From Blaine Saito
on May 18, 2021
at 10:42 am
The Supreme Court issued its opinion on Monday in the CIC Services v. Internal Revenue Service case. The case concerned whether the Anti-Injury Act, which generally prohibits actions “for the purpose of limiting the setting or collecting of taxes”, prohibits reviewing an IRS administrative notice prior to enforcement to gather information on certain alleged transactions with tax authorities . In a statement released as of the 2021 deadline for Americans to file their federal income taxes, the court ruled 9-0 that the AIA does not preclude the CIC’s lawsuit from enforcing the IRS notice. Judge Elena Kagan wrote the opinion for the court. Judges Sonia Sotomayor and Brett Kavanaugh each filed separate concurring opinions.
The case includes reporting requirements. The law requires taxpayers and their advisors to report certain transactions to the IRS. These “reportable transactions” are often those that the IRS deems to be potentially abusive and the agency identifies them in an IRS notice, which is a sub-regulatory guide. CIC, a Tennessee company, advised clients on a transaction that was classified as reportable according to the IRS in Notice 2016-66. CIC wanted to attack the 2016-66 notice as a violation of the requirements for the creation of notice and commentary rules under the Administrative Procedure Act. However, the government argued that the AIA disposed of the federal courts responsible for the matter until the CIC actually violated the notice and the IRS imposed a fine. Failure to comply with the notice could result in fines, known as taxes for the purposes of the Internal Revenue Code and AEI, as well as criminal penalties.
In reversing the US Court of Appeals for the 6th Circuit reading of the AEI, Kagan stated that the courts should consider the objective of a lawsuit, that is, “the relief the lawsuit demands.” Here the court found that the complaint is not about imposing the tax penalty. Rather, it is a lawsuit to challenge the legality of the notice.
The court gave three reasons for finding that a lawsuit against enforcement of the notice is not a lawsuit against the tax penalty. “First, the notice contains positive reporting requirements that incur costs regardless of the statutory tax penalty,” Kagan wrote. Many of these obligations are expensive and not tax tied. Instead, the penalty is an “aftermath, no.” [the] Substance ”of the suit.
Second, the court found that the reporting requirement and the tax penalty are simply too far apart. To have a tax liability: (1) the CIC would need to withhold the required information, (2) the IRS would need to determine that the CIC is in breach of the reporting requirement, and (3) the IRS would need to use its discretion to impose the penalty. This chain of events, at the discretion of the IRS, is just too weakened.
Third, the court stated that the separate criminal sanction no longer made this a tax case. Criminal sanctions are not taxes. In addition, without pre-enforcement screening, a party would face the risk of prosecution, which “is not what an ordinary person risks to challenge even the most onerous settlement,” Kagan wrote.
The court concluded that regulatory tax challenges must still be covered by AEOI, but that challenge here is a challenge to a “regulatory mandate – a reporting obligation – separate from any taxes”.
In their approval, Sotomayor merely stated that the situation could be different if CIC were a taxpayer rather than a tax advisor. A taxpayer is unlikely to have the cost of an advisor collecting and providing their own financial information. This could then make it more likely that the lawsuit against this notice is a lawsuit to limit a non-compliance tax.
Finally, Kavanaugh wrote to talk a little more about the murky issue of regulatory taxes. The AIA, he said, makes a distinction between “pre-enforcement actions against the regulatory component of a regulatory tax that remain prohibited because the requested relief necessarily violates the assessment or collection of a tax” and “pre-enforcement actions against regulation based on a tax penalty can be continued because the requested relief runs counter to an independent legal obligation. “