News reports have suggested that the Obama Administration may look at reviving the idea of adopting a general tax anti-avoidance rule. Versions of such a rule have been proposed in legislation in recent years, but not enacted. Before either the Administration or taxpayers dig in their heels on any new proposal, though, the question of a U.S. GAAR should be placed in perspective.
We Have Gotten Along This Far . . .
When you think about it, it is rather amazing that it has never occurred to Congress (until recently), and apparently has never occurred to the Treasury at all, to enact or adopt in regulations a general anti-abuse rule. Given all of the case law on the subject, one might have expected a regulation under, say, section 1 or section 7805, stating something like what appears in Reg. section 1.269-2:
Under the Code, an amount otherwise constituting a deduction, credit, or other allowance becomes unavailable as such under certain circumstances. Characteristic of such circumstances are those in which the effect of the deduction, credit, or other allowance would be to distort the liability of the particular taxpayer when the essential nature of the transaction or situation is examined in the light of the basic purpose or plan which the deduction, credit, or other allowance was designed by the Congress to effectuate. The distortion may be evidenced, for example, by the fact that the transaction was not undertaken for reasons germane to the conduct of the business of the taxpayer, by the unreal nature of the transaction such as its sham character, or by the unreal or unreasonable relation which the deduction, credit, or other allowance bears to the transaction. . . . [here cases are cited]
Doesn’t the existence of this regulation, under one code section authorizing it in relation to one type of taxpayer and one—albeit broad—set of circumstances, suggest that the same principles do not apply generally in the code?
And yet the courts regularly act as if they think they do. Evidently, the push to enact a broader rule agrees that, if the courts are going to enforce such rules, they may as well be stated in one place as clearly as possible so that everyone will know what they are dealing with. In that regard, the proposal may make some sense. But would the courts pay attention?
Section 269: A Cautionary Tale
Even if Treasury has not felt it had the authority to adopt any such generally applicable regulation, it surely had the authority to adopt the section 269 regulation above. Nevertheless, section 269 and its regulations have been pretty much a bust.
Case law under the section, and various IRS pronouncements on “tax shelters” and IRS litigating positions in cases, indicate that the IRS (and the Justice Department) frequently do not actively rely on section 269, and the courts do not often support them when they do. On the other hand, the courts seem very feisty about their own judicially created doctrines that are akin to section 269. Indeed, those doctrines are what the section 269 regulation was based on.
Do proponents of a GAAR think that codifying the judicial doctrines could be done in a way that is “better” than Reg. section 269-2, and that would wean the courts away from their own doctrines? That is not likely to occur, particularly if the new code section is said to be based on the doctrines, and any regulations written under it cite the cases, as does the regulation quoted above. Could the new rule have the perverse effect of driving the courts away from applying the rule, just as they have not applied section 269? Or would the courts go on as before and apply their doctrines and ignore the new rule?
Laying Out a Trap for Wary Taxpayers to Avoid?
Up until now, the Treasury has been opposed to enactment of a GAAR. The thinking seems to be that chief counsel is doing just fine with the litigation of tax shelters, and the more confusion and less clarity of principles the better, as long as the courts are leaning toward the government. This translates into potential tax avoiders not clearly knowing exactly where the straight and narrow lies.
That is just not a fair premise for an honest government. Maybe it works for catching spies, but it does not work for collecting tax, unless you think that increasing collections is the “be all and end all.” The chief counsel is not supposed to think that, as stated in the still-effective Rev. Proc. 64-22:
… it is the duty of the Service to carry out that policy by correctly applying the laws enacted by Congress; to determine the reasonable meaning of various Code provisions in light of the Congressional purpose in enacting them; and to perform this work in a fair and impartial manner, with neither a government nor a taxpayer point of view.
At the heart of administration is interpretation of the code. It is the responsibility of each person in the Service, charged with the duty of interpreting the law, to try to find the true meaning of the statutory provision and not to adopt a strained construction in the belief that he is “protecting the revenue.” The revenue is properly protected only when we ascertain and apply the true meaning of the statute.
Contrast Other Regulations
In contrast, see a regulation recently issued under the Federal Investment and National Security Act of 2007. It sets up a procedure for the Treasury to review all acquisitions of control of U.S. businesses by foreign persons for national security concerns.
31 CFR §800.104 states an anti-avoidance rule: “Any transaction of other device entered into or employed for the purpose of avoiding section 721 shall be disregarded, and section 721 and the regulations in this part shall be applied to the substance of the transaction.”
We know that rule could not be applied to tax, because planning to reduce taxes is blessed by many Supreme Court opinions. The difference is that not paying taxes that you don’t owe is not a threat to national security or anything else, as Rev. Proc. 64-22 states.
If the chief counsel is to continue to rely on vague court-made doctrine rather than the code and regulations, such as section 269, to pursue taxpayers, then perhaps there is some merit in codifying those doctrines so that we can all know what they are, and the courts can be constrained in their activities. However, first the Treasury might do well to inventory the tools it has, and ask why they have not and cannot serve the same purpose as a GAAR.