Once a taxpayer petitions the Tax Court to contest a Notice of Deficiency (NOD), the Tax Court will issue a decision in the case. The taxpayer has no option to nonsuit the case like plaintiffs can do in state courts or in federal district courts. It’s what I call the Hotel California rule: the taxpayer might check out (e.g. by abandoning the case), but can never leave (the Court's decision will issue). For details, see Lesson From The Tax Court: The Hotel California Rule, TaxProf Blog (Nov. 12, 2018).
Today we learn that even though the Tax Court will issue a decision, it may not issue an opinion. More, we learn why that is so. In Paul Puglisi & Ann Marie Puglisi, et. al., v. Commissioner (4796-20, 4799-20, 4826-20, 13487-20, 13488-20, 13489-20) (Nov. 5, 2021) (Judge Gustafson), the IRS conceded all of a proposed deficiency (except for a small part that the taxpayers had conceded). It asked the Court to enter decisions in favor of the taxpayers. The taxpayers objected! They wanted more than a victory. They wanted fries with that: an opinion to go with the decision. Judge Gustafson decided to accept the IRS concession and enter a decision for the taxpayers without an accompanying opinion on the merits. In a 17-page Order he teaches us that while the Tax Court has the discretion to issue an opinion even when the IRS concedes a case, it will do so only under extraordinary circumstances. Details below the fold.
Today’s case involves the IRS’s continued campaign against companies that abuse the captive insurance structure. Normally, when a taxpayer buys insurance, premiums paid are deductible. §162. Normally the insurance company reports those premiums as income. And, normally, when a taxpayer self-insures against a risk, amounts a taxpayer puts aside to cover the potential future losses are not deductible. See Avrahami v. Commissioner, 149 T.C. No. 7 (2017) at p. 49 (string-citing case law).
Congress alters those normal rules in §831 by giving certain business taxpayers the ability to create “captive” insurance companies. Basically, the company creates its own insurance company and pays premiums to it. If done correctly, the premiums are deductible by the company but not reportable as income by the captive insurer. §831(b). The legitimate reason for the structure is to achieve better risk management and efficiencies. See this Investopedia article. Because this group of tax benefits is extended only to smaller companies, it’s called a “micro-captive insurance” structure.
But ya gotta follow the rules, set out mostly in Rev. Rul. 2002-89 and Rev. Rul. 2002-90. When a taxpayer departs from those rules, it creates the potential for abuse. For example, tax promoters sells structures whereby the captive insurance policy covers esoteric, implausible risks for exorbitant “premiums,” while the taxpayer continues to maintain their normal commercial coverage with traditional insurers. The IRS listed the hallmarks of an abusive structure in Notice 2016-66, 2016-47 I.R.B. 745. And Judge Holmes describes the potential abuses in Avrahami, supra, at p. 58.
Procedural Posture of Case
Today’s case involves Mr. and Ms. Puglisi. Their company owned an egg farm in Delaware populated by 1.2 million egg-producing hens. Their company had set up a micro-captive insurance structure. The IRS audited their returns for 2015, 2016 and 2018 and proposed to assess deficiencies of over $2.7 million. All the deficiencies stemmed from the IRS’s determination that the captive insurance structure was abusive. The taxpayers strenuously denied that. They said their structure was legit, insuring them from risks such as avian flu that commercial insurers refused to cover.
The Puglisis petitioned the Tax Court. As is usual in such matters, each side made some concessions. What is unusual about this case is while the Puglisis conceded about 2% of the proposed deficiency, the IRS threw in the towel on the rest.
When the IRS made its concessions, it asked the taxpayers to agree to a stipulated decision. The taxpayers refused. Instead, they asked the Tax Court to issue an opinion that explained why their captive insurance structure was legit. They wanted vindication! They complained that they had turned over thousands of documents to the IRS examining function during audit! They had to respond to a summons! They then had to turn over thousands more documents after petitioning the Tax Court in response to Chief Counsel’s discovery requests! They thought it was not fair for the IRS to have put them through all that trouble and expense only to mumble “nevermind.” They argued that because of “technical limitations” in §7430, they would not even be able to recover attorneys fees and costs. Hmm....I wonder if those "technical limitations" are the ones in (b)(1) which require taxpayer to go to Appeals before becoming eligible for attorneys fees. Or perhaps the "technical limitations" were the net worth requirements in (c)(4)(A)(ii)?
Regardless of the above, perhaps the most important reason the taxpayers advanced for an opinion was their contention that the IRS was just playing games by conceding a weak case and waiting until it found a less sympathetic (or well prepared!) taxpayer as a litigation vehicle. So, gosh and golly, was it too much to ask the Tax Court to issue an opinion vindicating their captive insurance arrangement and...perhaps...even excoriating the IRS for its obviously bad determination?
Yes, yes it was too much to ask, says Judge Gustafson. Let’s see why.
Lesson: Not Every Decision Requires An Opinion
Recall that the Tax Court’s job in a deficiency case is to “to redetermine the correct amount of the deficiency.” §6214(a). That statutory command is the basis for the Hotel California rule and also the basis for Judge Gustafson’s Order.
At first blush, it may seem that every decision requires an opinion. Section 7459 seems to always require one. Section 7459(a) says that “A report upon any proceeding instituted before the Tax Court and a decision thereon shall be made as quickly as practicable.” And §7459(b) further tells the Tax Court it must “include in its report upon any proceeding its findings of fact or opinion or memorandum opinion.” So if every decision must contain a “report” and every “report” must include an “opinion,” then it seems every decision requires an opinion. Q.E.D.
A deeper understanding of the Tax Court’s function and operation, however, shows that the statutory command does not sweep so broadly. Quod does not Erat Demonstratum at all. First, Judge Gustafson notes that when the Tax Court “redetermines” a deficiency it is just reviewing whether the “amount” is correct. An amount is just a number. He contrasts other types of complaints against the government, such as Administrative Procedure Act proceedings, where courts are required to review government behavior. (Shhhhh, it's Tax Exceptionalism. Don't tell.)
Second, Judge Gustafson then explains that when the Court does make a redetermination, the correct amount is reflected in the “decision.” That is what the taxpayers are entitled to receive and indeed must receive: a decision on the correct amount of deficiency, if any.
But not every decision requires an opinion explaining the merits of the issues presented to the court by the taxpayers. On the one hand, if the IRS concedes all the amounts, and the Tax Court accepts that concession, there are no issues to be decided, there is no longer a number for the Tax Court to “redetermine.” Thus, any opinion would be simply advisory, dicta, non-binding...and potentially mischievous. On the other hand, the Tax Court does not have to accept the IRS concession. If the Tax Court rejects the IRS concessions, then a live issue remains to be resolved by the Tax Court.
Thus, whether the Tax Court issues an opinion on the merits in situations where the IRS says "my bad" turns on the Court's decision to accept the proffered concession. This is the Hotel California rule redux: you cannot get outta Tax Court without the Court’s involvement.
The case law shows that the Tax Court is just as concerned about the IRS gaming the system as are taxpayers. As an institutional litigant, the IRS has some significant flexibility in picking and choosing which cases it wants to take to Court and which cases it wants to avoid taking to Court. That means that the Tax Court sometimes will refuse to accept a proffered concession. While some taxpayers are also institutional litigants, many are one-off litigants.
For an example of where the Tax Court refused to accept the IRS concessions, Judge Gustafson refers to McGowan v. Commissioner, 67 T.C. 599 (1976). That case presented a legal issue about whether amounts withheld from the taxpayer’s wages for contribution to a state disability fund were deductible by the taxpayer. The IRS had dinged the taxpayer based on a legal position that it had adopted before the audit, but had begun reconsidering while the case was in Court. And it kept asking the Court to delay to give it time to reconsider. Eventually, the IRS told the Court it wanted to concede this particular case but, as in LTV, it did not want to concede the issue because the still unfinished reconsideration might not lead to a new understanding or interpretation of the law.
As in today’s case, the taxpayer there refused to agree to a stipulated decision incorporating the IRS concessions. It wanted the Tax Court to issue an opinion because the issue was a purely legal one and it was one that affected an entire class of taxpayers. Judge Dawson agreed that the Tax Court needed to opine on the issue. First, he noted that the IRS’s position had been erratic over the years and its supposed reconsideration of its latest interpretation of the law was dragging on and on. Thus, a Tax Court opinion on the merits of this purely legal issue would help the IRS do its job and would help taxpayers know what to do. Second, he agreed with the taxpayer that a Tax Court opinion was warranted because of the broad scope of taxpayers that would be affected by its decision. In short, because the IRS was not capable of giving reliable or timely guidance to taxpayers on this issue, the Tax Court believed an opinion was needed and therefore rejected the IRS’s attempt to concede the case.
But unless there are similar red flags, the general rule is that the Tax Court accepts the IRS concession and once it does that, the game is over. For that general rule, Judge Gustafson refers to L TV Corp. v. Commissioner, 64 T.C. 589 (1975). There, the IRS had also conceded a deficiency, but did not concede the underlying legal issue. The taxpayer there had agreed to the concessions but still asked the Court to issue an opinion on the disputed legal issue because the taxpayer believed the same issue might arise in subsequent years. The Court refused because the IRS concession as to amount gave the taxpayer a complete victory. That meant any opinion about the merits would be an advisory opinion affecting years not before the Court. The general rule, wrote the Tax Court, is that “courts will not gratuitously decide complex issues that cannot affect the disposition of the case before them,” 64 T.C. at 595.
Putting these cases together, Judge Gustafson follows the general rule and accepted the IRS concession. He first notes that the strong general rule cautions against advisory opinions and, hence, creates a presumption that the Tax Court will accept IRS concessions. Second, today's case did not present any red flags that would justify an exception. McGowan was an exception to that general rule and the current case was not. Here, the IRS was not dragging its feet on the concession. Here, the dispute involved a messy factual issue and not a clean legal one. Write Judge Gustafson: "this case, unlike McGowan, involves factual disputes that, as suggested by petitioners’ own projections, would likely require discovery.” Op. at 16. So there was no developed issue on which to issue an opinion.
Once Judge Gustafson accepted the IRS concessions, the case was over, the amount of the deficiency was set, there was no re-determination, and hence no need for any opinion in the case.
Coda: Note the irony here. The taxpayers actually DID get an opinion in the case. An opinion is just an explanation of the decision. Here, Judge Gustafson's order explains why the Court will not issue an opinion on the merits. Well, that sure looks like an opinion to me. It's just not the opinion the taxpayers wanted or thought they deserved. Welcome to the Hotel California.
Bryan Camp is the George H. Mahon Professor of Law at Texas Tech University School of Law. He invites readers to return each week for a new Lesson From The Tax Court.