What questions should you ask when preparing for a valuation discussion with the IRS?

golf clubs set up at the practice range

This article addresses how to prepare and what questions to ask when involved in a facilitation, negotiation or mediation with another party. The focus here is on a business valuation issue with the IRS.  Preparation is key. Conducting a mock interaction ahead of time can be extremely valuable. 

 

Background

 

Recently I was involved in a negotiation where I helped both a taxpayer and the IRS exam team through a facilitation process. The taxpayer had hired me. This was not to be a mediator with me as a true neutral. In this instance I was hired to facilitate the process, and I was upfront that I had a bias relative to my client, the taxpayer. At the same time, my purpose was to bring my client and the IRS together if possible. These are lessons that can help you and that you can apply before you enter a negotiation with the IRS. The facts have been changed to maintain confidentiality of the parties. The concepts are valid.

The difference between the parties on a business valuation issue was greater than $10 million.

The IRS had 5 individuals including the decision maker - the agent’s manager, the agent, two business valuers, the business valuer’s manager, and an IRS attorney from the division. The taxpayer had 8 individuals including their decision maker, the decision maker’s assistant, two attorneys, the lead and associate business valuer, their CPA, and a key person of the firm. The meeting was set up for two hours. This was a virtual meeting over the phone. The IRS did not want to meet in person. The taxpayer offered to fly to a location for a face to face meeting. That location is where most of the IRS personnel including the IRS decision maker are located. A face to face meeting would have been even better, but was not possible in this instance.

 

Who are the typical participants?

 

On business valuations there typically are meetings with the IRS business valuer(s) and agent, followed by meetings with the agent without the IRS business valuers. If necessary, there may be meetings with the agent and the agent’s manager. In this case the agent’s manager asked the business valuers and an IRS attorney to be in attendance too. My involvement would have been more helpful if I had been brought in sooner, but picking up with where we were, we went forward at this stage.

 

Preparation

 

To initiate the meeting the taxpayer had suggested that they draft the agenda ahead of time and then ask for comments from the IRS to finalize the agenda. Both parties had agreed that I would be the facilitator of the meeting. The IRS set the time frame as two hours. The taxpayer agreed to this time frame. Before drafting the agenda, the taxpayer assembled their team for a full day meeting to discuss a host of items. These are additional kinds of questions that were asked in anticipation of the meeting.

 

Questions in preparation

 

What do I want from this negotiation? Think both short term from this meeting and longer term. It is unlikely to finalize the negotiation at this meeting.

What are our strengths, weaknesses, opportunities and threats?

What values are we bringing to the table?

What are potential ethical issues that could come up? How might we be willing to address these should they come up?

What do we see as their interests?

What are our interests?

How should we rank these interests on our side and their side?

What objective criteria and data do we have that will support our preferred and alternative positions?

May there be other issues we or they may want to bring up to try to help with the negotiation?

What questions may we want to ask?

What deadlines are we facing? What deadlines are they facing?

Based on what we know about the individuals and previous experience with them, what lessons can we apply?

What can we say about our previous history with the IRS and members of this team? Can we leverage our past relationship?

What do we see as our Best Alternative To a Negotiated Agreement (BATNA) and what do we see as their BATNA?

At what point do we walk away from the negotiation and simply go to Appeals?

At what point do we think they will walk away from the negotiation?

How many alternative computations do we want to make between our starting point and BATNA? That is to have ready to demonstrate how we calculate a number? A computation is necessary on examination. Issues are resolved based on facts on examination. We had our starting point, BATNA and three computations between those two points for a total of five computations. Variables considered were tax affecting versus not tax affecting the S corp minority interest, Discount for Lack of Marketability (DLOM), discount rate, Discount for Lack of Control (DLOC), adjustments to reasonable compensation, and additional adjustments to cash flow.

What research can we do to find out what could be their alternatives to their BATNA and their starting point?

Is there a Zone Of Possible Agreement (ZOPA) between us?

Who is going to bring up what and in what order? Are we flexible?

Who has what influence on their team? How might we work to deflate negative influences and encourage positive influencers?

What impact might our negotiation have on other taxpayers or for us? The IRS mission is “to enforce the tax laws with integrity and fairness to all” from their mission statement. From Revenue Procedure 64-22 it in part states “to perform this work in a fair and impartial manner, with neither a government nor a taxpayer point of view”.

Are there advantages or disadvantages to consider?

Based on the answers to the questions above, who should be on our team? Who is the spokesperson? What responsibilities does each person have?

With a focus on interest based decision making continue to look for ways to create value by focusing on closure, resources, preferences, potential outcomes and risk.

For other questions to ask on a negotiation in general consider this checklist from the Harvard Program on Negotiation. So back to the agenda.

 

Agenda

 

The team came up an agenda.

This was the draft sent to and accepted by the IRS.

Introductions

Facilitation - ground rules, “parking lot or bin for future discussions”, making this a win-win negotiation, maintaining reputations, being fair and equitable, reciprocal integrity, work towards positive closure

Purpose of the call by the IRS and then by the taxpayer

IRS opening commentary

Taxpayer opening commentary

Common concerns regarding the appraisal

Historical perspective on working towards an agreement

Wrap up and next steps

 

How did it go?

 

Following introductions, I as the facilitator thanked the parties for coming to the meeting, presented some ground rules and asked for any additions. A spokesperson for each side presented their interest to make this a win-win negotiation.

Without going into the details, a potentially explosive and negative negotiation did not materialize.

Instead the spokesperson for each party sought ways to share unexplored information to the other party. This was done to facilitate a better understanding of the facts. The approach proved to be extremely helpful. IRS job aids on the technical areas in question proved to be very valuable. Concepts from Business Valuations and the IRS: Five Books in One provided additional examples and concepts applied technically during the discussion.

 

Action follow up

 

As a result of the discussion additional information was gathered and sent to the IRS. That information was provided with a detailed table of contents. The IRS business valuers, agent, and the taxpayer’s business valuers and members of their team met with each other later on the phone. The purpose of the discussions was to see if the technical appraisers could work towards a mutual understanding on each issue After reviewing the data and discussions the remaining differences were identified.

A follow up discussion with the agent and agent’s manager and key taxpayer personnel resulted in an agreement. The final difference in valuation was less than $2 million.

Tremendous progress was made through a series of meetings. The progress would not have happened if the taxpayer had not taken the time to prepare. Their day of preparation for the two-hour meeting really paid off and set the tone for closure in future meetings. Hopefully you can learn from this too.

 

About the author

 

Are you looking for a consultant or speaker on this or similar issues? You may contact Mike directly at mg@mikegreg.com and at (651) 633-5311. Mike has written 11 books including Business Valuations and the IRS: Five Books in One. [Michael Gregory, ASA, CVA, NSA, MBA, Qualified Mediator with the Minnesota Supreme Court]