Source: https://procedurallytaxing.com/category/interest/
Timestamp: 2019-04-18 22:26:09+00:00

Document:
We’re continuing to explore the “same taxpayer” issue for interest netting under Section 6621(d), for which the Federal Circuit issued an important decision in November. In Part 1 of this two-part series, I discussed other approaches to netting, the background of Section 6621(d), early IRS guidance, and the first of four major cases that have addressed this question. In Part 2, I’ll wrap up with the remaining cases plus some thoughts about the future.
Section 6621(d) allows netting only of equivalent overpayments and underpayments “by the same taxpayer.” Part 1 covered what I consider one of the more interesting attempts at IRS guidance on this issue, Field Service Advice 2002-12028,. It concluded that to qualify for this benefit, one must “both be liable for the underpayment of tax, and entitled to the overpayment of tax.” This kept the restrictive adjective “same” while creating exceptions for mergers and consolidated returns by attributing overpayments or underpayments of one corporation to another. As taxpayers starting filing cases for expansive interpretations of “same taxpayer,” the DOJ retreated from the IRS guidance to very narrow interpretations that would, in practice, make interest netting virtually impossible for the large corporations that most need it.
Balances that arose prior to consolidation: Energy East Corp. v. United States, 645 F.3d 1358 (Fed. Cir. 2011), aff’g 92 Fed. Cl. 29 (2010). This case involved acquisitions in which the subsidiaries survived as members of an affiliated group and tried to net overpayments and underpayments for pre-acquisition tax years. The taxpayers lost. That was probably the right result, although I still have some reservations. The case was decided by a “temporal requirement” that later cases borrowed. Read Part I for the gory details.
And now on to the other three cases.
Magma provided an affidavit to the effect that a substantial portion of the overpayments by the consolidated group were attributable to Magma. How substantial? More than 100% of the reduction of consolidated taxable income resulting in the 1995 and 1997 overpayments; 92% of the reduction of consolidated taxable income resulting in the 1996 overpayment; and 79% of the reduction of consolidated taxable income resulting in the 1998 overpayment. The government disputed the plaintiff’s methodology and amounts but conceded that some portion of the overpayments were attributable to Magma.
The Court of Federal Claims’ opinion is one of the best and most comprehensive analyses of this issue I’ve read – kudos to the court and the litigants. I think it’s also potentially the most important for future developments in interpretation of Section 6621(d). The court interpreted “same taxpayer” as “same TIN.” In that respect it accepted the government’s argument. But the court also concluded that overpayments could be attributed to individual members of a consolidated group, not just underpayments (for which all members are severally liable per regulation); the government appeared to concede neither. The court also rejected the “complete identity” or “exact DNA identity” argument of the government. Key to the decision was the court’s observation that the group is not itself a taxpayer, merely a method of combining all the members for computing tax liability; the members of the group are the taxpayers. Further, the tax liability of the consolidated group must be allocated to individual members as part of tracking E&P for each member pursuant to Section 1552. Either individual members pay their allocated share of the tax liability or the amount they don’t pay would be treated as a contribution from the other member who did pay, Treas. Reg. section 1.1502-33(d)(1). Because the tax liability is allocated and payments by the group are allocated, that should be enough to allocate overpayments to individual members as well, shouldn’t it?
After a careful consideration of legislative history, previous IRS guidance, and the remedial nature of the legislation, the court held that pre-merger Magma Power and post-merger Magma Power “should be properly considered the same taxpayer to the extent the consolidated group’s overpayment can be traced to the company” (emphasis added). Because there had not yet been an agreement by the parties or determination by the court of how much of the overpayments could be attributed, the court ordered the parties to propose further proceedings to resolve the case.
The parties entered a stipulation as to the amount owed about eleven months later – interest computations can be difficult and securing the required government approvals for settlement can drag out – and the court entered judgment. The government filed a notice of appeal on November 20, 2012, and then filed a motion in the Federal Circuit to dismiss the appeal on December 12, 2012. We have no assurance of how the Federal Circuit would rule on this issue but apparently, DOJ was not confident or at least wanted to avoid the risk of an adverse precedent.
This analysis seems to follow the “attribution to a single entity” framing of FSA 200212028 rather than a “two entities are treated as the same taxpayer” framing.
Statutory mergers, various scenarios: Wells Fargo & Co. v. United States, 827 F.3d 1026 (Fed. Cir. 2016), aff’g in part and rev’g in part 119 Fed. Cl. 27 (2014). Stephen Olsen posted here a few years ago when the Court of Federal Claims and Federal Circuit opinions came out.
This case included many different factual circumstances, resulting from a series of seven mergers and 64 separate refund claims. The government and Wells Fargo identified three “test claims”; the principles would govern all of the claims. Wells Fargo (represented by the same firm that represented Magma Power) argued that merged corporations are always treated as the “same taxpayer,” regardless of the timing of the payments. The government argued that taxpayers are only the “same taxpayer” if they have the same TIN at the time of the payments.
Scenario One: Wachovia had an overpayment for 1993; First Union had an underpayment for 1999. The two merged in a statutory merger in 2001, and First Union survived. The government argued that the netting was not available because the two corporations had different TINs and were unaffiliated at the time of both the overpayment and the underpayment.
Scenario Three: CoreStates had an overpayment for 1992 and merged with First Union in 1998 with First Union surviving. Then First Union had an underpayment for 1999. The government argued that netting was not available because the two corporations had different TINs.
The Federal Circuit mentioned the “same taxpayer = same TIN” rule from Magma Power, without explicitly adopting the rule. But it mischaracterized the Court of Federal Claim’s application of the rule as that “the consolidated group or corporations met the ‘same taxpayer’ requirement because they shared a single TIN.” As discussed above, that is not what the CFC did in Magma Power. The court focused on the TIN of the subsidiary, Magma Power, rather than the consolidated group. It allowed netting, but only if the consolidated return’s overpayment could be traced or attributed to the company.
Based on merger law, the Federal Circuit concluded that two merging corporations are the “same” regardless of which survives. The Court of Federal Claims declined to apply the temporal requirement from Energy East because joining an affiliated group (when both corporations maintain their separate identity) differs from a statutory merger (in which only once corporation survives). But the Federal Circuit disagreed, applied the temporal requirement, and allowed netting in Scenario Three but not in Scenario One.
In Energy East, the Federal Circuit seemed to say that the taxpayer must be the same before both the underpayment and the overpayment. Of course, that was the situation being decided; the court wasn’t dealing with a situation with an overpayment made prior to the acquisition. But in Wells Fargo, the court allowed netting in Scenario Three, when the overpayment was made prior to the merger. Apparently, the requirement is that the taxpayer must be the same when the overpayments or underpayments are made. That seems plausible; there are no overlapping balances to be netted until the second balance comes into existence.
I don’t find the temporal requirement imposed in Energy East and Wells Fargo completely persuasive. The court interpreted an overpayment or underpayment as being associated with a particular date rather than a period. That’s understandable, given the language in Sections 6601(a) and 6611(b). But I think the antiquated language of the Code has effectively been superseded by Avon Products Co. v. United States, 588 F.2d 342 (2d Cir. 1978), and the realities of tax administration. In Avon Products, the Second Circuit concluded that individual transactions must be netted into a single balance before computing interest. The IRS has acquiesced in not only the result of that case but also the reasoning. Over a period of time, the single balance required by Avon Products may change from underpayment to overpayment back to underpayment, and the traditional determinations of the “date” of an overpayment and underpayment no longer fit well. They are better considered in terms of a period rather than a particular date when they arise. Admittedly, no court has yet reached the same conclusion.
Further, the “last antecedent rule” is simply an interpretative standard, not an ironclad rule any more than other canons of statutory construction. Given the remedial nature of netting, it would have been possible to interpret the provision more broadly. Even if both the underpayments and overpayments began before the merger or joining into an affiliated group, netting might be permissible if both are still outstanding afterward. At that point, once the two corporations become the “same taxpayer,” the harm that Section 6621(d) is intended to remedy exists. Netting might be allowed from that point. This argument is likely stronger for mergers than for affiliated groups that file consolidated returns.
But that’s not what the court ruled.
Instead of relying on a dictionary, the Federal Circuit concluded that the meaning of “same taxpayer” depended on “background legal principles” at the time Congress enacted Section 6621(d). One of those background legal principles was that a parent corporation and its subsidiaries are separate taxable entities. (Cases cited in the opinion concluded that even if the parent and subsidiaries join to file a consolidated return, the group is not as a single entity and individual members retain their identity.) The court identified “the unique legal effects of a merger” as an exception to that general rule, citing Wells Fargo. Ford argued that the FSC statute was another relevant background legal principle that would constitute an exception to the general rule, but the court disagreed. There was no statutory provision for FSCs comparable to the continuation of the identity of the acquired corporation in the successor corporation after a merger.
The plaintiff’s arguments here were based on control and direction because of the factual situation: Export was not a member of the affiliated group that filed a consolidated return. That suggests that the decision may be relatively narrow in scope and may also help explain why the court reached this decision. This level of “control and direction” will most often occur with a subsidiary that meets the 80% voting and value test for an includible corporation in an affiliated group (even if not includible for other reasons such as being a foreign corporation). Consider three categories such subsidiaries might fall into: (a) included in the affiliated group; (b) not included in the affiliated group but a foreign corporation with no US income; and (c) not included in the affiliated group but a corporation that files a US tax return. If the Federal Circuit eventually blesses netting involving attribution from consolidated returns, similar to FSA 2001-12028 and Magma Power, the effect of the decision in Ford may be limited to category (c). Further, allowing netting based on control and direction, rather than attribution from a consolidated return, would impose more of an administrative burden on the IRS because the factual determination is more difficult. It’s not well suited for a general background legal principle to apply as an interpretation of “same taxpayer.” On the other hand, netting with subsidiaries who meet the 80% test but are not includible for other reasons, might be a viable test.
The boundaries of “same taxpayer” are still not entirely clear. Because most netting claims include a request for additional overpayment interest, these cases will usually be brought in the Court of Federal Claims rather than district court. Review by the Supreme Court and legislative action both seem unlikely in the extreme. So the Federal Circuit’s decisions carry a lot of weight. But there are some possibilities the Federal Circuit has not yet ruled on.
In a statutory merger, the Federal Circuit will allow netting of a pre-merger balance against a post-merger balance but not if both balances are from pre-merger years. If a taxpayer or the government wants to change that, it will be difficult to do just through litigation.
The Federal Circuit has never directly ruled on netting in the context of consolidated returns. Energy East and Wells Fargo involved mergers; a Magma Power appeal was dismissed on the government’s request; and Ford involved a subsidiary that was not consolidated. The opinion in Ford seems to suggest that these situations are not an exception to the general rule that a parent and its subsidiaries are separate entities and therefore are not the same taxpayer. I don’t think that necessarily precludes netting, though.
First, I suspect that as a practical matter the IRS has been allowing netting administratively, and thus there have been no lawsuits, in circumstances where one member has an overpayment based on a separate tax return and the consolidated return has an underpayment. We haven’t seen such a case in the Federal Circuit and I would expect to by now if the IRS were disallowing the claims. If that’s correct, I’m not sure that the opinion in Ford will be enough for the IRS to change its administrative practice.
Second, treating a parent and its subsidiaries as separate entities does not preclude netting if you allow attribution of underpayment and overpayments to individual members of the affiliated group. Then, as in Magma Power, you are dealing with a single taxpayer; the attribution results in one taxpayer having equivalent overpayments and underpayments outstanding at the same time. The Federal Circuit has not addressed the attribution theory and, based on its mischaracterization of Magma Power in Wells Fargo, may not have considered it yet.
Netting in the context of consolidated returns, under an attribution theory, will still create administrative issues. Even in simple netting claims, the taxpayer cannot use balances if it has previously used them for netting. For example, if Corporation A nets a 2001 underpayment against a 2004 overpayment, Corporation A cannot later net the same 2001 underpayment against a 2006 overpayment. This would apply for netting under an attribution theory in the context of consolidated returns. Further, the netting claim would have to provide documentation to support the attribution. But such administrative issues should not be an impediment. Revenue Procedure 2000-26 simply shifts the burden to the taxpayer requesting netting. A more significant problem with netting in the context of consolidated returns might arise with respect to disputes between members of the group about the attribution – particularly after a member has left the group but still wants to net past balances as part of the group against post-departure balances.
Are there situations other than mergers and consolidated returns that might supply “background legal principles” to justify netting? Contractual assignments of tax liabilities and the right to refunds of overpayments might be a possibility, although courts are often reluctant to be bound by those when deciding tax issues. There may be others.
Even if the Federal Circuit is unlikely to approve netting in the consolidated return context or other situations, it’s worth still contesting issues on which the Federal Circuit has not yet ruled. Interest disputes for the largest corporations can involve significant amounts, which alone justifies taking a shot. Ford, as an example, involved a $20 million claim while Wells Fargo involved a $350 million claim (although that included items other than netting).
As I was finishing this post up, I received the latest volume of The Tax Lawyer, which includes an article “More of the ‘Same’: Section 6621(d) in the Federal Circuit” by David Berke, an associate at Skadden, Arps. He and I are not in complete agreement, but for those with an interest in a different perspective on this topic, it’s worth perusing.
On November 9, 2018, the Court of the Appeals for the Federal Circuit issued its decision in Ford Motor Company v. United States, 908 F.3d 805 (Fed. Cir. 2018), aff’g 132 Fed. Cl. 104 (2017). The Court concluded that Ford Motor Company and a wholly-owned subsidiary were not the “same taxpayer” for purposes of the interest netting provision in Section 6621(d).
Procedurally Taxing addressed this issue a few years ago when the last major case on Section 6621(d) was decided. With the decision by the Federal Circuit in Ford, now seems a good time to revisit the issue – both in Ford and the earlier cases – as well as speculate where it may be heading.
In Part 1, I will review the background of Section 6621(d), other netting methods, early IRS guidance on the “same taxpayer” question, and the first of four major cases interpreting that aspect of the provision. In Part II, I’ll cover the other three cases as well as take a look at the future.
Spoiler alert: this is a complex, confusing area of tax procedure. I think some of the cases could have, and perhaps should have, come out differently. But this is what we have.
With some exceptions, the government charges taxpayers interest on unpaid tax liabilities and pays taxpayers interest on refunds. There were some rate differences in the earliest years of the modern income tax, but for a long period of time the government used the same interest rate for both underpayments and overpayments. That’s still the case for non-corporate taxpayers but changed for corporate taxpayers over 30 years ago.
In the Tax Reform Act of 1986, Congress created a 1% difference in Section 6621(a) between the base rate it charges corporations on underpayments of tax (the federal short-term rate + 3%) and the base rate it pays corporations on overpayment of tax (the federal short-term rate + 2%). As a result of subsequent changes, the gap can be much larger. The Omnibus Budget Reconciliation Act of 1990 added Section 6621(c), establishing the “large corporate underpayment” or “hot interest” rate (the federal short-term rate + 5%) for underpayments exceeding $100,000. The Uruguay Round Agreements Act of 1994 added the flush language at the end of Section 6621(a)(1), establishing the “GATT interest” rate (the federal short-term rate 0.5%) for overpayments exceeding $10,000. The proper application of hot interest and GATT interest is itself a complex issue beyond the scope of this post, but many large corporations will be subject to rates that differ by as much as 4.5%.
What happens when a corporation has both an outstanding overpayment of tax and an outstanding underpayment of tax, accruing interest during the same period of time? Might a corporation find itself paying more interest than it receives on equivalent amounts? Prior to the enactment of interest netting, taxpayers had two protections against that.
“Annual interest netting” addresses situations where a taxpayer has both an overpayment and an underpayment with respect to the same tax return outstanding during a given period. For example, Big Corp’s income tax return for 2012, filed on 3/15/2013, shows an overpayment of $3,000,000, which the IRS does not refund until 1/5/2015. After an audit, the IRS assesses additional tax of $5,000,000 for 2012. The IRS might try to assess interest on the $5,000,000 underpayment, from 3/15/2013 until paid, while paying Big Corp interest (at a lower rate) on the $3,000,000 original overpayment, from 3/15/2013 until 1/5/2015. In Avon Products Co. v. United States, 588 F.2d 342 (2d Cir. 1978), the Second Circuit concluded that individual transactions must be netted into a single balance before computing interest. Thus, the IRS would assess interest only on the net $2,000,000 underpayment from 3/15/2013 until 1/5/2015, and on $5,000,000 thereafter until paid. The IRS acquiesced not only in the result but also in the reasoning of Avon Products, although it has occasionally argued for a different result in particular cases. Revenue Procedure 94-60 and Revenue Ruling 99-40 are interpretations of the Avon Products doctrine; in recent years the IRS changed interest computation software and (somewhat) its methodology. (Revenue Ruling 99-40 actually – and likely unintentionally – mischaracterizes Avon Products in a subtle manner that obscures another procedural problem concerning recovery of excessive overpayment interest. The problem is potentially significant, although few people seem to be aware of it. But that is beyond the scope of this post.) However, “annual interest netting” only applies when the overpayment and underpayment are for not only the same type of tax but also the same tax return.
In other circumstances, the IRS exercise of its authority under Section 6402(a) to credit overpayments against outstanding tax liabilities, rather than issuing a refund, results in the elimination of the rate differential problem. A Section 6402(a) credit, of course, is not intended to and does not by itself accomplish netting. It is merely a collection method, almost always applied automatically to credit an overpayment under one TIN against an underpayment for exactly the same TIN. When the IRS makes such a credit, however, any interest rate differential is eliminated because of specific interest computation provisions. If an overpayment for 2010 is applied to an underpayment for 2011, for example, Section 6611(b)(1) provides that interest on the overpayment runs only to the due date of the 2011 underpayment – the same date that interest on 2011 underpayment starts accruing. If an overpayment for 2011 is applied to an underpayment for 2010, Section 6601(f) provides that there is no interest on that portion of the underpayment “for any period during which, if the credit had not been made, interest would have been allowable with respect to such overpayment.” This avoids an overlap period with interest accruing both on an overpayment and an underpayment, but a Section 6402(a) offset is only available if both balances are still outstanding. If the overpayment was refunded or the underpayment was paid, Section 6402(a) won’t help.
Those two solutions still left unresolved some instances of overlapping overpayments and underpayments. When Congress created the 1% rate differential in 1986, it asked the IRS to implement “the most comprehensive netting procedures that are consistent with sound administrative practice.” It continued to request IRS action as the rate differential widened to 3% and then 4.5%, and again when it enacted the Taxpayer Bill of Rights, but Treasury pushed back because it had no statutory authority for such netting. Congress eventually enacted Section 6621(d) in the Internal Revenue Service Restructuring and Reform Act of 1998. That provision requires that for any period when there are “equivalent underpayments and overpayments by the same taxpayer of tax imposed by this title, the net rate of interest under this section on such amounts shall be zero for such period.” I’ve always referred to this as “global interest netting,” to differentiate it from “annual interest netting,” but I’ve dealt with some DOJ attorneys who prefer “net interest rate of zero.” For the remainder of this post, I’ll use “netting” to refer only to Section 6621(d).
The IRS computers cannot readily identify situations in which netting would be available. As a result, the IRS requires taxpayers to specifically request such netting on a refund claim. Revenue Procedure 2000-26 sets forth the requirements.
The legislative history for Section 6621(d) didn’t really explain what “same taxpayer” means. The meaning would be clear if we were talking about individuals. But corporations can change their corporate identity, through mergers, and join affiliated groups that file consolidated tax returns. What effect does that have? The IRS issued guidance as it began dealing with how to apply netting, and courts decided at least four major cases, including Ford, to clarify the boundaries of the term.
But a subsidiary is not liable for the group’s underpayment for tax years for which it was not a member of the group. Therefore, the subsidiary can’t net the group’s underpayment against its own overpayments. This applies when the subsidiary was acquired or came into existence after the year of the group’s underpayment (Situations 3 and 4), or if the subsidiary was owned by the parent during that year but was not part of the affiliated group (Situations 8 and 9).
It is unclear whether subsidiaries would be entitled to some or all of the group’s overpayments for tax years when they were members of the groups and therefore able to net the group’s overpayments against their own underpayments. It is theoretically possible but that will depend on the facts and circumstances of the particular case. (Situations 1 and 2) The IRS reiterated this position in Chief Counsel Advice 2004-11003 but later walked back this concession in Chief Counsel Advice 2007-07002.
This was not a perfect, or complete, analysis but it was a good start. When I first read it years ago, I thought it was an interesting way to frame the analysis. Although we sometimes use a shortcut and say that this issue is whether Company A and Company B are the “same taxpayer,” this FSA focuses on whether a single taxpayer – Company A – has equivalent overlapping overpayment and underpayment. But in doing so, it allows under appropriate circumstances the attribution of overpayments or underpayments on Company B’s tax returns to Company A. There is solid support for many of the attributions in FSA 200212028.
Litigation ensued and the courts began fleshing out the nuances. In that litigation, the government pushed for a much more restrictive interpretation than in FSA 200212028. At various times, DOJ advanced three alternative arguments that would substantially limit or eliminate the ability of affiliated groups to obtain the benefits of netting. First, the TIN associated with the overpayment must be identical to the TIN associated with the underpayment. Thus, an overpayment or underpayment of the affiliated group could never be netted against an underpayment/overpayment of individual members; further, balances of the surviving corporation in a statutory merger could never be netting against pre-merger balances of the non-surviving corporation. Second, even if the TIN were identical, the taxpayer must not have undergone any substantial change between the two years. Thus, any addition or removal of members of an affiliated group or merger with another corporation – among other changes – would eliminate the ability to net interest. This would effectively eliminate netting for the largest corporations, which are those most likely to benefit from netting. Third, Congress did not intend netting to be available for overpayments or underpayments by consolidated returns at all. The Federal Circuit has accepted the first argument, with exceptions carved out, but has not (yet) adopted the more extreme interpretations.
Balances that arose prior to consolidation: Energy East Corp. v. United States, 645 F.3d 1358 (Fed. Cir. 2011), aff’g 92 Fed. Cl. 29 (2010). Energy East Corporation acquired Central Maine Power Company (“CMP”) in 2000 and Rochester Gas & Electric Corporation (“RG&E”) in 2002. Both subsidiaries became part of Energy East’s affiliated group and were included in consolidated returns from that point forward. The refund claim requested that CMP’s and RG&E’s overpayments for 1995, 1996, and 1997 be netted against Energy East’s underpayment for 1999. Thus, all of the balances began before the subsidiaries were acquired by Energy East.
The Court of Federal Claims used a dictionary definition of “same” – “being one without addition, change, or discontinuance: identical.” By that definition, CMP and RG&E were no longer the same taxpayers after the acquisition by Energy East, as they became part of an affiliated group. I’m often uneasy about a court’s use of dictionary definitions and this is no exception. Not only did it open the door for DOJ to argue for an overly narrow definition, but it also fails to recognize multiple different shades of meaning. For example, since I got married 31 years ago, I have moved twice, got a law degree, changed jobs four or five times and professions twice, lost weight, qualified for Medicare, etc. In one sense, yes, people would say I’m “not the same person” I was 31 years ago. But “same person” is also commonly used more broadly so that “not the same person” would refer to, say, major psychological changes – or The Invasion of the Body Snatchers. “Same” just raises the questions “to what extent” or “in what essentials” and becomes a vaguely ontological inquiry. So, dictionary definitions are a (minor) pet peeve just because of the flexibility and nuances of human language makes them too susceptible to manipulation and an ineffective guide to Congressional intent. I’m not a fan of the CFC’s definition of “same” for this issue.
The CFC also noted that “although they later became members of the consolidated group, [Energy East], CMP, and RG&E were different taxpayers with different employer identification numbers at the time of their overpayments and underpayments.” There was no support for treating them as the same for tax years prior to joining the group. This temporal requirement became an important part of the analytical framework, although I argue in Part 2 that it’s not necessarily the right way to look at this issue.
The Federal Circuit agreed that the consolidated return regulations provided no basis for concluding that individual members of the group should be treated as the “same” for years prior to their joining the group. It also rejected Energy East’s alternative argument that the focus of the “same taxpayer” determination should be when interest (to be netted) was accruing. Instead, the court concluded that they had to be the “same taxpayer” on the date of the underpayment and overpayments, based on the “last antecedent rule.” It said that “by the same taxpayer” referred to “equivalent overpayments and understatements” in Section 6621(d); thus, “the statute provides an identified point in time at which the taxpayer must be the same [by virtue of being members of an affiliated group], i.e., when the overpayments and underpayments are made.” As I’ll discuss in Part 2, this may not be precisely correct, at least in other contexts.
The court did not state that these three companies were the same taxpayer for years in which they were included in consolidated returns. That determination was not necessary for the decision, as the parties agreed the companies were not the same taxpayer for the years when the overpayments and underpayments were made.
Under the “attribution to a single entity” framing of FSA 200212028, this decision was clearly right. CMP and RG&E had no connection to Energy East’s underpayment for 1999 that would allow attribution under existing rules. Under a “two entities are treated as the same taxpayer” framing, it’s not as clear. I’ll return to that in Part 2, in the discussion of the Wells Fargo case.
That’s it for Part 1. Stay tuned for Part 2, where the action heats up.
In Charleston Area Medical Center Inc., et al v. United States, No. 1:17-cv-01528 (Ct. Cl. 2018) the Court of Federal Claims held that the interest rate applicable to corporations applies to tax exempt corporations just as it does for “regular” corporations. The court decided the case on the pleadings because the issue presented in the case was purely a legal issue with no factual dispute. Steve wrote about this issue a couple of years ago. There have been several cases decided since then making it worth a second trip for readers though for taxpayers the courts still play the same tune.
The case also raises interesting procedural issues because the taxpayer sought to bring the suit as a class action. Class action litigation does not occur often in federal taxes.
The taxpayer argued that the corporate rate should not apply to it because Congress did not intend that rate to apply to tax exempt entities. In addition to arguing that the corporate rate did not apply to it, the taxpayer filed a class action complaint seeking to represent other similarly situated organizations that also received refunds pursuant to the IRS concession regarding the student exception.
As mentioned above, the taxpayer did not win the race to the court on this issue. By the time the Court of Federal Claims wrote its opinion here the government had already prevailed in the Second (Maimonides Med. Ctr. V. United States, 809 F.3d 85, 87 (2nd Cir. 2015) (this is the case Steve discussed in the earlier post)), Sixth (United States v. Detroit Med. Ctr., 833 F.3d 671(6th Cir. 2016)) and Seventh Circuits (Med. Coll. Of Wis. Affiliated Hosps., Inc. v. United States, 854 F.3d 930, 933 (7th Cir. 2017)) as well as the District Court in Kansas No. 16-1054 (D. Kan. 2017) appeal docketed, No. 18-3016 (10th Cir. Feb. 2, 2018)).
The Federal Circuit, following the reasoning of the other courts, found that the word corporation ordinarily refers to both for-profit and nonprofit entities. It noted that the dictionary definition of corporation does not depend on whether the entity is for profit or not for profit. IRC 7701 provides a broad definition of corporation. The Federal Circuit found that a textual analysis supports the view that Congress knew how to limit the type of corporation since it created a special rate specifically for large C corporations in IRC 6621(c)(3)(A). Finally, the court noted that throughout the Code the word corporation applies to for profit and not for profit corporations.
The court noted that the taxpayer’s argument relied on regulations superseded in 1996. It said that the language of the Code provided a clear basis for its decision but that even if it had not the long ago superseded regulations would not lead to the conclusion sought by the taxpayers. Additionally, taxpayers argued that the IRS position in their case (and the many identical cases preceding it) was inconsistent with Notice 2018-37 which announced that S corporations will receive unfavorable tax treatment notwithstanding the fact that the new statute excepts all corporations from such treatment. The court says that it takes no position regarding the proposed regulations but finds this argument has no bearing on the outcome of the case.
I do not know how many other tax exempt corporations will try the arguments made here. It appears that the issue is dead. It’s time for the tax exempt organizations to move to the lobbying phase of their efforts to obtain additional interest. Continuing to make this argument looks like a sure loser. Because the court dismissed the case, it did not get to the issue of certifying a class action against the IRS to recover a refund of interest for similarly situation tax exempt organizations.
Carl Smith blogged earlier this year about the Pfizer case. The attention on Procedurally Taxing, and the amicus briefs filed by Carl and Keith in several cases, focused on an issue that could affect a large number of tax controversies: whether filing deadlines are “claim-processing” rather than “jurisdictional” rules and therefore can be equitably tolled. It’s an interesting and very important issue.
But there’s also a smaller issue Carl alluded to briefly, in an area with which some readers may not be familiar, that hasn’t received as much attention. The issue arises in lawsuits seeking overpayment interest under section 6611. The procedural differences might be of interest while we’re waiting for Second Circuit’s decision in Pfizer.
Underpayment interest under section 6601, owed by taxpayers to the government on taxes and penalties that have not yet been paid, is explicitly treated as equivalent to the underlying tax for most purposes by section 6601(e)(1). (The exception is that underpayment interest is not subject to deficiency procedures.) Treating underpayment interest as equivalent to tax makes sense – assessment of additional tax will often result in assessment of underpayment interest and an abatement of tax will often result in abatement of previously assessed underpayment interest. But overpayment interest under section 6611 has no provision equivalent to section 6601(e)(1) and additional overpayment interest is “allowed” and paid rather than assessed.
If a taxpayer does not receive the overpayment interest to which it is entitled, how can the taxpayer challenge the IRS in court? If the tax overpayment was determined as part of a Tax Court case, the taxpayer can seek the court’s review of an erroneous determination of associated interest under Rule 261. But if the underlying tax overpayment was claimed on the original return (as in Pfizer) or a refund claim that is resolved administratively rather than in court, how does the taxpayer seek judicial review of an erroneous determination of overpayment interest?
With an action for additional overpayment interest, there was no assessment or collection – simply a failure to “allow” and pay.
Even better, the six-year statute of limitations under 28 U.S.C. §§ 2401 or 2501 applies to Tucker Act suits and there is no requirement to file a refund claim first.
So why didn’t Pfizer just claim jurisdiction under the Tucker Act, to avoid any question about jurisdiction? As you might expect, this was probably a case of forum shopping. The Tucker Act jurisdiction for the Court of Federal Claims, at 28 U.S.C. § 1491(a)(1), is not limited as to the amount of the claim. Pfizer wanted to bring suit in district court instead, where the Tucker Act jurisdiction (sometimes referred to as the “little Tucker Act”), at 28 U.S.C. § 1346(a)(2), adds a limitation: “not exceeding $10,000 in amount.” (Judges in the Court of Federal Claims have more experience with claims against the federal government than typical district court judges; the jurisdictional provisions funnel most large and complex disputes there instead of to district court.) But Pfizer was seeking more than $8 million. If there is any way to do that in district court, it would have to be § 1346(a)(1).
The district court in Pfizer followed Scripps and ruled for the taxpayer in a preliminary motion to dismiss based on whether jurisdiction was proper under § 1346(a)(1). But Pfizer’s suit was filed beyond the two-year limit of section 6532 and the court granted the government’s second motion to dismiss because the suit was not filed timely. On appeal, the government is challenging the first ruling and the taxpayer is challenging the second ruling.
The language is almost identical to that in § 1346(a)(1) but the taxpayer argues the two provisions should not be interpreted the same way.
. . . the two provisions serve different functions and thus have their own independent meanings. . . . Thus, even though a claim for statutory interest on an overpayment of tax might not fall within the scope of § 7422(a), this does not prevent statutory interest from being included with the ‘‘any sum’’ clause of § 1346(a)(1).
Will the Second Circuit rule for the taxpayer by following Scripps and also by concluding that the section 6532 statute of limitations either doesn’t apply or can be equitably tolled? If so, with two Circuits now giving an expansive reading to § 1346(a)(1), will more taxpayers be likely to file these claims – and other, non-tax claims – in district court instead of the Court of Federal Claims?
Or will the Second Circuit rule for the government? Will it conclude that Pfizer was “in the right place but it must have been the wrong time” (agreeing with Scripps that jurisdiction is proper in district court under § 1346(a)(1) but dismissing the suit as not filed timely) and/or “in the wrong place but it must have been the right time” (timely filing for a suit under the Tucker Act, but plaintiff didn’t claim that as jurisdiction and also needed to be in the Court of Federal Claims)? Pfizer might wind up in the Court of Federal Claims after all.
The Tax Court issued seventeen designated orders the week ending December 22. Prior to reviewing them closely, I assumed it was a push to get a lot accomplished before the holidays and the end of the year, but nine of the seventeen designated orders (including three consolidated dockets) were issued in light of the Graev decision and many were discussed as part of Keith’s post here.
I discuss three of the eight non-Graev designated orders below. The five remaining orders not discussed involve: 1) a petitioner’s motion for reconsideration relating to a 6621(c) penalty (here and discussed briefly below); 2) a denial of a petitioner’s motion for summary judgment and motion to compel discovery (here); 3) a grant of respondent’s motion for summary judgment in a CDP case where petitioners’ failed to propose a collection alternative (here); 4) a denial of petitioner’s motion for reconsideration on a consolidated docket (here); and 5) a grant of respondent’s motion for summary judgment in a CDP case where a petitioner improperly attempted to raise an underlying liability (here).
The issues discussed below include an interesting basis computation question when a seller transfers a partial interest in property to a taxpayer that improved the property prior to a subsequent sale to a third party, Appeals’ discretion to reject offers in compromise, and restitution interest abatement and res judicata.
It is rare for the Tax Court to grant a petitioner’s motion for reconsideration but it happened, in part, in two different cases two weeks ago. I only discuss this case. The other case involves a section 6621(c) penalty, but the motion is granted only to change certain phrases in the original opinion to reflect the Court’s intended meaning.
To be successful with a motion for reconsideration a petitioner must show that the Court made more than a harmless error pursuant to Rule 160. In this case the error in the original opinion, according to the Court, was a failure to understand that the sale of a share of property to a construction company in exchange for the construction company’s improvements made to the property should have been reflected in petitioner’s adjusted basis when he and the construction company jointly sold the property to a third party in a subsequent transaction. In essence the petitioner sought to add the FMV of the services he received from the constriction company to the basis for purposes of both the initial transfer of a partial interest to the construction company and on the subsequent third party sale.
This error could have been corrected using Rule 155 computations, but the parties cannot agree on the correct numbers. Pursuant to Rule 155(b) if the parties cannot agree, the Court has the discretion to grant them an opportunity to present arguments about the amounts so that the Court can determine the correct amount and enter its decision accordingly.
In this designated order, the Court looks to the closest analogous case which is Hall v. Commissioner, 65 T.C.M. 2575 (1993). In Hall it was held that, “the value of the carpenter’s services did not increase the sellers’ basis in the property for the sale to the carpenter but would increase the basis in the remaining share of the property on any later sale to a third party.” The parties cannot agree about the way the rule in Hall should apply to petitioner’s case. Petitioner argues that the portion of the property exchanged for the construction company’s services should increase his basis on both the partial sale to the construction company and the joint sale to the third party; whereas Respondent argues that the increase in basis should only apply on the joint sale to the third party.
The Court finds that respondent’s application of Hall is correct and the amount determined in the original opinion is not correct. The Court proceeds to go through a calculation using what it has now determined to be the correct amount.
The other findings and holdings from the original opinion are unchanged but require another attempt at Rule 155 computations, however, with the Hall-related dispute laid to rest hopefully the parties will agree going forward.
In this designated order the Court is ruling on cross-motions for summary judgment. The case originates from a notice of determination issued after a timely requested CDP hearing on a proposed levy. Petitioners indicated that they wished to submit offer in compromise in their CDP request, but submitted the offer prior to the IRS acknowledging the CDP request and prior to the hearing. The settlement officer learned that the offer had already been submitted and waited for a decision from the offer unit before evaluating the proposed collection alternative.
The offer unit determined petitioners’ reasonable collection potential was higher than the amount of their offer, in part due to the cash surrender value of a life insurance policy. Following the offer unit’s reasoning, the settlement office also rejected the OIC but first allowed petitioners to increase the amount of their offer which would have required them to surrender the life insurance policy. Petitioners were not willing to surrender the policy, so the settlement officer issued a notice of determination sustaining the proposed levy.
Petitioners argue the settlement officer abused her discretion by not considering their poor health and limited employment opportunities, but the Court finds the offer unit considered these things. Petitioners did not propose a different collection alternative other than the offer.
The Court denies petitioners’ motion for summary judgment and grants respondent’s motion. The Court highlights the fact that accepting or rejecting an offer is within the IRS’s discretion and the Court does not interfere with that discretion unless it finds the decision is arbitrary. In this case it is not arbitrary for the IRS to sustain the levy because petitioners’ offer was rejected, petitioners refused to increase the offer amount, and they did not propose any other collection alternatives.
This case involves petitioner’s arguments that the IRS improperly assessed interest on her District Court ordered restitution and that the restitution had already been paid in full. Both parties have moved for summary judgment.
Petitioner was ordered by the District Court to make restitution payments after being convicted of criminal tax fraud for filing a false tax return. In that case, the District Court agreed to waive interest and applied a $250 credit toward the restitution. A few months after the District Court decision was made, petitioner paid the restitution in full and the U.S. Attorney filed a satisfaction of judgment with the District Court.
Then several things happened around the same time, the IRS: assessed liability for tax year 2000, assessed restitution and interest finding that petitioner had not fully paid the restitution, and applied her restitution payment toward the tax year 2000 liability.
The IRS issued a Notice of Tax Lien Filing on the restitution amount and interest. Petitioner timely requested a CDP hearing.
Petitioner claimed she had paid restitution in full. After clearing up confusion about whether the lien was filed on the restitution or liability amount, but instead of looking into underlying issue, the settlement officer agreed to withdraw the lien and placed petitioner’s account into currently not collectable status. The interest on the restitution was not abated and petitioner’s claim that she did not owe restitution was not considered.
Petitioner then appealed the CDP determination. The appeals officer examined petitioner’s case and determined that interest abatement was not appropriate since there were not any substantial ministerial or managerial acts that would warrant an abatement of interest. The appeals officer also determined that petitioner still owed $250 of restitution.
As for the interest component, the Tax Court had decided a similar issue in Klein v. Commissioner, 149 T.C. No. 15 (2017); Les discussed Klein in a post here, where he noted that Klein was an important case and one of first impression. The Klein opinion came out after the petitioner filed her petition but before her trial date. In Klein, after a thorough analysis, the Court held it did not have the ability to charge interest on restitution payments under section 6601. As a result of Klein, respondent concedes that petitioner should not be liable for interest on the restitution amount, but whether she still owes any restitution is at issue.
Since petitioner did not have an opportunity to raise the underlying restitution liability previously, the Tax Court’s review is de novo. The Court looks to the doctrine of res judicata which requires that: 1) the parties in the current action must be the same or in privity with the parties of a previous action; 2) the claims in the current action must be in substance the same as the claims in the previous action; and 3) the earlier action must have resulted in a final judgment on the merits.
The Court finds the requirements are met: 1) the parties are the same as both cases involve the petitioner and the government (albeit different agents of the government); 2) the claims in substance both involve whether petitioner paid the restitution required by the judgment; and 3) the satisfaction of judgment filed by the District Attorney is a final judgment which binds the IRS and extinguishes the IRS’s right to collect any additional restitution.
As a result, the Court grants petitioner’s motion for summary judgment and respondent is ordered to abate the restitution assessment and corresponding interest.
A recent case in Tax Court, CreditGuard of America v Commissioner, considers how interest on underpayments applies when there is a retroactive revocation of a corporation’s tax exempt status. In so doing it walks us though the provisions that impose interest on underpayments.
I will simplify the facts to get to the issue. IRS began examining CreditGuard of America’s Form 990 for 2002 back in late December 2003. Fast forward (or slow forward) 9 years or so to February of 2012, and IRS retroactively revoked its tax exempt status for years starting January 1, 2002.
IRS assessed the tax and interest of about $142,000 on the deficiency. In calculating the interest, the IRS used the start date of the underpayment interest as March 17, 2003, the due date of the 2002 corporate income tax return.
When CreditGuard did not pay the tax or interest, IRS commenced administrative collection and filed a notice of federal tax lien. In response, CreditGuard filed a CDP request seeking an offer in compromise, but also challenging the interest computation. According to CreditGuard, interest should have only run from 2012– the date of the IRS’s revocation of its tax exempt status.
The CDP case allowed the court to get to the merits of the interest issue. As a threshold issue, the court held that there was no prior opportunity to consider the interest calculation; while the Tax Court had limited jurisdiction to order a refund if the party in a case believes it has overpaid interest that does not give the court the power to determine the correct amount of interest in the first instance.
Once clearing that hurdle, the court turned to the interest issue, one of first impression in the Tax Court, leading to this being a division opinion. The taxpayer’s essential argument was straightforward: it had no obligation to file a corporate tax return in 2003; in fact that obligation only arose 9 years later when IRS revoked its status.
Under section 6601(a), interest runs from the “last date prescribed for payment.” Under section 6151(a), the “last date prescribed for payment” is the date “fixed for filing the return.” Because the date fixed for filing petitioner’s 2002 Form 1120 was March 17, 2003, these provisions indicate that petitioner must pay interest on the unpaid tax “for the period from such last date to the date paid.” See sec. 6601(a).
To deflect that statutory reading, CreditGuard argued that the interest provisions that apply to “taxes not otherwise prescribed” under Section 6601(b)(5) applied to revocations. That section applies to taxes “payable by stamp and in all other cases in which the last date for payment is not otherwise prescribed.” For those taxes, the “last date for payment” is the date the liability for tax arises, a date that CreditGuard argued pushed the interest start date to 2012.
The Tax Court disagreed, holding that the corporate income tax was otherwise prescribed with a deadline (as per Section 6072(b)), and in any event, even if it were not, the liability for the tax arose during 2002, not when the IRS revoked its status or when it agreed to the stipulated decision in the Tax Court.
The part of the opinion addressing when the tax arose is a little like a dog chasing its tail, but as our good friend Professor Bryan Camp discusses in a thoughtful blogpost on Taxprof it highlights the difference between a liability and an assessment. The liability arose back in the year the corporate income tax return should have been filed; the assessment that followed the Tax Court’s decision did not alter the essential time when the liability arose.
To be sure, “until we devise time machines, a change can have its effects only in the future.” …. But the purpose of making a change retroactive is to suspend reality and invoke a counterfactual premise. Here, the premise is that petitioner was not in fact tax exempt during 2002 but rather was a corporation subject to the regular corporate income tax. Because petitioner did not actually pay that tax on the date prescribed for payment, it is liable for interest beginning on that date.
After the language cited above, the opinion does drop a footnote to Section 6501(g)(2), which provides that for sol purposes a corporation’s good faith filing of a Form 990 “shall be deemed the return of the organization” for purposes of starting the period of limitations on assessment.” That is an important point, as IRS cannot revoke status for stale tax years (absent the sol remaining open for other reasons). Yet, as the opinion notes, the interest provisions are designed to compensate the government for the use of money. By agreeing with the IRS that it should not have been tax exempt back in 2002, CreditGuard essentially agreed that it did not pay what it was required to pay had it properly reported its status in the first place. As a result, the court’s approach to make the government whole is consistent with the underlying purpose of the interest provisions.

References: v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 V. 
 v. 
 v. 
 § 1491
 § 1346
 § 1346
 § 1346
 § 1346
 § 7422
 § 1346
 § 1346
 § 1346
 v. 
 v.