Assume, for example, that a company is the subject of an IRS civil examination, and the IRS Revenue Agent issues an Information Document Request seeking a voluminous amount of information, including documents concerning the company’s activities offshore. The CFO of the company does not want to produce the documentation out of concern that cooperating may simply expand the scope of the examination. At this stage in the proceedings, what options does the CFO have to resist the summons?
During an IRS investigation, the IRS has the authority to issue an administrative summons seeking records and testimony (Sec. 7602). The IRS may summon records, whether they are in the taxpayer’s or a third party’s possession, including in the possession of the taxpayer’s business associates, acquaintances, prior employers, and even financial institutions (Internal Revenue Manual (IRM) §188.8.131.52). (One exception to this sweeping rule is that the IRS may not issue a summons or commence an enforcement proceeding if the IRS has referred a criminal tax case to the Department of Justice (Sec. 7602(d)).)
If a taxpayer refuses to produce the requested documentation, there is a risk that the IRS will seek an order enforcing the summons from a district court. To enforce the summons, the IRS must establish all four of the so-called Powell factors: (1) The investigation will be conducted pursuant to a legitimate purpose; (2) the inquiry may be relevant to the purpose; (3) the information sought is not already within the IRS’s possession; and (4) the administrative steps required by the IRS have been followed (Powell, 379 U.S. 48, 57–58 (1964)).
To meet these requirements, the IRS agent prepares a declaration that the Powell factors are satisfied. Once the IRS makes its initial showing of good faith, the burden is on the party challenging a summons to disprove one of the Powell factors or to demonstrate that enforcing the summons would constitute an abuse of the court’s process (Nero Trading, LLC, 570 F.3d 1244, 1249 (11th Cir. 2009)).
If the IRS issues a summons that contains broad language that seeks almost everything under the sun, the taxpayer should object to the summons. The taxpayer should seek to work with the agency to modify the language of the summons prior to enforcement proceedings. “A summons will be deemed unreasonable and will not be enforced if it is overbroad and disproportionate to the end sought, and a “fishing expedition” through a taxpayer’s records exceeds the relevant scope of the summons power.” United States v. Richards, 631 F.2d 341, 345 (4th Cir. 1980).
A taxpayer also may be able to successful resist a summons if the IRS issued the summons for an improper purpose. This has come to be known as the improper purpose doctrine. See United States v. Clarke, 134 S. Ct. 2361, 2367-68 (2014) (“As part of the adversarial process concerning a summons’s validity, the taxpayer is entitled to examine an IRS agent when he can point to specific facts or circumstances plausibly raising an inference of bad faith.”)
An important point to remember is that Congress authorized the Service’s use of the summon power by the phraseology “may be” relevant, rather than “is” relevant. Section 7602(a)(1) states, “[t]o examine any books papers records or other data which may be relevant or material to such inquiry” (emphasis added). This choice of words indicates acknowledgement that the IRS often cannot be certain that the documents are, in fact, relevant or material until after an agent sees them. Courts have interpreted this language broadly and have held that “’[r]elevance’ under the Powell test does not depend, however, on whether the information sought would be relevant in an evidentiary sense, but merely whether that information might shed some light on the tax return.” See U.S. v. Norwest, 116 F3d 1227, 1233 (8th Cir. 1997). Practically speaking, this means that a taxpayer facing an IRS summons should view the summons from the point of view that the government may be able to obtain the requested information, if the case proceeds to district court.
In short, individuals and businesses facing an IRS summons should seek the advice of competent tax counsel, who can evaluate the situation and formulate a defensible strategy.