Sixth Circuit Court of Appeals Rejects Substance Over Form Doctrine

Sixth Circuit Court of Appeals Rejects Substance Over Form Doctrine

        In a February, 2017 decision, the Sixth Circuit Court of Appeals rejected the application of the “substance-over-form” doctrine to reverse the effect of a tax minimization plan that was implemented in compliance with the Internal Revenue Code. In addition, the opinion has the benefit of citing Suetonius, The Twelve Caesars.  Summa Holdings, Inc. v. Commissioner of Internal Revenue, ____Fed.3d____, 2017 WL 631663 (6^th Cir. Feb. 16, 2017).

       The tax planning at issue involved the payment of distributions from a “domestic international sales corporation” (DISC) to Roth Individual Retirement Accounts of certain of the manufacturing company’s shareholders. Suffice it to say that this tax planning technique is entirely permissible and does, initially, require payment of tax of the funds transferred to the Roth IRA. In this instance, however:

[T]he Commissioner balked. He acknowledged that the family had complied with the relevant provisions [of the Internal Revenue Code]. And he acknowledged that the purpose of the relevant provisions was to lower taxes. But he reasoned that the effect of these transactions was to evade contribution limits on Roth IRAs and applied the “substance-over-form doctrine” to recharacterize the transactions…

       That determination was upheld by the Tax Court, and this appeal to the Sixth Circuit followed.

        Rejecting this effort at re-characterization, the Six Circuit wrote:

Every word of the “substance-over-form doctrine,” at least as the Commissioner has used it here, should give pause. If the government can undo transactions that the terms of the Code expressly authorize, it's fair to ask what the point of making those terms accessible to the taxpayer and binding on the tax collector is. “Form” is “substance” when it comes to law. The words of law (it's form) determine its content (it's substance). How odd, then, to permit the tax collector to reverse the sequence - to allow him to determine the substance of a law and to make it govern “over” the written form of the law - and to call it a “doctrine” no less.

       From there the court would go on to determine that the use of the DISC/Roth IRA was permissible under the wording of the Internal Revenue Code, and could not be set aside by the Commissioner based upon some theory of abuse of the intent of the Internal Revenue Code.