the taxpayer's method of accounting for both book and tax purposes. An accounting method is a system for stating income, expenses, assets, liabilities, and financial position. Taxable income must be computed not only on the basis of a fixed accounting period, but also in accordance with a method of accounting regularly employed in keeping the taxpayer's books that clearly reflects income.
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Schedule M-1 or M-3 is a critical schedule for identifying potential tax issues resulting from both temporary and permanent differences between financial and tax accounting.
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It is important to verify that net income per the taxpayer’s books agrees with net income per Schedule M-1 or M-3. It is also crucial to perform a reconciliation of the taxpayer’s worldwide net income (or loss) according to the income statement. In addition, the taxpayer's reconciliation of net income per books to net income per Schedule M-1 or M-3 should be obtained.
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The taxpayer’s workpapers should be obtained for all Schedule M-1 or M-3 adjustment calculations and corresponding supporting schedules. Significant Schedule M-1 or M-3 adjustments should be reviewed. Missing Schedule M-1 or M-3 adjustments should be considered when the workpapers are reviewed.
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Schedule M-2 is used to analyze all changes in the retained earnings account per books during a given accounting period.
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Retained earnings and their tax effect should be reviewed when material changes are made.
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Balance sheet accounts should be reviewed if significant balances and/or material fluctuations occur.
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Accounts should be reviewed if they reflect either permanent or timing differences between tax and book.
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These accounts should be reconciled with the Schedule M-1 or M-3 adjustments.
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Each examination is unique. The examiner must use techniques which are effective in the conduct of the specific audit. In addition, the examiner should be alert for taxable income which may not appear as income on the taxpayer's books, (accounting methods, timing of recognition, deferred income, constructive receipts, foreign source income, and related foreign transactions). Refer to IRM 4.10, Examination of Returns.
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Testing the Cost of Goods Sold (COGS) may include reviewing beginning and ending inventories, compliance with the absorption rules in the regulations for sections 263A and 471, and variance accounts when standard costing is used. Refer to IRM 4.10, Examination of Returns.
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The examiner should scan the expenses per the return and examine those which are large, unusual, or questionable. In addition, the examiner should select issues by understanding the taxpayer’s accounting methods and their applications to timing and economic performance, expense versus capitalization, tax shelter write-offs, contingent liability accruals, material write-offs for tax and not for books, net operating loss carryforward and carryback, etc.
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The two basic types of sampling are judgment sampling and statistical sampling.
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Judgment sampling requires examiners to use professional judgment in performing the sampling procedure and in evaluating the results of the sample.
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Statistical sampling is a procedure used to choose a portion of the whole to make a statement about the entire population. Other terms applied to statistical sampling include probability sampling and random sampling.
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Assistance from a Computer Audit Specialist (CAS) is necessary when statistical sampling is performed. For more details refer to IRM 4.47, Computer Audit Specialist.
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LMSB examiners must consider the various legal authorities and guidance available to them when developing and resolving issues. Some of these include:
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Internal Revenue Code;
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Committee Reports;
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Treasury Regulations;
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Revenue Rulings;
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Delegation Orders;
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Private Letter Rulings;
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"Technical Advice Memoranda/Technical Expedited Advice Memoranda; "
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Court Opinions;
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Tax Treaties.
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IRM 4.10, Examination of Returns provides a detailed explanation of each of these sources and the format for citing them in reports.
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Electronic tax research is recommended using the internet, compact discs, and on-line tax services when available. You can access information and obtain references for a given topic by searching for specific key words or key word groups. Most of the documents discussed above are available from commercial vendors on compact disc or on-line.
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The Information Document Request (IDR) Management Process will be used for Coordinated Industry Cases (CIC), as well as Industry Cases (IC). The process will not preclude the examination team from using judgment on a case-by-case basis.
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The IDR Management Process gives the examination team a structured process to use when gathering information during an examination. The process encourages collaboration between the taxpayer and IRS personnel to agree on and provide information needed to support an examination.
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Both general procedures and delinquent procedures are part of the IDR Management Process found in Exhibit 4.46.4-1.
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Form 4564, Information Document Request, or a computer facsimile thereof, should be used to request information from the taxpayer. Four copies of the form should be prepared and distributed as follows:
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The original and one copy will be given to the taxpayer, one to be retained in the taxpayer’s files and one to be returned with the information requested;
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The third copy of the IDR will be filed in the IDR Log (Form 5699 or similar computer listing). The team coordinator (CIC examination) or revenue agent (IC examination) is responsible for maintaining the IDR Log. Appropriate information should be listed in the log as IDRs are issued. The team manager is responsible for ensuring that the IDR Log is properly, accurately, and timely completed;
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The fourth copy will be maintained by the issuing agent.
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It is essential that all IDRs be specific, clear, and concise. Prior to the preparation of an IDR and when appropriate, team members should discuss with the taxpayer the types of information needed in order to determine what records are available. This will ensure that the request is specific.
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Requests for information should be followed up and documented by the team coordinator (CIC) or revenue agent (IC) in the IDR Log. In instances where delays are encountered in the receipt of information, the team manager will become involved. Where appropriate, specialists' managers and other management officials should become involved when unusual delays are encountered.
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Team managers and examination teams (team coordinator and team members) will discuss the process for IDR management and collaborate with the taxpayer concerning IDR response times and alternatives during the opening conference of CIC examinations. Response times should be expressed in calendar days. The team manager and the revenue agent will discuss the process for IDR management, including response times, with the taxpayer during the early stages of IC examinations. In addition:
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The IDR Management Process will become part of the CIC and IC Examination Plans; and
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A Memorandum of Understanding (MOU) signed by the taxpayer and examiner should be used to set a mutually agreed IDR response date and explain the procedures for handling IDRs that are delinquent. Refer to Exhibit 4.46.4-2, Taxpayer Memorandum of Understanding - IDR Management Process for suggested wording of the MOU.
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The CIC team coordinator or IC revenue agent should follow up with the taxpayer when the IDR is 15 calendar days delinquent. Problems that exist and reasons for the delay should be discussed and resolved if possible, and the team manager should become involved if necessary. All discussions/actions should be documented. If it appears that the requested information will not be forthcoming, the examination team should:
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Evaluate other means or sources for obtaining the needed information;
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Prepare and issue a follow up IDR to request the information that remains outstanding, if necessary. The response date for the follow up IDR should be a reasonable date based on discussions with the taxpayer, but generally not more than an additional 15 days from the date of issuing the follow up IDR (30 days from the original response date, or thereabouts); and
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Attach the original IDR to the follow up IDR, or incorporate the original IDR wording in the follow up IDR using the same IDR number. Special wording as suggested in Exhibit 4.46.4–3 and Exhibit 4.46.4-4, for the first follow up IDR or for subsequent follow up IDRs may be used at the discretion of the examination team.
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If the IDR is still delinquent on the 45th day from the original response date, the team manager will meet with the taxpayer and/or representative and the IDR issuer and will take the following steps:
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Address the issue and emphasize the importance of factual development;
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Ascertain the taxpayer’s intention to comply with the request;
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Discuss consequences of not responding to the IDR;
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Consider issuance of a Form 5701, Notice of Proposed Adjustment;
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Consider involving high-level IRS officials (territory manager, etc.) and senior corporate officers; and
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Advise the territory manager of the IDR problems and consult with Area Counsel as needed.
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If the IDR remains delinquent on the 90th calendar day, conduct a joint IDR status meeting to include; senior corporate officers, territory manager, team manager, Area Counsel and IDR issuer. During the meeting:
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Address the issue and records needed to make a determination;
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Clearly explain the consequences for not complying with the IDR or not abiding by the agreement reached;
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Reach agreement on a specific date by which the taxpayer will comply with the IDR; and
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Consider the issuance of a summons or formal document request under IRC section 982. Circumstances may warrant issuance of a summons prior to 90 days.
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In appropriate cases, the examiner should consider the issuance of a Formal Document Request under IRC section 982 when the taxpayer fails to comply with an IDR. See IRM 4.61.2, Information Reporting and Recordkeeping, and IRM 4.61.4 Information Gathering.
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Team managers must document departures from the delinquent procedures outlined in the IDR Management Process on the case visitation log or the Examining Officers Activity Record (Form 9984).
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The IDR Management Process does not preclude the examination team from using judgment on an issue-by-issue basis. Realistic and cooperatively reached due dates for information requested by an IDR are key to the process. It is a good practice to have a pre-IDR meeting to ensure the IDR responses address the specific needs of the examiner. At this meeting the agent and the taxpayer discuss exactly what is needed and how best to obtain the information in order to eliminate ambiguity. A realistic due date can be mutually agreed upon after the pre-IDR meeting is held. There is latitude for the team coordinator (CIC) or revenue agent (IC) to extend the IDR due date but the following must be adhered to:
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There must be continuous dialogue with the taxpayer and follow up on the 15th, 30th, 45th, and 90th day of delinquency. Generally, the delinquency period begins after the original due date. However, when the extension date is established prior to the expiration of the original due date, the delinquency period starts after the extended date;
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The examiner should document the case file if follow up is not made during the specified time frames, by including the revised due dates and stating the reason(s). Similarly, the examination team should advise the taxpayer of the status of the IDR response. This includes informing the taxpayer within 15-30 days after receiving the response as to whether the IDR response was sufficient or will require a follow up;
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Management should be involved when the IDR approaches the 45th day of delinquency. However, the degree of managerial involvement and at what stage will vary. The decision to deviate from the process is made by the team manager.
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The following are some factors to consider when deciding whether an exception to the delinquent procedures is appropriate:
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Taxpayer's history of cooperation and IDR responses;
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Taxpayer's attitude;
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Team coordinator (CIC) and revenue agent (IC) experience; and
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Availability of resources or information that changes the scope and depth of the examination.
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The team manager will submit quarterly reports through the Industry Director to the Director, Performance Quality and Audit Assistance (PQA), to measure the impact on balanced measures and analyze reasons for IDR delinquencies. The quarterly reports will apply to coordinated industry cases and industry cases. The following procedures apply:
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Initially, the performance data will be obtained from the IDR Log (Form 5699) and from other examination files;
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The Issue Based Management Information System (IBMIS), the reporting portion of the Issue Management System (IMS), will track delinquent IDRs and provide management with the necessary reports.
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The minimum performance data to be gathered for reporting will be as follows:
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IDR number;
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Standard Audit Index Numbers (SAIN);
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Team members;
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Breakdown of days overdue (Under 15 days, 16–30 days, 31–45 days, 45–90 days, over 90 days); and
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A written summary of the performance data to include facts and circumstances relevant to the delinquent IDRs for each CIC and IC examination.
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The Service maintains an ongoing effort to develop, monitor and revise programs designed to assist taxpayers in complying with legal requirements and to avoid penalties. As indicated in Policy Statement P-20-1, the Service uses penalties to encourage voluntary compliance.
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Policy Statement P-20-1 also states that the IRS administers a penalty policy that is designed to:
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Ensure consistency;
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Ensure accuracy of results in light of the facts and the law;
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Provide methods for taxpayers to have their interests heard and considered;
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Require impartiality and commitment to achieve the correct decisions;
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Allow for prompt reversal of initial determinations when sufficient information has been presented to indicate that the penalty is not appropriate;
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Ensure that penalties are used for their proper purpose and not as bargaining points in the development or processing of cases.
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The examiner is responsible for determining whether to assert penalties, identifying the appropriate penalties, and calculating the penalty amount accurately.
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The examiner must have the team manager’s approval prior to the assertion of penalties.
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See IRM 20.1, Penalties, for a list of common civil tax penalties. This list includes the applicable IRC section, penalty amount and description, penalty reference numbers, detailed explanation and computation methods. These penalties include the following:
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Estimated tax understatement;
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Failure to file;
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Failure to pay (on returns secured by LMSB);
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Fraud;
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Frivolous returns;
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Accuracy-related penalties on underpayment, including negligence or disregard of rules or regulations, substantial understatement of income tax, substantial or gross valuation misstatements;
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Accuracy-relate penalties on understatements with respect to a reportable transaction; and
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Failure to include reportable transaction information with a return.
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) There are very specific penalties relating to international issues. The identification of the appropriate penalties relating to international issues are the responsibility of the international examiner and the international manager. IRM 20.1.9, International Penalties, provides more details.
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The local Fraud Technical Advisor should be contacted when fraud is suspected. The Fraud Technical Advisor and the examiner will jointly prepare Form 11661, Request for Fraud Development Status.
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Form 2797, Referral Report of Potential Criminal Fraud, should be prepared when a potential criminal fraud case is identified. Preparation of a timely fraud referral to Criminal Investigation is necessary pursuant to the provisions of IRM 25.1, Fraud Handbook.
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The team manager must be actively involved with the development of all penalty issues.
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Coordination with Criminal investigation, and area specialists may be required.
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Managerial involvement and approval must be documented on Form 9984, Examining Officer's Activity Record.
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The case file should fully document the consideration, assertion or non-assertion, and computation of all applicable penalties. An applicable penalty is defined to be one which the legal premise for application is present in the case. The decision to assert penalties must have a legal basis in the Internal Revenue Code or other authority.
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Penalties should not be asserted without an explanation. The extent of the explanation will depend on the nature of the adjustments and the amounts involved. However, canned statements, such as "negligence penalty applicable" or "negligence penalty deemed to be not applicable " , are not sufficient.
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Alternative penalty positions should be documented in the workpapers when applicable (e.g., fraud versus negligence penalties, and various components of the accuracy-related penalty).
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Section 7491(c), which applies only to individuals, states that the IRS has the burden of production in a court proceeding when the issue is a penalty, an addition to tax, or an additional amount imposed by the Internal Revenue Code. The IRS must first present evidence that imposition of the amount is appropriate. Only then must the taxpayer assume the ultimate burden of persuasion to raise appropriate defenses, such as reasonable cause, to the imposition of the penalty.
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The following definitions are related to the burden of proof requirements for assessment of penalties:
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"Penalties" include all penalties assessed under Title 26 and/or 31. An example is section 6662 that imposes the accuracy-related penalty;
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"Addition to Tax" is any amount computed by reference to the amount of tax. An example is the addition to tax imposed by section 6654 for failure by an individual to pay estimated income tax;
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"Additional Amount" refers to an amount that can be assessed by the IRS that is not an addition to tax or penalty. An example is the amount imposed under section 6673 for the sanctions and costs awarded by a court when a taxpayer's position is frivolous. Additional amounts under section 7491(c) do not include excise taxes imposed by Chapters 42 and 43 of the Internal Revenue Code or interest under section 6601.
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Information Document Request (IDR) Management Process User Guidelines - IDR Management Process Overview
A formal, structured process has been established to request and secure information from the taxpayer. This process promotes cost effectiveness and quality examinations with the least burden on both the taxpayer and the government. The importance of timely responses is emphasized as it will improve cycle time and currency of cases, while at the same time, focusing on early issue resolution. The following Information Document Request (IDR) Management Process will be used for Coordinated Industry Cases (CIC) and Industry Cases (IC). This process will not preclude the examination team from using judgment on a case by case basis. The IDR Management Process will do the following:
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Provide more complete and timely responses to IDRs;
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Provide open and meaningful communication between all team members and the taxpayer;
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Provide consistent treatment of taxpayers;
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Heighten taxpayer awareness of the IDR Management Process;
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Improve understanding of expectations;
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Improve the timeliness and the quality of documentation received;
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Establish a sound foundation for issue development;
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Promote earlier issue resolution;
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Heighten territory manager's and team manager's involvement;
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Promote better written and complete IDRs; and
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Improve awareness of outstanding IDRs.
The IDR Management Process requires effective collaboration between the IRS and the taxpayer and begins at the opening conference where the process will be discussed in its entirety. It is essential to conduct meetings with the taxpayer at key points of the IDR Management Process to ensure a more active involvement by all parties. In general, a series of conferences and follow ups with the taxpayer on IDRs will be conducted on the 15th, 30th, and 45th calendar day of the delinquency. This series of conferences would not preclude the examination team from having monthly or quarterly meetings with corporate officials to discuss outstanding IDRs. If the information request is still delinquent on the 90th calendar day, a joint IDR status meeting will be held to include the territory manager, Area Counsel, team manager, IDR issuer and senior corporate officers of the taxpayer to address the issue and records that are needed for making a determination.
STEPS FOR IMPLEMENTING THE IDR MANAGEMENT PROCESS
The territory manager and examination team (team manager, team coordinator, and team members) will:-
Discuss the process for IDR management and collaborate with the taxpayer concerning IDR response times and alternatives during the opening conference;
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Incorporate the IDR Management Process in the Large Case Examination Plan (Form 4764, Part I) for CIC examinations. Part I will be signed by both the taxpayer and IRS. For IC examinations, a Memorandum of Understanding (MOU) signed by the taxpayer and examiner will be made part of the examination plan. Refer to Exhibit 4.46.4-2 for suggested wording of the MOU;
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Analyze potential issues and identify the type of documentation to be requested;
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Discuss with the taxpayer and seek the taxpayer’s assessment of what records are available to resolve an issue and identify problems and difficulties in retrieving that documentation;
(1) Agree on the records necessary to address the examiner's issues or concerns; (2) Document the mutual understanding of the records to be provided; and (3) Identify alternative means of obtaining the records (e.g., computer audit specialist, etc.). -
Consider alternative sources for relevant information, e.g., SEC filings, business articles, etc;
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Prepare Form 4564 (Information Document Request) or a computer facsimile in quadruplicate;
(1) Generally, the IDR will be limited to one issue; (2) The team coordinator will review the IDR to ensure that it addresses the issue in a clear and concise manner; (3) The IDR issuer and the taxpayer will meet to review the IDR for completeness. The IDR will express the oral agreement between the taxpayer and team member in a written format. (i) After the review, the original and a copy will be given to the taxpayer.
(ii) The third copy of the Form 4564 will be filed in the IDR Log (Form 5699 or computer facsimile).
(iii) The examiner requesting the information will keep the fourth copy of the Form 4564.
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Upon receipt of the response to the request for information, the requester will timely review the records received for completeness;
(1) If the response to the IDR is complete, proceed with the examination process; (2) If the response to the IDR is incomplete, confer with the taxpayer, clarify the IDR and establish a response date for the missing information. Discuss other means or sources for obtaining needed information (e.g., reconstruction of records, oral testimony, etc.); and (3) If the response to the IDR is complete, but additional information is needed, prepare and issue a new IDR with a new response date. -
Follow up when the IDR response is 15 calendar days delinquent. The examination team must exercise good judgment on a case-by-case basis with respect to the type of follow up performed. For example, a follow up IDR may not be necessary if the information will be received in a reasonable time frame based on the facts and circumstances;
(1) Confer with the taxpayer for resolution. Discuss problems that exist and the reasons for the delay. If necessary, consider team manager’s involvement. It is essential that the discussion be documented for factual development and verification; (2) Continue evaluating other means or sources for obtaining the needed information to strive for earlier issue resolution. -
Prepare and issue a follow up IDR on the delinquent response to the requests for information if necessary. The response date for the follow up should be a reasonable date based on discussions with the taxpayer, but generally not more than an additional 15 days from the date of issuing the follow up IDR (30 days from the original response date, or thereabouts);
(1) Maintain the same IDR number; (2) The follow up IDR must have either the original IDR attached or incorporate the original IDR wording into the follow up; and (3) Special wording as suggested in Exhibit 4.46.4–3 (for the first follow-up) and Exhibit 4.46.4–4 (for subsequent follow up IDRs) may be used at the discretion of the examination team. -
If a response to the requests for information continues to be delinquent, follow-up where pursuit of the issue is necessary and insufficient facts exist to resolve the issue;
(1) Confer with the taxpayer. Define the problem, determine the reasons for the delay and document the file; (2) Identify possible alternative means to resolve the issue for which the IDR was prepared. Review and discuss potential 3rd party sources for the information and documentation; (3) Identify any extenuating circumstances that may contribute to the delay and document the workpapers for future tracking; and (4) Evaluate the merits of the issue. Consider the issuance of an IDR follow up on the delinquent response to the requests for information, the issuance of a Notice of Proposed Adjustment (Form 5701), or non-pursuit of the issue based on an evaluation of information/documentation currently available. -
If the issue still exists and information is lacking for making a determination, prepare and issue a follow up IDR. The response date should be a reasonable date based on discussions with the taxpayer, but generally not more than an additional 15 days from the date of issuing the follow up IDR (or approximately 45 days from the original response date). See (j) above for instructions, but disregard reference to the 30 days;
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If on the 45th day from the original response date the taxpayer is still delinquent, follow up, if appropriate. Refer to (j), (k), and (l) above for instructions for the 3rd follow up. In (l), disregard reference to " 45 days" ;
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The team manager should meet with the taxpayer or representative, and the IDR issuer, if the IDR response is 45 days delinquent. The team manager’s involvement is important and should be ongoing throughout the process;
(1) In this meeting, address the issue and emphasize the importance of factual development. Ascertain taxpayer expectations for complying with the request. (2) Discuss consequences for not responding to the IDR. (I) Consider issuance of a Notice of Proposed Adjustment (Form 5701); (ii) Consider involving high-level IRS officials and senior corporate officers (e.g., territory manager, etc.). (3) The team manager should advise the territory manager of IDR problems and consult with Area Counsel as needed. -
Conduct joint IDR status meeting to include senior corporate officers, territory manager, team manager, Area Counsel and IDR issuer after 90 days delinquent.
(1) In this meeting, address the issue(s) and the records needed to make a determination. (2) Reach agreement on a specific date that the taxpayer will comply with the IDR. (3) Clearly state the alternative action that may be appropriate for not complying with the IDR or not abiding by the agreement reached. (4) Consider the issuance of a summons or formal document request under section 982.
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