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Eighth Circuit Holds the Mayo in Tax Regulation Invalidity Case

In the latest tax regulation deference case, the Eighth Circuit provided guidance to taxpayers and tax practitioners on the “analytical path” to resolve the question of whether a tax regulation is a valid interpretation of the Internal Revenue Code. The court held that the regulation was invalid in part because it unreasonably added conditions to the statutory requirements for qualified educational organizations, however, it was valid as to its interpretation regarding the permissible scope of the taxpayer’s activities to fit within the applicable statute. The opinion is noteworthy for its detailed examination of statutory and legislative history, judicial interpretations and agency position during legislation in its analysis of Congress’ intent.

Deference is one topic that captivates many, and tax cases referencing Chevron, Skidmore and Auer (and more recently Kisor) always grab attention. The latest deference case in the tax area is Mayo Clinic v. United States, No. 19-3189 (8th Cir. May 13, 2021). For some background on deference, including the district court proceedings in the Mayo Clinic case, see here.

In the Mayo Clinic case, the question was whether the taxpayer was a “qualified organization” exempted from paying unrelated business income tax (UBIT) on unrelated debt-financed income under Internal Revenue Code (Code) Section 514(c)(9)(C)(i). Answering this question required determining whether the taxpayer was an “educational organization which normally maintains a regular faculty and curriculum and normally has a regularly enrolled body of pupils or students in attendance at the place where its educational activity are regularly carried on” within the meaning of Code Section 170(b)(1)(A)(ii). Relying in part on Treasury Regulation Section 1.170A-9(c)(1), the government asserted that the taxpayer was not a qualified organization because it was not an educational organization because its primary function was not the presentation of formal instruction (primary-function requirement) and its noneducational activities were not merely incidental to the educational activities (merely-incidental requirement). The district court – Mayo Clinic v. United States, 412 F.Supp.3d 1038 (D. Minn. 2019) – held in favor of the taxpayer and invalidated the regulation, holding that the primary-function requirement and the merely-incidental requirement were not intended by Congress to be included in the statute. The Eighth Circuit reversed and remanded the decision. Implementing the longstanding two-pronged deference test under Chevron U.S.A. Inc. v. NRDC, 467 U.S. 837 (1984) and acknowledging recent precedent in Kisor v. Wilkie, 139 S.Ct. 2400 (2019), the Mayo Clinic court emphasized that the question before it was whether the government “stayed within the bounds of its statutory authority.” To answer this question, the court stated that to determine whether the statute was unambiguous required examining the statutory history and applying traditional tools of statutory construction. This led the Eighth Circuit to trace the evolution of the Code over more than a century, focusing on changes to statutory language, legislative history, agency positions during the legislative process and judicial interpretations of the law.

Based on this exhaustive analysis of the evolution of [...]

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Deference Principles in Tax Cases and the Unique Challenges of Auer Deference

The Federal Lawyer recently published an article we wrote which discusses how deference principles are applied in tax cases. The article can be accessed here. The Supreme Court of the United States, in Mayo Found. for Med. Educ. & Research v. United States, 562 U.S. 44, 55 (2011), confirmed that tax laws are subject to the same deference principles as other federal laws.

In general, these deference principles can be grouped into three levels, commonly referred to as Chevron, Skidmore, and Auer deference.  Chevron is often regarded as the strongest level of deference, and can apply where Congress explicitly leaves a gap for an agency to fill and the agency intends for its interpretation to have the force of law. Tax regulations can be entitled to Chevron deference. Skidmore deference, which is limited to an interpretation’s persuasive power, can apply to other IRS interpretations that are thoroughly considered, well-reasoned, and consistent with earlier and later IRS pronouncements.  Skidmore deference, which is generally considered a lesser level of deference than Chevron, can apply to revenue rulings and revenue procedures. The last level of deference, Auer, is a special level of deference that can apply when an agency interprets its own regulations. In Auer v. Robbins, U.S. 452, 461 (1997), the Supreme Court accorded deference to an agency’s amicus brief. The theory behind Auer is that an agency is uniquely positioned to interpret any ambiguity in its own regulations.  Courts have increasingly placed limitations on Auer and its continuing validity has been questioned by sitting members of the Supreme Court.

When we wrote the article, Justice Scalia was the leading member of the Supreme Court advocating for the abandonment of Auer. But he was not alone. Other justices have openly either written about the risks of Auer or indicated a willingness to reconsider the principles of Auer. In addition, all current justices have either written or joined in an opinion that casts serious doubts about Auer or expressed an indication to revisit the deference standard in an appropriate case. With Justice Scalia’s passing, it remains to be seen whether the Court will continue to seek such a case. But considering the increasing wave of limitations being placed on Auer, it would not come as a surprise if further limitations were issued.




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