The Supreme Court, in Tuesday’s argument in the CIC Services v. Internal Revenue Service case, sought to clarify the scope of the Anti-Injunction Act, which generally prohibits actions designed to block the assessment or collection of a tax. The case specifically asks whether a company can sue to block enforcement of an IRS notice that imposes certain reporting requirements or whether the company will have to wait and sue after the IRS has assessed the tax penalties for not complying with the notice . To get an answer to this question, the court needs to resolve a conflict between the AEOI and another important federal law: the Administrative Procedure Act.
In the IRS notice in question, Notice 2016-66, certain types of proprietary insurance transactions were made “reportable transactions”. Such reportable transactions are those that the IRS deems to be potentially abusive. As a “key advisor” to transactions covered by Notice 2016-66, CIC Services is required by the Notice to report matters such as clients it has advised on those transactions – at a high cost to the Company. CIC believes the notice violates the Administrative Procedure Act because the IRS issued it without a formal deadline for public comment and the company was sued under the APA to block enforcement.
The penalty for failing to report the transactions in Notice 2016-66 is contained in Chapter 68, Subchapter B of the Internal Revenue Code and is therefore referred to as a tax. Traditionally, these penalties have been understood as being covered by the AEOI, which forbids actions that “seek to restrict the setting or collection of taxes”. The question is whether this understanding should overcome the presumption in the APA that businesses can typically face challenges before enforcing agency action.
Cameron Norris represented CIC and made three important points. First, the purpose of the lawsuit is to challenge the notice, not to establish or collect taxes. Second, the harm to CIC is not the payment of a tax but the cost of complying with the notification requirements. Third, CIC does not have meaningful access to a refund lawsuit – the typical mechanism for taxpayers to recover unlawful taxes – because it is an adviser, not a taxpayer. To establish a refund lawsuit, the company would have to breach the notice and risk receiving a hefty tax penalty as well as possible criminal penalties. “The Anti-Injunction Act cannot require this,” said Norris.
A series of questions from the judges aimed to find out how the three prongs of Norris’ reasoning could be converted into a potentially workable three-part test. Judge Samuel Alito expressed concerns that it is difficult for a court to investigate determining the purpose of a lawsuit. Norris replied that the investigation was objective and based on the language in the plaintiff’s complaint. This raised Justice Sonia Sotomayor’s concern that an elaborately worded complaint could lead to an end to the AEOI. In response, Norris noted that the second pillar of the test, the injury suffered, helps avoid mere elaborate pleading. Norris, who focuses on the infringement, distinguishes this case from Bob Jones University v Simon and Alexander v “Americans United” Inc., where the court used the AIA to ban non-refund actions against the revocation of the tax-exempt status of certain nonprofits. The damage these companies suffered was the obligation to pay taxes as they no longer had charitable rights. Here, the breach isn’t a tax but the cost of reporting compliance, Norris said.
Judges Elena Kagan and Amy Coney Barrett suggested that the test be condensed into a single South Carolina investigation against Regan: whether a restitution lawsuit is an available mechanism for a plaintiff to challenge an IRS lawsuit. If the answer to this question is yes, the action is disqualified from enforcement. If the answer is no, the action is admissible before enforcement. Norris seemed to accept this view, although he apparently preferred a broader result.
A second subject for questioning came from Chief Justice John Roberts and Justice Brett Kavanaugh. Both focused on the fact that the penalty associated with the IRS notice being contested here was labeled a tax by Congress and that it likely fell under the AEI. However, Norris stressed that CIC’s lawsuit does not focus on a tax collection itself, just the legality of the 2016-66 notice.
Kavanaugh also noted that the regulatory aspect of the notice is tied to the tax aspect of the penalty it is enforcing. He was looking for a distinction between challenging the underlying regulation and the tax itself – an attempt to limit the reach of Bob Jones and Americans United. Again, Norris pointed out that, unlike these cases, the violation was not a tax, but a compliance cost. He also stressed that the channel for restitution claims is unavailable due to the threat of criminal penalties.
Finally, Judge Stephen Breyer asked if CIC could seek judicial review by petitioning the IRS to establish formal rules for notices and comments, and then, after the agency rejected that petition, challenge the rejection in court. Norris noted that such a judicial review is inconsistent, as the “arbitrary and capricious” standard in the attitude of a denial of a rulemaking motion is far more respectful of the IRS.
Deputy Attorney General Jonathan Bond represented the government. In his opening speech, he highlighted that the 2016-66 Notice is enforced through a penalty that Congress has styled a tax and that the AEI bars are designed to restrict the assessment or collection of taxes. He said that if a company wanted to contest the 2016-66 notice, all they had to do was file a letter in place of the required reporting of the notice stating that the company had a good faith belief that the government would approve the notice have not published properly.
Many of the judges were concerned about the potential for a company to face criminal penalties if it failed to comply with the notice. Both Alito and Justice Neil Gorsuch found it incredibly problematic to oblige someone to impose criminal penalties before asking a court to rule that a government act is unlawful. In response, Bond noted that submitting the letter in good faith would be sufficient to avoid criminal penalties. When Alito continued to press whether the term “willful” in the tax code should have any other meaning than ordinary willpower, Bond replied in the affirmative. He noted that most of the court’s precedents, unlike other criminal contexts, have a heightened definition of “willpower” in the context of criminal taxation.
Another question arose from whether the contested regulatory measure can be separated from the penalty designed as a tax. Because of this, Barrett and Justice Clarence Thomas focused on how tight the link needs to be between the tax penalty and the measure being challenged. In this case, Bond said the connection was pretty straight forward. He asked the court to reserve for a further day the question of how weakened the agency action must be from the tax so that it does not fall within the scope of the AEOI.
Kagan took a different route. She noted that the tax here is entirely derived from the agency lawsuit in the notice. She told Bond that all CIC requests are to invalidate the notice so that the company does not have to comply with reporting requirements. Bond pointed to the company’s complaint, noting that CIC believes it must be complied with due to the tax penalty.
Kavanaugh showed his hand to the government during the dispute. He found that most of the arguments are in favor of the government. Precedent leans towards government. The Direct Marketing Association against Brohl, in which the court has admitted an action against a state tax liability, does not apply, since no tax was levied there and a tax is levied here. The criminal threat can be easily resolved through the procedural mechanism and increased standard of will for tax crimes. The refund lawsuit option is still available, neutralizing the South Carolina exception. But Kavanaugh was worried. He noted that understanding of the APA has evolved to question administrative measures prior to enforcement. Given this modern understanding, he asked how many validity cases like Bob Jones and Americans United (which were decided in 1974) should have. Bond responded by noting a parallel development in the court’s case law since the court ruled Bob Jones: the rise of textualism. Bob Jones and similar cases were supposed to be more favorable to the court as they were much closer to the legal text, unlike previous AEI cases. And the text seems to direct those kinds of challenges to post-enforcement reimbursement suits, Bond said.
Eventually Breyer got into a heated discussion with Bond. The focus of his question was that the only way for CIC to get a judicial review was to break the law or comply with the reporting requirement and suffer a non-tax violation. Bond had trouble responding to Breyer. However, he reiterated that CIC did not need to spend any money to meet the new reporting requirements. All it had to do was submit a letter stating that it did not meet the requirements as it had a good faith belief that the 2016-66 notice was not properly published. It could then sue after paying the fine.
Overall, the argument focused heavily on the technical drawing of lines, as one would expect from a tax case. Everyone seemed to be struggling to figure out exactly what the 19th century AEI meant in our modern context, especially in a world where the IRS is a major administrative agency. While it is always difficult to predict an outcome from an argument, it seems that the CIC has a slightly better chance of prevailing. It is clear, however, that in drafting its opinion, the court will struggle to delineate the precise limits of the AEI’s scope and therefore may not have the final say on the limits of this mysterious statute.
Blaine Saito, Argument Analysis: Judges Strive to Define Boundaries of the Anti-Injunction Act,
SCOTUSblog (December 2, 2020, 5:37 pm), https://www.scotusblog.com/2020/12/argument-analysis-justices-struggle-to-define-boundaries-of-anti-injunction-act/