The IRS Combat Zone Freeze: What It Stops, What It Does Not, and What to Do About an Audit Letter

An IRS audit letter is unpleasant for anybody. For a servicemember in a combat zone, or a spouse holding the household together at home, it can feel like the IRS picked the worst possible moment. Here is the truth: the law already accounts for this, and the IRS's own procedures tell its employees to stand down.

This guide explains the combat zone freeze, what it covers, and what to do if a notice reaches you anyway.

Where the freeze comes from

The statute is IRC 7508. It tells the IRS to disregard your time in a combat zone or qualifying contingency operation, plus 180 days, when applying deadlines. That includes the IRS's deadlines to assess tax, send notice and demand, and collect by levy. The details of the time math are in our guide to the combat zone tax deadline extension.

The Internal Revenue Manual turns that statute into account procedures. IRM 5.1.7.10 says the IRS identifies combat zone accounts with a "-C" freeze code, and that when the combat indicator shows the taxpayer is still serving in a combat zone, "any compliance activity, such as assessing or collecting tax, is prohibited." The same section says the IRS "will also cease all enforcement actions during the postponement period."

What the freeze stops

IRM 5.1.7.10.3 lists what the combat zone freeze code suspends:

• Accrual of interest and the failure-to-pay penalty.
• Assessment of the failure-to-file and estimated tax penalties.
• The Assessment Statute Expiration Date (ASED).
• The Refund Statute Expiration Date (RSED).
• The Collection Statute Expiration Date (CSED).
• Collection activity: levies, liens, seizures, balance due notices and assessment of the Trust Fund Recovery Penalty.
• Examination. The manual says examination and the audit of returns is postponed.

IRM 5.1.7.10 also tells revenue officers to suspend investigations aimed at a deployed taxpayer, including Trust Fund Recovery Penalty interviews, summoning bank records, and investigations to locate or value assets for levy or seizure. If a joint assessment is involved, collection is suspended against both spouses.

The levy chapter says the same thing from the other direction. IRM 5.11.6.5.1 instructs that if a taxpayer is in a combat zone, no levy action is to be taken, including issuing Letter 1058, the notice of intent to levy.

What the freeze does not stop

The freeze is broad, but it is not absolute.

• The IRS has to know. Under IRC 7508(e)(2), the IRS may assess or collect without regard to the postponement unless, before acting, it has been ascertained that you are entitled to it. If the IRS has no record of your deployment, automated notices can go out.
• Jeopardy and bankruptcy. Section 7508(e)(1) lets the IRS proceed where collection is in jeopardy, and in bankruptcy and receivership matters.
• Refund offsets. The freeze is about collection actions and deadlines. If you owe for one year and are due a refund for another, expect the IRS to apply the refund to the balance.
• It ends. The -C freeze stays on the account after you leave, but the IRM tells employees to check the combat indicator. Once you are no longer a combat zone participant and the postponement period has run, normal procedures resume.

An audit letter arrived anyway. Now what?

Publication 3 addresses this directly: if the IRS takes an action covered by the extension, or sends a notice of examination, before it learns you are entitled to the extension, contact your legal assistance office. That is sound advice. Here is how I would handle it.

1. Do not ignore it. An unanswered audit letter can turn into a proposed assessment. Even with the postponement, silence helps nobody.
2. Respond in writing. State that the taxpayer is serving, or served, in a designated combat zone or contingency operation, give the entry date (and exit date if known), and state that the taxpayer is entitled to postponement under IRC 7508.
3. Attach proof. A copy of orders or a Department of Defense statement is the standard. IRM 5.1.7.10.2 explains when a signed statement from a spouse or attorney is accepted instead. Our guide on proving combat zone status covers this in detail.
4. Use a proper authorization. If a spouse or attorney is responding, make sure they have authority. See IRS powers of attorney for deployed servicemembers.
5. Keep a copy and proof of mailing. Always.

When the postponement ends: getting ready for the audit

A postponed audit is still an audit. When the clock restarts, you will be expected to substantiate the items the IRS asked about. The postponement is a gift of time. Use it.

• Read the letter carefully. It tells you which return, which items and what documents the IRS wants. Answer that question. Do not volunteer a stack of unrelated records.
• Gather records now. Leave and Earnings Statements, W-2s, Forms 1099, receipts for any deductions, and records supporting dependents or credits.
• Look for combat pay errors. If the audit involves wage income, check whether combat zone pay was wrongly included in box 1 of your W-2. See combat zone pay exclusion errors.
• Know your appeal rights. If the examiner proposes changes you disagree with, you generally can request review by the IRS Independent Office of Appeals before the tax is assessed, and you can petition the Tax Court after a notice of deficiency. The Tax Court petition deadline is one of the deadlines section 7508 extends.

The freeze buys time. It does not make the questions go away. Spend the time getting the answers ready.

Businesses owned by deployed servicemembers

Section 7508 applies to individuals, but the IRS extends similar relief to some business accounts. IRM 5.1.7.10.1 allows postponement of business accounts where the business is a sole proprietorship, a partnership or a personal service corporation, the key individual or partner is in the combat zone, and the business ceased operations from the time that person entered the zone. The manual notes that some wind-down activity, such as billing customers or preparing final returns, does not disqualify the business.

If your business kept running while you were deployed, do not assume the freeze covers its payroll tax accounts. Get advice before you rely on it.

The bottom line

If you are in a combat zone, the IRS is supposed to leave you alone, and its manual says so in plain terms. Your job is to make sure the IRS knows, to keep your paperwork straight, and to be ready when the clock restarts. If a notice slips through, answer it, assert the postponement, and attach proof.