The IRS whistleblower statute (IRC § 7623) mandates that an individual that provides information to the IRS be paid an award of 15%-30% of the proceeds collected as a result of the action (including any “related” actions) that is taken by the IRS. But what is a “related action?” Does a related action include any of the following:
An audit on subsequent years?
A new issue pursued by the IRS during the examination?
Other taxpayers discovered in the audit?
Depending on whether the IRS or the Court uses a narrow definition of the term “related” action or a broad definition, it could be none of these or all of these. However, the IRS has chosen to narrowly define the term “related action” in the regulations, which results in minimizing the whistleblower’s award.
First, to understand what a “related” action is, one must understand what is meant by an action. In an earlier blog we discussed an administrative action. In a nutshell, an action can be either an administrative action or a judicial action. The regulations further define an action as “all or a portion” of an administrative action or a judicial action. So arguably, an action can simply be sending out an opening audit letter, issuing Information Document Requests (IDRs), discussing the issue with the taxpayer, etc.
Notwithstanding the broad definition of action (i.e. all or a portion) stated in the regulations, the IRS continues to narrowly define action to exceed some threshold for an individual to be entitled to an award, such as: the IRS making an “adjustment” (proposed or final), during an audit. As the IRS interprets the term action, there must be all or a “portion” of an audit in an administrative action to qualify as an action. Similarly, the IRS’ interpretation excludes the mere analysis of the Whistleblower’s claim from the definition of an action.
Having defined an action, the IRS also attempts to limit the definition of “related” action through Treasury Regulation § 301.7623-2. A related action has been defined as an action against a taxpayer, other than the taxpayer identified in the whistleblower claim. Specifically, the requirements for a related action are as follows:
Facts relating to the underpayment of tax (or violations of the tax laws) by the other person must be substantially the same as in the original whistleblower claim,
The IRS must proceed with an action against the “related” person based upon the facts and documents provided in the Whistleblower claim, and
The other person must be “related” to the person in the whistleblower claim, such that the IRS can identify the person by using the information provided, and the IRS states that the person is not related if the IRS must use the information provided to identify any other person or having to independently obtain additional information to identify the person.
Because the 3rd requirement is somewhat confusing, the regulations provide several examples attempting to define “related” persons. The clear cut situation is where the whistleblower provides information as to a partnership that underreported its income and identifies one partner. In this situation, all partners would be considered related.
A more complex example is if the whistleblower identifies a tax shelter promoter and a taxpayer that engaged in the tax scheme being promoted. To the extent that the IRS takes an action against the taxpayer and then identities other taxpayers that the promoter sold the same tax scheme, all such taxpayers identified would be considered related.
This narrow interpretation of related action limits to taxpayers that are related appears to make sense; however, it eliminates the other possibilities that were clearly intended by Congress (see paragraph 1 above). Because the purpose of the whistleblower statute is to reward an individual that comes forward with information for which the IRS acts upon and collects proceeds based on the whistleblower’s information, it is curious why the IRS would limit related actions to only other taxpayers discovered using the whistleblower’s information and not, other years or other issues discovered using the same information. After all, in many cases the IRS would not have conducted the audit “but for” the whistleblower’s information identifying the taxpayer, tax years and providing specific and credible information to cause the audit. As long as the IRS is collecting additional taxes from the initial audit generated by the Whistleblower’s information, it should not matter whether the IRS opens additional issues or additional years, the Whistleblower should get credit for all additional issues and years opened by the IRS.
Anyone providing information to the IRS should be aware, that there could be other issues, other taxpayers and other years for which the IRS took an action based upon the information provided by the whistleblower, but for which the IRS is not paying an award based on collected proceeds from the other issues, taxpayer or years. Whistleblowers receiving an award, or a letter denying their claims, need to be aware that there are many unresolved issues and the actions of the IRS to minimize awards should not simply be accepted without thought and discussion with experienced attorneys.