Wednesday, September 22, 2021

IRS Enjoined from Enforcing Tax Shelter Notice Requirement for Material Advisor for Microcaptive Transactions (9/22/21)

In CIC Services, LLC v. IRS, 583 U.S. ___ (2021), here, the Court held that the Anti-Injunction Act (§ 7421(a)) did not preclude a contest by a “material advisor” of IRS  Notice 2016–66 requirement to report micro-captive transactions.  See Supreme Court Holds in CIC Services that IRS Micro-Captive Notice May Be Contested Pre-Enforcement (5/17/21; 5/18/21), here.  Accordingly, the Supreme Court remanded the case to the Court of Appeals which remanded it to the district court. 

In CIC Services, LLC v. IRS (E.D. Tenn. No. 3:17-cv-110 9/21/21), CL here, the district court held that the Notice was a legislative rule that required promulgation by notice and comment regulation.  Based on that holding, the court found the requirements for an injunction were met and that the injunction should be applied with respect to CIC.  I suppose that means, practically, that the IRS cannot impose penalties for any failure by CIC to comply with the requirements of the Notice  (Note, however, that the opinion says that “CIC also notes that, to date, it has complied with the Notice’s requirements, expending hundreds of hours of employee labor and thousands of dollars in costs per year.”).

This is a major win for the tax shelter industry but probably not the last word in this saga.

Without getting into the nitty-gritty on the application of the APA’s legislative/interpretive distinction (upon which turns the notice and comment regulation requirement), I suppose that the going forward solution for the IRS would be to use the immediate effect Temporary Regulation, with "good cause statement," process with contemporaneous Proposed Regulations for the notice and comment process.  The APA requirement for good cause is “when the agency for good cause finds (and incorporates the finding and a brief statement of reasons therefor in the rules issued) that notice and public procedure thereon are impracticable, unnecessary, or contrary to the public interest.” 5 U.S.C. § 553(b)(B).  Potentially abusive tax shelters should be sufficient for immediate effect under this provision. 

I am not sure that the court correctly determined that the Notice was a legislative rule requiring notice and comment (or good cause statement).  Because the court made the legislative determination with sound bites rather than detailed analysis, I won’t address that here.  I suppose the Government will appeal to the Sixth Circuit on an expedited basis because of the injunction.

The CourtListener (CL) docket entries for the case are here.

JAT Comments (added 9/22/21 2:30pm:

My quick analysis is:

(i) § 6011, here, is a grant of legislative authority to Treasury to impose by regulation a requirement to file returns or statements “according to the forms and regulations prescribed by the Secretary.”  Legislative authority means that Treasury has the right to make the rules so long as not arbitrary or capricious under 5 U.S.C. § 706.  See Motor Vehicle Mfrs. Ass’n v. State Farm Mut. Auto. Ins. Co., 463 U.S. 29, 43 (1983). 

(ii) Treasury has promulgated notice and comment regulations under § 6011, specifically 26 CFR § 1.6011-4, here, titled Requirement of statement disclosing participation in certain transactions by taxpayers.  The relevant section is (b)(6) which provides (bold-face supplied) “(6) Transactions of interest. A transaction of interest is a transaction that is the same as or substantially similar to one of the types of transactions that the IRS has identified by notice, regulation, or other form of published guidance as a transaction of interest.”

(iii) The legislative rule, which is the law, permits the IRS to identify transactions of interest by notice.  True, the roquirement is subject to arbitrary and capricious review under § 706/State Farm.  But the court did not (and, I submit, could not) argue that the Notice requirement regarding microcaptives is arbitrary or capricious.  Certainly, if the requirement to report microcaptives were in a regulation itself, the regulation could not be found to be arbitrary and capricious.  So, simply because it is in a Notice should not make it arbitrary and capricious.  The only possible issue is whether notice and comment (or good cause) is required.  For the reasons noted above, I am not sure it is.  But, if it is, the good cause statement should give the IRS the opportunity to act timely for such bullshit arrangements as often found in microcaptives.

I admit that this analysis is not detailed and perhaps subject to the same sound-bite defect I found in the opinion.  Nevertheless, it is what I have to offer on short analysis. 

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