After Ms. Castillo filed a complaint in district court seeking actual damages, punitive damages and attorney’s fees based on the disclosure violation, the government filed a motion for judgment on the pleadings, conceding that its sending of the determination to the old attorney was a violation of Section 6103 but arguing that damages were limited to $1,000, the statutory minimum for violations of Section 6103.
The parties consented for a magistrate judge to resolve the matter, and the court’s order granted the government’s motion with respect to the finding that the government was not on the hook for actual damages but left open for another day the issue of punitive damages and attorney’s fees.
The case involves a CDP notice issued to the taxpayer after the filing of a notice of federal tax lien. According to the complaint, the over $80,000 2014 tax debt related to a Brooklyn based seafood store, Castillo Seafood, which Ms. Castillo sold in 2009 and which has had no affiliation with since that time. The taxpayer had been working with an attorney named Molina at the time if the CDP notice’s issuance, and with his assistance and authorization filed a request for a CDP hearing.
The taxpayer retained new counsel prior to the hearing, and that counsel, Elizabeth Maresca and law students of Lincoln Square Legal Services, Inc. (LSLS) communicated with the assigned Appeals Officer at the October 2018 hearing. In addition, the taxpayer and her new counsel had both properly executed and submitted a Power of Attorney. The complaint alleged that the new counsel had confirmed the IRS’ receipt of the new POA and the revocation of the prior POA and that the IRS’s CAF Unit had properly recorded the revocation of the old POA and processing of the new POA.
The government conceded that in December of 2018 it sent the CDP determination to Molina, an attorney no longer authorized to represent the taxpayer. That communication was an unauthorized disclosure of her tax return information under Section 6103. Molina did not forward the CDP determination to Ms. Castillo or to her new representatives.
The case discusses in detail how, by failing to send the determination to Maresca and LSLS, Appeals failed to follow its procedures set out in the IRM. Moreover, the taxpayer alleged in the complaint that the determination supposedly mailed to her was never in fact delivered to her, and postal records two years after the supposed 2018 mailing still indicated that it was “in transit.”
After unsuccessfully trying to get an update on the status of the case, a problem compounded by the late 2018 early 2019 government shutdown, Maresca only heard about the determination in the fall of 2019, when she and her students ordered transcripts. Upon learning that the determination was issued, Maresca filed a petition in Tax Court challenging the determination and seeking to review the underlying liability. The Tax Court dismissed the petition on jurisdictional grounds finding that even though Ms. Castillo did not receive the notice it was a valid notice because it was properly mailed to her last known address. Ms. Castillo appealed the dismissal to the Second Circuit which suspended the case waiting for the outcome of the Supreme Court decision determining whether late filed petitions raise jurisdictional or claims processing rules. Now that the Supreme Court has decided the issue and reversed the Tax Court, the Second Circuit will send Ms. Castillo’s case back to the Tax Court which tees up the Boechler issues that Keith has discussed in What Happens After Boechler – Part 4: The IRS Argues That Equitable Tolling Would Not Apply in Deficiency Cases
How Much Can the Taxpayer Recover When There is An Unauthorized Disclosure?
On a separate track, Maresca and LSLS filed a complaint and amended complaint in district court seeking damages for the IRS’s wrongful disclosure.
Section 7431(c) provides that when the government wrongfully discloses tax return information, it is liable for a minimum of $1,000 per violation. As an alternate to the $1,000 minimum, the statute also provides that a taxpayer is entitled to more than $1,000 per disclosure if actual damages and punitive damages (in the case of a disclosure that is willful or the result of gross negligence) exceed the statutory minimum.
In seeking actual and punitive damages, as well as costs and legal fees, the taxpayer alleged that the sending of the determination to the wrong attorney and the concomitant failure to send the determination to the authorized representative led to her missing her deadline to challenge the liability. That led to collection action. All of that has led to her becoming “emotionally and physically consumed by the effects of the IRS’s error, ”, affecting “her eating habits, her ability to sleep, her blood pressure, and her overall mental health.”
With respect to the actual damages, the government argued that any actual damages did not result from the unauthorized disclosure to the old attorney, but rather related to the failure to send the determination to the proper attorney. According to the government, any harm attributable to the failure to send the determination to the right attorney is itself not specifically addressed in Section 6103 or Section 7431.
The court agreed with the government:
The real problem here is that, at its core, what the Amended Complaint alleges is that [Appeals] neglected to follow IRS procedures and protocols, and, in so doing, made an improper decision as to where to send the Notice of Determination. That decision (which, for this analysis, the Court will label “Event A”) essentially led to two separate events: (1) the unauthorized disclosure of the Notice to Molina (which the Court will label “Event B1”), and (2) the failure to make an authorized disclosure of the Notice to LSLS (which the Court will label “Event B2”).
Events B1 and B2 were arguably two sides of the same coin, resulting simultaneously from the same improper decision. For purposes of Section 7431(c) though, the first level of the proximate-cause inquiry asks what was caused in fact by Event B1 (the unauthorized disclosure that constituted the Section 6103 violation), not what was caused in fact by Event A. The Court simply cannot draw the inference from Plaintiff’s allegations, even taken as true, that Event B1 was itself a “but for” cause of Event B2. In short, although the IRS’s unauthorized disclosure to Molina and its failure to make an authorized disclosure to LSLS both plausibly had the same root cause in the IRS’s failure to follow its own protocols, one cannot be said to have caused the other.
The court noted that the issue would differ if the disclosure to the old counsel led to that unauthorized recipient subsequently disseminating her return information that itself led to harm. Though sympathetic to her plight, the court noted it was “constrained to agree with Defendant that, despite the unfortunate consequences of its conceded failure to send the Notice of Determination to Plaintiff’s authorized representative, Plaintiff has not adequately pleaded that those consequences were caused in fact by the IRS’s disclosure of the Notice to an unauthorized representative.”
Despite the victory on actual damages the court did not find in favor of the government on the issue of punitive damages. With respect to the punitive damages issue, there is a split in the circuits as to whether a taxpayer is entitled to punitive damages in the absence of a finding of actual damages. A Ninth Circuit case from 2004, Siddiqui v US, as well as a handful of district court opinions, have held that that the statute’s use of the word “plus” when referring to the ability to get actual damages and punitive damages introduced ambiguity as to whether punitive damages could be awarded in the absence of actual damages. Given the principle that waivers of sovereign immunity are to construed in favor of the government those courts held that a finding of no actual damages meant no possibility of punitive damages.
A Fourth Circuit case from the 90’s, Mallas v US, rejected that reading of the statute, and held that so long as there was either a disclosure related to willful or grossly negligent government actions a taxpayer could receive punitive damages. As there was no Second Circuit law on the issue, the court took a crack at its own interpretation, and agreed with Mallas.
In the alternative, the government argued that the allegations did not rise to the level of gross negligence, and even under the Mallas interpretation of the statute the taxpayer was not entitled to punitive damages. The court noted that the standard for gross negligence was substantially higher than ordinary negligence requiring, for example, “conduct that is highly unreasonable and which represents an extreme departure from the standards of ordinary care.”
The court disagreed with the government position that the facts of the case amounted to a relatively “simple albeit continuing error”:
What Plaintiff has pleaded, in her Amended Complaint, is that the IRS repeatedly ignored its own protocols that were intended to assure that its staff paid attention to what the IRS itself deemed “critical” information regarding the identity of the taxpayer’s authorized representative…. This suggests that more than a single, “simple” error, and more than a lack of ordinary care.
With respect to attorney’s fees, the court rejected as preliminary the taxpayer’s argument that the court should award attorney’s fees at this juncture of the case. The damages statute incorporates Section 7430, which requires the taxpayer to prove that she is the “prevailing party”. The means the taxpayer will have to prove that she has “substantially prevailed” with respect to either “the amount in controversy” or “the most significant issue or set of issues presented.” In the absence of a finding on punitive damages, as well as a determination as to whether the government can overcome the presumption that its position was not substantially justified as a result of its failure to follow its own guidance, the court felt that the timing was not right to resolve this issue.
The case continues, and we will watch it carefully. From my discussions with practitioners, it is not uncommon for the IRS to mistakenly send information to former representatives. The thorny interpretative issues in the case are ones that the government and taxpayer are likely to continue to press. The related Boechler issue in this case raise its own issues, albeit arguably connected to the underlying punitive damages claim if in fact the taxpayer does get to have her day in court.