Login
Request a Demo

Factor Match: Actual Knowledge vs. Physical and Mental Health in Spousal Tax Relief

Ann Velez

Any scenario entered into Blue J’s Innocent Spouse Relief will provide a prediction regarding the likelihood of spousal tax relief under IRC § 6015 or § 66(c). Moreover, Blue J’s data analytics will also provide valuable insights into the relative weight of the relevant factors and how those factors interact with each other.

Prompted by the February 2020 appellate decision in Jacobsen v. Commissioner (7th Cir. 2020), as well as the more recent Tax Court decision in June 2020 regarding § 6015, Rogers v. Commissioner, T.C. Memo. 2020-91, this article uses Blue J’s case-finding filters to examine the relative weight of two particular factors – actual knowledge and mental or physical health – as well as confirm what affects their impact in any given scenario.

The Jacobsen Appeal and the Importance of Actual Knowledge

Mr. Jacobsen appealed the Tax Court’s denial of his spousal tax relief claim and in so doing, raised an interesting apparent conflict between the Tax Court’s treatment of the actual-knowledge factor and the guidance provided in IRS Rev. Proc. 2013-34.

Now Mr. Jacobsen did not persuade either the Tax Court or the Court of Appeals for the Seventh Circuit that he did not actually know his 2011 joint tax return failed to include embezzled income, in circumstances where he instructed a tax preparer and filed that return after he was well aware that his then-wife had already been arrested, convicted, and jailed for said embezzlement. But he made headway with his second argument at the Court of Appeals:

Jacobsen’s argument that the Tax Court improperly assigned too much weight to that knowledge is more persuasive. Jacobsen claims that because, with the exception of knowledge, the factors relevant to relief under § 6015(f) all favored him or were neutral, by denying Jacobsen’s request for equitable relief the Tax Court essentially elevated lack of knowledge to a but-for criteria for relief. Jacobsen suggests the Tax Court’s conclusion was especially problematic in light of Congressional intention to liberalize innocent spouse relief. […] See also Rev. Proc. 2013-34 § 4.03(2)(c)(i)(A) (“Actual knowledge of the item giving rise to the understatement or deficiency will not be weighted more heavily than any other factor.”).[1] 

Mr. Jacobsen’s brief cited one Tax Court case in which equitable relief was granted in the face of actual knowledge[2] and three cases where it was granted despite constructive knowledge.[3]

The Court of Appeal explained that the Tax Court’s decision was reconcilable with Rev. 2013-34 and previous cases because:

[a]lthough the 2013 regulations make clear that knowledge is no longer necessarily a strong factor weighing against relief, as Jacobsen himself acknowledges in his brief, they do not prohibit the Tax Court from assigning more weight to petitioner’s knowledge if such a conclusion is supported by the totality of the circumstances. […] And although knowledge no longer weighs heavily against relief, nothing in the statute or revenue procedures forecloses the decisionmaker from concluding that in light of “all the facts and circumstances,” § 6015(f), knowledge of the understatement weighs heavily against granting equitable relief. [Emphasis in original.]

This is rather confusing. The Court of Appeals inserts the word “necessarily” into the analysis, when the Revenue Procedure does not use that word in saying actual knowledge “will not be weighted more heavily than any other factor.” No guidance is provided as to how strong a factor knowledge is, other than saying it can be strong when it ought to be strong.

One way to resolve the confusion could simply be to point out that Revenue Procedures are not binding on the Tax Court. The Tax Court already did so when it decided Jacobsen at first instance. It does not seem coincidental that in the June 2020 Rogers decision, the Tax Court stated that knowledge is “the most significant single factor regarding section 6015(f).”[4] How important is it? The Tax Court says, “Of special importance.”[5]  

But that is still not very helpful. It confirms that knowledge is very strong. But we know it is not the only strong factor, and it does not outweigh all other factors. If it did, equitable relief would never be available in the face of any knowledge. What would be more helpful is knowing what other factors lighten its weight.

Fun with Factors

Quickly applying a few filters to Blue J’s Innocent Spouse Relief yields this information:

  • in cases where actual knowledge of a tax deficiency (understatement or underpayment) was found, equitable relief (the only type of relief available) was granted in 10 and denied in 47;

  • of the 10 cases where equitable relief was granted in the face of actual knowledge, 5 of them involved economic hardship to the requesting spouse and 3 of them involved serious domestic abuse;

  • Of the 4 remaining cases, 2 involved a legal obligation, such as by divorce decree, on the part of the nonrequesting spouse to pay the tax liability at issue in full;

  • the 2 remaining cases, Alvarado v. Commissioner (T.C. 2013) and Howerter v. Commissioner (T.C. 2014), did not involve serious abuse, economic hardship, or legal obligation on the part of the nonrequesting spouse. They also did not involve any deception by the nonrequesting spouse. The tax liabilities totalled about $3,000 in each case. They did not arise from criminal activity. The Alvarados had failed to report commission income and the Howerters had omitted a retirement fund withdrawal;

  • Alvarado and Howerter were both Summary Opinions and non-precedential; and

  • both Alvarado and Howerter were noted as outliers, in that most cases involving similar factors resulted in a denial of relief, not equitable relief.

Informed by this data analysis, is it any surprise that relief was denied in Jacobsen where besides the fact of Mr. Jacobsen’s actual knowledge, there was no abuse or deception of Mr. Jacobsen for the year at issue, no economic hardship, no legal obligation for the nonrequesting spouse to pay the full liability, and the tax liability of about $69,000 for the 2011 year alone came about through embezzlement activity?

In Rogers too, there was no abuse, no deception, no economic hardship, and no legal obligation for the nonrequesting spouse to pay the full liability. The requesting spouse knew about, but chose to be blind to, tax liabilities exceeding a million dollars arising from improper tax schemes rejected repeatedly by the Tax Court and the Circuit Court of Appeals in various years.

It appears that the more data-informed answer to the question “How important is actual knowledge?” is that it is very important, but it can generally be outweighed by serious abuse or economic hardship. It has less impact in circumstances involving the nonrequesting spouse’s deception or legal obligation to pay the full tax liability and more impact in circumstances involving serious misconduct such as theft or improper tax avoidance.

What About Health Concerns?

One factor distinguishing Mr. Jacobsen’s case from other ones involving actual knowledge is that Mr. Jacobsen had serious physical and mental health issues. He was a veteran with PTSD who had suffered a mental breakdown as a result of his wife’s criminal actions and after which he had moved three times and held four jobs. In his appellate brief, Mr. Jacobsen argued that that: 

Unlike Mr. Jacobsen, who the Tax Court found had serious health issues generating an additional positive factor for relief, the wife in Howerter had no health issues. […] It is hard to conceive how a person like the wife in Howerter should be granted relief under § 6015(f), but a person like Mr. Jacobsen – who has an additional positive factor for relief, ill health – should be denied that relief.[6]

The Court of Appeals expressed sympathy for Mr. Jacobsen, said it was a close case (the Tax Court had not said this) and even suggested that it might have decided his case differently if it had been the court of first instance.[7]

Was it really a close case? What does the data say?

Going back to the filters noted above, in none of the 10 cases where equitable relief was granted in the face of actual knowledge was the requesting spouse physically or mentally impaired at the time the return was filed, at the time of requesting relief, or at the time of the determination. This is not helpful in trying to determine how strongly this factor is weighed.  

Resetting the Innocent Spouse Relief filters and trying a different search indicates:

  • there are 14 cases involving physical or mental health impairment where equitable relief was granted. None of these involved a finding of actual knowledge, but some of the requesting spouses had reason to know;

  • filtering out cases involving serious abuse, deception, economic hardship and legal obligation of the nonrequesting spouse to pay the full liability reduces the list to 1 case: Martinez v. Commissioner (T.C. 2008), a Summary Opinion;

  • as a contrast, looking for cases involving physical or mental health impairment where there is no serious abuse, no deception, no economic hardship, and no legal obligation of the nonrequesting spouse to pay the full liability where relief is denied yields 6 cases;

  • in Martinez, the requesting spouse experienced great mental and emotional stress because the nonrequesting spouse’s health deteriorated over several years and in the last year or two before his death, she nursed him at home while also working to support him and their family. She depleted her savings and retirement assets to do this, although not to the point of economic hardship. The tax liabilities arose from improper reporting of various wage and retirement withdrawal amounts. There was no criminal or wrongful activity leading to the tax deficiencies, which totalled about $20,000 over several years.

As a general observation, the 6 to 1 ratio of relief-denied cases to relief-granted cases that involve physical or mental health impairment and no other relief-leaning factors tends to belie the idea that physical or mental health by itself is an important or strongly weighted factor.

Comparing Martinez and Jacobsen provides another way to analyze this. They had similar mental health conditions. There was no abuse. Economic hardship was not made out. With respect to the tax return or tax returns at issue, deception was not at work although it might have been for previous returns. There was no legal obligation of the nonrequesting spouse to pay the full liability. Mr. Jacobsen had actual knowledge. Ms. Martinez had reason to know, at least. 

Where they differed is that Ms. Martinez depleted her savings to help her husband with his medical needs, she nursed him at home for years, and this had a corresponding impact on her ability to work and earn throughout that time. This did not appear to be the situation for Mr. Jacobsen. Although he had declared bankruptcy, it was not clear from the decision whether this had anything to do with taking care of his wife and her obligations. She was incarcerated and he was not prevented from working by having to care for her. The evidence also did not indicate that his ability to work had been impacted. He was earning about $69,000 a year at the time of the Tax Court decision.

From this, the more data-informed answer to the question, “What about physical and mental health?” appears to be it has little effect on the outcome, except in connection with the requesting spouse’s ability to pay or how much the requesting spouse has already paid to take care of the nonrequesting spouse’s needs or obligations.

Conclusion

There really is no contest between the “actual knowledge” and “physical and mental health” factors in a § 6015 analysis, despite what could be confusing conclusions drawn from reading Rev. Proc. 2013-34 or the somewhat similar cases that reach different results. Actual knowledge appears close to determinative, absent serious abuse or economic hardship. Physical or mental health concerns have little impact, absent economic hardship or serious depletion of the requesting spouse’s resources to pay the nonrequesting spouse’s obligations. The factors appear to be consistently treated, on their own and in relation to each other.

References

 [1] Jacobsen, at 15.

 [2] Howerter v. Commissioner, T.C. Summary Op. 2014-15.

 [3] Porter a.k.a. Holman v. Commissioner, 132 T.C. 203 (2009), Smith v. Commissioner, T.C. Memo. 2011-119, and Mencias v. Commissioner, T.C. Memo. 2017-109. Mr. Jacobsen’s appellate brief is reproduced at https://procedurallytaxing.com/wp-content/uploads/2019/07/Jacobsen-Brief-for-Appellant-and-Appx-Vol-I.pdf.

 [4] Rogers at 19.

 [5] Id. at 18.

 [6] At 54-55. See note 3.

 [7] Jacobsen (2020), at 18.

Related Post

Stay ahead of the curve.

Join our community of thousands of innovative professionals.

WATCH WEBINARS
Subscribe to Newsletter