The IRS routinely monitors abusive tax transactions. If a particular transaction becomes more prevalent, the agency identifies it as a “listed transaction,” requiring self-reporting by taxpayers (IRS Form 8886) and material advisors (IRS Form 8918). The agency can impose significant civil penalties and criminal sanctions for the failure to properly file either of these forms.
However, the IRS has recently suffered numerous setbacks in attempting to impose listed-transaction penalties. Because many of the notices underlying the listed transactions were not subject to the notice-and-comment requirements under the Administrative Procedure Act (APA), several courts have agreed with taxpayer arguments that the penalties are unlawful. In light of these court decisions, the IRS released an Action on Decision (AOD) to the public on January 2, 2025. The AOD provides significant concessions to taxpayers involved in listed transactions.
What Is A Listed Transaction
In early 2003, Treasury issued final regulations that require taxpayers to disclose their participation in a “reportable transaction.” A reportable transaction includes a “listed transaction,” defined in those regulations to mean “a transaction that is the same or substantially similar to one of the types of transactions that the IRS has determined to be a tax avoidance transaction and identified by notice, regulation, or other form of published guidance.” Currently, there are 34 listed transactions, which can be found here.
After the final regulations were issued, Congress also stepped in and enacted the American Jobs Creation Act of 2004, Pub. L. No. 108-357 (AJCA), which provided civil penalties for violators. Under current law, taxpayers are liable for: (i) civil penalties for failure to timely file an IRS Form 8886 (see sec. 6707A), and (ii) enhanced accuracy-related penalties associated with the listed transaction reporting position (see sec. 6662A). In addition, the IRS has an extended period of time to assess additional income taxes and penalties if a taxpayer has an IRS Form 8886 filing obligation and fails to file it (see sec. 6501(c)(10)).
The Administrative Procedure Act
Enacted in 1946, the APA requires federal agencies—including the IRS—to follow procedures to issue certain types of rules. Generally, if the agency wants to issue a legislative rule—i.e., one with the force and effect of law—the agency must follow the APA’s notice-and-comment requirements. These requirements include publishing a notice of proposed regulation, permitting the public an opportunity to comment on the proposed regulation, and responding to the comments with a final regulation stating the rule’s purpose.
The characterization of an agency’s rule is important. Unlike legislative rules, interpretative rules do not require notice-and-comment. For these purposes, a legislative rule means a rule that imposes new rights or duties on a party whereas an interpretative rule generally means a rule that sets forth what the government agency believes a statute means.
Under the APA, federal courts have the authority to strike down a legislative rule if that rule did not go through the mandatory notice-and-comment procedures.
Recent Federal Court Decisions
Historically, the IRS has identified listed transactions by issuing notices or revenue rulings in the Internal Revenue Bulletin. In the last few years, however, taxpayers have attacked these pronouncements as unlawful under the APA’s notice-and-comment requirements. In these cases, taxpayers have argued that the listed-transaction notices are legislative rules—unsurprisingly, the government has contended that the notices are interpretative rules (or, alternatively, that Congress’ enactment of the penalties under the AJCA expressly overruled the APA’s notice-and-comment requirements for such penalties).
For example, in Mann Construction, the IRS sought to impose listed transaction penalties against a company and its owners. The listed transaction at issue arose from Notice 2007-83, which required taxpayers to report their participation in transactions related to employer-benefit plans featuring cash-value life insurance policies. The Sixth Circuit agreed with the taxpayers that Notice 2007-83 was a legislative rule and subject to the APA’s notice-and-comment requirements. Because the IRS failed to comply with the APA, the court held that the taxpayers were not subject to the listed transaction penalties.
Similarly, the Tax Court held in Green Valley Investors that Notice 2017-10 failed to comply with the APA’s notice-and-comment requirements, rendering listed transaction penalties under Notice 2017-10 unlawful. That notice identified syndicated conservation easements as listed transactions. The Tax Court agreed with the taxpayers that Notice 2017-10 was a legislative rule subject to the APA’s notice-and-comment requirements and refused to sustain the penalties. The Eleventh Circuit later agreed in a separate case that Notice 2017-10 was unlawful in Green Rock LLC for substantially the same reasons as those found in Mann Construction and Green Valley Investors.
The Action On Decision
Having lost all of the decisions above, the IRS issued an AOD. Generally, an AOD is a legal memorandum prepared by IRS Chief Counsel that publicly announces the agency’s future litigation positions. The AOD publicly released on January 2, 2025, only relates to listed-transaction notices that were issued after the AJCA (e.g., Notice 2017-10).
In the AOD, the IRS concedes that it will follow the decisions in Mann Construction, Green Valley Investors, and Green Rock LLC. The AOD further states that the agency will—
· not impose listed-transaction penalties under section 6707A for the failure to file information returns (i.e., IRS Forms 8886 and 8918);
· not impose enhanced accuracy-related penalties under section 6662A for reporting positions associated with a listed transaction;
· not contend that the statute of limitations remains open under section 6501(c)(10) for the failure to file IRS Form 8886;
· concede and abate all associated penalties.
Notably, the AOD indicates that the above concessions do not apply in cases where there is a court-approved settlement or closing agreement related to the penalties, there is an existing final court decision, or the applicable statute of limitations has expired.
Takeaways
Taxpayers involved in listed transactions should carefully analyze the AOD to determine whether they fall within the specified relief and concession provisions. Taxpayers who have paid a listed-transaction penalty should also discuss the AOD with their tax professionals to determine whether it is appropriate to file a claim for refund.
Read the full article here