The National Taxpayer Advocate recently produced a “Purple Book” containing her top 50 recommendations for the IRS. One of them concerned “math error authority,” which brought to mind one of the failings in Hawaii’s tax system.
On the federal side, disputes between the IRS and taxpayers play out through a lengthy process. The IRS proposes an assessment, the taxpayer responds to it, the IRS finalizes the assessment, and the taxpayer gets to challenge it in court. The IRS, however, does get a short-cut through the process if it is only correcting a math or clerical error that the taxpayer has made. The taxpayer is given one notice instead of the two notices given for a regular assessment, and if the taxpayer doesn’t respond there is no court review.
This abbreviated method may be fine for genuine math errors, which are apt to occur in any complicated tax form that isn’t computer generated (and perhaps even some that are). If the taxpayer has admitted to the existence and amount of all income items but just added them up wrongly, for example, the taxpayer can’t have much of a defense. But the relative speed and convenience of math error procedures motivates the agency to use them even for issues that aren’t math errors. “In her reports to Congress,” the National Taxpayer Advocate says, “she has documented circumstances in which the IRS has used math error authority to address discrepancies and mismatches that go beyond simple arithmetic mistakes and have undermined taxpayer rights” – in no fewer than eight annual reports since 2001.
Here in Hawaii, our statutes don’t even give our Department of Taxation math error authority. If the Department has a beef with a taxpayer, it is supposed to send out a proposed notice of assessment and a final notice of assessment, and give the taxpayer 30 days to respond each time. But the Department has come up with a document called a “line item adjustment letter,” where it not only corrects math errors but also disallows credit claims, among other things. “Please call or send correspondence to the Oahu District Office if you have any questions regarding this notice,” it says. “You may file an amended return with supporting documents or contact the Oahu District Office for the appropriate action to take if you do not agree with the adjustment(s).”
So here are my questions: First, how is the Department able to use this letter to get around the statutory assessment procedures when it doesn’t even have math error authority? The IRS has math error authority to fix 17 kinds of errors, all of which are spelled out in statute; IRS has been begging Congress to give it open-ended authority to add other errors by regulation, but Congress hasn’t bought into that idea to date – and for good reason, given the Taxpayer Advocate’s repeated complaints. Here in Hawaii, simplified procedures may be appropriate for genuine math errors or other issues that are not reasonably subject to dispute, but isn’t that a decision for the Legislature to make as opposed to letting the Department go rogue? Second, are there any standards for when it is appropriate to use this type of letter to summarily adjust a taxpayer’s account as opposed to going through the assessment and appeal procedures? Or is one of these letters just sent out when someone in the Department feels like it? Third, isn’t the letter at least supposed to give an opportunity for the taxpayer to respond before the Department rushes to final judgment and says, “We’re done, and if you don’t like it file an amended return”? The words “Due Process” come to mind, as in due process required by both the federal and Hawaii constitutions.
As of this writing, the Department is still working on its new income tax system. Let’s hope the Department and the Legislature come up with a way to clean up this issue in a way that can accommodate situations in which math error authority is appropriate, while preserving taxpayer rights and protections.
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Tom Yamachika is the President of the Tax Foundation of Hawaii, a private, nonprofit educational organization dedicated to informing the taxpaying public about the finances of our state and local governments in Hawaii. Tom is also a tax attorney in solo practice and has been since early 2013. Prior to 2013, he was with the accounting firm Accuity LLP, which was formed in 2006 from the Honolulu office of Coopers & Lybrand (which later became PricewaterhouseCoopers). Before that, he served as an Administrative Rules Specialist in the State of Hawaii Department of Taxation from 1994 to 1996, where he drafted rules, interpretive releases, and legislation on several different state taxes. Prior to that, he practiced litigation and tax law with Cades Schutte Fleming & Wright in Honolulu.