Section Imposition of Accuracy Related Penalty Frivolous tax returns meritless

							Section 6662.—Imposition                         a meritless “claim of right” argument. The
of Accuracy-Related                              Service will take vigorous enforcement ac-
Penalty                                          tion against these taxpayers and against
                                                 promoters and return preparers who assist
   Frivolous tax returns; meritless              taxpayers in taking these frivolous posi-
“claim of right” arguments. This ruling          tions. Frivolous returns and other sim-
emphasizes to taxpayers, and to promoters        ilar documents submitted to the Service
and return preparers who assist taxpayers        are processed through its Frivolous Return
with frivolous tax schemes, that there is no     Program. As part of this program, the
“claim of right” doctrine that permits an        Service confirms whether taxpayers who
individual to take the position that either      take frivolous positions have filed all of
the individual or the individual’s income        their required tax returns, computes the
is not subject to federal income tax. The        correct amount of tax and interest due,
ruling also describes many of the possi-         and determines whether civil and crimi-
ble civil and criminal penalties that apply      nal penalties should apply. The Service
to people who make frivolous “claim of           also determines whether civil or criminal
right” arguments to evade tax.                   penalties should apply to return prepar-
                                                 ers, promoters, and others who assist tax-
Rev. Rul. 2004–29                                payers in taking frivolous positions, and
                                                 recommends whether a court injunction
PURPOSE                                          should be sought to halt such activities.
                                                 Other information about frivolous tax po-
    The Service is aware that some taxpay-       sitions is available on the Service website
ers are attempting to reduce their federal       at www.irs.gov.
tax liability by taking the position that ei-
ther they or their incomes are not subject       ISSUE
to tax based on what they describe or refer
                                                    Whether section 1341, relating to
to as a “claim of right.” The Service also is
                                                 amounts “held under claim of right,”
aware that promoters, including return pre-
                                                 allows an individual to reduce his or her
parers, are advising or recommending that
                                                 federal income tax liability with respect
taxpayers take frivolous positions based on
                                                 to an item that was not included in gross
this argument. Some promoters may be
                                                 income for a prior taxable year.
marketing a package, kit, or other materi-
als that claim to show taxpayers how they        FACTS
can avoid paying income taxes based on
this and other meritless arguments.                 Individual taxpayer A has gross income
    This revenue ruling emphasizes to tax-       for taxable year 1. A claims deductions
payers, and to promoters and return prepar-      that equal or exceed A’s gross income on
ers who assist taxpayers with this scheme,       A’s individual income tax return for tax-
that there is no “claim of right” doctrine       able year 1. A’s claimed deductions may
that permits an individual to take the po-       appear on various places on the return. For
sition that either the individual or the indi-   example, A may claim the deductions: (i)
vidual’s income is not subject to federal in-    on Schedule A as compensation for per-
come tax. This argument has no merit and         sonal labor; (ii) on Schedule C as a cost
is frivolous. Section 1341 (“Computation         of A’s labor; or (iii) on other schedules or
of tax where taxpayer restores substantial       elsewhere on A’s return. Alternatively, A
amount held under claim of right”) of the        simply may not report all or some of A’s
Internal Revenue Code applies only when          gross income on A’s return. Although the
a taxpayer properly reports an amount of         specific nature of A’s “claim of right” ar-
income in one taxable year and later repays      gument for the position taken on the return
all or a portion of that same amount in a        may vary, A’s position generally is that un-
later taxable year because the taxpayer, in      der a “claim of right,” either A or A’s in-
fact, did not have an unrestricted right to      come, or both, are not subject to federal in-
that income.                                     come taxes.
    The Service is committed to identify-           No portion of A’s claimed deductions,
ing taxpayers who attempt to avoid their         or the amount of A’s gross income not re-
tax obligations by taking frivolous posi-        ported on the return, was included in A’s
tions, such as frivolous positions based on      gross income in any prior taxable year.
LAW AND ANALYSIS                                 is equal to 20 percent of the amount of          ties against persons who prepare frivolous
                                                 taxes the taxpayer should have paid; (2) the     returns or promote frivolous positions, and
    Section 1341 governs the computation         section 6663 penalty for civil fraud, which      those persons also may face criminal pros-
of income tax if: (i) an amount of income        is equal to 75 percent of the amount of          ecution. Promoters and others who as-
was included in a taxpayer’s gross income        taxes the taxpayer should have paid; (3) a       sist taxpayers in engaging in these schemes
in a prior year(s) because it appeared that      $500 penalty under section 6702 for filing       also may be enjoined from doing so under
the taxpayer had an unrestricted right to        a frivolous return; and (4) a penalty of up to   section 7408.
such item; and (ii) a deduction exceeding        $25,000 under section 6673 if the taxpayer
$3,000 is allowable in the current taxable       makes frivolous arguments in the United          DRAFTING INFORMATION
year because, after the close of such prior      States Tax Court.
                                                                                                     This revenue ruling was authored by the
taxable year, it is established that the tax-        Taxpayers relying on this scheme also
                                                                                                  Office of Associate Chief Counsel (Proce-
payer did not have an unrestricted right to      may face criminal prosecution for: (1) at-
                                                                                                  dure and Administration), Administrative
all or a portion of such item of income.         tempting to evade or defeat tax under sec-
                                                                                                  Provisions and Judicial Practice Division.
There is no “claim of right” doctrine under      tion 7201 for which the penalty is a fine of
                                                                                                  For further information regarding this rev-
U.S. law, including the Internal Revenue         up to $100,000 and imprisonment for up to
                                                                                                  enue ruling, contact that office at (202)
Code, that permits an individual to take the     5 years; or (2) making false statements on
                                                                                                  622–7950 (not a toll-free call).
position that either the individual or the in-   a return under section 7206 for which the
dividual’s income is not subject to federal      penalty is a fine of up to $100,000 and im-
income tax.                                      prisonment for up to 3 years.
    Individuals such as Taxpayer A who               Persons who promote this scheme and
make meritless “claim of right” arguments        those who assist taxpayers in claiming tax
do not purport to have repaid amounts pre-       benefits based on this scheme also may
viously reported as income, but instead          face penalties. Potential penalties include:
simply claim that either they or their in-       (1) a $250 penalty for each return pre-
comes are not subject to tax. In many re-        pared by an income tax return preparer
spects, the so-called “claim of right” argu-     who knew or should have known that the
ment being made by these taxpayers is no         taxpayer’s argument was frivolous (or
different than the argument that some tax-       $1,000 for each return where the return
payers have made that compensation for           preparer’s actions were willful, intentional
personal services is not subject to taxa-        or reckless); (2) a $1,000 penalty under
tion. Courts repeatedly have rejected these      section 6701 for aiding and abetting the
types of arguments as frivolous and have         understatement of tax; and (3) criminal
penalized taxpayers who make these types         prosecution under section 7206 for which
of arguments. See, e.g., Stelly v. Commis-       the penalty is a fine of up to $100,000
sioner, 761 F.2d 1113, 1115 (5th Cir. 1985)      and imprisonment for up to 3 years for
(finding that the argument that taxing wage      assisting or advising about the preparation
and salary income is unconstitutional be-        of a false return or other document under
cause compensation for labor is an even          the internal revenue laws. Promoters and
exchange is obviously frivolous); Abrams         others who assist taxpayers in engaging in
v. Commissioner, 82 T.C. 403, 413 (1984)         these schemes also may be enjoined from
(rejecting argument that wages are not sub-      doing so under section 7408.
ject to the imposition and collection of tax
as frivolous and groundless and imposing         HOLDING
a $5,000 penalty under section 6673).
                                                    Any claim that a taxpayer can use a
CIVIL AND CRIMINAL PENALTIES                     “claim of right” argument to reduce the
                                                 taxpayer’s federal income tax liability with
    The Service will disallow deductions or      respect to any item not included in gross
other claimed tax benefits, including the        income for a prior tax year is frivolous.
exclusion of income, based on frivolous          Taxpayers attempting to reduce their fed-
“claim of right” arguments. In addition          eral tax liability by taking frivolous posi-
to liability for tax due plus statutory in-      tions based on this argument will be liable
terest, individuals who claim tax benefits       for the actual tax due plus statutory inter-
on their returns based on this and other         est. In addition, the Service will determine
frivolous arguments face substantial civil       civil penalties against taxpayers where ap-
and criminal penalties. Potentially appli-       propriate, and those taxpayers also may
cable civil penalties include: (1) the sec-      face criminal prosecution. The Service
tion 6662 accuracy-related penalty, which        also will determine appropriate civil penal-