Congress of the United States ‘Wlashinglon, DE 20310 July 22,2010 ‘The Honorable Timothy F. Geithner Secretary ofthe Treasury Department ofthe Treasury 1500 Pennsylvania Avenue Washington, DC 20220 Dear Secretary Geithner: [As you knowin April ofthis year, two Members ofthe Senate wrote to Michal F Mundaca, Assistant Seereary for Tax Policy, seeking olay the position a the Treasiry Department an the Internal Revenue Service with regrd tothe application of Boecard Commissioner, 56F 3 1016 (* Ci. 1995) in gross contingency fee cases.” Mr. Mundace replied thatthe Treasury Offce of Tax Pliy is considering issuing guidance to clay this ‘Attorney and author Robert Wood described the specific facts ofthis case in an article published in Tax Notes last month: ‘Boccardo’s frm originally used a netfee agreement, under which the law firm agreed to pay all costs, and to be reimbursed for its costs only out ofa recovery. Under this agreement, the first dollars recovered go to repay costs, and thereafter the lawyer and client divide the rest. After reviewing Boceardo’s netfee contract, the Court of Federal Claims held that Boccardo could not dedict the costs as he paid them, Boccardo then changed toa gross fee agreement, which included nothing about costs. Boccardo would pay all expenses, and lawyer and client would split any gross recovery. Ino recovery was made, the firm would receive nothing for its services and nothing for its costs. Yet the IRS disallowed Boccando’s deductions even under his gross fee ‘contrat. (Lawyers Who Deduct Client Costs: Revisiting Boccardo, Tax Notes, June 14, 2010, p. 1287) In Boceardo, the Ninth Circuit Court of Appeals held that attomeys who represent clients in “gros fee” contingency fee cases are not extending loans to clients and therefore may teat litigation costs, such as court fees and witness expenses, as deductible business expenses under Section 162(a) of te Internal Revenue Code. Following this ruling, the IRS in 1997 issued a “Field Service Advice” (PSA) instructing its staff that it should follow the Boccardo decision only inthe Ninth Circuit but that in all other Circuits they should continue to take the position that amounts advanced by attorneys in “gros fee” cases are loans and therefore not deductible business expenses.‘The position the IRS instructed its employees to take in the 1997 FSA has remained the Service's positon for over adecade. To our knowledge, the IRS has not been reversed in any other Circuit, suggesting that this long-held stance remains a valid view of the law outside ofthe ‘Ninth Circuit ‘The 1997 FSA js consistent withthe government's general practice, in which it does not allow an adverse decision in one Circuit to determine its litigation positon in all others. That different Circuits could have different rules and standards isnot only not unusual, bu its also @ central feature of our federal system of government, “Moreover, although we are not aware of any rule dictating when the Service should revise its postion in the face of adverse court decisions, we note that in a more recent case, with respect tothe collection ofthe telephone excise tax, the IRS did not alter its position until it had los litigation in five Circuits (see IRS Notice 2006:50). Similarly, the IRS did not relent in its efforts to require the payment of FICA taxes on medical residents" stipends until the Service had lost litigation on that point in multiple cireuits. Neither other Circuits nor Congress have validated the Ninth Circuit decision. There ‘were two bills introduced inthe 110th Congress, H.R. 3314 and S. 814, that would allow the litigation costs in contingency fee cases tobe immediately deducted as ordinary business expenses, both in gross and netfee arrangements. The provision was included in H.R. 6049 that passed the House of Representatives in 2008. The provision, however, was not enacted during the 110th Congress and has yet to be brought up for consideration inthe 11 Ith Congress ‘Additionally, the Joint Committee on Taxation (JCT) estimated the provision would cost $1372 billion. A score of this magnitude would seem to indicate thatthe Joint Committee does believe the IRS will continue to prevail in disellowing these deductions. Apparently dissatisfied by the filure of other Circuits to address this issue (and to side with the Ninth Cireuit) and the failure of the Congress to legislatively reach that result, the Senators have asked Mr. Mundaca to “clarify” the government's position, though the text of their letter leaves no doubt that what they really want is forthe IRS to issue new guidance instructing its staff to follow the Boccardo decision in all jurisdictions However, in light of the continuing validity of the IRS’s 1997 FSA in all other Circuits it ‘would be a substantial - and in our mind unwarranted ~ change in policy for Treasury and the IRS to revise the 1997 FSA. ‘We urge you not 1o make such changes in the government's enforcement ofthe tax laws absent a clear dizection from Congress orto comply with court decisions. A those circumstances are not met with respect to the deductibility of litigation costs in contingency fee cases, we believe the appropriate way to clarify this issu isto affirm thatthe 1997 FSA remains valid! ‘Asaresult, we ask that you explain Mr, Mundaca’s response. If regulations or guidance regarding this topic are infact being drafted, we request that you provide the followinginformation immediately. Please note that al references to Treasury include both the Internal Revenue Service (IRS) and the IRS Office of Chief Counsel (OCC). 1) Copies of all legal memoranda or other documentation, includ ng e-mails and records ‘of conversations. documenting Treasury’s authority to issue sich regulations or ‘puidance. 2) Copies ofall drafts of such regulations or guidance and indicate when these are expected tobe effective and whether these were expected tobe released for public ‘comment before becoming effective. 3) Explanation of when and why such regulations or guidance wes deemed to be urgent and necessary since the issue does not appear to be included inthe March 16, 2010, ‘Treasury update of the 2009-2010 Priority Guidance Plan. 4) Copies ofall communications, including e-mails, letters and records of conversations, between Treasury and outside parties regarding the issuance o such regulations or suidance. Please do not hesitate to contact our staff with any questions Sincerely. 4} Chuck Grassley Dave Camp Ranking oe Ranking Member ‘Senate Committee on Finance House Committee on Ways & Means