Taxpayers Ask Federal Circuit to Overturn “Harsh” Application of Statute of Limitations

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May 30, 2012

In Cadrecha v. United States, No. 11-152 (Apr. 2, 2012), the Court of Federal Claims ruled that the taxpayers could not escape the clutches of the statute of limitations, even though the failure to file a timely lawsuit was largely attributable to contradictory and confusing IRS communications.  The taxpayers have now appealed, hoping that the Federal Circuit will be more sympathetic.

The Court of Federal Claims acknowledged that the result was “harsh” on these facts.  The taxpayers filed a timely amended return in March 2007, styled as a protective claim for refund, on the theory that a recent Court of Federal Claims decision (Fisher) entitled the taxpayers to a refund of gains reported from the sale of stock received as a result of an insurance company demutualization.  (That decision was affirmed by the Federal Circuit in October 2009).  After the three-year statute of limitations had expired, the IRS responded by asking for more “supporting information” and invited the taxpayers to file another claim identifying the court case on which it relied.  The taxpayers replied to this letter in May 2007, identifying the case.

The IRS then sent a couple of letters indicating that it needed more time to respond.  Thereafter, in August 2007, it sent a notice disallowing the claim on the ground that it was untimely.  This disallowance was patently erroneous, as the IRS apparently overlooked the March 2007 amended return and instead treated the May 2007 supplementary letter as if it were the original refund claim.  The letter disallowing the claim invited the taxpayers to appeal the disallowance to the IRS Appeals Office and also stated that the taxpayers had two years to file a refund suit.

The taxpayers immediately responded with a letter pointing out that the IRS had erred in ignoring the March 2007 filing.  There ensued a succession of communications from the IRS — at least seven letters plus some oral conversations — in which the IRS reported various transfers to different IRS offices and that it needed more time to research the issue.  By the time the taxpayer lost patience with this process and filed suit in the Court of Federal Claims, more than two years had elapsed since the disallowance letter was sent.  The court therefore dismissed the suit as untimely — even though there was no question that the IRS’s ground for disallowance (an allegedly untimely refund claim) was erroneous and that the taxpayer’s position was correct on the merits under Federal Circuit precedent.  The court acknowledged that this result was “harsh” because the untimeliness was, in large part, attributable to the IRS’s own behavior; the court found that “[a]s a result, to some degree, of the IRS’s actions, plaintiffs may have come to believe that the IRS was continuing to analyze their refund claim and that the IRS was in the process of reconsidering the notice of disallowance.”

The court held, however, that there was no legal basis for excusing the taxpayers’ failure to file suit within the two-year limitations period.  The taxpayers relied upon cases that excused apparent statute of limitations problems on the ground that the IRS had orally withdrawn a notice of disallowance.  The court found those cases distinguishable, observing that neither the notice of disallowance nor the timeliness issue was mentioned in any of the IRS correspondence — though that correspondence certainly suggested that the taxpayers’ claim was still under active consideration at the IRS.  The court then added that the law does not permit equitable tolling of the statute of limitations and therefore, if the notice was not withdrawn, it made no difference “if the actions of the IRS misled or confused the taxpayer.”

Cadrecha trial court opinion