In Chevron U.S.A., Inc. v. Natural Resources Defense Council, Inc. 467 US 837 (1984), the Supreme Court of the United States established a framework for assessing an agency’s interpretation of statutory provisions. First, a reviewing court must ask whether Congress “delegated authority to the agency generally to make rules carrying the force of law,” and whether the agency’s interpretation was promulgated under that authority. United States v. Mead Corporation, 533 US 218, 226–27 (2001). Delegation may be shown in a variety of ways, including “an agency’s power to engage in adjudication or notice-and-comment rulemaking, or by some other indication of a comparable congressional intent.” Id. at 227. If an agency has been delegated the requisite authority, the analysis is segmented into two steps.

Under step one, the reviewing court asks whether Congress has clearly spoken on the precise question at issue. See Chevron, 467 US at 842. If so, both the court and agency must follow the “unambiguously expressed intent of Congress,” and the inquiry ends. Id. at 842–43.

If the statute under review is ambiguous or silent, the reviewing court moves to step two: whether the agency’s interpretation is based on “a permissible construction of the statute.” Id. at 842. This inquiry asks whether the interpretation is reasonable and not “arbitrary, capricious, or manifestly contrary to the statute.” Chevron, 467 US at 843; see also Judulang v. Holder, 565 US 42, 53 n.7 (2011); Encino Motorcars, LLC v. Navarro, 579 US ____, 136 S. Ct. 2117, 2125 (2016). If the agency’s interpretation passes muster, then the agency’s interpretation is given Chevron deference, and afforded the force of law. The Chevron two-part analysis applies to tax regulations issued by the United States Department of the Treasury and the Internal Revenue Service. Mayo Foundation for Medical Education & Research v. United States, 562 US 44, 55 (2011). Continue Reading Senate Attempts to Repeal Chevron Deference

We have previously discussed, in March and October of 2016, the various levels of deference given to Internal Revenue Service (IRS) guidance, whether it is in published or private form. For revenue rulings, courts traditionally apply Skidmore deference, which essentially looks at the persuasiveness of the ruling. Under this standard, and the IRS’s position in its procedural regulations, if a ruling contains the same material facts and its analysis is persuasive, courts will generally defer to it.

The Tax Court’s recent opinion in Grecian Magnesite Mining, Industrial & Shipping Co., SA, v. Commissioner, 149 TC No. 3 (July 13, 2017), is a friendly reminder that just because a revenue ruling addresses the same material facts present in a taxpayer’s case does not automatically mean that courts will side with the IRS. In Grecian, a revenue ruling contained three fact patterns which were essentially the same as the taxpayer’s facts. The ruling held that gain realized by a foreign partner upon disposing of its interest in a United States partnership should be analyzed on an asset-by-asset basis, and that to the extent the partnership’s assets would give rise to effectively connected income (ECI) if sold by the partnership, the departing partner’s pro rata share of such gain should be treated as ECI. Despite this conclusion, the Tax Court rejected the IRS’s argument that the ruling was entitled to deference and required upholding the IRS’s deficiency determination. Rather, the court noted that the ruling’s discussions of the relevant partnership provisions was “cursory in the extreme” and it criticized the ruling’s treatment of the United States taxation of international transactions. As a result, the court declined to accord any deference to the ruling and ultimately found that the taxpayer’s position was correct as to the issue addressed in the ruling.

Practice Point: Although many revenue rulings contained detailed discussions and analysis of the tax laws, some are based on blanket statements of law that are not supported by relevant authorities. In these situations, taxpayers and their advisors should carefully consider whether a court would afford any deference to such a blanket statement.

Sometimes a loss in a discovery battle is really a win. That is certainly the outcome in Sunoco, Inc. v. United States, 2016 WL 334578 (Fed. Cl., No. 1:15-cv-00587, 10/6/16). In Sunoco, Judge Wheeler of the Court of Federal Claims denied Sunoco’s motion to compel production of the background file documents for Notice 2015-56 (Aug. 15, 2015). The court, however, denied the motion on the grounds that the requested documents are unnecessary because the Notice is not entitled to Skidmore deference.

Under Skidmore v. Swift, courts may give deference to an agency’s interpretation of its governing laws even when the agency does not use its rulemaking powers. In deciding whether to give deference to the agency’s interpretation, courts consider the interpretation’s “thoroughness evident in its consideration, the validity of its reasoning, its consistency with earlier and later pronouncements, and all those factors which give it power to persuade, if lacking power to control.”  323 U.S. 134, 139-140 (1944).

In June 2015, Sunoco filed a complaint seeking refunds for federal income taxes relating to the tax treatment of the alcohol fuel mixture credit. Sixty-five days after the complaint was filed, the Internal Revenue Service (IRS) issued Notice 2015-56 taking a position contrary to Sunoco’s. The parties filed cross-motions for judgment on the pleadings and partial summary judgment. In its filings, the government claimed, among other things, that Notice 2015-56 was entitled to Skidmore deference. In response, Sunoco sought internal IRS documents relating to the issuance of Notice 2015-56 that it contended would assist the court in determining whether Skidmore deference was appropriate.

In denying Skidmore deference to Notice 2015-56, the court identified three factors – the timing of the Notice, the lack of authority and the inconsistency with prior IRS advice. The court found the Notice to be self-serving because it was issued when “it was actually litigating.” Additionally, the Notice provided no authority for its position, which the court would have expected considering its finding that the position conflicted with the Internal Revenue Service’s position in a Chief Counsel Advice issued two years earlier. Thus, the court denied Sunoco’s motion to compel on the ground that it was moot because Notice 2015-56 is not entitled to deference.

In situations where the government is claiming deference to agency pronouncements, taxpayers should consider requesting the background files. These files might shed light on the matters considered by the government and provide a defense to the deference argument.

As we previously discussed, the issue of deference is a hot topic in the tax arena.  Unfortunately, the Supreme Court of the United States recently passed on the opportunity to address the continuing validity of what is commonly known as Auer deference.  This level of deference sometimes applies when an agency interprets its own regulations.

In United Student Aid Funds, Inc. v. Bryana Bible, S.Ct. No. 15-861, the Supreme Court denied a petition for writ of certiorari, leaving in place an opinion by the Court of Appeals for the Seventh Circuit that deferred to the Department of Education’s interpretation in an amicus brief of the regulatory scheme that it enforces.  In a scathing dissent from the denial of certiorari, Justice Thomas stated that the Auer doctrine “is on its last gasp” and that the Court should have taken the opportunity to reconsider and re-evaluate the doctrine.  The Supreme Court’s rules require that at least four Justice must vote to accept a case.  Although Chief Justice Roberts and Justice Alito have recently acknowledged that the doctrine should be reconsidered, the other vocal member in favor or reconsideration was the recently deceased Justice Scalia.  It remains to be seen whether another current Justice will join these three Justices in the future to vote to revisit the issue.

As we discussed here, and in our recent article in The Federal Lawyer, deference to Internal Revenue Service (IRS) pronouncement is an important issue for taxpayers and their advisors. Our prior writings dealt generally with the three levels of deference in tax cases and how they have been applied by the courts. A recent Tax Court case looks at the level of deference owed to statements in preambles to tax regulations.

In Estate of Morrissette v. Commissioner, 146 T.C. No. 11 (Apr. 13, 2016), the taxpayer cited to the preamble to regulations dealing with split-dollar life insurance arrangements. Those regulations dealt with two mutually exclusive regimes for taxing these types of arrangements entered into after September 17, 2013. The preamble to the regulations included an example that was structurally identical to the arrangements at issue in the Tax Court case. In reviewing the preamble, the court noted that while it had previously been unpersuaded by a preamble, it believed that the preamble was a statement of the IRS’s interpretation of the statute and therefore should be judged under the “power to persuade” standard in Skidmore v. Swift & Co., 323 US 134, 140 (1944). The Tax Court found that the preamble was consistent with the taxpayer’s interpretation of the statute and contrary to the IRS’s position, and found the logic of the preamble to be sound.

The Tax Court’s statements regarding Skidmore deference are important for taxpayers, both in planning and defending transactions. In prior cases, the Tax Court has held that the IRS is “obligated to follow” its “published administrative position” and treated such positions as a concession as to the proper result, e.g., Dixon v. Commissioner, 138 T.C. 173, 188 (2013). A preamble to a regulation could be viewed as a published administrative position, given that it is part of a Treasury Decision that is published in the Internal Revenue Bulletin and the IRS’s position is that the Internal Revenue Bulletin is the “authoritative instrument of the Commissioner.” Treas. Reg. § 601.601(d). It is unclear whether the taxpayer in Estate of Morrissette argued that the IRS was obligated to follow the preamble.

Taxpayers that wish to rely on preambles to regulations, or that are defending against an IRS position based on a preamble, need to be aware of these arguments in planning and defending their transactions. To the extent the preamble is supportive of a position and contains a persuasive and sound analysis, one could argue that Skidmore deference applies. Under this argument, the IRS should not be able to disavow its interpretation of a statute or regulation. Additionally, taxpayers may wish to argue that under the principle announced in Dixon and prior Tax Court cases, the statements in a preamble constitute a concession by the IRS to which it is bound. A similar analysis should be undertaken if the preamble is contrary to the taxpayer’s position.

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.