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IRS Fails to Follow 3-Step Process for Levying Retirement Account, Must Reconsider Collection Alternatives.

(Parker Tax Publishing April 22, 2015)

The Tax Court determined a settlement officer did not follow IRS protocol in sustaining a proposed levy on taxpayers' retirement account, and sent the case back to the IRS Appeals Office for further review. The taxpayers were experiencing economic hardship and relying on loans from a 401(k) account, but the officer did not appear to take that in to consideration when denying collection alternatives. Gurule v. Comm'r, T.C. Memo 2015-61.

Background

The Gurule family has faced myriad medical and financial challenges. Mrs. Gurule suffers from a severe neurological condition that causes her to experience seizures and has prevented her from working. The taxpayers' middle son was in an accident as a child and suffered a brain injury. He had medical problems throughout his life as a result of the injury and passed away in August 2013 from these problems. The associated medical costs compounded the family's financial challenges.

Mr. Gurule worked for General Mills for 18 years, beginning as a technician and advancing within the company. His job required him to move his family several times, most recently from Minnesota to Missouri in 2009. When the family moved to Missouri, Mr. Gurule took distributions from his Code Sec. 401(k) plan account in order to pay for a down payment on a house. Three months later, Mr. Gurule lost his job, preventing the family from finalizing the Missouri house purchase and forcing them to move back to their unsold Minnesota home. After the Minnesota home came under foreclosure, the family was forced to move again.

Due to the family's financial struggles, Mr. Gurule took out several loans from his 401(k) plan to pay for foreclosure, moving, and rent expenses, as well as for his son's medical bills and funeral service expenses.

In 2011, the IRS assessed a tax deficiency of $36,516 and notified the taxpayers of its intent to levy their retirement account to pay the liability. Unable to pay, the taxpayers proposed an offer in compromise and an installment agreement. However, the settlement officer rejected the collection alternatives, concluding the family's reasonable collection potential (RCP) was sufficient to pay the liability in full.

Analysis

The Tax Court noted that Code Sec. 6343(a)(1)(D) requires the IRS to release a levy upon all, or part of, a taxpayer's property if a levy would cause economic hardship to the taxpayer. The tax court found, however, that despite the taxpayers' assertion that they needed the 401K to pay necessary living expenses and would be harmed by the levy, the settlement officer's case notes did not show that she ever considered, much less made a determination about, the economic hardship claim.

The court found that the settlement officer may have made a material error in calculating the family's RCP, which would affect whether their alternate collection offers were properly denied. The officer calculated as a monthly expense repayments of the loans from the 401(k) account, based on amounts taken out of Mr. Gurule's paychecks. However, the earning statements the officer relied on reflected biweekly, not monthly, earnings, so the taxpayers' actual loan expenses were twice what the officer reported.

Additionally, the court found that the settlement officer did not follow the IRM's three-step process for levying retirement accounts, which includes consideration of special circumstances such as extraordinary expenses. The court noted that this was the case even though the officer was aware that the family was using their 401(k) plan account to pay necessary living expenses and the taxpayers' medical costs were at the time significant and unpredictable.

OBSERVATION: Internal Revenue Manual pt. 5.11.6.2 has a three-step procedure for levying upon retirement accounts. Step 1 requires agents to determine if property other than retirement assets are available for collection. If other funds can be collected to pay the liability, agents should consider those before proceeding against a retirement account. Step 2 requires agents to determine whether a taxpayer's conduct has been flagrant, for example, by making voluntary contributions to a retirement account while asserting an inability to pay tax liabilities. If there is no flagrant conduct, agents should not levy the account. Step 3 requires agents to determine whether the taxpayer currently depends on the money in the retirement account for necessary living expenses, or will need to in the near future. If the taxpayer is dependent on the funds, agents should not levy the account.

In the light of the unclear reasons the officer rejected the Gurules' proposed collection alternatives, the Tax Court was unable to conclude whether proceeding with the collection action was an abuse of discretion and sent the case to the IRS Appeals Office for further consideration and clarification.

For a discussion of IRS collection procedures with respect to tax levies, see Parker ¶260,540. (Staff Editor Parker Tax Publishing)

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

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