March 8, 2021
Ninth Circuit reverses district court's dismissal of research credit case
In Harper v. United States, the Ninth Circuit reversed a district court's dismissal of a research credit claim, finding the IRS waived enforcement of the specificity requirement in Treas. Reg. Section 301.6402-2(b)(1) given that the four-year audit was " … specifically directed to determining [the taxpayers'] eligibility for an increased research activities credit."
Jeffrey and Katherine Harper are the sole shareholders of a design and construction company. In 2012, they filed amended tax returns on behalf of the company for 2008 and 2010 and claimed refunds resulting from increased research credits for both years. In September 2016, following a four-year examination of the Harpers' amended returns, the IRS denied their refund claims.
The Harpers filed suit in the US District Court for the Southern District of California to recover the refunds claimed. The government moved for summary judgment, claiming the court lacked subject matter jurisdiction because the Harpers' research credit claims did not comply with the specificity requirements of Treas. Reg. Section 301.6402-2(b)(1), requiring taxpayers to set forth in detail each ground upon which a credit or refund is claimed and facts sufficient to apprise the Commissioner of the exact basis for the refund.
The district court granted the government's motion, ruling that the Harpers' refund claims did not satisfy the specificity requirements and, therefore, the court lacked subject matter jurisdiction to consider the suit. The Harpers appealed to the Ninth Circuit.
The Ninth Circuit reversed the lower court's dismissal of the Harpers' refund suit and remanded the case for further proceedings.
In doing so, the court acknowledged that the specificity requirement is "an administrative exhaustion provision, intended to ensure that the IRS is given adequate notice of each claim and its underlying facts, so that the IRS may conduct an administrative investigation and determination" (internal citations omitted). However, the court observed the IRS may be deemed to have waived the specificity requirement if a plaintiff shows the Commissioner ignored his own formal requirements and actually examined the merits of the claim. The Ninth Circuit concluded that the IRS's lengthy and substantive examination and subsequent denial of the Harpers' claims on the merits constituted a "textbook case" of waiver of the specificity requirement. When the IRS denied the Harpers' claims, the court pointed out, it specifically informed them that they could seek recourse by filing suit in the district court, which is exactly what they then did.
In a concurring opinion, one of the judges on the three-judge panel argued that the case should have been decided in the Harpers' favor based on the informal claim doctrine, which, unlike the waiver argument raised by the court on its own, the Harpers had raised in their pleadings. Though the Ninth Circuit has not adopted a formalized test for the informal claim doctrine, the concurrence observed that other jurisdictions have adopted tests that have "the same general requirements: (1) a written request for a refund; (2) that specifies the tax and the year for which the refund is sought; and (3) that provides sufficient notice to allow the government to investigate the claim." Applying those requirements, the concurring opinion concluded that the Harpers satisfied the informal claim doctrine by filing Forms 6765 and amended returns, which put the government on notice that they were requesting a refund for 2008 and 2010 on the basis of the research credit. Further, the concurring opinion found that the Harpers perfected their claim during the investigative process, which was evidenced by the correspondence between the government and the Harpers.
Though it is geographically limited to the Ninth Circuit and arguably the specific facts of the case, the appellate court's decision in Harper provides some guidance for taxpayers filing amended refund claims, particularly in the research credit context. The lower court's dismissal of the case in 2019 raised the possibility that taxpayers like the Harpers might be precluded from resolving their claims in court and unable to settle with the IRS on audit for less than full amounts claimed. Taxpayers that had not yet filed, but were planning to file, amended refund claims may have been inclined to include more information than they typically would have included on an amended return to avoid potential IRS arguments that the claim did not satisfy the specificity requirements of Treas. Reg. 301.6402-2(b)(1). However, even in light of the Ninth Circuit's reversal, including more information, rather than less, is still a best practice.
Although the Ninth Circuit decision is taxpayer-favorable in that it recognizes that a substantive examination of the merits of a claim can constitute a waiver of the specificity requirement, it could possibly result in the denial of refund claims earlier in the administrative process on the basis that the claims do not set forth enough detail (i.e., as soon as it begins to audit a claim instead of years later in court). For taxpayers with a research credit refund claim currently under audit, however, the Ninth Circuit's opinion does provide some comfort that their claims will be heard by a court if needed.
In addition, the concurring opinion provides a potential alternative argument for taxpayers that cannot argue waiver of the specificity requirement, e.g., in the event the IRS did not conduct an in-depth, lengthy examination of their claim. While the waiver analysis looks to the actions of the IRS, the informal claim doctrine instead focuses on the actions of the taxpayer, both in filing the amended return and in providing further information during an examination, to determine whether a valid claim has been made. Applying the informal claim doctrine puts taxpayers in control, as they could perfect an informal claim by providing detailed documentation in responding to information document requests (IDRs). Whether the claim is sufficient would therefore be based primarily on the taxpayer's own actions as opposed to those of the IRS.
While Harper concerned an amended return seeking refunds based on research credit claims, the decision is relevant for any taxpayer filing an amended return to claim a credit or refund. As a general rule, the more detailed information a taxpayer includes in its timely filed refund claim, the more likely the claim will satisfy the specificity requirements if challenged by the IRS.