A Botched CDP Notice Leads to a Timely 6404 Interest Abatement Petition

Sometimes cases arrive in Tax Court in the most unusual way, and the case of Estate of Sager v. Commissioner is one such case.  On February 17, 2017, the Tax Court entered an order determining that it did not have jurisdiction over the case for purposes of reviewing a Collection Due Process (CDP) decision by Appeals following an equivalent hearing but that it did have jurisdiction over the case for purposes of reviewing an interest abatement “final determination” made as a part of the CDP decision.  It is nice that the Estate of Sager got into the door of the Tax Court on the interest abatement issue.  Whether this will cause the IRS to argue in the future that documents not necessarily, or perhaps not clearly, intended to serve as final determinations of interest abatement will trigger the running of the statutory period for filing petitions for interest abatement remains to be seen.

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The tax year at issue in this case is 1997 and the return for that year was timely filed by the decedent, pursuant to extension, on July 27, 1998.  The IRS issued a notice of deficiency for that year on November 10, 2011.  I cannot determine from the order why the notice was timely but that does not seem to be an issue that concerned anyone.  A Tax Court petition was untimely filed in response to the notice of deficiency leading to the eventual assessment of $108,130.  Following assessment the normal collection actions took place, including the assignment of the case to a revenue office.  The revenue office eventually issued a notice of intent to levy on August 29, 2012; however, petitioner appears not to have filed a Tax Court petition in response to this notice.  On September 22, 2012, the revenue officer sent a CDP notice of filing the federal tax lien.  Petitioner did respond to the CDP lien notice and filed a request for a CDP hearing on October 24, 2012.

Petitioner noted in the request that more than 30 days had passed but asserted that the CDP notice was delivered to an invalid address.  In the end, the Tax Court determined that the CDP lien notice was sent to the wrong address.  Although the Court does not address the issue in the Order, the sending of a CDP lien notice to the wrong address raises an issue regarding the continued validity of the lien notice.  The IRS must send a CDP lien notice to the taxpayer within five days after the filing of the notice of federal tax lien.  What impact does sending an invalid notice have?  It seems that the Tax Court could never have jurisdiction over the CDP issues because of the invalid notice.  Because by the time the Tax Court gets to the issue of the validity of the notice and of the notice of federal tax lien almost a year from the filing of the petition had passed and because during that year the parties had resolved the lien issue, the Court did not dwell on the issue of the invalidity of the CDP notice.  The Internal Revenue Manual provides that, in general, if the IRS sends an invalid notice it must send a substitute notice and the Tax Court in Bongam v. Commissioner, 146 T.C. No. 4 (2016) held that a substitute notice of determination was proper after the mailing of an inappropriate motion..

Here, the address on the notice was the address at which petitioner’s former partner lived.  She brought the notice to petitioner on the 29th day after the notice was issued.  That did not provide the petitioner with enough time to file a timely request for a CDP hearing.  For notices of deficiency, the Tax Court has a rule that a notice mailed to the wrong address can become a valid notice if the notice makes it way to the taxpayer in time for the taxpayer to file a timely Tax Court petition.  Under that case law, learning of the CDP notice on the 29th day would not validate the CDP notice.  It is not clear that getting the wrongly addressed CDP notice to the taxpayer would save the CDP notice.  I will leave the issue for another post where the issue is clearly raised, but wanted to point out the issues lurking in this case before returning to the interest abatement determination.

When it received the untimely CDP request, the IRS gave the taxpayer an equivalent hearing.  During the equivalent hearing, the Settlement Officer (SO) considered the merits of liability and reduced the liability.  Because this action did not necessarily bear on the outcome before the Tax Court, the order gives few details that allow me to know how the taxpayer persuaded the SO to consider the merits.  It appears from the dismissal of the untimely petition in Tax Court of the effort of the taxpayer to litigate the notice of deficiency that the taxpayer had a prior opportunity to litigate the tax.  I surmise that the taxpayer was able to show the SO in a simple, straightforward way that the assessment was wrong and the SO was willing to address the issue even though not compelled to do so by the CDP process.  Les talked about this in a recent post in which the SO was unwilling to fix an easily recognizable mistake.  I have had spotty success seeking to get a merits adjustments from an SO where the taxpayer had a prior opportunity but the adjustment was easy to fix.  If I am correct about what happened here, it shows at least one SO who was willing to fix something simple and save the taxpayer time as well as other IRS employees.

The SO did not agree to abate interest.  The order does not describe why the taxpayer felt interest should have been abated.  Given the unusual timing of the issuance of the notice of deficiency, perhaps the lengthy delay in working the case had something to do with the request.  The taxpayer made a $50,000 payment during the CDP equivalent hearing process.  Because of the adjustments the SO made and the payment, the taxpayer essentially satisfied the liability; however, the SO issued a decision letter at the conclusion of the equivalent hearing setting out the adjustment to the tax and denying interest abatement.

The taxpayer filed a petition in Tax Court within 30 days of the issuance of the decision letter.  The IRS moved to dismiss since it had not issued a determination letter.  Essentially, it argued that the late filing of the request for a CDP hearing precluded the Tax Court from having jurisdiction.  The low income taxpayer clinic at Rutgers Law School entered the scene at this point and argued that the Tax Court had jurisdiction over the interest abatement aspect of the case.  The IRS conceded that the Tax Court “may” have jurisdiction over the interest abatement request while continuing to argument that it did not have jurisdiction over the CDP request.  The taxpayer argued that his case met the unusual conditions for treating a decision letter as a notice of determination and that the Tax Court did have jurisdiction over his case.  The Tax Court disagreed and distinguished this case from the very short line of cases holding that the Tax Court has jurisdiction over a CDP matter after the issuance of a decision letter.

While disagreeing with petitioner on the issue of jurisdiction over the CDP aspect of the case, the Tax Court held that the decision letter could serve as a final determination with respect to interest abatement.  In Gray v. Commissioner, the Tax Court previously held that a CDP determination letter could serve as the basis for a final determination regarding interest abatement.  The order in Sager takes the next logical step and holds that a decision letter can also serve that purpose.  The petition filed here came well within the 180 period after the notice of final determination.  The Court finds that “Respondent has not asserted nor proven that the decision letter was not meant to be a final determination on Mr. Sager’s interest abatement request.”  Therefore, the Court found it had jurisdiction to hear the interest abatement request and ordered the parties to file status requests regarding the interest abatement issue.

The order follows the Tax Court’s longstanding practice of finding jurisdiction in those situations in which the petitioner comes to the Court within the established time frames in the applicable statutes.  Not only had the Court made a similar holding regarding a CDP determination letter in the Gray case, but it has made similar decisions in other contexts as well.  I wrote recently about one in the whistleblower context.  The decision here allows the petitioner to move forward for a determination on interest abatement without going the more ordinary route of filing a Form 843.  This is good news for this taxpayer and good news generally unless the IRS can argue that this type of informal final determination precludes the taxpayer from seeking interest abatement if the taxpayer does not realize that the informal final determination closes the door when it goes unrecognized and the taxpayer does not act quickly in response to it.

Tax Court Holds that Points Paid on Interest Only Refinancing Not Deductible

This week in Singh v Commissioner the Tax Court in a summary opinion held that a taxpayer was not entitled to deduct the amounts paid in respect of points on a refinancing of a principal residence. Determining whether interest on a home is deductible is complicated by the reality that for many taxpayers information returns or settlement statements may not completely or accurately indicate the amount that can be deducted.

One such issue relates to when consumers are paying interest on a modified mortgage; as we have discussed before (see. e.g. a guest post by Dave Vendler discussing the issue and related litigation) the Form 1098 that most financial institutions issue does not reflect the amounts that were attributable to the accrued but unpaid interest at the time of the modification. This is an issue that is currently the subject of an IRS guidance project (a copy of the American Bankers Association and Mortgage Bankers Association comments on the proposed guidance can be found here). [As an aside I will moderate a panel discussion on that topic at the ABA Tax Section May meeting in DC as part of the Individual and Family Committee].

Singh does not involve a modified mortgage though does spin off of some of the challenges that many Americans faced following the great recession. In Singh the taxpayer refinanced two mortgages on his principal residence with an interest only loan that was for an indefinite period.

Part of the costs that Singh paid included points on the interest only refinancing. To the extent that the points represent interest taxpayers may deduct the points over the course of the loan (assuming of course that the interest is otherwise deductible). This sweeps in Section 461(g), which requires a cash basis taxpayer to amortize prepaid interest over the life of the loan, just as if the taxpayer were on the accrual method of accounting. Section 461(g)(2) provides an exception to the amortization requirement in 461(g)(1) and allows a taxpayer to deduct the payment of certain points if they were paid “in connection with the purchase or improvement of, and secured by, the principal residence of the taxpayer.”

For taxpayers who seek to refinance years after the original purchase or who do not use proceeds of a refinancing to substantially improve the residence, the immediate deduction exception in Section 461(g)(2) provides no help. When is a refinancing close enough to the original purchase to be eligible for the 461(g)(2) immediate deduction? There is a well-known 8th Circuit case from 1990, Huntsman v Commissioner, that provides guidance for taxpayers seeking a deduction for points. In Hunstman, the 8th Circuit allowed an immediate deduction, emphasizing that the taxpayer refinanced to extinguish short-term loans from the original purchase, rather than just seeking to get a lower interest rate or accomplish other financial goals. That connection in Hunstman allowed the taxpayer to take advantage of the Section 461(g)(2) exception on the points paid on the refinancing.

This brings us back to Singh. A refinancing arising (and points paid on that refinancing) many years after the original purchase differs from Huntsman. In addition, the Tax Court noted that Singh could not deduct the points even under the general Section 461(g)(1) authority, which treats the points as amortized over the life of the loan, as Singh’s loan was for an interest only loan for an indefinite period.

The upshot for Singh was no deduction, and accuracy-related penalties for good measure. This is a a good reminder that the deductibility of interest on residences is sometimes not just a matter of plugging in information off a form 1098 or settlement document.  I suspect there is a great deal of confusion and error in this area of the tax law.

Update on Issues Relating to Financial Institutions Underreporting Mortgage Interest to Millions of Consumers

One of the most viewed posts on Procedurally Taxing in the last year or so was one that discussed a lawsuit alleging that Bank of America intentionally and systematically understated millions of dollars in homeowners’ mortgage interest payments following loan modifications. Earlier this year the lead attorney on that lawsuit, David Vendler of Morris Polich & Purdy, wrote a two-part post An Update on the Lawsuit Against Bank of America for Failing to Issue Accurate Interest Information Statements. When we last heard about the issue the IRS was seeking input through the Industry Issue Resolution program. Today David tells us that that the IRS has terminated that IIR project and added it to its list of guidance priorities for 2016-17. The issue is one with major implications for millions of consumers. The bankers are obviously well-represented in the guidance process. As David discusses there is a strong need for IRS and Treasury to hear how financial institutions should be required to report the payment of interest payments following loan modifications and other transactions like short sales when consumers are effectively paying substantial amounts of interest but not receiving information from banks that would allow them to determine whether the interest is deductible. Les

To all of you tax professionals reading this, I need your help.  Some of you may recall my two-part post regarding whether 26 U.S.C. section 6050H requires lenders and mortgage servicing entities to report payments of “capitalized” mortgage interest they receive from borrowers on IRS Form 1098 so that the borrowers can then deduct those payments.  The issue literally involves billions and billions of dollars in mortgage interest deductions that millions of American homeowners are losing because of the failure of their mortgage servicers to properly report.  As described in my prior posts, the situation arises in the contexts of negative amortization/Option Arm loans as well as loan modifications.  It also, however, arises with short sales, which was not discussed in my prior posts.  (Basically, if you look at the 1099-C that the consumer receives following a short sale, you will note that box 2 (which requires the reporter to indicate how much of the debt being cancelled is mortgage interest) is generally left blank.  This means that all of the cancelled debt is principal.  This is correct since mortgage notes generally require allocation of payments to interest before principal.  But in the short sale context, while the banks and mortgage servicers are correctly reporting the amounts of debt being cancelled, they are not reporting the other side of the transaction on Form 1098, which is the amount of interest being paid from the sales proceeds.  This amount can be in the tens of thousands of dollars)

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Anyway, following my bringing lawsuits against certain banks arising from their failure to properly report their customers’ interest payments, the American Bankers Association and the Mortgage Bankers Association requested the IRS to address the issue.

In late December 2016 the IRS responded that it would address the issue via its Industry Issue Resolution (“IIR”) program.  This program, however, does not provide for public comment and I was afraid that the banks and the IRS would simply arrive at “guidance” that would conclude that section 6050H was ambiguous as to whether it required payments of capitalized interest to be reported.  This way, even if the IRS concluded that I was correct about the reportability of the interest, the banks could then use the “guidance” announcing that there was an ambiguity to “prove” that they did nothing wrong in not previously reporting  payments of capitalized interest.

In fact, however, there really is no ambiguity.  The law is very clear and can be stated in a single paragraph.  21 U.S.C. section 6050H unambiguously requires banks and mortgage servicers to report on Form 1098 the “aggregate” of all mortgage interest they receive in a year (if that amount is over $600).  The Supreme Court has held that “interest” unambiguously refers to money that has been charged for the use of money.  Deputy v. DuPont, 308 U.S. 488 (1940).  Case law further uniformly holds that payments of capitalized mortgage interest (whether in the loan modification context or the negative amortization loan context) are payments of mortgage interest that can be deducted in the year of payment.  See Copeland v. C.I.R., T.C. Memo. 2014-226, (capitalized pre-loan modification interest held deductible as mortgage interest in the year of payment); Smoker v. C.I.R., 2013 WL 645265 *6 (Tax Ct. 2013) (same holding in the negative amortization loan context) [note Les discussed Copeland on PT  here].  Since capitalization of interest does not change its character as interest (Motel Corporation v. Commissioner of Internal Revenue, 54 T.C. 1433, 1440 (1970)), payments of capitalized mortgage interest are part of the “aggregate” mortgage interest that banks and mortgage servicers “receive” and thus are required to be reported on Form 1098 by the plain and unambiguous language of section 6050H.  Indeed, it was for this very same reason why 26 CFR § 1.6050S-3(b)(1) specifically requires that payments of capitalized student loan interest be reported on Form 1098-S.  There is simply no logical distinction that can be made between the reportability of payments of capitalized student loan interest and capitalized mortgage interest.

After a bunch of submissions on my part to the IRS requesting to be included in the IIR process, the IRS has just last week declared that it is terminating the IIR process and will address the issue of the reportability of capitalized interest on Form 1098 by formal rulemaking.  I see this as very good news insofar as the public, including you, will have an opportunity to comment.  I further fully expect that whatever rule the IRS eventually publishes will be consistent with all of the law above since this was the conclusion the IRS reached on the reportability of student loan interest way back in 2004.  That said, I expect that there will be heavy pressure from the banks and mortgage servicing entities to push for a rule that is “prospective-only” as was done with the student loan interest rule back in 2004.  This will hurt consumers tremendously.  Banks should instead be required to issue corrected Forms 1098 to all consumers which will (retrospectively) inform them of the interest that was not reported to them and allow them to file an amended return (if the statute of limitations has not expired) to recover his/her deduction.  Further, if consumers are really to be helped, the IRS should include in its rule an exception to the statute of limitations (based on the fact that because of the bank’s misreporting, the consumer was unaware of the potential for amendment previously), or allow consumers to take the prior deductions in the current tax year.    There simply is no justification for a prospective-only rule precisely because the question of the reportability of payments of capitalized interest has already answered.  The mortgage industry just ignored that answer for the sake of reporting convenience.

So, what I would like from anyone who feels equipped to do so is to write to the IRS (prior to the official public comment period which comes after a proposed rule is formally announced) and let them know your thoughts.   Comments can be sent directly to Thomas.West@treasury.gov prior to the formal public comment period.  Further, if any of you have any questions, please address them to me at dvendler@mpplaw.com

Sixth Circuit Follows Second on Overpayment Interest for Not-for-Profit Corps

In late April of this year, I wrote a post on the Second Circuit case, Maimondies, where the Court determined if a not-for-profit corporation that was exempt from income tax under Section 501(c)(3) was a “corporation” for overpayment and underpayment interest rates.  The same issue was decided by the Sixth Circuit in August in United States v. Detroit Medical Center.

The issue in Detroit Medical is that “corporations” under Section 6621(a)(1) receive interest at a lower rate  that non-corporations on overpayments of tax.  The not-for-profit corporation had an overpayment of employment taxes paid on medical residents (exact same issue as Maimondies) and believed it should receive interest at the non-corporate rate.  Detroit Medical’s argument is based on a blend of policy arguments and statutory construction.   The IRS disagreed, arguing a corporation is a corporation, profit or not.  Here is the issue as stated by the Court:

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Consider our task today. The question at hand sounds simple enough: Should a nonprofit corporation be treated like a for-profit corporation when it comes to the interest it receives on overpaid taxes? Now consider the question in the context of the Internal Revenue Code:

(a) General rule:

(1) Overpayment rate. The overpayment rate established under this section shall be the sum of—

(A) the Federal short-term rate determined under subsection (b), plus

(B) 3 percentage points (2 percentage points in the case of a corporation).

To the extent that an overpayment of tax by a corporation for any taxable period (as defined in subsection (c)(3), applied by substituting “overpayment” for “underpayment”) exceeds $10,000, subparagraph (B) shall be applied by substituting “0.5 percentage point” for “2 percentage points.”

(2) Underpayment rate. The underpayment rate established under this section shall be the sum of—

(A) the Federal short-term rate determined under subsection (b), plus

(B) 3 percentage points.

. . .

(c) Increase in underpayment rate for large corporate underpayments

(1) In general. For purposes of determining the amount of interest payable under section 6601 on any large corporate underpayment for periods after the applicable date, paragraph (2) of subsection (a) shall be applied by substituting “5 percentage points” for “3 percentage points”.

. . .

(3) Large corporate underpayment. For purposes of this subsection—

(A) In general The term “large corporate underpayment” means any underpayment of a tax by a C corporation for any taxable period if the amount of such underpayment for such period exceeds $100,000.

(B) Taxable period. For purposes of subparagraph (A), the term “taxable period” means— (i) in the case of any tax imposed by subtitle A, the taxable year, or (ii) in the case of any other tax, the period to which the underpayment relates.

What starts as a basic question gets less basic the more one reads. Yes, this is a tax case. Some complexities—different rules for overpayments and underpayments, different interest rates for different taxpayers, some exceptions to some rules—come with the territory. But the first sign that the author of this provision was not thinking of his readers appears in the parenthetical of the flush paragraph: “To the extent that an overpayment of tax by a corporation for any taxable period (as defined in subsection (c)(3), applied by substituting ‘overpayment’ for ‘underpayment’) exceeds $10,000, subparagraph (B) shall be applied by substituting ‘0.5 percentage point’ for ‘2 percentage points.’” The meaning of this exception turns on a cross reference to another subsection that applies to the opposite form of payment mentioned in the first subsection but only for “C corporation[s],” not “corporations” in general.

The Sixth takes a strict statutory construction look at the statute, first determining if the entity is a “corporation”, finding if the statute does not specifically define a term fully then Congress intends to adopt its customary meaning.  The Court found “corporation” generally includes not-for-profit corporations, looking to Chief Justice Marshall 1819 holding in Trustees of Dartmouth College v. Woodward.  The Second Circuit had cited to this case, and, not to be outdone, the Sixth Circuit decided to look even further back through legal history, citing to the 1612 holding in The Case of Sutton’s Hospital where the nonprofit was treated as a corporation.  And, to the writings of William Blackstone in 1753, who listed three general types of corporations, including charitable or “eleemosynary” as he termed them.  The Court then looks to various places in the Code where charitable entities are referred to as corporations, and various other everyday uses of the term.

Finding the entity was clearly a “corporation”, the Court then looked to the hanging language and the reference to (c)(3).  There the Court held that the parenthetical modified only the taxable period, and not the remainder of the paragraph, so the c-corporation language did not modify (a)(1) to only apply to c-corporations.  The Sixth Circuit provides a lengthy discussion about why this is the correct statutory interpretation, which is similar to that in the Second Circuit holding.

The Court does note that this is a strange statutory design, to have the nonprofit receiving less interest than Warren Buffett, musing that perhaps Congress had not thought it through because nonprofits don’t pay income tax.

In the final paragraph, the Court does note that it is in agreement with the Second Circuit (the first reference to the case).  This is probably on appeal in other circuits at this point, as it appears there were a lot of nonprofit hospitals in the same position following Mayo.  As the Tax Court has previously held that the S-corporations were not subject to the lower rate based on the same provisions, there is at least some potential for another circuit to hold differently regarding not-for-profits, providing a split.  We shall see.

Seventh Circuit Reverses in King Interest Abatement Case

Last week the Seventh Circuit reversed the Tax Court in King v Commissioner, holding that the Tax Court was incorrect in concluding that the Service abused its discretion in not abating the late Mr. King’s interest that accrued on employment tax liabilities. We have discussed the case before, most recently with Carl reviewing the oral argument in Interest Abatement Based on “Unfair” Assessment and Stephen discussing the Tax Court opinion in A Pro Se King Royally Wins Interest Abatement on Employment Taxes

I will excerpt heavily from our prior posts and the Seventh Circuit opinion and offer a few observations.

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The Issue and Tax Court Resolution

As Carl and Stephen discussed, this was an odd interest abatement case, arising through CDP and applying Section 6404(a) rather than the explicit interest abatement provision found in Section 6404(e). The dispute centered on interest that the IRS charged that was attributable to unpaid employment taxes and in part erroneous information that the IRS had given King. An IRS employee told King it would grant him an installment agreement; it later decided that King’s collection potential was too high to warrant an installment agreement. King paid the tax but argued that he should not have paid the interest that ran from the date of the erroneous information about the installment agreement until his later payment as he would have paid earlier had he known he was not going to be given an installment agreement.

Carl discussed how the employment tax context took this case out of the explicit interest abatement regime in Section 6404(e) and how it came to Tax Court via CDP:

King is an employment tax Collection Due Process (CDP) case based on a notice of federal tax lien (NFTL).  The only issue left in the case on appeal is interest abatement under IRC § 6404(a).  That’s not a typo for § 6404(e).  § 6404(e) allows abatement of interest with respect to taxes that are deficiencies (income, estate, and gift), not employment taxes, where there have been unreasonable IRS errors or delays.  By contrast, § 6404(a) provides: “The Secretary is authorized to abate the unpaid portion of the assessment of any tax or any liability in respect thereof, which–(1) is excessive in amount, or (2) is assessed after the expiration of the period of limitation properly applicable thereto, or (3) is erroneously or illegally assessed.” While § 6404(a) abatement clearly authorizes abating tax, the IRS agrees that “any liability in respect” of the tax includes interest.

Stephen set out King’s argument and the Tax Court’s resolution of the case:

Mr. King claimed that the interest was excessive because of the various delays created by the IRS.  The Service position on this matter is that “excessive” is essentially a restatement of the third option of “erroneously or illegally assessed.”  The Service has lost on this matter before in the Tax Court in H&H Trim & Upholstry v. Commr, TC Memo 2003-9, and Law offices of Michael BL Hepps v. Comm’r, TC Memo 2005-138, so this is not breaking new ground, but good reinforcement of a taxpayer friendly ruling.  The Tax Court in the previous cases had interpreted “excessive” to “include the concept of unfairness under all of the facts and circumstances.”  A bit broader than simply erroneously or illegally assessed.   In H&H Trim, the taxpayer was able to show the interest would not have accrued “but for” the Services dilly-dallying.  In King, the Service argued that the prior case law was incorrect, but also argued that the taxpayer could have made a voluntary payment to stop the interest and was requesting an installment agreement, which would have incurred interest.  The Court essentially held that the taxpayer showed he would have perfected the installment agreement and paid it the underlying amount more quickly but for the IRS taking its sweet time and failing to follow its own IRM procedures in responding to the taxpayer’s IA request (albeit imperfect), and abatement was therefore appropriate.  As to the voluntary payment, the Tax Court stated that Section 6404(a) has no language barring abatement when a portion of the error or delay could have been attributable to the taxpayer (Section 6404(e) has that language).  Even if the taxpayer could have made the payment, the failure to do so did not alleviate the IRS’s requirement to abate

Seventh Circuit Reverses

In a relatively brief opinion, after getting over a mootness hurdle (King died shortly after the appeal was lodged) the Seventh Circuit reversed the Tax Court, giving three reasons:

The first is the vagueness of “unfairness” as a criterion for abatement; the word is an invitation to arbitrary, protracted, and inconclusive litigation.

Second, extending as it does an invitation to taxpayers to delay paying taxes, the nebulous standard of “unfairness” could result in a significant loss of tax revenues.

And third, we’ll see that the Tax Court’s approach is inconsistent with a valid regulation promulgated by the Treasury Department.

Judge Posner, no fan of vague standards or multiple factors, was explicit in his dislike of using unfairness as a standard and Tax Court precedent that so allowed:

Elaborating the first point briefly, we note the embroidery that the Tax Court, quoting from its earlier opinion in H & H Trim & Upholstery Co. v. Commissioner, T.C. Memo. 2003‐9, at *2, wove into its opinion in the present case on the basis of its touchstone of “unfairness under all of the facts and circumstances”—its belief that the “word ‘excessive’ takes into account the concept of what is fair, or more appropriate here, unfair,” and its approving references to a dictionary’s definition of “excessive” as “whatever notably exceeds the reasonable, usual, proper, necessary, just, or endurable” (what on earth is “endurable” doing in this list?) and to “just” as meaning “equitable” and “equitable” as meaning “fair.” This terminological potpourri can provide no guidance to taxpayers, their advisers, IRS agents, or the Tax Court. It’s a monkey wrench tossed into the machinery of tax collection.

The opinion also has a nod to Chevron and agency deference, as Judge Posner explains in discussing the third reason why the Seventh Circuit thought the Tax Court was wrong:

The Supreme Court has said that “filling gaps in the Internal Revenue Code plainly requires the Treasury Department to make interpretive choices for statutory implementation at least as complex as the ones other agencies must make in administering their statutes.” Mayo Foundation for Medical Education & Research v. United States, 562 U.S. 44, 56 (2011). The interpretive choice in this case is found in the regulation defining the statutory term “excessive in amount” to mean “in excess of the correct tax liability.” 26 C.F.R. § 301.6404–1(a), Treas. Reg. § 301.6404–1(a). As there is no indication that the IRS is misinterpreting its regulation, there is no need for us to consider the possible inroads that recent Supreme Court decisions have made into “Auer deference” (judicial deference to agencies’ interpretations of their own regulations), inroads discussed for example in Michael P. Healy, “The Past, Present and Future of Auer Deference: Mead, Form and Function in Judicial Review of Agency Interpretations of Regulations,” 62 Kansas Law Review 633 (2014).

Some Brief Thoughts

This was a case that mattered a lot to IRS for the broader precedent, as the amount of interest at issue was minimal. As Carl discussed, this case went up to the Seventh Circuit without the benefit of a taxpayer brief or oral argument. Some background on the interest abatement provisions makes this perhaps not as clear as Judge Posner concludes. In 1986, where Congress enacted the first interest abatement provision, Congress wrote then that it intended the provision at subsection (e) to be used in situations where an error or delay in performing a ministerial act resulted in the imposition of interest, and the failure to abate interest “would be widely perceived as grossly unfair”.  S. Rep. 99-313, 1986-3 (Vol. 3) C.B. 1, 208.  Later in 1998, Congress inserted the word “unreasonable” before “error or delay” to provide a judicial review standard, but did not say that the prior legislative history language about unfairness was now obsolete.  Indeed, in King, Judge Posner quoted from H & H Trim, which quoted a dictionary definition of “excessive” as including “whatever notably exceeds the reasonable” (i.e., is unreasonable).

If interpreting “excessive” in 6404(a) as “unfair” would be unworkable, it seems odd that “unfair” is exactly what Congress thought the courts should be looking to as a standard for review of interest abatement cases under Section 6404(e).  If he is correct that “the vagueness of ‘unfairness’ as a criterion for abatement; [is that] the word is an invitation to arbitrary, protracted, and inconclusive litigation”, then perhaps the opinion should discuss how such a criteria has operated for 30 years without a problem to tax administration in Section 6404(e).

It is possible that this is not the last of time we will see this issue. I am aware that practitioners have used an H&H Trim unfairness argument successfully at times with counsel to generate abatements, even on case involving income taxes. We will see whether the Tax Court will stick to its guns on this issue. The Service appeal and victory in this case is a pretty good indicator that the Service is now focused on and opposed to such arguments.

 

Federal Circuit takes Wells Fargo Stage Coach Down the Middle Path – “Same Taxpayer” for Interest Netting in Corporate Mergers

Just about two years ago, I wrote about the Court of Federal Claims holding in Wells Fargo v. United States, which can be found here.  The government took the case on appeal to the Federal Circuit, which handed down a very important decision regarding interest netting in the context of corporate mergers.  We discuss the ways the courts and IRS have wrestled with the netting rules in the updated Saltz/Book chapter 6, which  I recently revised and updated to include the latest developments, including the lower court holding (and, imminently, this holding).  A few other online outlets have covered this, but I think it is still worth adding our thoughts, even if a few weeks late.

The Federal Circuit’s holding was not as taxpayer friendly as the Court of Federal Claims holding, but it still is significantly better, and I believe more sound, than the IRS position on the matter.  I’ve recreated a bit of my prior post as background, which will be followed with a discussion of the Federal Circuit’s holding, including some helpful stripped down examples from the holding as to how the netting works:

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The Facts – Together we’ll go far…to get some tax benefits.

So, this case involves bank mergers (and lots of them) that Wells Fargo has been involved with over the last 15 years; all of which were statutory mergers.  Following the actual mergers is a little confusing, and the specifics of those mergers are not that important to the holding [sjo updated note: this statement is less true with the Federal Circuit holding, as you will see below].   What does matter is the issue, as stated by the Court, which was:

It concerns whether plaintiff…Wells Fargo…is entitled to net the interest paid on certain tax underpayments owed by Wells Fargo or its predecessor…First Union…, with the interest owed by the United States to Wells Fargo on overpayments made by First Union or other companies acquired by Wells Fargo through various corporate mergers.

Positions and the law.

Section 6621(d) was enacted in 1998 to allow overpayment and underpayment interest rates to be netted against each other at a zero percent interest rate when the “same taxpayer” has overpayments and underpayments of tax.  Corporate overpayments and underpayments, otherwise, would be at different rates.  The key issue before the court was the definition of “same taxpayer”.

Wells Fargo argued that the “same taxpayer” was both the predecessors and the surviving corporation of statutory mergers, so that the surviving entity could benefit from the tax attributes of all prior corporations.  The IRS argued for a more narrow view of “same taxpayer”, stating that a taxpayer is only the same if it has the same taxpayer identification number before and after the merger.

The Service had previously been successful with this position in Magma Power and Energy East, and had repeatedly taken this position in rulings and Counsel Advice.

And the Court of Federal Claims says…

The Court of Federal Claims took the taxpayer friendly, and I believe correct, approach to the issue, and held that a TIN is not fully determinative of legal status in the merger context.  The Court stated that because Energy East and Magma involved fully separate but affiliated corporations, they did not control the Wells Fargo case.  The Court further stated:

In a merger, the acquired and acquiring corporations have no post-merger existence beyond the surviving corporation; instead, they become one and the same by operation of law, and thereafter the surviving corporation is liable for the pre-merger tax payments of both the acquired and acquiring corporations.

As stated above, this went to the Federal Circuit, which affirmed the Court of Federal Claims in part and reversed in part.  As a brief summary, the Federal Circuit held TINs were not determinative, and neither was the fact that the two entities became one eventually. The key to the Federal Circuit was the timing of when the underpayment and overpayment occurred, which it indicated was the actual holding of Energy East.

The parties to the case agreed to three specific fact patterns, which the Court included in its holding.  I have taken out the specific names, but you can find those names and graphical reproductions of the same in the holding.  I think these will be helpful in explaining the holding.  The examples are:

  1. In 1993, Company A had an overpayment. In 1999, Company B had an underpayment.  In 2001, Companies A and B merged pursuant to a statutory merger under Section 368(a)(1)(A).
  2. In 1993, Company A had an overpayment. Between 1993 and 1999, Company A merged with four other companies under Section 368(a)(1)(A) and (2)(D).  Company A survived in each merger, and in 1999 had an underpayment.
  3. In 1992, Company A had an overpayment. In 1998, Company A merged with Company B under Section 368(a)(1)(A). In 1999, Company B, the surviving company, made an underpayment.

Each party largely advocated the same positions, although Wells Fargo incorporated much of the Federal Claims holding into its arguments.  Based on the TIN argument advanced by the Service, the Service conceded interest netting in example two above, leaving only examples one and three.

The Federal Circuit held that interest netting would not apply in example one, but it would in example three.   The Federal Circuit looked to its holding in Energy East for the analysis of the statute regarding the timing.  It stated the fact that “different corporations” generated the overpayment and underpayment was of less importance…depending on the timing.  Under Section 6621(d) the Court highlighted the language, “for any period…interest is payable…on equivalent underpayments and overpayments by the same taxpayer…”   Meaning, the two entities could not have been separate in the period where the underpayment and overpayment were generated subsequently brought together, but could be different if the sequence was the merger occurring prior to the later underpayment or overpayment.

The Federal Circuit held in example 1 above, Company A and Company B had their overpayment and underpayment each separately prior to the merger, when each was a distinct taxpayer.  In this instance, “the payments were both made before the merger, and thus the payments were made by two separate corporations…[and] do not meet the “same taxpayer” requirement under [Section] 6621(d).”  The subsequent unity does not invalidate the required timing to the Federal Circuit.

The holding in example 3 provided the most interesting analysis.  The question boiled down to whether pre-merger A was the “same taxpayer” as post-merger B,  more akin to Wells Fargo’s general position.  This analysis followed somewhat the Court of Federal Claims’ holding.  The Federal Circuit found that the legislative history, tax treatment in similar situations, and general laws of mergers leaned in favor of treating the acquired corporation being “absorbed” by the continuing one and stepping into its shoes.  This allowed the treatment as the same taxpayer for later underpayments/overpayments.  Company A had an underpayment, was then absorbed by Company B, which then had an underpayment – same taxpayer due to merger.

This is a very technical argument, and it will be interesting to see if the Service continues the TIN argument in other courts, as it has not met with much success and the Federal Circuit is fairly influential.  It is also interesting why, based on the holding in three, the eventual unity doesn’t cause the netting from the time of merger forward but not prior periods (perhaps it does, and I misunderstood the holding).  In any event, all corporations that have engaged in mergers should be going through and making sure interest netting has occurred in a minimum under examples two and three above (and possibly one if you are in a different circuit and like litigating).

Interest Abatement Based on “Unfair” Assessment

Frequent guest blogger Carl Smith writes about an interest abatement case recently argued before the 7th Circuit. The fact that it arises in a Collection Due Process case, that the taxpayer fully paid the liability yet continued with the interest abatement argument, that the Tax Court has found it has no jurisdiction to order a refund in a Collection Due Process case and that the taxpayer passed away before the 7th Circuit argument create an interesting backdrop for a potentially broad reaching interest abatement determination. Keith

This is an update to a case on which Stephen posted when the Tax Court rendered its opinion last July. Oral argument was heard in the Seventh Circuit in an appeal in the case on May 27, 2016.

King is an employment tax Collection Due Process (CDP) case based on a notice of federal tax lien (NFTL).  The only issue left in the case on appeal is interest abatement under IRC § 6404(a).  That’s not a typo for § 6404(e).  § 6404(e) allows abatement of interest with respect to taxes that are deficiencies (income, estate, and gift), not employment taxes, where there have been unreasonable IRS errors or delays.  By contrast, § 6404(a) provides: “The Secretary is authorized to abate the unpaid portion of the assessment of any tax or any liability in respect thereof, which–(1) is excessive in amount, or (2) is assessed after the expiration of the period of limitation properly applicable thereto, or (3) is erroneously or illegally assessed.” While § 6404(a) abatement clearly authorizes abating tax, the IRS agrees that “any liability in respect” of the tax includes interest.

In H & H Trim & Upholstery Co. v. Commissioner, T.C. Memo. 2003-9, the Tax Court held that interest on a tax liability could be abated under § 6404(a) when the amount seemed “unfair”, since anything that was unfair was “excessive in amount”.  In King, the Tax Court granted interest abatement under section § 6404(a) for a period of less than two months — involving, by my estimate, just over $200 of interest abated.  The government was so hopping mad about losing King (and the existence of H & H Trim), that it appealed King to the Seventh Circuit, arguing that § 6404(a) abatement could never apply to interest that was correctly calculated.  The government clearly doesn’t care about the $200 in this case, but wants to get a ruling from some appellate court that taxpayers can’t use § 6404(a) as an end run around the limitations in § 6404(e).  No other appeals court has ever considered interest abatement under § 6404(a).

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The taxpayer was an elderly solo practitioner lawyer who had one or more employees over a number of quarters that the IRS audited.  After the audit was completed and certain proposed adjustment amounts were reduced, the taxpayer agreed to the assessment of employment tax audit changes by signing a Form 2504 showing about $50K in tax and penalties for all the quarters combined.  Shortly before sending in the signed Form 2504, he sent two letters to the Revenue Agent saying he would like to pay in installment over 60 months, but not specifying the amount he proposed to pay each month.  The IRS assessed the employment taxes and penalties and led him to believe that he was going to be put on an installment agreement, but he never was.  After being referred to the Taxpayer Advocate Service (TAS) about a months after the date of assessment, TAS told him that the reason he was not put on an installment agreement was both because he had not stated the amount of monthly payment he wanted to make and he had to submit financial information.  When he did eventually submit financial information, the IRS concluded that he had enough assets to pay in full, if he would just sell off some illiquid assets.  So, the IRS did not give him an installment agreement.

The IRS filed an NFTL, and the taxpayer requested a CDP hearing in which he sought an installment agreement and sought abatement of the interest and penalties.  When the IRS denied him any relief in the notice of determination, he appealed to the Tax Court.  Early on during the case, though, he managed to get a reverse mortgage, and he paid off the tax, penalty, and interest assessments in full.  But, he did not concede that the CDP case was moot.  He still sought penalty abatement under § 6404(f) and interest abatement under §§ 6404(a) or (e).

In King v. Commissioner, T.C. Memo. 2015-36, the Tax Court first noted that it had no overpayment jurisdiction in CDP, citing Greene-Thapedi v. Commissioner, 126 T.C. 1, 12 (2006).  So, the CDP portion of the case in which the taxpayer had, in his petition, complained about not getting an installment agreement was now moot.

Next, the court noted that under its jurisdiction at § 6404(h), it can only resolve disputes about interest, not penalties.  Thus, it had no power to review the IRS’ failure to abate penalties under § 6404(f).

Third, the court noted that interest abatement under § 6404(e) couldn’t apply in King’s case because that subsection does not apply to employment taxes, only such taxes that can give rise to a “deficiency” — i.e., income, estate, gift, and certain excise taxes.

However, the court considered the notice of determination in the case as one denying interest abatement under § 6404(a) — over which the court had jurisdiction — even though at this point, the taxpayer, if successful, would be getting a refund.

King sought interest abatement for three different periods, citing H & H Trim for the proposition that interest should be abated if it was “unfair” under the circumstances.  The IRS argued that H & H Trim was incorrect and that interest abatement under § 6404(a) should only be done if there was some procedural defect in its assessment, the assessment was late under the statute of limitations, or the numerical calculation of the interest was excessive.

The Tax Court stuck by its H & H Trim ruling and gave interest abatement for one of the three periods.  In the period in which King was successful, the Tax Court held that it was “unfair” for interest to accrue from the date of assessment of the liabilities to the date the TAS employee explained to the taxpayer that the taxpayer needed to supply financial information.  The court thought that the IRS employee who originally told the taxpayer that he was going to get an installment agreement should have communicated the problems with the original proposal on or before the date of the assessment.

Even though the amount of interest abated here was only about $200 by my estimate, the DOJ filed an appeal with the Seventh Circuit, wanting to nip in the bud other taxpayers arguing for interest abatement under § 6404(a) simply because the amount assessed was “unfair”.  No Circuit court has ever ruled on this issue.  H & H Trim had not been appealed.  Nor had the IRS appealed another Tax Court opinion that followed H & H Trim, Law Offices of Michael B.L. Hepps v. Commissioner, T.C. Memo. 2005-138.

In the Seventh Circuit, before any briefing was done, the taxpayer died.  His wife, who was not a party to the case, was invited to take over in the case for him, but she did not respond to a letter from the Seventh Circuit.  So, only the DOJ filed a brief.  On May 27, 2016, a one-sided oral argument was held before a three-judge panel that included Judge Posner.  The audio of the oral argument is freely available on the Seventh Circuit’s website, Docket No. 15-2439.

Judge Posner was the only judge who asked questions. His main concern was to give meaning to the words “excessive in amount” in § 6404(a)(1) that was independent of “is erroneously or illegally assessed” in § 6404(a)(3). The DOJ attorney argued that “erroneously or illegally assessed” might mean that internal steps to authorize assessment had not been completed – i.e., procedural defects other than the statute of limitations – while “excessive in amount” might mean, in the case of interest, that the wrong rate or time period had been used in the calculation, leading to an excessive amount of interest having been assessed. Thus, there was no need to interpret “excessive in amount” as “unfair”.

Judge Posner also got into a colloquy with the DOJ attorney about the interplay between §§ 6404(a) and (e).  Although this was not a case where § 6404(e) interest abatement could have applied (since subsection (e) doesn’t apply to employment taxes), the attorney warned that if subsection (a) (which could apply to any tax) applied to “unfair” assessments of interest, then a person who, say, was seeking interest abatement under subsection (e) for interest on income taxes could use (a) abatement as an end run around the limitations of (e) that (1) prevent abatement where a taxpayer contributed to the delay and (2) limit interest abatement to cases of unreasonable errors or delays in IRS employees performing ministerial or managerial acts.

It sounded like the DOJ attorney cleared up all of Judge Posner’s questions, but I am not positive that the IRS will win this case.

 

Non-profits, Corporate Interest Rates, the Birth of a Blog, and Lite Mayo

This post is about the recent Maimondies case from the Second Circuit, and what is a “corporation” for corporate interest rates, but it will be helpful to take a quick detour to review the underlying issue in the Mayo Foundation case, as it sets up the issue before the Second Circuit in Maimondies.  Most of the focus on Mayo Foundation v. US, at least on our blog, was on the procedural aspects of the case, but there was an important substantive issue underlying the challenge to the regulations, which I sometimes forget about.  The issue was whether or not medical students who worked more than 40 hours a week were ineligible for an exemption to FICA taxes. Treasury issued regulations in 2004 saying such students were not exempt, and FICA taxes had to be withheld.  The Supreme Court upheld the regulations (although perhaps a bittersweet victory for the Service, as the holding may have eroded at the notion of tax exceptionalism in administrative law).  After the SCOTUS win, the Service decided to allow refunds for claims of tax that was paid prior to the effective date of the 2004 regulations, April 1, 2005.

Maimonides Medical Center is a nonprofit (under Section 501(a)/501(c)(3)) corporation running a teaching hospital near Prospect Park in Brooklyn, which had one such claim.  It, like all similar institutions, had many med students/residents that fell into this exception to the exception to the FICA taxes.  I am sure MMC is very humane, and those residents worked barely over 40 hours a week, but whether just one hour over, or more likely sixty hours over, the exception to the exemption was implicated.  In 2010, the IRS agreed that MMC could obtain a refund for the FICA taxes from 1999 through the beginning of 2005, prior to the effective date of the regulations.  MMC had previously timely filed a refund claim, which remained outstanding until that date.

The Service calculated the refund, and the interest due.  MMC was cool with the calculation of the refund amount of tax, but disagreed with the IRS interest calculation- probably feeling a bit like the Service was trying to screw them on the interest rate, while they were trying to save the non-hipster Brooklyn residents (I assume they aren’t serving hipsters, because this is close to Park Slope, which is too expensive for hipsters).  Why, because it was getting next to nothing in interest, similar to a Fortune 100 company that had overpaid, and much less than a nonprofit LLC that had overpaid the same amount.

Another quick, but very important, side note. A couple of years ago, when LBJ was President, Robert Wagner was busting up Tammany Hall in NYC, and The Zombies had a #1 hit in She’s Not There, a truly wonderful woman gave birth to a baby boy at MMC, and took him home, where he grew up close to the family’s Book Lumber Yard (which definitely was not serving hipsters at the time).  So, MMC was essentially the birthplace of this blog.  Of greatest importance, a lot of people are missing that woman this week, and our love, thoughts, and prayers go out to the entire Book family.  Hopefully, all of this hasn’t made me too biased towards MMC’s position.

The key issue is that the IRS applied the corporate interest rates, specifically the large corporate overpayment rate, to the overpayment, instead of the more friendly non-corporate interest rates.  We touched on this case in SumOp when it was at the District Court level, where I wrote:

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[MMC] argued it was not a corporation for purposes of the overpayment interest rate under Section 6621…[and] that the Service IRM indicates that “corporations” are defined by the return they file, which does not include not-for-profits, and the Service has previously issued refunds using the non-corporate rate.  The Court stated the IRM cannot be used as precedent, or trump other regulations that would indicate the contrary.   [MMC] also argued that the check-the-box regulations were not clear on the classification of it as a corporation, so it should be afforded “special treatment”, which is allowed in limited circumstances. The Court did not find this persuasive, and held it was a business entity, the default treatment of which was a corporation.

That quick blurb did not really do justice to the underlying issue, which, especially on appeal to a Circuit Court, is worth some additional time.  Here, the question of what is a corporation for interest rates actually hinges on interesting statutory construction more so (at least to the Circuit Court) than policy, although that also comes into play.  Before looking at the holding and rationale in MMC, a quick review of the applicable interest rate rules would be helpful.

Section 6621 outlines the applicable rates, and when each applies, and states, in pertinent part:

(1)  Overpayment rate.

The overpayment rate established under this section shall be the sum of—

(A)  the Federal short-term rate determined under subsection (b) , plus

(B)  3 percentage points (2 percentage points in the case of a corporation).

To the extent that an overpayment of tax by a corporation for any taxable period (as defined in subsection (c)(3), applied by substituting “overpayment” for “underpayment”) exceeds $10,000, subparagraph (B) shall be applied by substituting “0.5 percentage point” for “2 percentage points”. [emph. added].

(2)  Underpayment rate.

The underpayment rate established under this section shall be the sum of—

(A)  the Federal short-term rate determined under subsection (b) , plus

(B) 3 percentage points.

This is somewhat complicated by Section 6621(c)(1), which deals with large corporate underpayments, and states:

(1)  In general.

For purposes of determining the amount of interest payable under section 6601 on any large corporate underpayment for periods after the applicable date, paragraph (2) of subsection (a) shall be applied by substituting “5 percentage points” for “3 percentage points”. [emph. added].

And, the definition of large corporate underpayment, is found under Section 6621(c)(3), and states:

(A)  In general. The term “large corporate underpayment” means any underpayment of a tax by a C corporation for any taxable period if the amount of such underpayment for such period exceeds $100,000. [emph. added].

As stated above, the underpayment rate for corporate and non-corporate taxpayers is different, and large corporate underpayment and overpayments have another set of interest rates.  It seems pretty clear (at least no one has litigated it yet), that individuals, trusts, estates, partnerships, and LLCs are all not corporations, and subject to the non-corporate interest rates.  Where it gets complicated is whether the corporate interest rates apply to s-corporations, not-for-profit corporations, and c-corporations, and whether that occurs just in small overpayments/underpayments, or also in large corporate overpayments or underpayments.

For a large corporate underpayment, the answer seems to be clear in the statute, as it specifies in the definition that it only applies to c-corporations.  So, what does corporation mean otherwise?  In this post, we will just cover MMC and the treatment of non-profit corporations,  but the analysis is probably instructive with s-corporations, where the case law is currently somewhat split, an issue we describe in some detail in Saltz/Book in Chapter 6, a chapter I had a major hand in rewriting about a year or so ago.  See Eaglehawk Carbon Inc. v. US, (Fed Cl. 2015); Garwood Irr. Co. v. Comm’r, 126 TC No. 12 (2006).

In Maimonides Medical Center v. United States, MMC argued that “corporation” under Section 6621(a)(1) should be restricted to only refer to a for-profit corporation, largely on policy grounds that a non-profit should be subjected to the more taxpayer friendly provisions.  Further, it argued that it was arbitrary to treat a nonprofit corporation differently from a nonprofit operating as another entity, such as a trust or LLC (which is true, but there are lots of arbitrary Code provisions).  The Second Circuit was not persuaded by these arguments, and held that a not-for-profit corporation was still a “corporation” under the general dictionary definition, and the definitional provisions of Section 7701(a).  In addition, the Second Circuit found there were various other Code Sections where the term corporation applied to both for profit and not-for-profit corporations, and, absent language indicating otherwise, it was appropriate to treat a not-for-profit corporation as a “corporation” under Section 6621 (with the exception of a large corporate underpayment, which is restricted to only C-corporations).   I do not question the analysis on this point, but I do wonder if the drafters actually intended to have a corporation exempt under 501(c)(3) burdened by the less favorable interest rates.  I am not sure the reasoning for such a policy.

The Court then turned to the large corporate overpayment issue, which is more complicated and interesting, and where the MMC argument is the same general argument that s-corporations have made claiming they should not be subject to the less favorable large corporate overpayment interest rate. Section 6621(a)(1)(B) provides the overpayment rates for normal overpayments and for large corporate overpayments, and uses only the term “corporation”.  The hanging paragraph at the bottom, however, makes reference to Section 6621(c)(3), dealing with large corporate underpayment, and states:

To the extent that an overpayment of tax by a corporation for any taxable period (as defined in subsection (c)(3), applied by substitute “overpayment” for “underpayment”) exceeds $10,000, [the interest rate] shall be applied by substituting “.05 percentage point” for “2 percentage points”.

As stated above, Section 6621(c)(3) defines “large corporate underpayment” as “any underpayment of a tax by a C corporation for any taxable period if the amount of such underpayment for such period exceeds $100,000.” (emph. added).   MMC argued the that the parenthetical in Section 6621(a)(1)(B) modified the term “corporation” to be restricted to C-corporation due to the reference in Section 6621(c)(3), but the Court disagreed, and held that the parenthetical modified only the term “taxable period”, which was immediately before the parenthetical and defined under Section 6621(c)(3)(B).  The Second Circuit indicated this was the more appropriate statutory construction based on the placement of the modifier, and the use of the term “corporation” throughout Section 6621(a) without designation.   However, as also indicated above in Garwood Irrigation v. Commissioner, the Tax Court reviewed this same hanging paragraph, and come to the conclusion, based on the statute and the legislative history, that “corporation” was intended to apply only to S-corporations, and not S-corporations for these purposes.  So, the law in this area is unsettled.

It is probably safe to assume that an S-corp will be treated as a corporation for the normal corporate overpayment and underpayment rates, and a not-for-profit may also.  The Service will certainly treat them as such.  For large corporate underpayment, it appears only c-corporations are stuck with the higher rate.  For large corporate overpayments, the trend is to include all types of corporations, but there is a split on the interpretation of that hanging paragraph.  I’m sure we will see more to come.