Proposed Treasury Regulations for the IRS whistleblower program were released on December 14, 2012.  These regulations cover many issues and deserve a complete reading; however, below is a short outline of what each section of the proposed regulations covers.

§301.6103(h)(4)-1, Disclosure of returns and return information in whistleblower administrative proceedings.

This section of the proposed regulations establishes that that a whistleblower administrative proceeding (as described in §301.7623-3) is an administrative proceeding pertaining to tax administration within the meaning of section 6103(h)(4).  Therefore, the Director, officers, and employees of the Whistleblower Office may disclose returns and return information (as defined in section 6103(b)) to the whistleblower (or the whistleblower’s legal representative) to the extent necessary to conduct a whistleblower administrative proceeding.

§301.7623-1, General rules, submitting information on underpayments of tax or violations of the internal revenue laws, and filing claims for award.

This section of the proposed regulations provides the general rules for submitting information and filing claims for an award.  This is the “who, what, when, where, and how” of submitting a claim for an award.  A whistleblower must follow these rules to ensure that their claim for an award is appropriately filed to ensure that the IRS Whistleblower Office will consider their claim for an award.  The proposed regulations in section 301.7623-1(e) states that the IRS will use its best efforts to protect the identity of whistleblowers.

§301.7623-2, Definitions

This section of the proposed regulation defines key terms used in the statute and the regulations.  The proposed regulations build on definitions in the current regulations and define additional key terms for section 7623.  These definitions will affect how the IRS Whistleblower Office interprets section 7623 and ultimately will makes award determinations based on these definitions.  How “proceed based on,” “related action,” and “collected proceeds” are defined will greatly influence the number of awards issued and the amount of those awards. 

Particular attention should be paid to the definition of “proceed based on” and “collected proceeds.”  The definition of “proceed based on” in the proposed regulations seems to be reading the word “only” into the statute and requiring that the IRS take action that it would not have taken but for the information provided to be award eligible.  This reading goes beyond the language of section 7623, which simply requires that the IRS use the whistleblower’s information in an administrative or judicial action in order for the whistleblower to be able to collect an award.  The proposed regulations appear to assume that the IRS would discover an issue simply because the issue was listed generally in an audit plan.  Hopefully, this narrowing of the statute will be addressed in the final regulations after hearing comments from the public.  Either way, we are confident that this regulatory expansion would not survive judicial review.

The definition of “collected proceeds” continues to be an area that should be focused on.  The proposed regulations continue to claim that criminal fines are not part of collected proceeds; however, as discussed at length on this blog and elsewhere, this position goes against the language of the statute and the intent of Congress.  The definition of collected proceeds also touches on the inclusion of tax attributes in collected proceeds.  The preamble to the regulations goes into more detail illustrating that tax attributes that are used as of the date that the award computation is made will be counted as collected proceeds.  There does not appear to be a clear legal theory behind this cut off, but our discussions with various IRS personnel suggests this is an administrative compromise.

§301.7623-3, Whistleblower administrative proceedings and appeal of award determinations.

This section provides outlines of the administrative proceedings and appeal rights for award determinations.  The largest changes here are the creation of administrative proceedings for cases that do not meet the requirements of section 7623(b) (under §301.7623-3(b)) and claims that are denied (under §301.7623-3(c)(7)).  The creation of the administrative procedures for denied cases is likely to reduce the number of whistleblower cases filed in the United States Tax Court that are ultimately dismissed because the IRS did not use the information, did not detect an underpayment of tax based on the information, or collect proceeds based on the information.  The proposed regulations states that, “The Whistleblower Office will send to the claimant a preliminary denial letter that states the basis for the denial of the claim.”  §301.7623-3(c)(7).  This letter and administrative proceeding should provide claimants with a sense of closure as to what happened with the information that was provided. 

§301.7623-4, Amount and payment of award.

This section outlines the procedures that the Whistleblower Office uses to determine the award amount, including what factors are considered in determining the award percentage, what happens when there are multiple independent claimants, and when payment of an award is made.  In particular whistleblowers will want to look at §301.7623-4(c)(3), which discusses the Whistleblower Office’s application of “planned and initiated” for purposes of reduction or denial of an award.  If the Whistleblower Office determines that a claim for award is brought by an individual who planned and initiated the actions, transaction, or events that led to the underpayment of tax, the Whistleblower Office may appropriately reduce the amount of the award percentage that would otherwise result under section 7623.  Section 301.7623-4(c)(3)(ii) of the proposed regulations states when the IRS Whistleblower office is determining whether a whistleblower planned or initiated the scheme that the IRS Whistleblower Office will look at whether the individual “(A) Designed, structured, drafted, arranges, formed the plan leading to, or otherwise planned, an underlying act, (B) Took steps to start, introduce, originate, set into motion, promote or otherwise initiate an underlying act, and (C) Knew or had reason to know that there were tax implications to planning and initiating the underlying act.” 

Lynam Knott