U.S. Supreme Court rules anti-injunction law amid micro-capture
I have already written about attempts by some managers of so-called microcaptive insurance companies to challenge the merits of the IRS posting Notice 2016-66 in my articles here and here. Basically, the lawsuit disputes whether the IRS, in enacting Notice 2016-66, correctly followed the Administrative Procedures Act (APA), which incidentally is a law that the IRS seems inclined to lower the provisions of.
The merits of the lawsuit, whether the IRS again rejected the APA in relation to Notice 2016-66, has yet to be heard. What happened was that the lawsuit against the IRS that challenged Notice 2016-66 was filed in the United States District Court, but that court ruled that it could not even not hear the lawsuit because of the Anti-Injunction Act (AIA), a law passed by Congress in 1867, just two years after the end of the Civil War. The AIA provides that no one can take legal action to prevent the IRS from assessing or collecting taxes. The natural consequence of AIA is that someone seeking to challenge a federal tax can only do so by paying the tax first and then requesting a refund. Either way, the U.S. District Court dismissed the action challenging AIA Notice 2016-66, and a Sixth Divided Circuit was upheld. The case then made its way to the United States Supreme Court, which decided to hear the case.
In a unanimous opinion drafted by Justice Kagan, the court noted that the IRS not only collects taxes, but also seeks information on a wide variety of tax-related topics, including whether certain people are taxpayers. “Important advisers” for certain types of questionable tax transactions (read: tax shelter promoters). In the context of Opinion 2016-66, the Court noted:
“A micro-captive transaction is generally an insurance agreement between a parent company and a“ captive ”insurer under its control. The Code offers the parties to such an agreement tax advantages. The insured can deduct his premiums as professional expenses. See § 162 (a). And the insurer can exclude up to $ 2.2 million of those premiums from its own taxable income, under a tax break for small insurance companies. See §831 (b). The result is that the money does not receive This sum, for better or for worse, is a choice of Congress. But no tax benefit should accrue if the money isn’t really for insurance – if the insurance contract is a sham, which affiliates have entered into only to evade tax liability. “
The Court noted that the purpose of Notice 2016-66 is to create reporting requirements so that the IRS can unearth microcaptive transactions that are sham. But, the Court noted, it is not only the fictitious transactions that Opinion 2016-66 unearths, since the opinion also seeks to obtain information on the promoters of these transactions who could themselves face sanctions. significant monetary penalties – which are themselves considered a “tax” under the Internal Revenue Code – and also criminal penalties of up to one year at Club Fed (although criminal penalties are not considered a “tax”).
The challenge here, however, was not with the penalties that could result from failure to comply with Notice 2016-66, but rather with the reporting requirements of that notice that would have been issued without the IRS as a result of the proceedings. APA advice and comments. To challenge the reporting requirements, if the anti-injunction law were strictly followed, the disputing party would have to, first, disobey those reporting requirements, second, pay the penalty for violating the reporting requirements, and then, third , request a refund. of the trouble.
But is a lawsuit invoking an APA challenge to a reporting requirement a “lawsuit to restrict the assessment or collection of any tax”? Typically, an IRS reporting requirement is not considered a “tax,” but here the “downstream tax penalty,” as the court called it, complicates matters: because penalties may arise later. and that these penalties would be seen as a tax, ugly head of anti-injunction law to potentially block lawsuits that only challenge reporting requirements.
The court rejected the IRS’s assertion that a challenge to a reporting requirement is a challenge to the tax that could accrue if the reporting requirement is breached, since Notice 2016-66 itself does not levy any taxes, but has potentially caused very costly document collection and record keeping requirements. by those who fell within its reach. The Court also noted that Notice 2016-66 is “several steps removed” of possible tax penalties that could result from non-compliance. Thus, the Court: “Between the upstream notice and the downstream tax, the river flows for a long time. So it is again difficult to characterize the purpose of the lawsuit as prohibiting a tax.”
That a violation of Notice 2016-66 could potentially result in criminal penalties was a ruling noted by the Court, as it would require a party challenging the APA to Notice 2016-66 to expose itself to criminal sanctions. Such a result would be absurd and the Court therefore concluded that a party challenging the APA of Opinion 2016-66 should be able to do so through a lawsuit seeking an injunction, like the plaintiffs in this case. originally did.
The Court also rejected the IRS ‘argument that allowing such challenges to the reporting requirements would have the effect of overriding the Anti-Injunction Act and thus undermining the IRS’s ability to assess and collect claims. taxes. But the IRS ‘argument fell flat here for the same reason that Notice 2016-66 itself does not impose any tax, just reporting requirements.
The result of the notice in this case was that the Court ruled that the Anti-Injunction Act did not preclude court action for an injunction against the reporting requirements of Notice 2016-66, and the case would be referred to the lower courts to go forward on the merits, that is to say, the case starts from scratch as if it had just been filed, but without obstacle to cross the anti-injunction law which was deemed not to apply.
In my last article on this case, I noted that “Notice 2016-66 has already had 99.9% of its intended effect” because the report that the IRS sought through this notice has already had been provided to the IRS, with probably tens of thousands of Form 8886 disclosures. So even though this case starts all over again and ends with a determination that Notice 2016-66 violated the APA, it it is difficult to see what the practical effect would be. APA deactivation notice 2016-66 will not reverse the outcome of any of the four U.S. Tax Court decisions, and likely make no difference in the cases currently pending before the Tax Court. American. If the people who litigate microcaptive cases with the IRS think it’s the light at the end of the tunnel, well, sorry, but it’s still the light of the train coming.
What this case does within the larger concept of US tax law is to provide future litigants with a mechanism to challenge future APA-based reporting requirements. So when the next tax shelter appears (and there will always be another tax shelter), promoters have a chance to get an injunction to block the reporting requirements if the IRS has been botched in tracking the APA. . Likewise for the IRS that means they have to manage a tighter ship when it comes to ABS, that is to say, designate a person in the IRS legal counsel’s office to give future opinions a second, thorough review to ensure that the APA has been fully complied with, and not just presume that the concerned writer has complied with it. ‘APA.
From the perspective of those involved in microcaptives, this decision is truly horrific and a complete step backwards for the reason that the United States Supreme Court has now unanimously declared that “But no tax benefit should accumulate if the money is not really intended for insurance. – if the insurance contract is a sham, which the related companies have only entered into to avoid tax. ”Presumably, someone one in the IRS is now preparing (if he hasn’t already) a 10th Circuit filing to complete the briefing in the Mechanical reserve case with this quote. Now the 10th Circuit no longer has to guess what the United States Supreme Court will remember: it now knows that the United States Supreme Court is ready to apply the fictitious transaction doctrine to microcaptive transactions. Worse yet, this statement by Justice Kagan has the potential to spill over into all insurance-related transactions and threaten the captive industry as a whole.
I’ll leave it to the tax professionals to decide whether this terrible result was worth deciding on the highly technical questions of whether the anti-injunction law prevented APA challenges, but it doesn’t was not a good day at all for those who faced. with challenges to microcaptives. Expect to see this quote appear regularly and often in IRS briefings. “But no tax benefit should accrue if the money isn’t really for insurance – if the insurance contract is a sham, which affiliates entered into only to evade tax liability.”
CIC Services, LLC v IRS, (United States, May 17, 2021).