Protecting against the disclosure of trade secrets to independent experts and third-party fact witnesses during an Internal Revenue Service audit.

Extract

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Protecting against the disclosure of trade secrets to independent experts and third-party fact witnesses during an Internal Revenue Service audit.

Protecting Against the Disclosure of Trade Secrets to Independent Experts and Third-Party Fact Witnesses During an Internal Revenue Service Audit

I. Introduction

During a coordinated examination of a large corporation, the Internal Revenue Service typically deploys a team of revenue agents, international examiners, engineers, or economists, who possess broad statutory authority to collect facts regarding the taxpayer's property and business. (1) This authority generally is exercised informally through the agents' issuance of Information Document Requests (IDRs). (2). If the taxpayer fails to provide the requested information on an informal basis, however, the IRS can issue an administrative summons to examine "any books, papers, records or other data" or to take testimony of any person which may be relevant or material to the audit inquiry. (3).

It is not uncommon during the audit of highly factual issues for the agents to request information that the taxpayer considers to be confidential trade secrets. For example, an IRS engineer might request access to detailed product cost data, product blueprints, and similar technical data to examine the taxpayer's intercompany pricing or allocation of consideration among intangibles in an asset acquisition. In response, the taxpayer might provide the IRS with copies of the relevant documents or with an opportunity to interview one of its engineers.

The Internal Revenue Code of 1986, as amended, provides certain safeguards to the taxpayer with respect to confidential information disclosed to the IRS during an examination. Specifically, section 6103 (4) provides that "return information" shall be confidential and disclosed by the IRS only in accordance with the statute. A taxpayer is entitled to civil damages for an unauthorized disclosure of return information. (5) Certain willful, unauthorized disclosures are crimes under the Code. (6)

The statutory safeguards applicable to trade secrets are meaningless, however, to the extent that the IRS discloses such information to third parties during the audit under section 6103(k). (7) Such information is likely to be disclosed under two circumstances:

* First, the disclosure may be to an independent expert, whom the IRS has retained to render an opinion. An independent expert is not an employee of the IRS, but generally is an academician or consultant (a professional expert), who provides specialized expertise with respect to the particular case under audit.

* Second, the disclosure may be to a third-party fact witness (e.g., a competitor, supplier, or customer of the taxpayer) to obtain facts. (8) The facts solicited from the third party need not arise from any actual transactions between the third party and the taxpayer. For example, the disclosure might be made to obtain the third party's own analysis of the value of the trade secrets to the taxpayer's business, to the third party's business, or within the i...

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