Employers Are Obligated to Comply with Tax Law Despite Increase in Frivolous Tax Arguments

In the recent United States Tax Court case O’Connor v. Commissioner of Internal Revenue, Judge Arbeit sanctioned the petitioner for advancing frivolous arguments contesting the authority of the IRS to assess tax.¹

The case involved a tax lawyer who failed to file taxes from 2010 to 2017, resulting in a deficiency of $1.09 million in unpaid taxes. The petitioner proffered four primary assertions: that (1) the Sixteenth Amendment was not properly ratified and thus invalid; (2) section 1 of the Internal Revenue Code (IRC) does not plainly and clearly impose tax liability on the petitioner’s income; (3) the income tax is an excise tax to which his income is not subject; and (4) the petitioner is a citizen of Nevada and therefore not subject to federal income tax. In support of his arguments the petitioner filed more than 1,000 pages of legislative documents from the 20th century and background on the Sixteenth Amendment. Although such frivolous arguments are rarely addressed by the tax court, Judge Arbeit chose to do so here solely because of the petitioner’s status as a tax lawyer who “leverage[d] his professional training to willfully disregard the caselaw and any legitimate legal analysis.” In short, all of the petitioner’s arguments were swiftly rejected by the court. 

The petitioner also attempted to avoid certain additions to tax under sections 6651(a)(1) and (2) (failure to file returns and failure to pay taxes when due) and 6654 (failure to pay estimated income taxes) unless reasonable cause is shown. The petitioner asserted that because the IRS failed to publish exemption amounts for the past 35 years, he had no obligation to file a federal income tax return. The court also rejected this argument as frivolous and concluded that the petitioner failed to show reasonable cause.

The court ordered the petitioner to pay his deficiencies, additions to tax, and a $2,000 penalty as a warning. Furthermore, Judge Arbeit hinted at imposing maximum penalties if the petitioner were to appear before the tax court again with frivolous arguments. 

How This Affects Employers

The petitioner in O’Connor is not unique in the sense that his arguments come from a pool of well-recognized frivolous arguments that are rejected as often they are presented. While not an employment case, O’Connor serves as a reminder to employers to be wary of individuals who ask that no taxes be withheld from their taxes based on these or other frivolous arguments. Employees with these views may also threaten employers with claims for breach of contract, trespass, or conversion if the employer does withhold their taxes as required by law. It is usually impossible to reason with such employees about their tax obligations, and employers generally not try to engage in such arguments. 

Common Frivolous Tax Arguments

Below are some common arguments made by individuals who assert that no taxes should be withheld from their wages.  

The Sixteenth Amendment was not properly ratified

The Sixteenth Amendment, which gives Congress the power to lay and collect taxes on income, was passed by Congress in 1909 and ratified in 1913.² Employees may argue that all federal income tax laws are unconstitutional because: (1) the Sixteenth Amendment was not properly ratified by the states due to grammatical and spelling defects in previous drafts; (2) failure by state legislatures to follow ratification procedures; (3) states were not legally a state at the time of ratification; and/or (4) or some other meritless arguments. Challenges to the constitutionality of federal income tax universally fail.³

Section 1 of the IRC does not plainly and clearly impose tax on personal income 

Employees may argue that they are not required to pay federal income taxes because payment of federal income tax is voluntary. Additionally, they may claim there is no provision in the IRC that requires them to pay tax. However, Section 1 of the IRC, titled “Tax Imposed,” clearly imposes a tax on the taxable income of individuals.⁴ Moreover, Section 6151 requires taxpayers to pay tax at the time of filing their return.⁵ This duty to pay tax cannot be ignored and assertions that the tax system is voluntary are frivolous.⁶

Taxpayer is not a “citizen” of the United States

Employees may claim that they are not citizens of the United States, but rather a citizen of a particular state, and are not, therefore, subject to federal taxation. The Fourteenth Amendment plainly states that “[a]ll persons born or naturalized in the United States, and subject to the jurisdiction thereof, are citizens of the United States and of the State wherein they reside.”⁷ This argument has also been uniformly rejected by the courts.⁸

Wages, tips, and other compensation received for personal services are not income 

This argument relies on the flawed logic that wages are not taxable because their labor is equal to the fair market value of wages they receive so that there is no gain to be taxed. As mentioned above, the definition of gross income, however, unambiguously includes compensation for services, which is subject to federal taxation.⁹ 

Only foreign-source income is taxable 

This argument states that there is no federal statute that imposes a tax on income derived from within the United States. Once again, Section 61 exposes the flaw in this argument. Moreover, Treas. Reg. § 1.1-1(b) offers guidance: “all citizens of the United States, wherever resident, and all resident alien individuals are liable to the income taxes imposed by the Code whether the income is received from sources within or without the United States.”

Federal income taxes constitute a “taking,” violating the Fifth Amendment 

Some employees may argue that the collection of federal income tax constitutes a violative taking. The Fifth Amendment states that a person shall not be “deprived of life, liberty, or property without due process of law.”¹⁰ In response to this argument, the Supreme Court stated that the Constitution does not conflict with itself by conferring both taxing and taking power.¹¹ Moreover, the Supreme Court has upheld the IRS’s administrative procedures as constitutional and not violative of constitutional due process, in part, due to procedural safeguards found throughout the IRC.¹²

Looking Forward

Given what appears to be a recent uptick in individuals’ frivolous arguments in support of assertions that they do not have to pay taxes, employers should be wary of requests to have no taxes withheld by any method other than a properly executed claim of exemption on a Form W-4, or in certain cases, other potential exemptions such as tax treaties relating to foreign employees or certain potential exemptions from FICA, such as for ministers or employees on a student visa. The general rule remains that all wages are subject to tax withholding at the time of payment unless there is a clearly applicable exemption.¹³ Failure to do so may result in employer liability.¹⁴ 

In the event an employer is challenged by an employee who seeks to avoid liability, the employer should remain diligent in their tax obligations and consult with counsel to ensure proper compliance if they have any concerns. 

*Andrew Ignacio is a pre-bar associate in Littler’s San Francisco office.