While the Internal Revenue Service (“IRS”) has long had a Whistleblower Office, the past few years have seen an uptick in the numbers of claims filed with the Office. In 2019 alone, according to an annual report from the IRS, the agency made awards exceeding $120 million to whistleblowers and collected more than $616 million in proceeds as a result of whistleblower tips. Though this is less than $1.4 billion in proceeds collected in 2018, the last two years have accounted for nearly half of all collections under the IRS Whistleblower Reward Program. These collections stemmed from just over 10,000 tips lodged annually by whistleblowers. Both businesses and individual taxpayers should be aware of the process and should employ practices that can minimize their exposure to potential claims. The filing of a claim, whether legitimate or not, has the potential to expose taxpayers to significant financial and non-financial consequences.
Rewards Authorized by Statute. The Whistleblower Reward Program is provided by statute. In pertinent part, pursuant to I.R.C. § 7623(a), the IRS is:
…authorized to pay such sums as he deems necessary for – (1) detecting underpayments of tax, or (2) detecting and bringing to trial and punishment person guilty of violating the internal revenue laws or conniving at the same, in cash where such expenses are not otherwise provided for by law. Any amount payable under the preceding sentence shall be paid from the proceeds of amounts collected by reason of the information provided, and any amount so collected shall be available for such payments.
Moreover, the statute mandates that rewards be issued to whistleblowers and other informants if a substantial contribution has been made by that individual:
If the Secretary proceeds with any administrative or judicial action described in subsection (a) based on information brought to the Secretary’s attention by an individual, such individual shall, subject to paragraph (2), receive as an award at least 15 percent but not more than 30 percent of the proceeds collected as a result of the action (including any related actions) or from any settlement in response to such action (determined without regard to whether such proceeds are available to the Secretary). The determination of the amount of such award by the Whistleblower Office shall depend upon the extent to which the individual substantially contributed to such action.
I.R.C. § 7623(b)(1). In scenarios where less than a “substantial” contribution has been made, the IRS is authorized to provide compensation to the whistleblower in an amount not to exceed 10 percent of the proceeds collected. I.R.C. § 7623(b)(2)(A). Although significant other conditions apply, rewards are permitted only where the proceeds in dispute exceed $2,000,000. I.R.C. § 7623(b)(5). While no minimum income is mandated for businesses, rewards can only be provided to whistleblowers where the individual complained of has income exceeding $200,000. Id. Though these provisions have only recently gained national attention – through cases such as Bradley Birkenfeld and his tip regarding UBS AG[1] – there is a clear monetary incentive to report real or perceived non-compliance of businesses and the wealthy.
New Anti-Retaliation Provisions. Through continued publication of the Program, the IRS has made many aware of the financial incentives to report known misconduct of taxpayers that can, in turn, aid its mission. Through the passage of the Taxpayer First Act in 2019, whistleblowers also have significant protection from retaliation. In particular, these new provisions prohibit any “employer, officer, employee, contractor, subcontractor, or agent” of an employer from retaliating against a whistleblower and such conduct may entitle the whistleblower to reinstatement, double back pay with interest, uncapped “special damages,” as well as attorney fees and other litigation costs. I.R.C. § 7623(d)(3). These provisions will, in turn, promote even more tips being filed by whistleblowers and inevitably will include some claims that are marginal or completely unsubstantiated.
Protecting Against Complaints. With an increased awareness of the Program, businesses and individuals should engage in a review of their practice to ensure minimization of exposure to whistleblower claims. While such a review will be specific to that taxpayer, as internal controls and potential problem area may vary, at a minimum the following should be considered:
- Proper Tax Reporting. Obviously, the best way to immunize an organization from potential complaints is to accurately report and pay all taxes – if there is no malfeasance, there can be no reward for the whistleblower and no incentive to provide a tip to the IRS. That said, mistakes happen and some unhappy employees or competitors inevitably will act against businesses.
- Eliminate Access to Information. Some of these complaints can be prevented by eliminating access to information. For instance, if only management or key employees have access to financial information, then the number of potential claimants can be reduced. If data permissions are limited and financial information is not disseminated broadly, potential claimants will typically be without the key facts necessary to make a “substantial contribution” to the collection of tax. Businesses may also be able to limit the incentive to disclose information through contract by requiring that employees, agents, or business partners execute non-disclosure, confidentiality, and similar agreements.
- Or Restrict Access to Information. Restricting access to information can reduce the ability of the IRS to analyze the prospects of a claim. Given that a significant number of tips are filed annually, claims that are vague and are not substantiated by documentation, voice recordings, or other reliable evidence are less likely to result in a corresponding examination. (In other words, the IRS is more likely to go after the low-hanging fruit.) In addition, even if an examination results from a tip, taxpayers can employ a number of tactics to make it more difficult (or altogether prevent) for the IRS to obtain damning information. Accordingly, if the would-be whistleblower does not have access to necessary documents, the IRS may not be able to successfully assess and collect taxes that might be due.
- Be Proactive. Finally, if a business becomes aware that a complaint has been filed, there are many proactive measures that a business can take to mitigate financial consequences. The IRS has long-standing policies to promote affirmative disclosures by non-compliant taxpayers, such as the Voluntary Disclose Practice and Voluntary Classification Settlement Program. While these programs may require that taxpayers pay tax that was due, they can be used to mitigate potentially significant civil and criminal penalties. Even once a complaint has been filed, taxpayers may not be precluded from using these programs.
The Whistleblower Program is yet another mechanism used by the IRS to increase tax compliance. Given recent publicity of large rewards to whistleblowers, it is likely that tips will increase in the future. Having a basic knowledge of the limits of the Program, understanding one’s own tax obligations, strategically limiting access to financial information, and proactively addressing non-compliance can play a key role in mitigating exposure to potential claims.
Rosenberg Martin Greenberg has experience in all aspects of federal and state tax laws, including recent developments and required compliance in related areas. Our skilled tax advisors have represented countless businesses and individuals through the complex web of technical procedures and administrative options available to minimize their exposure to civil and criminal liability. For a free consultation, please contact Brandon N. Mourges at bmourges@rosenbergmartin.com or 410.951.1149.
[1] Although Bradley Birkenfeld was prosecuted for his involvement in a scheme to hide assets of U.S. taxpayers abroad, he was eventually paid an astounding award of $104 million. Another anonymous tipster was reportedly awarded just under $100 million by the IRS.