IRS advises that restitution payments may be applied in the government's best interest

Plain-English summary

Chief Counsel Advice addressed how the IRS should apply criminal restitution payments after civil examinations produced additional personal and corporate tax liabilities. The memorandum concluded that restitution payments are involuntary payments and may be applied in the Service's best interest, considering the collection statute expiration date for all outstanding liabilities. It stated that this will generally mean applying payments to the oldest tax, then the oldest penalty, and then the oldest interest until the funds are used. The advice concluded that the Service did not err by applying the payments first to the taxpayers' personal additional income tax liabilities and then to the corporation's income tax liabilities, without applying them to penalties or interest.

Ruling snapshot

• Question: May the IRS apply court-ordered restitution payments to unpaid tax liabilities in the manner that best serves the government's interests?
• Outcome: Advice given
• Key authorities: IRC § 6201(a)(4); 18 U.S.C. §§ 3556, 3663(a)(3), 3663A, 3583(d), 3563(b)(2), 3613A; Rev. Proc. 2002-26

Full text (IRS public release)

       Office of Chief Counsel
       Internal Revenue Service
       memorandum
       Number: 201347021
       Release Date: 11/22/2013
       CC:PA:03: AEGoldstein
       POSTF-109581-13

UILC: 6201.00-00

date: June 19, 2013

 to:   Mary P. Hamilton
       Senior Attorney (Boston, Group 2)
       (Small Business/Self-Employed)

from: Thomas W. Curteman, Jr.
Senior Technician Reviewer, Branch 4
(Procedure & Administration)

subject: Application of Restitution Payments

       This Chief Counsel Advice responds to your request for assistance. This advice may
       not be used or cited as precedent.


       ISSUES

       Whether the Service must apply restitution payments that were ordered in connection to
       corporate income taxes to the corporate income tax liability, or whether they may be
       applied to other unpaid tax liabilities of the defendants/taxpayers making those
       restitution payments.

       CONCLUSIONS

       The Service may apply restitution payments, as involuntary payments, in the Service’s
       best interest.

       FACTS

       The following facts are what we understand from the Office of Appeals. The Service
       opened an audit for the corporation, --------------------------------regarding income taxes for
       the following periods: --------------------------------------. The audit resulted in a criminal
       investigation and charges under criminal tax statutes of the corporate principles, ----------
       --------- and his son ------------------------. As part of the judgment, the taxpayers pleaded

POSTF-109581-13 2

guilty to two different counts in the indictment, Count One ----------------------------------------
----------and Count Seven -----------------------------, and were jointly ordered to pay criminal
restitution totaling ------------------. The restitution was fully paid on ---------------------. The
corporation was not charged with tax crimes.

The Service completed a civil examination for the father’s and son’s personal income
taxes as well as and the corporation’s income taxes. Each taxpayer, -------------------------
-----------------------------------------------------------------------and ----------------------------------------
-------------------------------------------------------------------------------------------------------each had
a hearing with Appeals regarding the proposal additional assessments. After the
hearings, they agreed to additional assessments regarding both personal income taxes
for ------------------------------and business income taxes for tax periods -------------------------
----------------- ------- -------------- ---------, ------------------------------------and -----------------------
------also agreed to fraud penalties. These additional assessments for individual
liabilities were assessed for all periods on --------------------------and for the corporate
liabilities on -----------------------------------------------.

The Service retained the restitution pending the outcome of the examination and
credited the restitution payments only once the Service assessed the personal and
corporate taxes. The restitution funds were credited as follows:

       Tax Liability                    Deficiency1                Restitution        Restitution Credited from ---
                                                               Credited from ---             -------------------------------
                                                                 -------------------

------------------------------------ ----------------- ---------------------- ------
------
-------------------- ----------------------- -----------------------

------------------------------------- ------------------------ ------ ------------------------
-------------------------------------- ------------------------ ------------------------ -----
-
------------------------------- ------------------------- ------------------------ ------------------------

------------------------------- ------------------------ ------ ------------------------

The Service only credited the restitution payments received to the tax liabilities for the
periods set out above, not to any penalties or interest for those periods. The restitution
payments were first credited to pay the --------------personal additional income tax
liabilities (again, not including penalties or interest) with the remainder credited to the
corporation’s income tax liabilities. The taxpayers’ attorney filed a motion with the
sentencing Federal district court for clarification of the restitution order. The judge

1
This amount does not include any assessed penalties relating to the respective tax periods.
POSTF-109581-13 3

would not amend the judgment and determined that the dispute was between the
taxpayers and the IRS.

LAW AND ANALYSIS

“Restitution is a compensation for loss; full or partial compensation paid by a criminal to
a victim, not awarded in a civil trial for tort, but ordered as part of a criminal sentence or
as a condition of probation.” Black’s Law Dictionary 1428 (19th Ed. 2009). When there
is a tax-related crime, the government and particularly the Internal Revenue Service is
usually the victim. Federal district courts may order a defendant to pay restitution
pursuant to 18 U.S.C. § 3556 to the Service to compensate it for its actual loss caused
by a convicted defendant. Restitution can also be ordered as part of a plea agreement,
if the defendant is convicted of a Title 18 criminal offence, or as a condition of a
supervised release or probation. 18 U.S.C. §§ 3663(a)(3), 3663A, 3583(d), 3563(b)(2).
When a criminal tax case is settled between the defendant and the government, the
parties may enter into a plea agreement that, among other things, waives an appeal of
the restitution order. 18 U.S.C. § 3663(a)(3). The defendant can object to certain
provisions of the plea agreement, including provisions that related to the existence and
amount of tax loss. Failure to comply with the restitution order may result in the court
holding the defendant in contempt, and the result of a contempt determination may
include the court revoking probation or resentencing the defendant. See 18 U.S.C.
§ 3613A.

The Service treats a restitution payment as an involuntary payment because it is either
a payment agreed to as a result of a plea agreement or a court order. Involuntary
payments are defined as “any payment received by agents of the United States as a
result of distraint or levy or from a legal proceeding in which the Government is seeking
to collect its delinquent taxes or file a claim therefor.” U.S. v. Pepperman, 976 F.2d
123, 127 (3d Cir. 1992) (quoting Amos v. Commissioner, 47 T.C. 65, 69 (1966)).

The Service will apply involuntary payments to satisfy the outstanding balances in the
order that best serves the interests of the government, considering the CSED for all
outstanding liabilities. Pepperman, 97 F.2d at 127; Amos, 47 T.C. at 69. This will
generally require application to the oldest tax, oldest penalty, and oldest interest, in that
order until fully used. This order of payment application is based on Rev. Proc. 2002-
26, which provides the Service’s position regarding payment application by the Service
of a partial payment of tax, penalty, and interest for one or more taxable periods. In this
case the Service did not err in applying the taxpayer’s restitution payments as
involuntary payments in the best interest of the government.2

2
On August 16, 2010, the Federal Excise Tax Improvement Act of 2010 (FETI Act), Pub. L. No. 111-237,
§ 3(a), amended section 6201(a)(4) to require the assessment and administrative collection of the
“amount of restitution under an order pursuant to [18 U.S.C. § 3556], for failure to pay any tax imposed
under [the I.R.C.] in the same manner as if such amount were such tax.” In this case, restitution was
ordered before August 16, 2010, so the restitution amount cannot be assessed. Because the restitution-
based assessment provisions of section 6201(a)(4) are not applicable to the facts in this case, we reserve
POSTF-109581-13 4

CASE DEVELOPMENT, HAZARDS AND OTHER CONSIDERATIONS

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This writing may contain privileged information. Any unauthorized disclosure of this
writing may undermine our ability to protect the privileged information. If disclosure is
determined to be necessary, please contact this office for our views.

Please call if you have any further questions.

for another time whether the analysis or legal hazards are different for the application of restitution
payments made when the amount of restitution is assessed by the Service.