The Counsel of the Internal Revenue Service (IRS) faced tough questions at the oral arguments in front of the Supreme Court Justices in its case against CIC Services over Notice 2016-66.
The case, which was heard on 1 December, concerned the Anti-Injunction Act, a federal law that bars lawsuits to stop the assessment or collection of taxes.
Justice Samuel Alito asked Jonathan Bond, representative of the IRS: “The code says that wilfully failing to comply with the reporting requirement is a crime. So I don't see how they [CIC Services] can get a review without committing a crime.”
Bond argued that the answer is in the US Supreme Court's decisions in “Sullivan and subsequently in Garner, where the Court said in both the precursor of 7203 and 7203, that it is not a wilful violation to file a return or to subject yourself to examination and assert your good-faith objection to providing the information”.
CIC Services alleged that the IRS published Notice 2016-66 in violation of the Administrative Procedure Act (APA) and the Congressional Review Act, and seeks to enjoin the notice's enforcement.
Justice Clarence Thomas suggests to Bond that direct marketing is a real problem for him.
He added: “Except you have one big answer to it, which is that case did not involve a tax penalty and this one does.”
He asked: “So I'm curious about how much weight you think that can hold. If congress passed a law saying that there's a one-dollar tax penalty for the violation of any IRS regulation, does that mean that there would be no pre-enforcement review at all for any tax regulation?”
Bond stated: “Yes, if the penalty imposed is designated by Congress as a tax, then that suit would be barred by the AIA. We think that's different from direct marketing is dispositive because of the text of the statute, as this Court has repeatedly construed it.”
Justice Stephen Breyer outlined that calling something a tax doesn't make it one.
He continued: “There are still differences. And one of the differences, they say, is this: If the IRS tells me I owe some money, I pay it, but I can get it back. If it's illegal.”
Justice Breyer suggested that “if the IRS here tells me to spend $100,000 gathering this information and give it to them, I can't get that money back. I can't declare it illegal. There's no way to do it. I have to keep doing it year after year.”
He noted: “Of course, I'll have to follow it. I'm not going to violate it. So that's a big difference.”
Cameron Norris, associate at Consovoy McCarthy, stated in his closing remarks of the oral arguments that “it's not every day that the US Government asks citizens to deliberately violate the tax code, but that's my friend's position in this case. And that's a critical distinction for purposes of reaching the right decision here”.
Norris, CIC Service lawyer, argued that the notice labels his clients [captive] industry of “reportable transactions, a kind of scarlet letter that triggers burden reporting requirements and makes it much harder to attract clients”.
Labelling something as reportable transactions is serious, but he explained that this is why the US Congress told the IRS to use notice and comment rulemaking.
Norris explained: “When the IRS refused to do that, CIC did precisely what we want law-abiding citizens to do, they filed a reinforcement suit under the APA and are fully compliant with the reporting requirements while this case is pending.”
In his remarks, he argued that according to the government, what CIC should have done “it deliberately violates the tax code”.
Norris highlighted that the government path would require CIC members to commit a crime, violate their ethical obligations and convince the IRS to assess tax penalties.
He stated: “No law-abiding company or individual would ever do this, ruling for the government does not delay the judicial review, it denies it altogether.”
Commenting on the oral arguments, Sean King, principal at CIC Service, said: “We were very pleased with how the oral arguments went yesterday. The court had a firm grasp all the relevant issues and, if I’m reading the tea leaves properly, seemed to be searching for the most legally sound way to rule in our favour. We certainly hope that’s the case.”
“In the meantime we want to once again thank all of those who have supported our efforts including especially our attorneys and those who filed amicus briefs on our behalf,” he added.
Background
In 2016, the Department of Treasury and IRS issued Notice 2016-66, which formally labelled micro captives as ‘transactions of interest’. The IRS advised that these transactions have the potential for tax avoidance or evasion.
Under section 831(b) of the US tax code, captive insurers that qualify as small insurance companies can elect to exclude limited amounts of annual net premiums from income, so that the captive pays tax only on its investment income.
The IRS has previously suggested that some micro captives may be used by promoters, accountants or wealth planners to persuade owners of closely-held entities to participate in schemes that lack many of the attributes of genuine insurance.
CIC Services filed two lawsuits against the IRS between 2016 and 2017 in the US District Court for the Eastern District of Tennessee. The second lawsuit was filed along with Texas-based tax firm Ryan as a plaintiff.
However, Judge Travis McDonough granted the IRS’ motion to dismiss that case. He explained that a ruling in CIC Services and Ryan’s favour would “restrain the IRS’s assessment or collection of taxes”.
In 2019, CIC Services’ appeal was denied at the US Sixth Circuit Court of Appeals.
The Court of Appeals’ judges affirmed the decision made in the district court in November 2017 to dismiss CIC Services complaint against IRS Notice 2016-66 and request for an injunction delay Notice 2016-66 for micro captives.
In May 2020, the US Supreme Court has agreed to hear CIC Services’ case against the IRS.
