Inconsistencies, Obstacles & Contradictions
The most obvious inconsistency contained in the statute relates to a disallowed deduction credit or basis. A taxpayer attempting to obtain innocent spouse status must demonstrate that a deduction, credit, or basis has "no basis in fact or law", and must then turn around and demonstrate that she had no reason to know of the understatement.
Other insurmountable obstacles for some women result from the percentage and monetary limitations contained in the statute. A taxpayer who can prove that she filed a joint return that contained a substantial understatement about which she had no reason to know at the time she signed the return, and that under all the facts and circumstances it would be inequitable to hold her liable, may none-the-less be barred from obtaining relief because in the year prior to the issuance of the notice of deficiency, a percentage of her adjusted gross income exceeded the amount of the understatement in issue. Although the purpose of this provision is obviously to determine if she has the ability to pay; the result ignores fundamental rules of fairness and imposes liability based on the size of the taxpayer's pocket book and not her actual responsibility for the understatement. There is no fundamental link between one's ability to pay and the issue of liability. Even the Service recognizes the distinction between these two concepts in its offer in compromise program, which provides relief in cases of (1) doubt as to liability and (2) doubt as to collectability.
A similarly unjust provision, with contrary results, is the "substantial understatement of tax" requirement of §6013(e). The understatement of tax in issue must exceed $500.00, exclusive of penalties and interest. Therefore, it is possible for taxpayer A to be denied relief and taxpayer B to be granted relief, where taxpayer A's total deficiency is actually greater, with interest and penalties, than Taxpayer B's deficiency (Taxpayer A is assessed $450.00 in tax, $300.00 penalties and $400.00 in interest, while Taxpayer B is assessed $550.00 in tax and $300.00 in interest). The purpose of this provision is apparently to prohibit expensive litigation for insignificant amounts of tax. However, those insignificant amounts of tax which are unworthy of the Tax Court's time or energy are often enormous amounts of money to the women who are left with no other alternative but to pay. Two hundred, three hundred, or four-hundred dollars is by no means "insubstantial" to a single woman with children to support.
As contradictory and unfair as the statute is on its face, it is nothing compared to what the Courts have done with it when interpreting and applying its provisions to individual taxpayers. Without belaboring the point or reviewing any cases in detail, the Tax Court as well as the Circuit Courts have held that in establishing that one had no reason to know of the understatement, one has a duty to inquire before signing a return, i.e. a duty to review the return. A wife who does not review the return, is imputed with the knowledge she could have gained if she had. With this imputed knowledge, especially in the case of a disallowed deduction, one who does not in fact review a return cannot establish that she satisfied her duty to inquire because she did not even see the deduction in issue, much less ask about it. Often in such cases, the taxpayer will be denied relief because she knew or had reason to know of the understatement but instead "buried her head in the sand". However, even this apparently established "duty" is not consistently applied as demonstrated by a recent Tax Court case where the Court found in favor of the innocent spouse even though she had not reviewed the return which contained large deductions resulting from losses her husband claimed from his involvement in tax shelters. Thus the Courts have reverted to their behavior prior to the enactment of innocent spouse; bending and twisting the provisions of the Code to suit their preferred result when moved to sympathy for a particular taxpayer. For a system that bases the purpose of its very existence on fairness, this can hardly be acceptable.
Many have called for a reform of the innocent spouse rules and a more liberal interpretation of such by the Courts. This reform, if granted, would probably provide relief for a larger number of taxpayers. However, any reform to the innocent spouse rules ignores the issue at the very heart of the problem. But for joint and several liability, there would be no need for innocent spouse relief.
Bluestein & Muhlbauer, P.C.
333 International Drive
Williamsville, NY 14221
716.633.3200
