CIC Servs. v. Internal Revenue Serv.
| Docket Number | 3:17-CV-110-TRM-JEM |
| Decision Date | 12 July 2023 |
| Parties | CIC SERVICES, LLC, Plaintiff, v. INTERNAL REVENUE SERVICE, et al., Defendants. |
| Court | U.S. District Court — Eastern District of Tennessee |
REPORT AND RECOMMENDATION
This case is before the Court pursuant to 28 U.S.C. § 636 the Rules of this Court, and the Referral Order [Doc. 151] of Chief United States District Judge Travis R. McDonough.
Now before the Court is the Renewed Motion for Attorney Fees Pursuant to 28 U.S.C.§ 2412 [Doc. 149], filed by CIC Services, LLC (“Plaintiff”).[1] The Internal Revenue Service (“IRS”) responded in opposition to the motion [Doc. 155], and Plaintiff replied [Doc. 158]. The motion is ripe for adjudication. See E.D. Tenn L.R. 7.1(a). For the reasons explained below, the undersigned RECOMMENDS that the Chief District Judge DENY Plaintiff's motion [Doc 149].
Congress requires taxpersons to provide the IRS with certain information regarding a reportable transaction. 26 U.S.C. § 6707A(c)(1). A “reportable transaction” is “any transaction with respect to which information is required to be included with a return or statement because, as determined under regulations prescribed under section 6011, such transaction is of a type which the Secretary determines as having a potential for tax avoidance or evasion.” Id. The Secretary of the Department of Treasury (“Secretary”) has the authority to “prescribe regulations which provide[] . . . such rules as may be necessary or appropriate to carry out to the purposes of this section.” 26 U.S.C. § 6111(c)(3). In accordance with this authority, the Secretary promulgated regulations requiring taxpayers to provide information on several types of reportable transactions, including a “transaction of interest,” which is “a transaction that is the same or substantially similar to one of the types of transactions that the IRS has defined by notice, regulation, or other form of published guidance as a transaction of interest.” 26 C.F.R. § 1.6011-4(b)(6).
On November 1, 2016, the IRS issued Notice 2016-66 (“Notice”), which is the subject of this lawsuit [Doc. 1-1]. The Notice classified “micro-captive transactions” as “transactions of interest” given their potential for tax avoidance or evasion [Id. at 2]. The Notice provides that: (1) “[p]ersons entering into these transactions on or after November 2, 2006, must disclose the transaction” to the IRS; and (2) “[m]aterial advisors who make a tax statement on or after November 2, 2006, with respect to transactions entered into on or after November 2, 2006, have disclosure and maintenance obligations under §§ 6111 and 6112” of the Internal Revenue Code [Id. at 12]. Failing to report the required information subjects the taxpayer or material advisor to civil monetary and criminal penalties under 26 U.S.C. §§ 6707(a), 6707A, and 6708(a) [Id. at 15].
Plaintiff, a manager of captive insurance companies that is subject to the reporting requirements outlined in the Notice, filed the Complaint on March 27, 2017 [Doc. 1].[2] Plaintiff alleged that the Notice (1) constituted a “legislative-type rule[]” that failed to comply with mandatory notice-and-comment requirements under the Administrative Procedures Act (“APA”), 5 U.S.C. § 533, et seq.; (2) was “arbitrary and capricious and ultra vires in nature, lacking in underlying authority and the reasoned-analysis footing required by the APA”; and (3) failed to comply with the requirements of the Congressional Review of Agency Rule-Making Act, 5 U.S.C. § 801, because the IRS failed to submit it to Congress and the Comptroller General [Doc. 1 p. 2]. Plaintiff sought (1) a declaration pursuant to the Declaratory Judgment Act (“DJA”), 28 U.S.C. § 2201, that the Notice was unlawful, and (2) an injunction permanently enjoining the IRS from enforcing the Notice [Doc. 1 p. 16].
Following the filing of its Complaint, Plaintiff sought a preliminary injunction [Doc. 9]. On April 21, 2017, the Chief District Judge denied Plaintiff's request for a preliminary injunction [Doc. 24]. Although Plaintiff demonstrated that without the injunction it would likely suffer at least some irreparable harm, the Chief District Judge concluded that Plaintiff was unlikely to succeed on the merits [Id. at 4 & 7]. Specifically, the Chief District Judge reasoned that the Anti-Injunction Act (“AIA”) provides that “no suit for the purpose of restraining the assessment or collection of any tax shall be maintained in any court by any person, whether or not such person is the person against whom such tax was assessed” [Id. at 4 (quoting 26 U.S.C. § 7421)]. Given that penalties are considered taxes under 26 U.S.C. § 6671(a), the Chief District Judge concluded that the Court likely lacked subject matter jurisdiction over the lawsuit [Id.]. The Court further found that the remaining relevant factors (i.e., harm to others and public interest) did not weigh in Plaintiff's favor [Id. at 8-9].
On May 30, 2017, Defendants moved to dismiss the case, which the Court granted on November 2, 2017 [Doc. 35]. The Court found that Plaintiff's claims were barred by the AIA and the tax exception to the DJA, 28 U.S.C. § 7421, which prohibits courts from declaring rights and legal relations with respect to federal taxes [Id. at 4-5]. Characterizing Plaintiff's claims and sought-after remedies as “challenge[s] to both the reporting requirement and the penalty or tax imposed for failure to comply with the reporting requirement[,]” the Chief District Judge concluded that the action was barred [Id. at 7].
On December 28, 2017, Plaintiff appealed the Chief District Judge's decision [see Doc. 37], but on May 23, 2019, the Sixth Circuit Court of Appeals affirmed. CIC Servs., LLC v. IRS, 925 F.3d 247, 258 (6th Cir. 2019), rev'd and , 141 S.Ct. 1582 (2021). Similar to the Chief District Judge's opinion, the Sixth Circuit characterized Plaintiff's complaint “as a suit for the purpose of restraining the assessment or collection of any tax[,]” meaning that it was barred by the AIA, and no exceptions applied. Id. at 257-58 (internal quotations omitted). On August 28, 2019, a divided panel denied Plaintiff's petition for rehearing en banc. CIC Servs., LLC v. IRS, 936 F.3d 501, 502 (6th Cir. 2019).
On May 4, 2020, the United States Supreme Court granted Plaintiff's petition for writ of certiorari, CIC Servs., LLC v. IRS, 140 S.Ct. 2737 (2020), and later, it reversed the Sixth Circuit's decision finding that Plaintiff's suit was not barred by the AIA. CIC Servs., LLC v. IRS, 141 S.Ct. 1582, 1592 (2021). Providing three reasons for its conclusion, the Supreme Court first explained that “the Notice imposes affirmative reporting obligations, inflicting costs separate and apart from the statutory tax penalty.” Id. at 1591. In other words, the Notice mandates a reporting requirement but does not levy a tax. Id. Second, the Supreme Court reasoned that the AIA does not bar the suit because “the Notice's reporting rule and the statutory tax penalty are several steps removed from each other.” Id. For example, it noted, Plaintiff would first have to withhold information subject to the requirements, the IRS would next determine whether a violation occurred, and then the IRS would have to decide whether to impose the discretionary tax penalty. Id. The Court concluded that Plaintiff “stands nowhere near the cusp of tax liability[.]” Id. And third, the Supreme Court reasoned, the “violation of the Notice is punishable not only by a tax, but by separate criminal penalties.” Id. at 1591-92. Noting that a criminal penalty “is not the kind of thing an ordinary person risks,” the Supreme Court stated that Plaintiff's pre-enforcement suit was necessary. Id. at 1592.
While the Supreme Court's decision was unanimous, Justice Sotomayor and Justice Kavanaugh filed concurring opinions. Justice Sotomayor wrote a concurrence to note that the Id. at 1595 (Sotomayor, J., concurring). In Justice Kavanaugh's concurrence, he explained that in light of precedent, the Sixth Circuit's decision was reasonable. Id. at 1596 (Kavanaugh, J., concurring). Viewing the Court's decision as “carv[ing] out a new exception” to precedent, he stated that “[p]re-enforcement suits challenging regulations backed by tax penalties are ordinarily not barred, even though those suits, if successful, would necessarily preclude the collection or assessment of what the Tax Code refers to as a tax.” Id.
Following the Supreme Court's decision, the Chief District Judge held a status conference and issued a briefing schedule [Docs. 52 & 57]. Plaintiff requested a preliminary injunction, which the Chief District Judge granted [Doc. 82]. The Chief District Judge found that Plaintiff “demonstrated that it is likely to succeed on its claim that Notice 2016-66 constitutes a legislative rule and that it is invalid because the Secretary failed to comply with the required notice-and-comment procedures under APA” [Id. at 9]. Under the APA, the Chief District Judge explained, a rule can be interpretive and not subject to the notice-and-comment requirements or legislative and subject to the notice-comment-requirements [Id. at 7 (citation omitted)]. He noted that “[t]he line between interpretive rules and legislative rules is fuzzy and enshrouded in considerable smog” [Id. (quoting NRDC v. Wheeler, 955 F.3d 68, 83 (D.C. Cir. 2020)]. But here, he said, “[t]he crux of the dispute is whether the IRS can classify specific transactions as ...
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