Wells Fargo & Co. v. United States
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Exxon Prevails in $200 Million Tax Penalty Case

On January 13, 2021, the US District Court for the Northern District of Texas ruled in favor of Exxon Mobil Corporation (“Exxon”) in its battle against the government over tax penalties. Exxon filed amended returns for its 2006-2009 tax years seeking a $1.35 billion tax refund based upon a change of character of certain transactions (from mineral leases to purchase transactions). The government disallowed the refund claims and imposed a $200 million penalty pursuant to Internal Revenue Code (IRC) section 6676. Exxon paid the penalty and filed suit for a refund.

We have written extensively concerning IRC section 6676, warning taxpayers of this potential landmine. See, e.g., Taxpayers Should Prepare for the Next Penalty Battleground” Roberson, Spencer and Walters, Law360 (May 21, 2019) and “Expect More Civil Tax Penalties—So, Now What?” Roberson and Spencer, Tax Executive (Sept. 27, 2019). To recap, IRC Section 6676 was enacted in 2007 in response to the high number of meritless refund claims being filed at the time. It imposes a 20% penalty to the extent that a claim for refund or credit with respect to income tax is made for an “excessive amount.” An “excessive amount” is defined as the difference between the amount of the claim for credit or refund sought and the amount that is actually allowable. For example, if the taxpayer claims a refund of $2 million and the Internal Revenue Service (IRS) allows only $1 million, the taxpayer can still be penalized $200,000.Significantly, IRC section 6676 does not require the IRS to show any fault or culpability on the part of the taxpayer—e.g., negligence, disregard of rules or regulations, etc. IRC section 6676(a) originally provided a “reasonable basis” defense (which is applicable to the Exxon case), but in 2015 Congress amended the statute and now requires a showing of “reasonable cause.” Neither the Code nor the regulations provide for any other defense to the IRC section 6676 penalty. Moreover, the penalty is immediately assessable, meaning taxpayers cannot fight the IRS in a pre-payment forum like the US Tax Court but must first pay the penalty and seek redress in a refund form.

In Exxon, the government argued that the court should overlay a subjective element on “reasonable basis,” as the US Circuit Court for the Eighth Circuit did in Wells Fargo & Co. v. United States, 957 F.3d 840 (8th Cir. 2020). Our prior coverage of this case can be found here. The Exxon court declined the invitation. Instead, the court explained IRC section 6676 “focuses on whether the claim had a reasonable basis, not on whether the taxpayer had a reasonable basis.” The court agreed with Exxon that its position in the refund claim that its transactions were purchases was reasonable based on the relevant authorities. It further found that the company had “colorable support for its legal contention that a change that affects whether, not when, an item comes into income is not [...]

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Eighth Circuit Applies Subjective Standard to Reasonable Basis Penalty Defense

On April 24, 2020, the US Court of Appeals for the Eighth Circuit published its opinion in Wells Fargo & Co. v. United States, No. 17-3578, affirming a district court’s holdings that the taxpayer was not entitled to certain foreign tax credits and was liable for the negligence penalty for claiming the credits. Much has been written about the substantive issue, which we will not discuss here. Instead, we focus on the Eighth Circuit’s divided analysis relating to the reasonable basis defense to the negligence penalty.

In Wells Fargo, the taxpayer relied solely on the reasonable basis defense to the government’s assertion of penalties. Under Internal Revenue Code (IRC) section 6662(b)(1), a taxpayer is liable for penalty of 20% of an underpayment of its taxes attributable to its “negligence.” Various defenses are potentially applicable to the negligence penalty, which we recently discussed in detail here. One such defense is if the taxpayer can show it had a “reasonable basis” for its position. Under Treas. Reg. § 1.6662-3(b), this defense applies if the taxpayer’s return position was “reasonably based on” certain authorities specified in the regulations.

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