Major Challenge to Tax Regulations Arrives at Supreme Court

Jan. 17, 2020, 11:09 PM

A case testing the boundaries of legal challenges to Treasury rules has reached the Supreme Court after it bitterly divided judges in an appeals court.

CIC Services LLC in August lost its fight at the U.S. Court of Appeals for the Sixth Circuit in a decision that drew strong dissents from multiple judges. If the high court decides to take the case, it would be taking on an issue with potentially sweeping implications—namely, whether the Anti-Injunction Act (AIA) blocks lawsuits challenging the legal validity of an IRS reporting requirement backed by a penalty.

The AIA prohibits lawsuits aimed at restraining officials from assessing or collecting taxes. A ruling in favor of CIC Services would likely open up Treasury Department and IRS actions to more scrutiny.

“This Court has squarely held that challenges to tax-reporting and information-gathering requirements do not implicate the Anti-Injunction Act,” CIC Services said in its Friday petition to the high court.

If CIC Services is allowed to bring the lawsuit, it would be challenging the legal validity of IRS Notice 2016-66, which required the company to report micro-captive transactions for which it was an adviser. Micro-captive insurers are small companies that may choose to pay tax only on their investment income if their premium income doesn’t exceed $2.3 million. The IRS has been pursuing such companies, arguing that they are not true insurers, but rather vehicles for avoiding taxes.

CIC Services has argued that the IRS notice needed to go through the notice-and-comments process of the Administrative Procedures Act, where the IRS would notify the public of its proposal and respond to comments before issuing regulations codifying the requirement.

Divisive Threshold Issue

CIC Services has argued that the act isn’t a problem because the suit targets the burden of the reporting requirements rather than the penalty and because, in any case, the penalty isn’t a tax.

A three-judge panel at the Sixth Circuit decided in a 2-1 decision that the penalties were taxes imposed for violating requirements of an IRS notice. The judges also concluded that the suit was trying to restrain the agency’s assessment or collection of tax because it challenged the notice.

That decision, and a later decision by the full list of Sixth Circuit judges not to rehear the case, prompted strong dissents.

The division among prominent appellate judges might spur the high court to take the case, although the absence of a split between circuit courts of appeals might also encourage the justices to reject the case.

Judge John B. Nalbandian argued that the goal of the AIA is to ensure “efficient collection of tax revenues.” But CIC Services would face the threat of penalties, fines, and potentially criminal prosecution if it waited until assessment or collection to challenge the notice, he said.

Judge Amul R. Thapar worried about broad effects from the ruling that the AIA barred the suit.

“Going forward in this circuit, the IRS will have the power to impose sweeping ‘guidance’ across areas of public and private life, backed by civil and criminal sanctions, and left unchecked by administrative or judicial process,” he said.

Circuit Judge Eric L. Clay disagreed. After ruling against CIC Services the first time, he wrote again after the divided circuit chose not to rehear the case. He said that his dissenting colleagues were engaging in “their latest attempt to inflict death by distorted originalism on the modern administrative state.”

Elliot, Faulkner & Webber, Consovoy McCarthy PLLC, and Lazarus & Associates represented CIC Services.

The case is CIC Services, LLC v. Internal Revenue Service, U.S., 1/17/20.

To contact the reporter on this story: Aysha Bagchi in Washington at abagchi@bloombergtax.com

To contact the editors responsible for this story: Patrick Ambrosio at pambrosio@bloombergtax.com; Colleen Murphy at cmurphy@bloombergtax.com

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