The Internal Revenue Service (“IRS”) has the broad authority through the Internal Revenue Code (“IRC”) §7602(a) to review documentation that may assist them in confirming the accuracy of a filed return. Most taxpayers provide this documentation when being audited. However, when a taxpayer is unwilling or unable to produce records for an IRS investigation, the IRS has been granted the authority under IRC §§7602(a)(2)-(3) to summons information from third parties they believe would relevant to the audit.
In addition to determining this information to verify the accuracy of a filed return, the IRS may also use this information obtained from a summons to prepare a substitute for a return, locate assets for tax collection purposes, or inquire into any issue connected with the enforcement of the law. In pursuit of these goals, IRS employees may examine the books, records, papers, or any other data relevant to an inquiry. This includes summoning the taxpayer’s testimony and other persons, such as the taxpayer’s employees, corporate officers, accountants, and bookkeepers. This testimony is given under oath. The IRS can use a summons in either a civil or criminal investigation. However, a summons cannot be issued after a case has been referred to the Department of Justice or a grand jury. The IRS uses Form 2039 to issue a summons.
Taxpayers can move the court to “quash” or suppress a formal summons. Quashing a summons refers to a legal appeal of the summons in federal district court, which a judge decides. When the IRS issues a summons to a third party, it provides a copy to the taxpayer. The taxpayer has 20 days from the notice date to “quash” or suppress the summons in court. To effectively “quash” a summons, the taxpayer must prove that they have cooperated with the IRS in previous requests and that the information requested is either nonexistent or has been previously submitted and is in possession of the examiner. A judge decides this appeal process.
It is essential to know that a summons issued by the IRS is enforceable even if it seeks information that cannot otherwise be disclosed under other laws, such as a physician’s patient list or a broker or investment advisor’s client list.
Bank records are the most common form of documentation that the IRS summons. Bank records are summonsed when the IRS has determined there is evidence of unreported income, and the taxpayer has refused or cannot provide the bank statements. When bank records are summonsed, the IRS typically requests copies of the bank statements, associated canceled checks, and deposited items, including deposit slips and checks. The deposit detail allows the IRS to determine if the monies are from taxable or potentially nontaxable sources.
While the IRS has broad authority to request and review taxpayer records, to have the summons be enforceable, they must establish that the requested documents will be the evidence needed to prove their civil or criminal case. This standard is typically called a “prima facie” case.
For a summons to be enforceable, it must meet the factors determined in the Supreme Court decision in United States v. Max Powell, commonly called the Powell Test. Under Powell, the summons must show the following four elements:
- The investigation will be conducted pursuant to a legitimate purpose; and
- The inquiry may be relevant to that purpose; and
- The information sought is not already within the IRS’s possession; and
- The administrative steps required by the Internal Revenue Code have been followed.
In court, the IRS has the burden of proof to verify all four elements have been met. The IRS typically satisfies the Powell Test by furnishing an affidavit from the IRS agent or IRS counsel who issued the summons. Once the IRS has made a successful prima facie case, the burden of proof reverts to the taxpayer to demonstrate that the IRS did not meet at least one of the four elements of the Powell Test. If the taxpayer proves a missing element, the summons is “quashed.”
If the summons is enforceable and it requests a personal interview of the taxpayer or a third party, there are additional taxpayer rights. IRC §7521 provides that a taxpayer or other person has the right to receive an explanation of the process and the right to obtain representation by a professional.
The taxpayer also has the right to record the interview as long as the taxpayer requests recording, typically two weeks in advance of the interview. If the IRS interviews a third party, the taxpayer may have a representative present at the third-party interview, but only if the third party agrees to it.
The issuance of a notice of summons suspends the statute of limitations on assessment of any tax liabilities and the criminal prosecution of the taxpayer. Assessments are suspended during the time the summons is pending, including any appeal proceedings. If the summonsed person does not fully respond or comply, the IRS can move in court for a contempt hearing and bring pressure on the taxpayer to comply. If there is no direct enforcement of the summons, the statute of limitations on assessment of tax liabilities and criminal prosecution will be suspended until there is resolution.