Can the IRS subpoena your draft report, despite FRCP 26?

Recent amendments to Rule 26(2) of the Federal Rules of Civil Procedure (FRCP) now preclude the discovery of expert draft reports, with some exceptions. (See BVWire #96-1and BVWire #99-3.) At the same time, the recent case United States v. Richey (seeBVWire #102-3) confirms that the IRS has the broad power to subpoena an appraiser’s work files (presumably including draft reports) during the investigation of a claim, even after the taxpayer has paid the deficiency—and especially if the taxpayer is still considering litigation.

What if the taxpayer does sue for a refund: has Richey effectively opened a “back door” during claims investigation for the IRS to procure an appraiser’s draft reports? In that case, would a court deem the taxpayer to have waived any privilege that might otherwise apply under Rule 26(2)?

The questions first came up last month at the ASA National IRS Symposium in Los Angeles, and IRS representatives have promised to research the issue for the ‘Wire and respond. In the meantime, appraisers may want to heed the recommendations of attorneyJohn Porter (Baker Botts LLP), who spoke at the recent Valuation Roundtable meeting in Orinda, CA. “I worry about relying too heavily on [the amended Rule 26],” Porter told VRT attendees, “because a lot of the work you do is for tax preparation purposes.” Moreover, the U.S. Tax Court has not adopted FRCP 26. So for now, appraisers should assume that all of their work on a tax engagement, in particular, will be subject to some form of disclosure. Appraisers may also want to consider forum-sharing software such as Webex (Cisco) that allows meeting participants to view and discuss draft documents on a computer/video screen.