The settlement standard
The IRM defines the target: “A fair and impartial resolution is one which reflects, on an issue-by-issue basis, the probable result in the event of litigation, or one which reflects mutual concessions for the purpose of settlement based on the relative strength of the opposing positions where there is substantial uncertainty of the result in the event of litigation.” (IRM 8.6.4.2). Authority to settle this way comes from Policy Statement 8-47 and Delegation Order 8-8, and it is delegated to Appeals Team Managers and Appeals Team Case Leaders.
Two attitudes are written into the IRM. First, the Appeals Officer is to take a judicial view: “Any approach which contemplates a maximum possible result in favor of the Government or a deficiency in every case is incompatible with a judicial attitude and the Appeals mission.” (IRM 8.6.4.2.5). Second, the same subsection instructs: “Do not take advantage of a taxpayer's lack of technical knowledge.” The ATE must fully explain a settlement proposal and how it was reached.
Appeals can also settle on factual hazards when the examiner's case is thin: “Appeals will attempt to settle a case on factual hazards when the case submitted by Compliance is not fully developed and the taxpayer has presented no new information or evidence.” (IRM 8.6.1.7.2). Appeals does not build the government's case for it; the ATE will not develop evidence outside the file to support a new theory.
Four kinds of settlement
| Type | What it is | When Appeals uses it |
|---|---|---|
| Mutual concession | Both sides concede part of an issue because there is substantial uncertainty about how a court would read the law or find the facts (IRM 8.6.4.2.1) | The standard hazards settlement. Usually closed on Form 870-AD. |
| Split issue | A percentage or stipulated amount of the tax on an issue that, if tried, would go entirely one way (IRM 8.6.4.2.2) | Allowed under Policy Statement 8-48, but not for issues that affect years outside the settlement (depreciation, carryovers, recurring items). A closing or collateral agreement is advisable. |
| Specific dollar | A percentage or stipulated amount of the tax that approximates the computed result (IRM 8.6.4.2.3) | Small tax cases (would qualify as an S case if docketed), nonrecurring issues, only years in Appeals, single taxpayer. |
| Full concession by either side | The issue goes entirely one way | Where one side's position is not supportable at trial (IRM 8.6.4.2.7). |
The IRM's description of the split-issue type is worth knowing: “The distinguishing feature of a split-issue settlement is that the agreed result would not be reached, if tried.” Its specific dollar example takes a one-year case where hazards suggest a 60/40 result for the government and charges the taxpayer 60% of the deficiency in the revenue agent's report. Specific dollar settlements are listed as inappropriate for, among others, earned income credit bans, self-employment tax adjustments, passive activity and capital loss carryovers, net operating losses, premium tax credit issues, depreciation and employment taxes.
What Appeals will not do
No nuisance value. “Nuisance value is any concession made solely to eliminate the inconvenience or cost of further negotiations or litigation and is unrelated to the merits of the issues.” Policy Statement 8-47 bars settlements on that basis in both directions (IRM 8.6.4.2.4). An offer framed as cheaper than fighting does not move an Appeals Officer; an offer framed around specific litigation risk does.
No trading penalties. “Penalty issues are not traded in Appeals.” Penalties are settled on the merits and hazards of each penalty standing alone (IRM 8.6.4.2). In practice, argue each penalty separately: reasonable cause, substantial authority, adequate disclosure, and written supervisory approval under IRC 6751(b). The IRM notes that for an individual, the IRS's burden of production on a penalty includes proving 6751(b) compliance, citing Graev v. Commissioner, 149 T.C. 485 (2017).
Trading only at equal value. “Not all issues are traded.” Where issues are traded, the hazards discussion must clearly support the conclusion that the relative values of the traded issues are equal (IRM 8.6.4.2).
No small concessions for uncertainty alone. “Do not make or accept minor concessions on the basis the outcome of litigation is never absolutely predictable.” The flip side protects the taxpayer: “If a trial cannot be recommended on an issue, concede the issue even though it may have some merit.” (IRM 8.6.4.2.7).
No hazards on validity challenges. Appeals does not apply litigating hazards to arguments that a Treasury regulation, IRB notice or revenue procedure is invalid, including procedural challenges under the Administrative Procedure Act, unless an unreviewable federal court decision has invalidated it. Other arguments on the same issue can still be weighed (IRM 8.1.1.3.1).
Deferral where the IRS wants a uniform position. Appeals may defer action or decline to settle where National Office guidance suspends action on an issue, or where declining would do more for voluntary compliance than settling (IRM 8.6.4.2). Coordinated issues under the Appeals Coordinated Issue program must be reviewed by a Technical Guidance Coordinator.
How the Appeals Officer evaluates hazards
The Appeals Case Memorandum shows the method. For an issue resolved on hazards, the ATE must summarize the hazards identified, weigh their strengths and weaknesses, determine the relative strength of the opposing positions, and then “Convert your verbal evaluation to a percentage or numerical determination.” (IRM 8.6.2.6.4.2). For an unagreed issue, the evaluation focuses on the evidence as though the case is going to trial: witness credibility and availability, doubts about authenticity and admissibility of documents, and the ATE's settlement range in percentages or dollars (IRM 8.6.2.6.4.1).
That tells the representative what to supply: a trial-oriented analysis of each issue, with the evidence identified and the weak points of the government's proof spelled out. Other factors the IRM directs the ATE to check:
- Circuit law. Under the Golsen rule the Tax Court follows the circuit to which an appeal would lie. Where circuit law conflicts with an IRS ruling, the ATE consults Counsel (IRM 8.6.4.2.7).
- Actions on Decision. An AOD states the IRS litigating posture after an adverse decision and is applied in similar cases, with caution where facts differ.
- Later years. Issues decided on each year's facts (reasonable compensation, hobby losses, capital versus ordinary on recurring sales) do not bind later years, and the ATE is told to make sure the taxpayer understands that (IRM 8.6.4.2.9).
Burden of proof in the evaluation
IRM 8.6.4.2.6 summarizes IRC 7491 as it affects hazards. The burden shifts to the IRS on a factual issue if the taxpayer introduces credible evidence and has met substantiation and record-keeping requirements, cooperated with reasonable requests (including exhausting administrative remedies, such as Appeals), and, for a corporation, partnership or trust, meets the net worth limit; the IRM states that taxpayers with net worth over $7 million are not eligible. The IRS also bears the burden where income is reconstructed solely from statistics on unrelated taxpayers (individuals only), and bears the burden of production on penalties against individuals. In unagreed cases, Appeals must address the degree of taxpayer cooperation in its memorandum, because Counsel needs it for trial. A clean cooperation record during the examination is therefore part of the hazards picture.
Does docketing or a trial date change the number?
The IRM says it should not: “An unacceptable settlement in non-docketed status does not become acceptable solely because it is reconsidered in docketed status; nor does it become more acceptable in a trial calendar period than it was in a prior period.” (IRM 8.6.4.2.7). Changes in law, IRS position, or facts that emerge in trial preparation can change the evaluation. Docketed procedure is on Tax Court petitions.
Making the settlement final
| Special (AD) forms, e.g. Form 870-AD | General forms, e.g. Form 870, Form 4549 | |
|---|---|---|
| Reopening | Pledges no reopening | No pledge |
| Effective | When accepted by or for the Commissioner | When received |
| Interest suspension under IRC 6601(c) | Runs from the date the form becomes effective | Runs from the date received |
| Used for | Mutual concession settlements and taxpayers wanting more finality | Settlements without material mutual concessions |
Source: IRM 8.6.4.4 and 8.6.4.4.1; for the examination-level forms, see signing Form 870 or 4549. Until the agreement is reflected on Form 870-AD or a Form 906 closing agreement and signed by an authorized IRS official, a tentative agreement can be renegotiated if the law or precedent it relied on changes in a substantive and material way, and the ATE is told to advise taxpayers of that. Where a settlement involves basis, the character of income or installment sale income in later years, the IRM calls for a closing agreement when there are mutual concessions with a material later-year effect, and a collateral agreement otherwise (IRM 8.6.4.2.9).
In docketed cases the settlement is a stipulated decision entered by the Tax Court. If settlement talks fail on one narrow issue, post-Appeals mediation may be an option before the case closes.
Can Examination undo a hazards settlement?
Compliance can file a formal dissent to an Appeals disposition, but the IRM states that formal dissents are not appropriate where hazards of litigation were considered in the settlement; such a dissent will not be considered unless Compliance shows Appeals failed to consider specific facts or applicable law (IRM 8.6.4.2.10). Reopening a closed mutual concession case is limited to fraud, malfeasance, concealment or misrepresentation of a material fact, an important mathematical mistake, or certain listed transaction items, with an Appeals Director of Operations' approval (Policy Statement 8-3).
Questions practitioners ask
Will Appeals tell us its hazards percentage?
The IRM requires the ATE to fully explain the settlement proposal and how it was reached (IRM 8.6.4.2.5), and the ACM converts the evaluation to a percentage. Whether the exact figure is shared is up to the ATE; the reasoning should be.
Can we trade a penalty concession for a concession on the tax?
No. Penalties are not traded; each is settled on its own merits and hazards (IRM 8.6.4.2).
Is a 'split the difference' offer acceptable?
Only if the hazards support it. A concession made solely to avoid the cost or inconvenience of litigation is nuisance value, which Policy Statement 8-47 bars.
Does a settlement for one year bind the next year?
Not for issues decided on each year's facts. For basis, character or similar issues, Appeals may use a closing or collateral agreement to fix the later-year treatment (IRM 8.6.4.2.9).
Can the Appeals Officer change the deal after we agree?
Until Form 870-AD or a closing agreement is signed and accepted for the Commissioner, a tentative agreement can be renegotiated if a substantive and material change in law or precedent occurs (IRM 8.6.4.2.7).