A Brief Look At Section 7805(b)

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We welcome back Monte Jackel, Of Counsel at Leo Berwick, who returns to discuss regulations that are made public but that are not published in the federal register prior to the end of a presidential administration. Les

Section 7805 was amended as part of the second Taxpayer Bill of Rights in 1996, P.L. 104-68, JCS-12-96, p. 44. Subsection (b), headed “Retroactivity of regulations”, describes the circumstances where retroactivity, that is where a “taxable period”, an undefined term, cannot be subject to a regulation filed or issued before certain dates, is permitted. Section 7805(b)(1)(A) references the date the regulation is filed with the Federal Register. The date of filing is a clearly known term given that the Office of the Federal Register uses that term as the date the document is available for public inspection before it is published there. Section 7805(b)(1)(B) also uses the filing date with the Federal Register to set the retroactivity that is permitted. However, section 7805(b)(1)(C) uses the term “issued” to the public when referencing the permitted retroactivity. That term is not defined although 5 USC 552(a)(1) (the APA) requires federal agencies to publish their regulations in the Federal Register. The term “issued” is not used there. Section 7805(b)(2), relating to promptly issued regulations, references the term “filed or issued” but defines neither. The legislative history does not add anything to this either. However, it is probably safe to assume that “issued” means “published”. 

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There has been some commentary recently about the upcoming change in administrations and what happens to regulations that are made available to the public before they are filed with the Federal Register but are not published there by the time a new incoming administration orders that all regulations not yet published (and maybe even those that are) be returned to the issuing agency. Attached at the end of this post is the text of a letter to the editor that I recently published in Tax Notes describing some of these issues. 

The practice of the IRS and Treasury releasing to the public a copy of a regulation with a disclaimer at the top of the first page saying that only the copy published in the Federal Register is the legal copy, should be discouraged. I can find no provision in either the Internal Revenue Code or the APA that authorizes this practice or gives any legal significance to it. And while this is not the first time in our history that presidential orders of a new administration put a “freeze” on the publication of regulations to evaluate them first, this practice only adds to the natural confusion created when a new administration takes power. The situation is exasperated when the text of the regulations are made available to the public but those regulations do not apply to any taxable period beginning before the regulations are published. What positions do taxpayers take in the interim. 

I think there should be a new federal statute that prohibits the issuance of regulations within 60 to 90 days before a new administration comes on board absent “extreme need” or other such standard, which is subject to review later. Alternatively, a new statute could describe the legal impact of these regulatory freezes. I much prefer the former. What do others think?

Text of Letter to the Editor, “Potential Danger of Making Public Pre-Release Versions of Regulations”
170 Tax Notes Federal 299, Jan. 11, 2021

To the Editor:

The Office of Information and Regulatory Affairs website says that the final section 163(j) regulations were released from OIRA on December 30, 2020. These regulations were, based on past IRS practice, posted on IRS.gov on January 5, 2021. Under the Congressional Review Act, the final regulations state that they will be effective on the date filed with the Federal Register. That date was either yesterday or today or will be shortly thereafter. But those regulations may not make it to be published in the Federal Register by January 20. That day, or the next day or so by the latest, a presidential executive order will be issued by the new administration ordering the Federal Register to return regulations not yet published there.
Emily L. Foster addressed the issue in her story last week [in Tax Notes] titled “Final Interest Regs Provide Clarifications for Taxpayers” but the story is a bit misleading when it discusses what happens if the regulations are pulled back by a new administration before they’re published in the Federal Register. It’s true that the regulations are effective on the date filed with the Federal Register under the CRA (assuming that the explanation given for the expedited effective date by the IRS stands up to challenge if it comes to it). That date was either January 5 or 6, or will be shortly thereafter.

But that only means that the regulations are legal documents upon filing with the Federal Register. However, the applicability date of the regulations is for tax years beginning on or after 60 days from the date of publication in the Federal Register. If the regulations are never published or publication is delayed for months, the regulations will not be mandatorily applicable to taxpayers and neither will the proposed regulations.

However, the final regulations state that taxpayers can elect to apply the final regulations to periods before they are applicable. Also, the final regulation preamble (but not the text of the regulation) says that prior to the applicability date, taxpayers can apply the proposed regulations instead. In addition, the final regulation preamble (but not the text of the regulation) states that if there is a rule from the proposed regulations that is not in the final regulations, taxpayers can nevertheless apply the proposed regulation rule until final regulations are published at a later date that deal with the omitted items. It is unclear what happens if the final regulations are never published in the Federal Register. In other words, can taxpayers rely on the proposed omitted items forever like they have for the proposed section 465 regulations (since the late 1970s)?

Eric Yauch wrote about the omitted items and other partnership rules in the final regulations in a story titled “Trading Partnership Approach Remains in Final Interest Regs”. The omitted rules from the proposed regulations were, principally, the creation of inside tax basis “out of thin air” upon a complete redemption of a partner and the application of section 734(b), and all the tiered partnership rules.
The latter rules were incoherent and difficult to follow and apply, even for partnership experts. But the final regulation preamble (but not the regulation text) says if a rule is omitted from the final regulations that was in the proposed regulations, a taxpayer can apply the proposed rules anyway.

That action could end up with the omitted rules being like the proposed section 465 regulations, which, as noted, have been proposed and not finalized since the late 1970s. This “can rely on the omitted rules” rule will literally be the case even if the final regulations are never published in the Federal Register or are published months from now. In the interim period before the omitted rules are addressed and finalized in one form or another, taxpayers are not obligated to apply the missing omitted rules from the proposed regulations, but they will have to apply a reasonable approach based on the statute and its legislative history.

Since the IRS does not explain why the omitted rules were not finalized, what other approach would be considered reasonable? Would a pure aggregate approach to tiered partnerships suffice? Can there be a situation when the “create basis out of thin air rule” applies without relying on how the proposed regulations handle that rule? How long will it be until these issues are resolved, if ever? The final regulation preamble states only that the partnership rules continue to be studied. Although that explanation sounds good, it’s probably truer to say that the omitted rules had technical and other issues and that the IRS could not figure out what changes should be made. They then ran out of time because the IRS powers that be wanted the final regulations pushed out the door before the new administration comes into power.

Is this course of behavior by the current IRS and Treasury advisable? The other regulations now pending at OIRA may also get posted to IRS.gov by January 20, but it is unlikely that those regulations will make it out as published in the Federal Register by that date. The section 1061 carried interest regulations come to mind. [Those regulations ended up being released to the public after this letter was submitted to Tax Notes]. That means that all those pre-publication regulations will most likely not be mandatorily applicable to taxpayers for months, if ever. Taxpayers can elect to apply those unpublished rules in the interim, but they don’t have to. Why do this?

In other words, if the OIRA-reviewed regulations have already been returned to the IRS, they may end up being a set of pre-publication regulations posted on IRS.gov which has, as a matter of law, absolutely no legal effect unless taxpayers elect that they apply. But what if they don’t so elect?

Such is the case with the section 163(j) final regulations. And it will be a race for other federal agencies to get their regulations filed and then published in the Federal Register by no later than the close of business on January 19, the day before inauguration day. If not, the same mess as with section 163(j) applies.

If pre-publication regulations that have been publicly released don’t make the January 19 Federal Register publication date, there will, as noted, be an executive order by the new administration shortly thereafter sending all unfiled and/or unpublished regulations back to the agency issuing them. At this point, it will likely be months before activity occurs on those regulations.

In the interim, how many taxpayers will gamble on the “new rules” that would apply to them once the regulations are resubmitted to the Federal Register by the new administration, and how many taxpayers will just apply the proposed regulations? Is it even safe to assume that the statements made by the current administration in the final section 163(j) regulations (that taxpayers can rely on those rules today) will not be changed by the new administration?
That latter action would be the height of unfairness but what stops a new administration from doing so? At that point, the Administrative Procedure Act would come into play in terms of how to render uneffective those regulations deemed effective by the good cause exception under the CRA? Would it be revocation and reissuance, or would it just be revocation under the CRA?
Is this good or bad tax policy for the current administration? To me, the answer is that it is resoundingly bad. What do others think?

Comments

  1. Robert Kantowitz says

    This is a subset of a larger problem with which we have been living for decades now. I am in practice long enough to remember the time when it was almost universally accepted that neither new legislation nor new regulations would be effective until passed, or even until the following year. Rushing effective dates may scratch the government’s itch but vexes taxpayers, often with scant benefit to the fisc. A change of Administration and/or the release of a complicated package of proposed regulations will always present the special problems that Monte outlines, unless two unwavering rules are imposed either by statute or by common decency on the part of Treasury. First, no regulation should be effective until 60 days after it is finally published in the Federal Register. Second, to the extent that Treasury allows taxpayers to rely on the provisions of regulation before that, or on the provisions of a proposed regulation, the taxpayer should have absolute comfort that that will not be taken away. I do not remember the citation, but I seem to recall, from way back during the time if one of the failed § 385 regulation projects, a case in which a taxpayer relied on a proposed regulation and was upheld by the court even though the regulation was never finalized. And, if you think about it, that makes sense. If at any given time there is a regulation that has not yet been finalized, it is far more then a policy trial balloon floated by Treasury. It is a statement of what Treasury believes is the proper interpretion of the law. It lies within Treasury’s authority to allow or not to allow taxpayers to rely on that before it is mandatory. but if so, it is a matter of simple equity to say that the taxpayer, with the encouragement of Treasury, relied on what appeared at the time to be the best statement of how Treasury is interpreted the statute and that that should not be disturbed.

  2. Does anyone have any information on how to pursue an Offer-in-Compromise action, based upon 24 month “ageing” of an OIC? IRS regs don’t provide any procedures to follow, if/when IRS fails to act on an OIC, within 24 months of accepting the OIC, for processing. The regs only indicate that the OIC shall be deemed accepted as a matter of law [IRS Form 656, Section 8].

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