Editor: Annette B. Smith, CPA
Procedure & Administration
Sec. 6603, added by the American Jobs Creation Act of 2004, P.L. 108-357, allows a taxpayer to deposit cash with the IRS that may subsequently be used to pay an underpayment of tax, suspending the running of interest on the portion of the underpayment deposited. The taxpayer may withdraw deposited amounts that have not been used to pay tax at any time, and the IRS is required to pay interest on the withdrawn amount for the deposit period at the applicable federal short-term rate to the extent the withdrawn amount is attributable to a disputable tax. Before the enactment of Sec. 6603, under the procedures set out in Rev. Proc. 84-58, taxpayers could make a “deposit in the nature of a cash bond,” which suspended the running of interest on an underpayment, but the IRS would not pay interest on the deposit if it was withdrawn.
A deposit made under Sec. 6603 is an alternative to making an advance payment of tax. An advance payment of tax also suspends the running of interest on an underpayment, and interest is paid on any portion of the payment that is refunded. However, a taxpayer making an advance payment generally will lose access to the Tax Court and cannot recover the payment amount on demand, but instead must wait until a final determination of the taxpayer’s liability for a refund (if an overpayment is determined). In addition, the interest rate paid on a refund of an advance payment of tax (the applicable federal short-term rate plus three percentage points or either two percentage points or one-half percentage point for corporations) is higher than the interest rate paid on the return of a deposit.
Rev. Proc. 2005-18, which supersedes Rev. Proc. 84-58, provides procedures for making deposits under Sec. 6603 to suspend the running of interest on potential underpayments, withdrawing those deposits, and converting deposits made under Rev. Proc. 84-58 to Sec. 6603 deposits. Recently, significant issues have arisen that are not addressed by either Sec. 6603 or Rev. Proc. 2005-18. The first issue is whether—and if so, how—a taxpayer can convert a Sec. 6603 deposit into an advance payment of tax.
Ability to Convert
In Principal Life Ins. Co., 95 Fed. Cl. 786 (2010), the U.S. Court of Federal Claims held that a taxpayer that has made a Sec. 6603 deposit cannot, at its request, convert it to an advance payment, based primarily on the ground that Rev. Proc. 2005-18 does not expressly provide for such a conversion. However, this rationale can be questioned. In other circumstances involving Sec. 6603, the IRS has allowed deviation from the statutory provisions. For example, consider CCA 200709062. Although Rev. Proc. 2005-18 permits making a Sec. 6603 deposit only by check or money order and is silent on making a deposit through the Electronic Federal Tax Payment System (EFTPS), in the CCA the Chief Counsel concluded that making deposits by EFTPS was permitted. In reaching that conclusion, Chief Counsel did not insist on there being specific statutory or regulatory authorization, but instead found it sufficient that neither the Code nor Rev. Proc. 2005-18 “legally precluded” taxpayers from remitting Sec. 6603 deposits by EFTPS.
In Letter Ruling 8738041, the IRS directly addressed the issue of converting a deposit in the nature of a cash bond made under Rev. Proc. 84-58 to a payment. The letter ruling concluded that a taxpayer that has responded to a proposed liability by making a remittance designated as a deposit in the nature of a cash bond may convert all or a portion of that remittance to a payment of tax and related interest if the taxpayer gives the IRS adequate notice of the intended redesignation. However, to get this treatment, the taxpayer had to agree to immediate assessment.
In addition, the facts in Ford Motor Co., No. 08-12960 (E.D. Mich. 6/3/10), aff’d, No. 10-1934 (6th Cir. 12/17/12), indicate that the IRS (1) respected the taxpayer’s requests that cash bond deposits be converted to advance payments, and (2) paid Ford interest at the overpayment rate from the dates of the conversion requests to when refunds ultimately were issued to the taxpayer. Note, however, that in a June 30, 2010, memorandum (PMTA 2010-023) to the director of the Service Wide Interest Program, the IRS cited Ford Motor Co. for the proposition that “the only way the taxpayer can ‘convert’ a remittance [i.e., from a deposit to an advance payment] is by agreeing to an assessment.” Nonetheless, that statement appears contrary to the facts of that case.
Finally, it should be noted that the taxpayer in Principal Life argued that the conversion resulted in a barred assessment statute, which made the deposits/payments statutory overpayments under Sec. 6401. Such facts seem distinguishable from a situation in which a taxpayer, after making the original deposit, simply changes its mind as to how it wants the remittance characterized (i.e., as an advance payment) because it decides that it no longer wishes to administratively contest the underlying tax issues.
Given these considerations, the conversion issue might be decided differently in another case. In that regard, a request for additional overpayment interest resulting from an attempted conversion perhaps could be litigated in a U.S. district court. In The E.W. Scripps Co., 420 F.3d 589 (6th Cir. 2005), the Sixth Circuit held that federal district courts have subject matter jurisdiction (concurrent with the Court of Federal Claims) over taxpayer suits for interest on tax overpayments.
Of course, a taxpayer that requests conversion of a Sec. 6603 deposit to an advance payment must be willing to accept the consequences of its actions. Once the IRS receives the request, the taxpayer no longer would be able to get the remittance back simply by asking that it be returned—as it could have if the money was still a deposit (see Rev. Proc. 2005-18, §6)—but instead could get the money back only when and if it was finally determined that the tax liabilities were overpaid.
Interest on Returned Funds
The second significant issue arises if a Sec. 6603 deposit is converted to a payment—either at the taxpayer’s request (as discussed above) or on the date the IRS assesses the additional tax for which the deposit was made—and some or all of the remittance is later returned or refunded to the taxpayer (see Rev. Proc. 2005-18, §4.02(1)).
The point of contention, or at least uncertainty, is what interest rate applies to the money returned or refunded to the taxpayer, and during what period of time the interest accrues. Relevant to that issue is the seemingly obvious rationale for the lower Sec. 6603 interest rate, i.e., that although the IRS has use of a Sec. 6603 deposit, its use is not as unfettered as its use of tax payments, because the taxpayer can request that a deposit be returned at any time. From a practical standpoint, it is also significant that the current Sec. 6603 interest rate is zero (because the current federal short-term rate is 0.22% and under Sec. 6621(b)(3) it is rounded to the nearest full percentage point).
In PMTA 2010-023, the IRS took the position that a Sec. 6603 deposit that has been converted to a payment upon the making of an assessment somehow reverts back to a deposit if, and to the extent that, the assessment is later abated, and therefore is entitled only to the lower Sec. 6603 interest rate. However, that seems to conflict with the rationale that underlies Sec. 6603. That is, between the time of the assessment and the later abatement, the taxpayer had no use of, or access to, the money, because it was being used to satisfy an assessed liability. The IRS, on the other hand, had complete, unfettered use of the money during that time—which should rebut any justification claimed for the lower Sec. 6603 interest rate. Paying the taxpayer interest at the lower Sec. 6603 rate for the period during which the money was being treated as the payment of an assessed liability would unjustly punish the taxpayer, and would be contrary to Sec. 6611 (which generally requires that interest be paid on tax overpayments), basic “use of money” principles, and common sense.
In its brief to the Sixth Circuit in Ford Motor Co., the Justice Department argued that when a Sec. 6603 deposit is converted at the taxpayer’s request to a payment, the requesting taxpayer is treated as though it had withdrawn the deposit and resubmitted it as a payment of tax. Consequently, the taxpayer should receive interest at the lower Sec. 6603 rate from the remittance date to the conversion date, and interest at the Sec. 6621(a) overpayment rate runs from the conversion date to the refund date. With respect to overpayment interest, the Sixth Circuit seemingly agreed with the Justice Department that “section 6603 allows for the payment of interest at two different rates for a converted deposit” (Ford Motor Co., No. 10-1934 (6th Cir. 12/17/12)).
However, with respect to the suspension of underpayment interest, the court took issue with the government’s theory that when a deposit converts to a payment, it is as if the deposit was returned to the taxpayer and then the taxpayer resubmitted the deposit amount as an advance payment of tax—a consequence of which is that underpayment interest no longer would be suspended from the remittance date to the conversion date (see Rev. Proc. 2005-18, §8). In rejecting the “constructive return” theory, the Sixth Circuit stated that it would defeat the “entire purpose” of making a deposit, which is to stop the running of underpayment interest.
Annette Smith is a partner with PwC, Washington National Tax Services, in Washington, D.C.
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