I have a question for you: let’s say you are a professional athlete. You have hired a financial advisor and an accountant. You give the financial advisor a durable power of attorney, allowing him/her to pay your bills, manage your money and grow your investments. You ask your accountant to prepare tax returns as necessary keep you out of trouble.
These services are not cheap. They cost you an upfront fee of $150,000 and an ongoing $360,000 annually.
COMMENT: I am available and open to relocation.
You get robbed for millions of dollars. Tax returns do not get filed.
The IRS now wants big penalties from you.
QUESTION: Do you have “reasonable cause” to have the IRS remove those penalties?
We are talking about Mo Vaughn, who played baseball with the Red Sox, the Anaheim Angels and the New York Mets in the nineties and aughts. He was the American League MVP in 1995.
In 2004 he hired Ra Shonda Kay Marshall to handle his money matters. She wound up leaving her employer, Omni Elite, and set up her own company, RKM Business Services, Inc. He also hired David Krebs with CPA Advisory Group, Inc. for the preparation of his tax returns.
Something happened, and in 2008 he fired both of them. Vaughn was going through his bank statements when he realized that Marshall had been embezzling. He hired forensic accountants, who determined that from 2004 to 2008 she had embezzled more than $2.7 million.
He then learned that his 2006 taxes were not paid.
Even that was better news than 2007, when his taxes were not even filed, much less paid.
He sued Marshall and RKM Business Services.
He hired new CPAs to get him caught up. The IRS – in that show of neighborliness that we have come to expect – hit him with penalties of $1,037,158 for 2006 and $102,106 for 2007. He had filed and/or paid late, and there were penalties for both.
He owed the tax, of course, but he had to contest the penalties. He went the administrative route – meaning appealing and working within the IRS itself. Striking out, he then took his case to court. He went to district court and then to appeals.
His main argument was simple: he was paying people to keep him out of tax problems. There was a lot of money leaving his account, so he had every reason to believe that a good chunk of it was going to the IRS. He was robbed. The IRS was robbed. Surely robbery is reasonable cause.
The IRS and the court pretty much knew his story at this point, and they knew that he was suing to get his millions back. The court however decided the government was due its money. There was no reasonable cause.
How is this possible?
There is a tax case (Boyle) where the Supreme Court addressed the issue of penalties assessed a taxpayer for his/her agent’s failure to file and pay taxes. The Court stated:
“It requires no special training or effort to ascertain a deadline and make sure that it is met. The failure to make a timely filing of a tax return is not excused by the taxpayer’s reliance on an agent, and such reliance is not ‘reasonable cause’ for a late filing under [Section] 6651(a)(1).”
The Court was addressing deadlines, and it set a fairly high standard. The Court distinguished relying on an attorney or accountant for advice from relying on an attorney or accountant to actually file the return itself. Reliance on an agent did not relieve the principal of compliance with statutory deadlines, except in extremely limited circumstances.
Vaughn could not clear this standard. He had delegated too much when he turned over responsibility for both preparing and filing his taxes to Marshall and Krebs.
Vaughn had a backup argument: the malfeasance of his agents rendered him unable to pay. He did not have enough money left to pay taxes by the time Marshall was done with him.
He was referring to a tax case (American Biomaterials Corp) where two corporate officers defrauded their corporation, including failing to file and pay taxes. Those two were the only officers with the responsibility to file returns and make payment. The Court held that the corporation was not vicariously liable for the acts of its officers and therefore was not liable for penalties.
There is a limit on American Biomaterials, though: a corporation is not entitled to relief if – by act or omission – its internal controls are so lax that that there was no reasonable expectation that malfeasance would be detected in the ordinary course of business. In other words, the corporation cannot willfully neglect normal checks and balances and expect to be relieved of penalties.
Vaughn got smacked on his second argument. The Court noted the obvious: in American Biomaterials there was no one left in the company to file and pay the taxes. This was not Vaughn’s situation. While he had delegated responsibility, there was someone left who could and should have stepped in: Mo Vaughn himself. He did not. That was his decision and provided both reason and cause to impose penalties.
And so Vaughn lost both in the district and the appeals courts. He owed the IRS enough penalties to allow either you or me to retire. He lost because he delegated the one thing the tax Code does not allow one to delegate, except in the most extreme cases: the duty to file the return itself.
About the author
Steven D. Hamilton is a career CPA, with extensive experience involving all aspects of tax practice, including sophisticated income tax planning and handling of tax controversy matters for closely-held businesses and high-income individuals.