Law Office of Charles W. Cope, PLLC | Loving Shows Limits of IRS’s Authority to Write Regulations
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  • Loving Shows Limits of IRS’s Authority to Write Regulations
    February 2014
    On February 11, 2014 the U.S. Court of Appeals for the District of Columbia issued its opinion in Sabrina Loving, et al. v. IRS[1] ruling that the IRS lacks statutory authority under 31 U.S.C. § 330 to issue regulations governing tax-return preparers. Although the scope of the IRS’s authority to issue regulations was clarified and broadened by the Supreme Court’s 2011 decision in Mayo Foundation for Medical Education and Research v. United States,[2] the decision in Loving shows that the IRS’s authority to issue regulations is not without limits, even in cases where the facts are sympathetic to the government’s position.
     
    Background
     
    In 2009, the IRS initiated a comprehensive review of the paid tax-return preparer industry (i.e., persons who prepare income tax returns for individuals for a fee) following reports of abusive activities by some tax-return preparers.  As part of this effort, the IRS held three public meetings and received more than 500 comments. The review lead to a set of recommendations for reform of the tax-return preparer industry. 
     
    In June 2011, the Treasury Department issued regulations addressing tax-return preparers (the “preparer regulations”).  The preparer regulations were issued under the authority of 31 U.S.C. § 330, a statute first enacted by Congress in 1884. Today section 330(a) provides:
     
    (a) Subject to section 500 of title 5, the Secretary of the Treasury may—
    (1) regulate the practice of representatives of persons before the Department of the Treasury; and
    (2) before admitting a representative to practice, require that the representative demonstrate—
    (A) Good character;
    (B) Good reputation;
    (C) Necessary qualifications to enable the representative to provide to persons valuable service; and
    (D) Competency to advise and assist persons in presenting their cases.
     
    A group of tax-return preparers subsequently challenged the preparer regulations as invalid because the government lacked the statutory authority to issue the regulations. The U.S. District Court for the District of Columbia agreed that the preparer regulations were invalid as lacking statutory authority.  The IRS appealed to the U.S. Court of Appeals for the D.C. Circuit, which examined the question de novo and affirmed the district court’s decision.
                                                                                                      
    Judicial review of tax regulations
     
    Under the U.S. Constitution, as interpreted by the Supreme Court, the judiciary is the final authority on matters of statutory construction.[3] Beginning in the 1930s, Congress often has delegated to administrative agencies, which are part of the Executive branch, the authority to write regulations interpreting its statutes.  Persons affected by such regulations may bring actions in the courts disputing that a regulation is a valid interpretation of a statute. Although the courts regularly accept such cases, they generally defer to an administrative agency’s interpretation of a statute. However, a court’s deference is not absolute and courts sometimes rule regulations invalid. In January 2011 the Supreme Court addressed the standard for judicial review of tax regulations in Mayo Foundation.[4]
     
    Prior to the Supreme Court’s decision in Mayo Foundation, the two principal Supreme Court cases concerning judicial review of tax regulations were National Muffler Dealers Association, Inc. v. United States[5] and Chevron.  In some respects, the decisions were difficult to reconcile and there was uncertainty as to the precise standard to be followed when reviewing tax regulations. In Mayo Foundation, the Supreme Court endorsed its analysis in Chevron, which is more favorable to the government than the analysis of National Muffler
     
    Many attorneys (inside and outside the government) consider Mayo Foundation a significant win for the IRS and view it as broadening of the IRS’s authority to write regulations. The courts must show more deference to the IRS under Chevron, and the IRS may now overturn prior unfavorable judicial results by regulation.  The IRS issued the preparer regulations under section 330 in June 2011, about six months after Mayo Foundation was decided by the Supreme Court.
     
    Under Chevron a court must perform a two-step analysis when determining whether a regulation is valid. Step one considers whether Congress has directly spoken to the precise question at issue.  If the statute under consideration is neither silent nor ambiguous with respect to the issue under consideration, the Supreme Court states that “that is the end of the matter, for the court, as well as the agency, must give effect to the unambiguously expressed intent of Congress.”[6]  Step two, which becomes relevant only if the first step of the analysis is not answered affirmatively, considers whether an administrative interpretation of the statute is based on a permissible construction of the statute.  If the administrative interpretation is based on a permissible construction of the statute, then the Chevron framework requires a court to defer to such administrative interpretation.  This is the case even if the court believes the administrative interpretation is not the best interpretation of the statute under consideration.
     
    The Reasoning of the D.C. Circuit
     
    The circuit court found the preparer regulations invalid under Chevron step one for several reasons discussed below. The circuit court went on to say that, even if the government prevailed on the Chevron step one analysis, the regulations failed under Chevron step two.
     
                Chevron step one
     
    Applying Chevron step one, the circuit court found that the statute in question was not ambiguous. The IRS, therefore, had no authority to issue the regulations and the regulations are invalid. The circuit court sets forth multiple reasons for this conclusion, including:
     
    • Tax-return preparers are not “representatives.” The statute refers to “representatives of persons.” A “representative” the circuit court says is “traditionally and commonly defined as an agent with authority to bind others.” Tax return preparers cannot legally bind the taxpayer by acting on the taxpayer’s behalf. A tax-return preparer only assists a taxpayer in preparing his return. The circuit court points out that under the IRS’s own regulations “representation” of the taxpayer before the IRS requires the taxpayer to provide a power of attorney to his representative. The client of a tax-return preparer does not provide the preparer a power of attorney, and the client must sign his own tax return.
       
    • The statute refers to “practice . . . before the Department of the Treasury” and to persons who “advise and assist” taxpayers in “presenting their cases.” In other non-tax contexts, Congress has used the term “practice” with reference to an investigation, an adversarial hearing or other adjudicative proceeding. In preparing and filing a tax return, a tax-return preparer does not present a taxpayer’s case to the IRS.
     
    • The history of section 330 shows that it was intended to regulate those representing individuals seeking compensation from the government. The original 1884 statute was enacted because of a concern by Congress that individuals be compensated for horses and other property appropriated by the government during wartime. The statute then referred to “agents, attorneys, or other persons representing claimants before [the Treasury] Department.”
       
    • Congress has enacted other statutes to regulate tax-return preparers. If the IRS’s position were to be accepted, those other statutes would be unnecessary because the IRS could simply have issued regulations to accomplish the same end.
     
    • For many years the IRS took the position that it lacked authority to regulate tax-return preparers. In 2005, an IRS official testified before Congress that “tax-return preparers are not deemed as individuals who represent individuals before the IRS.”
       
      Chevron step two
       
      The circuit court also finds that the regulations fail Chevron step two, i.e., they are unreasonable “in light of the statute’s text, history, structure and context.” A group of former commissioners of the IRS filed an amicus brief in support of the government’s position arguing that, as a policy matter, the regulations were justified. The circuit court acknowledges that “it might be that allowing the IRS to regulate tax-return preparers more stringently would be wise as a policy matter. But that is a decision for Congress and the President to make if they wish by enacting new legislation.”  The circuit court concludes by quoting a recent Supreme Court decision, “‘[it is the] role of this Court to apply the statute as written -- even if we think some other approach might accord with good policy.’”
       
      Observations
       
      The IRS has not indicated whether it will seek review of the circuit court’s decision by the Supreme Court. Having lost twice, the odds of the government prevailing, should the Supreme Court agree to hear the case, appear to be poor.
       
      After Mayo Foundation was decided, many felt that it would be significantly more difficult for a taxpayer to successfully challenge an IRS regulation in the courts based on a lack of authority. Loving therefore is important, not only because Congress now will have to act if tax return preparers are to be subject to additional regulation, but because taxpayers now may feel reassured that IRS regulations are not wholly immune to challenge.  What does the future hold? The Tax Court has docketed two cases challenging the validity of certain IRS regulations on cost sharing.[7]  These cases should be decided within a year or so.
     
     
    [1] No. 31-51061, decided February 11, 2014.
    [2] 311 S. Ct 704 (2011) (“Mayo Foundation”).
    [3]  Chevron U.S.A. Inc. v. Natural Res. Def. Council, 467 U.S. 837, 843 fn. 9 (“Chevron”).
    [4] 311 S. Ct 704 (2011)
    [5] 440 U.S. 472 (1979) (“National Muffler”).
    [6] Chevron, 467 U.S. at 842-843.
    [7] Altera Corporation v. Commissioner, Docket Nos. 6253-12 (March 6, 2012); Amazon.com Inc. v. Commissioner, Docket No. 31197-12 (Dec. 28, 2012).
    KEYWORD: Judicial Review