Tax Procedure Book Errata - Nonexistent or Phantom Regulations (1/2/17)

Book Outline Section	Nature of Update	Location for current editions
Ch. 2 II. Executive Branch.   B. IRS.     6. IRS Rule Making Authority.       (4) Nonexistent or Phantom Regulations.	Complete Revision of this section	Student Ed. P. 64 Practitioner Ed. p. 84-85

                                                            (4)          Nonexistent or Phantom Regulations.

              Congress will sometimes direct or authorize the IRS to issue regulations to flesh out the statutory scheme.  The direction or authorization may be for either interpretive regulations or legislative regulations.  For any number of reasons, the IRS may not get around to promulgating the required regulations for long periods and in some cases not at all. n195  The party – most often the taxpayer – suffering from the absence of regulations may seek in audits or litigation the result that would have obtained had the regulations been promulgated.  How do the IRS and the courts resolve cases which would be subject to such regulations if they existed?  Should the IRS or the courts create, in effect, a “phantom” regulation to resolve the case based on the policies and directions reflected in the statute (as discerned from the statute or legislative history that is persuasive as to the legislative intent)?

               The Tax Court has defined the problem thusly:

               This case thus requires us to address a question that has arisen with some frequency: How should a court respond when a taxpayer or the IRS desires to have a particular tax treatment apply in the absence of the regulations to which the statute refers? In some cases, the Secretary may have affirmatively declined to issue regulations, having concluded that they are unnecessary or inappropriate. In other cases, the Secretary may intend to issue regulations but may have encountered delays because of subject matter complexity or the press of other business. Courts have described the question presented here as whether the statute is “self-executing” in the absence of regulations. [Case citations omitted] 

               The courts have struggled to define the proper judicial response in these scenarios. In each case, Congress has delegated to an executive branch agency the task of using its expertise to craft appropriate regulations. Under the Administrative Procedure Act and familiar separation-of-powers principles, a court’s usual role is to review the regulations an agency has issued, not to conjure what regulations might look like had they been promulgated. On the other hand, if it is absolutely clear that Congress intended that a particular tax benefit or tax treatment should be available, a legitimate question arises as to whether the IRS may prevent that outcome by declining to engage in rulemaking. Commentators have described this scenario as one of “spurned delegations” and the resulting judicial dilemma as one of crafting “phantom regulations.” [Law review citations omitted] n196

The Tax Court concluded the task is to determine whether the statutory text, considered in light of the legislative history, can be applied without further explication in a regulation  n197 The analysis turns upon whether “Congress couched its delegation of rulemaking authority in mandatory or permissive terms.” I add that the mandatory terms inquiry means that Congress intended the regulations to allow the treatment requested by the taxpayer or the IRS.

               As to statutory text which, as interpreted, is mandatory in the delegation and Congress’ intent as to the result is clear:

               In sum, this Court and other courts have frequently, but not always, held to be self-executing taxpayer-friendly Code provisions that include a mandatory delegation to the Secretary. One commentator has described this as “the equity approach,” on the theory that “treating such delegations otherwise would inequitably deprive taxpayers of legislatively intended benefits.” In several of these cases, the IRS conceded (or did not seriously dispute) that the statute was self-executing in the absence of regulations.  The “whether/how” approach has been employed mainly “with respect to taxpayer-unfriendly delegations.” In many of those cases, the central question was whether the statute by its terms made the taxpayer liable for the tax. n198

                As to statutory text which, as interpreted, is permissive in the delegation, so that they are interpreted to delegate discretionary or policy choices to the IRS (whether taxpayer-friendly or not), the courts will generally not impose result. n199  Of course, as thus framed so that different results may obtain by characterizing the delegation as mandatory or permissive, one needs to distinguish between those two characterizations.  Without offering anything definitive, I suspect the answer to that may be like the definition of pornography – you know it when you see it.

               I wonder whether one analytical tool to determine when the court can supply the rule in the absence of regulations would be to use the Chevron analysis for testing the validity of regulations (I discuss Chevron below).  Chevron basically tests the validity of regulations using the tools of statutory construction in a two-step process.  The concept would be that, if there were a regulation that did not include the relief the party seeks, the regulation would be invalid.  This would be a notional regulation analysis.  This would simply say that, based on the Chevron analysis, Congress clearly intended the relief and therefore, even in the absence of the regulation, the Court can supply the relief.

FOOTNOTES

  n195 A classic example is § 385, enacted in 1969.  Section 385 authorizes–but does not direct–the IRS to promulgate regulations to adopt a test for distinguishing between corporate debt and equity.  The courts had developed general rules which were so squishy in application that they were difficult for taxpayers, the IRS and the courts to apply.  Congress punted to the IRS the authority to make the rules.  The IRS tried but finally realized that it could not do that in a way that might not create more problems than it solved.   The IRS has yet to promulgate regulations.  Taxpayers, the IRS and the courts are left with the same squishy rules as before.  In 2016, the IRS issued proposed regulations.

   n196 15 West 17th Streeet LLC v. Commissioner, 147 T.C. ___, No. 19 (2016) (Reviewed opinion).

   n197 Id., citing Temsco Helicopters, Inc. v. United States, 409 F. App’x 64, 67 (9th Cir. 2010) (citing Francisco v. Commissioner, 119 T.C. 317, 322-323 (2002), aff’d on other grounds, 370 F.3d 1228 (D.C. Cir. 2004)).

   n198 Id. (Citations omitted.)

   n199 Id.