Under Section 7430 of the Internal Revenue Code, the prevailing party in any civil tax proceeding brought by or against the United States is permitted a discretionary award of litigation costs, including attorneys’ fees. A “prevailing party” is defined as a party that “has substantially prevailed with respect to the amount in controversy” or “with respect to the most significant issue or set of issues presented.” A party is not treated as a “prevailing party,” however, if “the United States establishes that the position of the United States in the proceeding was substantially justified.”
The stated legislative purpose behind this statute permitting taxpayers to be awarded litigation costs was two-fold: To “deter abusive actions and overreaching by the Internal Revenue Service and “to enable individual taxpayers to vindicate their rights regardless of their economic circumstances.”
Not all “prevailing parties” are eligible to receive fees under the statute, however. To qualify for a fee award, the taxpayer must be (i) an individual whose net worth did not exceed $2,000,000 at the time the civil action was filed, or (ii) any owner of an unincorporated business, or any partnership, corporation, association, unit of local government, or organization, the net worth of which did not exceed $7,000,000 at the time the civil action was filed, and which did not have more than 500 employees at the time the civil action was filed.
In addition, the prevailing taxpayer must have “exhausted the administrative remedies available to [him] within the Internal Revenue Service,” and cannot have “unreasonably protracted” the proceedings that generated the attorneys’ fees.
Although subject to significant limitations, the statute permitting taxpayers to be awarded litigation costs can be effectively used to recoup expenses incurred in fighting unreasonable positions taken by the Internal Revenue Service, and as added leverage in settlement negotiations with the Internal Revenue Service.