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Tax preparer client lists and client identifying data weren’t trade secrets

A district court has held that a tax preparer’s client lists and client identifying data weren’t trade secrets under Washington state law but that, because the preparer’s clients had reasonable expectations that their personal identifying information would not become publicly available, IRS could not put the lists and data, in full detail, into the public record. Rather, the court instructed the parties to confer and submit a joint statement to the court as to what should be redacted.

Facts. IRS alleged that Jennifer Salgado, a Washington state resident, through her sole proprietor business, Jenny’s Tax Services, prepared and filed hundreds of false or fraudulent federal tax returns in violation of federal law. The U.S. brought an action seeking injunctive relief—under Code Sec. 7407 (Action to enjoin tax return preparers) and Code Sec. 7408 (Actions to enjoin conduct related to tax shelters and reportable transactions)—against Salgado that would prevent her from acting as a tax return preparer for persons other than herself.

Salgado sought a protective order from the district court limiting IRS’s ability to file her unredacted client lists and client personal identifying information into the public record. IRS opposed the motion and argued that Salgado did not demonstrate that good cause existed justifying a protective order in this case and that such an order would be unduly burdensome on IRS.

Background—relevant protections in Federal Rules of Civil Procedure. Federal Rules of Civil Procedure (FRCP) 5.2 provides, unless a court orders otherwise, in an electronic or paper filing with the court that contains an individual’s social-security number (SSN), taxpayer-identification number (TIN), or birth date, or a financial-account number, a party or nonparty making the filing may include only: (1) the last four digits of the SSN and TIN; (2) the year of the individual’s birth; and (3) the last four digits of the financial-account number.

FRCP 26(c) governs the issuance of protective orders in civil matters. Courts may issue “an order to protect a party or persons from annoyance, embarrassment, oppression, or undue burden or expense” for good cause shown. (FRCP 26(c)(1))

Background—trade secrets under Washington state law. In Washington state, compilations of customer information may be a trade secret. ( Robbins, Geller, Rudman & Dowd, LLP v. State of Washington, (Wash. Ct. App. 2014) 328 P.3d 905 ) Whether a customer list is protected as a trade secret depends on three factual inquiries: (1) whether the list is a compilation of information; (2) whether it is valuable because unknown to others; and (3) whether the owner has made reasonable attempts to keep the information secret. However, trade secret protection will not generally attach to customer lists where the information is readily ascertainable. ( Ed Nowogroski Ins., Inc. v. Rucker, (Wash. 1999) 971 P.2d 936 ) And, publicly available information does not become a trade secret even if it is expensive to acquire. ( Nat’l City Bank, N.A. v. Prime Lending, Inc., (DC WA 2010) 737 F. Supp. 2d 1257 )

RIA observation: Returns and return information are generally confidential and not subject to disclosure except as specifically authorized by Code Sec. 6103(a). Under one such exception, a return or return information may be disclosed in a Federal or State judicial or “administrative proceeding” pertaining to tax administration if one of several conditions is met. (Code Sec. 6103(h)(4)). Arguably, one of those conditions was met in this case. However, the parties did not make any Code Sec. 6103 arguments, and the court did not discuss Code Sec. 6103.

Preparer’s client lists and client data were not trade secrets. The court rejected Salgado’s argument that, because “good cause exists to protect [her] customer information as a trade secret,” the court should grant the requested protective order.

Salgado asserted that the client lists were a trade secret that was commercially valuable because they were not known to competitors or the general public. Further, she maintained that Rule 5.2—which requires parties to redact specific sensitive information such as SSNs—would not sufficiently protect the client lists at issue because they were trade secrets. Lastly, she argued that IRS did not show that the proposed protective order was unduly burdensome.

The court looked to the elements of the definition of trade secret in Washington state law. Salgado stated that she maintained copies of customer tax returns and lists of clients in compliance with federal law. The court said that her doing so created a compilation of information.

The second factor was also met. Salgado asserted that the information was commercially valuable because it was not known to competitors or the general public. Further, Salgado argued that competitors had approached her to purchase her company in the past year. She asserted that this interest from competitors was based almost entirely on the goodwill generated by the company and access to its book of business.

And, Salgado also presented information detailing the steps she took to maintain her customers’ information confidentiality. The court said that the fact that she did so because she was required to do so by law was immaterial; it was undisputed that she took steps to keep her clients’ information secret.

Nevertheless, the court said, whether trade secret protection attaches turns on whether the information is “readily ascertainable.” Salgado proposed to designate the following information “confidential” under their proposed protective order: (1) client/spouse/dependents’ name; (2) client/spouse/dependents’ address; (3) client/spouse/dependents’ telephone number; (4) client/spouse/dependents’ SSN or TIN; (5) client banking/financial information; (6) schedule C business name, EIN, address; (7) schedule E property addresses; and (8) W-2/1099 employer/payer’s name, EIN, address.

IRS asserted that that information was either publicly available or already protected from disclosure under Rule 5.2.

The court agreed with IRS’s position that the information was either publicly available or protected by Rule 5.2. Accordingly, the information Salgado sought to protect was not a trade secret.

The court also requires additional protection for the client data. The court then ordered the parties to confer and submit a joint statement for the court’s consideration and approval, regarding redactions necessary to protect the reasonable privacy concerns of Salgado’ clients.

The court said that, while Rule 5.2 establishes the floor regarding the redactions parties must make when filing documents in federal court, it is well within the court’s discretion to order additional protections when necessary. The court said it was concerned that Salgado’ clients likely and reasonably expected that, by turning to Salgado for help in filing tax returns, their information—particularly personal identifying information—would not become publicly available.

The court said that it expected that the parties’ agreement would result in public filings with all personal identifying information redacted such that a specific client could not be recognized.

References: For Internal Revenue Code tax return information disclosure safeguards, see FTC 2d/FIN ¶  S-6200  et seq.; United States Tax Reporter ¶  61,034.