Tax Court Opinion on Various Aspects of Collection Activity for RBAs and Coordination with DOJ (1/28/21)

 In Reynolds v. Commissioner, T.C. Memo. 2021-10, TC Dkt entry #20 here * and TN here, in a collection due process (“CDP”) case, the Court (Judge Thornton) discussed restitution-based assessment (“RBA”) under § 6201(a)(4).  In the prior criminal case preceding, the sentencing judge (i) imposed tax restitution of $193,812, but waived interest on the restitution based on a finding that the Reynolds could not pay; (ii) ordered payments during imprisonment of $25 per quarter and during supervised release of the greater of $100 or 10% of his monthly income; and (iii) ordered that Reynolds apply income tax refunds and “anticipated or unexpected financial gains.”

The IRS made the RBA in the amount of $193,812 restitution and also assessed interest for the period.  The IRS audited the years 2002 and 2003 and determined deficiencies and civil fraud penalty.  Reynolds petitioned the Tax Court to redetermine the deficiencies.  The decision document reduced the deficiencies and assessed the civil fraud penalty but noted (Slip Op. 5 n. 2) that the civil fraud penalty had been discharged in a bankruptcy proceeding (although there is no further explanation).

In this CDP case, Reynolds complained about the IRS’s collection activity with regard to the RBA.  I will just bullet point some of the key discussion / holdings rather than have a further narrative.

• The opinion discusses the IRS Collection Advisory Group’s role in RBAs which interfaces with IRS Collections.  The opinion describes this group (Slip Op. 6 n 2): 

The IRS Collection Advisory Group coordinates and monitors probation and restitution cases; the advisor serves as a liaison for coordinating such cases with IRS field offices and the Department of Justice (DOJ). See Internal Revenue Manual (IRM) pt. 5.1.5.16 (Oct. 6, 2017); IRM pt. 5.19.23.1(5) (Oct. 27, 2017); IRM pt. 25.26.1.5.2 (Mar. 24, 2014). 

• The opinion discusses the Revenue Officers’ collection activity over a number of years in some detail, mostly after the NFTL.

• Reynolds attorneys apparently believed that once an RBA was made, only the IRS could collect.  However, the IRS position was that there were two separate debts:  the restitution debt that DOJ’s financial unit can collect; and the RBA that the IRS can collect.  Of course, to the extent that restitution and RBA are the same, payments against one are credited against the other so that there is not double payment.  But, DOJ and the IRS can proceed on separate tracks to collect, although there must be some coordination.

• The IRS and the Reynolds tilted during much of the period over Reynolds’ ability to pay more than he was paying.  In the final analysis, the IRS concluded that "this appeal is being maintained primarily for delay."  (Slip Op. 17.)

• The IRS eliminated the restitution interest and failure to pay penalties per Klein v. Commissioner, 149 T.C. 341 (2017 ).

Sunstein Articles Supporting Chevron Deference (1/18/21)

Readers of this blog know that conservative and libertarian judges have noised since around 2000 that the Chevron “Framework” derived from Chevron U.S.A., Inc. v. Natural Resources Defense Council, Inc., 467 U.S. 837 (1984) is variously unconstitutional or illegal and should be junked.  The Chevron Framework basically requires, in a two-step format, that courts defer to reasonable agency interpretations of ambiguous statutory text.  The Framework is more nuanced, but I think the description is a sufficient high-level overview of the Framework for purposes of this blog.

 A lot of claims are made about the Chevron Framework being illegal and unconstitutional.  One of the most persistent claims is that Chevron deference violates the APA command that “the reviewing court shall decide all relevant questions of law, interpret constitutional and statutory provisions, and determine the meaning or applicability of the terms of an agency action.”  5 U.S.C. § 706.  Solely on the basis of that statutory text, the anti-Chevronists claim that a court reviewing agency actions based on agency interpretation of ambiguous statutory text must interpret the ambiguous statutory text de novo rather than defer to agency interpretation.

I have argued against this “interpretation” (if you will) of § 706.  See Townsend, John A., The Report of the Death of the Interpretive Regulation Is an Exaggeration (August 23, 2020). Available at SSRN: https://ssrn.com/abstract=3400489.  In that article, I review the history of deference before enactment of the APA in 1946 and after the enactment of the APA.  See pp. 71-79, beginning here.  I further argue that § 706 is not inconsistent with deference to reasonable agency interpretations.  See pp. 92-95, beginning here.  (Note that I err in my opening statement that "Here are my reasons for rejecting any notion that deference is consistent with § 706;"  the correct statement (with correction in red will be corrected in the next draft) is "Here are my reasons for rejecting any notion that deference is inconsistent with § 706;" actually my argument is that deference before and after Chevron is consistent with § 706.)

I write today to advise readers of a recent articles regarding Chevron, one of which covers the same ground.  The two articles are by Professor Cass Sunstein. a leading administrative law scholar (Wikipedia here).  In the first article, Professor Sunstein reviews the same trajectory and arguments I make in my article with the same conclusion – that deference to reasonable agency interpretations is consistent with § 706 (whether referring to the intent of Congress or original public meaning of Congress).   Sunstein, Cass R., Is Chevron Inconsistent with the APA? (December 4, 2020). Available at SSRN: https://ssrn.com/abstract=3742429.  See also my article, p. 94 n. 378, here (citing another Sunstein article, with others, on the basic point that deference is consistent with § 706.

Further, not only is Chevron consistent with § 706, Professor Sunstein also argues in a separate article that even if it arguably were not (or at least could not be conclusively shown to be consistent), rejecting Chevron deference at this date would be imprudent.  Sunstein, Cass R., On Overruling Chevron (November 1, 2020). Available at SSRN: https://ssrn.com/abstract=3723681.  In the article Sunstein concludes (pp. 14-15, footnote omitted):

Outstanding Article on Current State of IRS Voluntary Disclosure Practice (1/16/21)

 This brief blog today is to alert readers to an outstanding article on the current state and some uncertainties and risks of the IRS Voluntary Disclosure Practice (“VDP”).  Scott Michel and Mark Matthews, The 2020 Revision to the Internal Revenue Manual’s Voluntary Disclosure Practice: More Consistency with Greater Risk (Bloomberg Daily Tax Report 1/12/21), here.  The article is prompted by recent changes to the IRM provisions on the VDP.  IRM 9.5.11.9(1) (09-17-2020), Voluntary Disclosure Practice, here.

This blog post is cross-posted on my Federal Tax Crimes Blog, here.

Deloitte and Tax Analysts Open Tax Analysts Library to Public Without Subscription (1/11/21; 1/12/21)

Last week, Deloitte posted this news release:  Deloitte and Tax Analysts Take Great Strides to Increase Tax Policy Transparency:  Professional services leader joins forces with nonprofit to make federal tax law library easily accessible to the public, here.  In pertinent part, the release says:

As part of Deloitte Tax’s sponsorship, visitors to the site can now access details about the federal code, regulations, and other primary source documents, including the Internal Revenue Code of 1986; proposed, final and temporary regulations; rules for lawyers, accountants and others practicing before the IRS; Treasury decisions, IRS guidance, and private rulings; court and legislative documents; public comments on regulations; rate tables; and other correspondence, press releases and miscellaneous tax documents.

The site for access appears to be here:  https://www.taxnotes.com/research

This is a tremendous service to the public.  Thnks to Tax Notes and Deloitte.

I have not tested the search mechanisms for the various categories of documents.  Some quick simple testing indicates that the search and results are not of the sophisticated type for on the major legal research platforms such as Westlaw and Lexis.  Still, creative use of the search tools might make it very useful.

I generally use the Lexis platform and like it because it permits me to do date limited research -- i.e., pick up all new cases involving a search topic (e.g., FBARs) after a certain date (e.g., the date I last did that date limited search).  That permits me to pick up new materials (cases and articles).  I don't know if that can be done in the Tax Notes databases, although I did see that topics can be selected for search and the results shown in reverse chronological order.

JAT Addition (1/12/21)

Whistleblower FYE 2020 Report (1/6/21)

 The IRS Whistleblower Office has released a report titled Fiscal Year 2020 annual report, here.  The opening message from the Director of the WBO, Lee D. Martin, is (have added links for the publications referenced):

The fiscal year (FY) 2020, which began on October 1, 2019, marked the 14th anniversary of the Whistleblower Office and the Whistleblower Program. I am extremely proud of the dedicated women and men in the Whistleblower Office, Small Business/Self-Employed (SB/SE) Initial Claims Evaluation unit, and other divisions across the Internal Revenue Service (IRS). Since 2007, the Whistleblower Program paid awards to whistleblowers totaling more than $1 billion dollars and has led to the successful collection of $6.14 billion from noncompliant taxpayers. 

Statistically in FY 2020, the Whistleblower Office made 169 awards to whistleblowers totaling $86,619,032 (before sequestration), which includes 30 awards under Internal Revenue Code (IRC) § 7623(b). Proceeds collected were $472,080,014. Included in the proceeds collected, as a result of IRC § 7623(c), are the non-Title 26 amounts collected for criminal fines, civil forfeitures, and violations of reporting requirements amounting to $110,438,166. The Title 26 amounts collected were $361,641,848. Whistleblower claim numbers assigned in FY 2020 decreased by 20 percent from those submitted in FY 2019, and closures decreased by 33 percent. 

During FY 2020, we continued our focus on operationalizing the whistleblower statutes under the Taxpayer First Act of 2019 (TFA 2019). This included adding four analysts to meet the increased workload due to the new provisions. To educate whistleblowers about the new TFA 2019 provisions, we updated Publication 5251, Whistleblower Claim Process and Timeline, and Internal Revenue Manuals 25.2.1 and 25.2.2. On December 3, 2019, we signed a Memorandum of Understanding (MOU) with Alcohol and Tobacco Tax and Trade Bureau (TTB) that put in place procedures between the IRS and TTB to process claims for whistleblower awards under Internal Revenue laws that are administered and enforced by TTB. On April 30, 2020, the Whistleblower Office held its first ever Whistleblower Program Forum. Lastly, like other organizations and businesses, the Whistleblower Office worked diligently to maintain Whistleblower Program operations that were impacted by office closures due to the coronavirus crisis. 

PDR on Remand to 4th Circuit with Further Confusion of the APA's Legislative / Interpretive Rule Distinction (12/9/20)

In Carlton & Harris Chiropractic Inc. v. PDR Network, LLC, 2020 U.S. App. LEXIS 38073 (4th Cir. 2020), here, the Fourth Circuit punted to the district court the important and potentially contentious issues on remand from PDR Network, LLC v. Carlton & Harris Chiropractic, Inc., 139 S. Ct. 2051 (2019).  I wrote on the Supreme Court’s opinions in PDR previously.  Supreme Court Again Weighs In At the Edges on Legislative and Interpretive Rules (6/23/19; 7/2/19), here.

The Fourth Circuit held, as I reasoned in the blog, that the rule in issue (an FCC Order) was interpretive rather than legislative.  If it were a legislative rule, it would have been required to be promulgated as a regulation with notice and comment and, since it was not so promulgated, the Rule does not fail for that reason.  As an interpretive rule, however, the interpretation in the rule would be subject to Chevron analysis and potential deference if Chevron applied to such subregulatory guidance (Chevron does not) and to potential Skidmore analysis if not Chevron-eligible.

I do note that the Fourth Circuit muddles the analysis of the difference between legislative rules (which must be notice and comment regulations) and interpretive rules (which may, but need not be and usually are not, notice and comment regulations).  As I have noted often in this blog and in an article which I cite and link below, there are two relevant categories of interpretive rules – interpretive rules with notice and comment and interpretive rules without notice and comment.  The latter, in IRS lingo (and much administrative law lingo), are referred to as subregulatory interpretive rules.  Interpretive rules in notice and comment regulations are subject to the Chevron interpretive regime testing whether the interpretation is a reasonable interpretation and, usually, requiring Chevron deference if the interpretation is reasonable.  Although the Supreme Court has suggested that some subregulatory interpretations might be entitled to Chevron deference, I am not aware of any instance in which the Supreme Court or any other court has given Chevron deference to subregulatory interpretations.

Now, I quibble with the following paragraph of the Fourth Circuit’s opinion:

The convenience of having to jump through fewer procedural hoops to issue agency guidance, however, "comes at a price: Interpretive rules 'do not have the force and effect of law and are not accorded that weight in the adjudicatory process.'" Perez, 575 U.S. at 97 (quoting Shalala v. Guernsey Mem'l Hosp., 514 U.S. 87, 99, 115 S. Ct. 1232, 131 L. Ed. 2d 106 (1995)); see also Batterton v. Francis, 432 U.S. 416, 425 n.9, 97 S. Ct. 2399, 53 L. Ed. 2d 448 (1977) ("[A] court is not required to give effect to an interpretative regulation."). The 2006 FCC Rule is interpretive, and so the district court wasn't bound by it. 

CIC Services Supreme Court Oral Argument (12/3/20)

I have previously written on the Supreme Court’s grant of certiorari in CIC Servs., LLC v. IRS, 925 F.3d 247 (6th Cir. 2019), reh., en banc, denied 936 F.3d 501 (2019), cert. granted 140 S. Ct. 2737 (2020).  See particularly Certiorari Granted in CIC Servs on AIA Application to Pre-enforcement Guidance Challenges (Federal Tax Procedure Blog 5/12/20), here.  The Supreme Court heard oral argument on the case on Tuesday.  

• The oral argument recording is here (Supreme Court) and here (CSpan) 
• The transcript is here (Supreme Court)

I have not had time to fully consider the oral argument, but just wanted in this blog to make some quick observations guided in principal part by a discussion from SCOTUSblog, Blaine Saito (Guest), Argument analysis: Justices struggle to define boundaries of Anti-Injunction Act, here.  After I have had more time late today, I may expand the discussion on this page.  [JAT Note as of 5:45pm, I made some small changes below but, upon reflection, will likely not make additional postings related to the oral argument; there will be ample opportunity to comment when the case is decided with, likely, several opinions.]

Here are my thoughts inspired mostly by the SCOTUSblog offering:

1. My sense is that the key concern is that the Notice set up taxpayers (a generic category to include promoters) for a penalty, perhaps even a criminal penalty, by a notice rather than by regulations rulemaking.  In the familiar legislative / interpretive rulemaking dichotomy, one can argue that the “rule” established by the notice is more like a legislative rule than an interpretive rule because it is not interpreting a statute in imposing a reporting obligation with penalty consequences.  Penalty consequences is sometimes said to be indicative of a legislative rule (although I think the claim is superficial as stated).  My quick search of the transcript does not indicate that the justices mentioned the legislative / interpretive rule dichotomy.

2.  If the notice is legislative rulemaking without the APA required notice and comment required for legislative rules (regulations) then upon subsequent challenge in a penalty proceeding under traditional tax procedure (e.g., a refund proceeding), the notice would fail because of lack of notice and comment and the penalty, presumably, would be held not to apply.  (E.g., see  statement of the Government lawyer (Bond) that "Petitioner's argument at bottom is that it is not required to provide this information because the statute only requires it to submit information covered by regulations." (Transcript pp. 46-47.))  But that is fairly late in the game and, in the meantime, the notice would have had an in terrorem effect and would have caused the incurrence of substantial unnecessary litigation and compliance costs.  So, on that basis, perhaps, a pre-enforcement challenge process – said to be the norm under the APA – should be permitted.  But, as the Government argues, the AIA, § 7421(a), is an exception to that norm.

3. The stated concern about the potential for criminal penalties was addressed by Government counsel, Assistant Solicitor General Jonathan Bond, by filing a good faith letter in lieu of the disclosure required by the Notice.  As reported by SCOTUSblog the discussion was:

Many of the justices were concerned about the potential that a company would open itself to criminal sanctions by failing to comply with the notice. Both Alito and Justice Neil Gorsuch noted that it is incredibly problematic to require someone to face criminal sanctions before asking a court to rule that an agency action was unlawful. In response, Bond remarked that the filing of the good-faith letter would suffice to avoid criminal sanctions. When further pressed by Alito about whether the term “willful” in the tax code should have a different meaning from ordinary willfulness, Bond responded in the affirmative. He noted that most of the court’s precedents do have a heightened definition of “willfulness” in the criminal tax context as opposed to other criminal contexts.

I will further consider the detour on the willful issue later this week, probably on the Federal Tax Crimes Blog (and may cross-post to this Federal Tax Procedure Blog).

4. Justice Breyer did note a potential procedural issue in how the case was brought as a direct challenge rather that by filing a request for regulations rulemaking followed by litigating a denial of the request under perhaps the arbitrary and capricious standard.  CIC's counsel said (Tr. p. 12) that that avenue for challenge was narrower than a direct challenge because of the arbitrary and capricious standard.  For a contrary view, see Andy Grewal, CIC Services and Justice Breyer’s Broken Escape Hatch (Notice & Comment 12/2/20), here.

5. For a deeper dive into the arguments made, the briefs (including amicus briefs) may be reviewed on the Supreme Court's docket, here, or the parallel docket maintained on SCOTUSblog, here.

My Suggestions to Tax Court on Procedure Related Matters (11/23/20)

On September 1, 2020, I sent the Tax Court Clerk a letter with suggestions regarding matters related somewhat to tax procedure.  A copy of the letter is here.  I have not had any response to the letter.  I thought I would excerpt and post the contents of the letter here in the event others might be interested in the subjects:

September 1, 2020

Stephanie A. Servoss
Clerk of the Court
United States Tax Court
400 Second Street, NW
Washington, D.C. 20217

Re: Suggestions for Tax Court Rules or Other Practices

Dear Ms. Servoss:

I write to make suggestions that might be incorporated in Tax Court Rules or otherwise adopted:

1. Make Public Tax Court Style Manual.  If there is a Tax Court style manual or other similar guide for judges (such as there is, for example, in the U.S. Supreme Court), I think the taxpayers and the bar would benefit from that style manual being public information.  I have been informed that there is such a Tax Court style manual or guide but that it is not public information.  The public need for access to the manual plays beyond checking to see whether judges conform to the manual (the Court may not require conformance, which I infer from deviations in practices, such as the location of periods and endquotes, that are normally covered by style manuals).   For example, commenters on such style manuals state that it is better practice to conform court submissions to the court=s style manual unless there is a good reason to deviate.  Whether that concern is fair or not is not the issue.  Whether the public should know the contents of the style manual is the issue, for such use as the public may choose to put those contents. 

2. Make Public Changes to Opinions After the Original Publication.  The Supreme Court advises the public of changes to Slip Opinions.  An example of such public notice of change is at: www.supremecourt.gov/opinions/19pdf/19 7diff_o7kq.pdf.  I recommend that a similar public disclosure be made for Tax Court opinions. 

3. Establish a Process for NonParties to Advise the Court of Possible Material Nonsubstantive Errors.  By nonsubstantive, I mean to exclude comments on application of the law to the facts found and legal analysis.  Nonsubstantive thus would include material comments on the syntax or such matters that can lead to confusion for readers.  Many of the errors of this sort are apparent and any reader may just mentally supply the corrections.  For example, I noticed a verb missing in a sentence recently, but it was easy to supply mentally and likely would not be confusing to most readers (although it may slow them down a bit to do the mental gymnastics).  But some errors may require the reader to work harder to understand the opinion and thus might be appropriate for correction, much as the Supreme Court does.  Parties would be expected to call outcome-determinative nonsubstantive errors to the Court's attention but may not call them to the Court's attention if they are not outcome-determinative.  Many nonparties study Tax Court opinions and spot such errors in the few cases in which they appear and could offer a valuable service to the Court, taxpayers and practitioners where the Court determined that correction is appropriate.  I understand from my sources that, from time to time, nonparties (generally practitioners) may write informally to the judge (by email or letter) advising of the nonsubstantive errors but, quite appropriately, do not hear back and do not know whether any action was taken (short of periodically checking the slip opinions or final T.C. opinion).  The point is that, I think, it would be helpful to all involved (including readers) to have a regularized process to get the information to the Court for such use as it may deem appropriate.  I do not think that any response would be required to the person making the comment or suggestion, other than perhaps a routine form thank you letter or email.  I also do not think it would be necessary to make those letters (or emails if included in the process) from nonparties public on the website or otherwise.  I suspect that most of the comments or suggestions will not require any action, but some may warrant action (e.g., correction of the slip opinions).

Thank you for considering these suggestions.

Sincerely yours,

John A. Townsend

cc: Alexandra Minkovich (by email: Alexandra.minkovich@bakermckenzie.com)
Chair, ABA Tax Section Court Procedure
and Practice Committee

Keith Fogg (by email: kfogg@law.harvard.edu)

JAT Comment:

More Coca-Cola - On Transfer Pricing and Blocked Income Regulation (11/23/20)

I recently wrote on burden of proof issues in The Coca-Cola Company v. Commissioner, 155 T.C. ___, No. 10 (2020), here.  Tax Court (Judge Lauber) Issues Significant Transfer Pricing Decision in Coca-Cola; Burden of Proof Issues (11/19/20; 11/21/20), here.  Coca-Cola is a transfer pricing case, meaning that it is a valuation case.  Valuation cases are generally humdrum on the issue of valuation, an issue raised in many contexts including in abusive tax shelters since the 1970s when I first began observing them.  Transfer pricing can be abusive as well because valuation can be abused.  I don’t propose to delve into the factual issues bearing on valuation Coca-Cola and whether the underlying valuations Coca-Cola used were abusive.  

I rather today point to this discussion of the “blocked income” issue.  The issue is described in high overview (pp. 184-185, beginning here):

2. Brazilian "Blocked Income"

Petitioner alternatively contends that, if TCCC owned the Brazilian trademarks, Brazilian law would have prevented the Brazilian supply point from paying, for use of those trademarks, royalties anywhere close to the amounts determined in the notice of deficiency. During 2007-2009 Brazilian law restricted the amount of trademark royalty and technology transfer payments that a Brazilian entity could pay to a foreign parent. The parties have stipulated that those maximum amounts were approximately $16 million for 2007, $19 million for 2008, and $21 million for 2009.

Relying on what is commonly called the "blocked income" regulation, respondent contends that these Brazilian legal restrictions should be given no effect in determining the arm's-length transfer price. See sec. 1.482-1(h)(2), Income Tax Regs. The regulation generally provides that foreign legal restrictions will be taken into account only if four conditions are met. See id. subdiv. (ii). Petitioner contends that this regulation does not apply here or that the necessary conditions were met. Alternatively, it contends that the blocked income regulation is invalid under the Administrative Procedure Act and/or Chevron, U.S.A., Inc. v. Nat. Res. Def. Council, Inc., 467 U.S. 837 (1984).

As the parties have observed, the validity of section 1.482-1(h)(2), Income Tax Regs., has been challenged by the taxpayer in 3M Co. & Subs. v. Commissioner, T.C. Dkt. No. 5816-13 (filed Mar. 11, 2013). The Court has granted a motion to submit the 3M case for decision without trial under Rule 122, and the case is still pending. We will accordingly reserve ruling on the parties' arguments concerning the blocked income regulation until an opinion in the 3M case has been issued.

The Blocked Income Issue as I recall it from my transfer pricing forays over the years hearkens back to Commissioner v. First Sec. Bank of Utah, 405 U.S. 394 (1972), here.  In that case, in high level summary, the Court held that § 482 did not authorize the IRS to allocate income from one related company to another if state law prohibited the income from being paid.  The Blocked Income Issue is whether the foreign law prohibition upon paying royalties prohibits the IRS from allocating the income to the U.S. party.  The underlying “Blocked Income” regulations, 26 CFR 1.482-1(h)(2), here, imposes the following conditions on the First Sec. Bank results (no allocation).

(ii) Applicable legal restrictions. Foreign legal restrictions (whether temporary or permanent) will be taken into account for purposes of this paragraph (h)(2) only if, and so long as, the conditions set forth in paragraphs (h)(2)(ii) (A) through (D) of this section are met.

(A) The restrictions are publicly promulgated, generally applicable to all similarly situated persons (both controlled and uncontrolled), and not imposed as part of a commercial transaction between the taxpayer and the foreign sovereign;

(B) The taxpayer (or other member of the controlled group with respect to which the restrictions apply) has exhausted all remedies prescribed by foreign law or practice for obtaining a waiver of such restrictions (other than remedies that would have a negligible prospect of success if pursued);

(C) The restrictions expressly prevented the payment or receipt, in any form, of part or all of the arm's length amount that would otherwise be required under section 482 (for example, a restriction that applies only to the deductibility of an expense for tax purposes is not a restriction on payment or receipt for this purpose); and

(D) The related parties subject to the restriction did not engage in any arrangement with controlled or uncontrolled parties that had the effect of circumventing the restriction, and have not otherwise violated the restriction in any material respect.

I don’t propose to develop the Blocked Income Issue further here, since I am sure it has been adequately developed in the 3M case to which the Coca-Cola both referred and deferred.  Readers should just be aware that further enlightenment is coming in 3M.

JAT Comments.

Tax Court (Judge Lauber) Issues Significant Transfer Pricing Decision in Coca-Cola; Burden of Proof Issues (11/19/20; 11/25/20)

Yesterday, the Tax Court decided The Coca-Cola Company v. Commissioner, 155 T.C. ___, No. 10 (2020), GS here, a transfer pricing company case in which the IRS seems to have substantially prevailed.  Transfer pricing cases are fact intensive cases.  However, in this discussion, I won’t wander through the morass of facts but rather deal with burden of proof issues that, although presented in a fact setting, can be considered at a conceptual level independent of the facts of the case.  However, I do ask that readers keep in mind that transfer pricing cases are, at bottom, simply valuation cases.

I recently wrote an article on burden of proof in tax cases.  John A. Townsend, Burden of Proof in Tax Cases: Valuation and Ranges—An Update, 73 Tax Lawyer 389 (2020), here.  In that article, I discussed the seminal case of Helvering v. Taylor, 293 U.S. 507 (1935), see discussion beginning on p. 411, here.  In that case in summary and without nuance, the Court held that in a deficiency case in the Tax Court, once the taxpayer shows the deficiency is “arbitrary and excessive,” the IRS bears the burden of persuasion (risk of nonpersuasion) to show that the taxpayer has a deficiency.  Three nuance points:  (i) I address in the article (p. 397 n. 28, here) that “arbitrary and excessive,” although stated in the conjunctive is really disjunctive; (ii) if the issue involves a deduction turning upon valuation, the taxpayer will bear the burden of persuasion with respect to value to support the deduction; and (iii) the burden of persuasion is often called the risk of nonpersuasion which is more descriptive of how the burden of persuasion performs, but I used the term burden of persuasion here.

I illustrate the key concept of the article in a simple example. Assume that the taxpayer receives property in a service income transaction.  Taxpayer reports $40 income on his tax return based on valuing the property at that amount.  The IRS determines a deficiency of tax by valuing the property at $100.  The parties litigate in the Tax Court.  The Tax Court cannot find a finite value by a preponderance of the evidence but can find a range where the low end of the range is the lowest value proved by a preponderance of the evidence and the high end of the range is the highest value proved by a preponderance of the evidence.  Let’s say that range is from $70 to $80.  (This range may also be called the range of equipoise where the Court (or other trier of fact) is in equipoise as to the valuation based on the preponderance of the evidence standard.)

In the example, Helvering v. Taylor, 293 U.S. 507 (1935) requires that the value be determined at $70 because the taxpayer has shown the deficiency determination excessive because of the excessive valuation.  The IRS thus bears the burden of persuasion as to an amount that would produce some deficiency amount.  In the example, the evidence proves by a preponderance a value of at least $70 and the Tax Court should determine the deficiency accordingly.