In Analog Devices, Inc. v. Commissioner,1 the Tax Court overturned the BMC Software case that was the applicable precedent.2 It did so largely because the Fifth Circuit overturned its own BMC Software ruling.3 This choice comes with significant consequences.
When Analog Devices took advantage of the section 965 one-time repatriation holiday in 2005, it had no related-party indebtedness for purposes of section 965(b)(3) testing. The IRS argued, however, that a section 482 settlement that led to a Rev. Proc. 99-32 secondary adjustment in fact created related-party indebtedness that existed during the testing period. Nonetheless, the Rev. Proc. adjustment arose in time well after the repatriation had occurred. The Tax Court found for Analog Devices without clearly indicating a factual distinction. It merely overturned its prior BMC Software case.
There was an opportunity to emphasize a factual distinction. Analog Devices B.V. (ADBV), the debtor as to the related-party indebtedness, and its directors never acquiesced to the closing agreement between Analog Devices itself and the IRS. Some would argue that the IRS could not then claim ADBV agreed to have the related-party indebtedness treated as in existence during the section 965(b)(3) testing period. In contrast, all the necessary parties had apparently agreed to the closing agreement in BMC Software. Consequently, the Tax Court could have relied on this factual distinction, instead of completely overturning BMC Software, to find for Analog Devices.
Schering Corp. Questions
In addition, finding a way to square the Tax Court’s decision overturning BMC Software with its continued support for Schering Corp. v. Commissioner4 is extremely difficult. Schering Corp. found that a closing agreement governed a payment’s characterization for federal income tax purposes without regard to collateral effects (such as the Swiss authorities treating the payment as a dividend). Analog Devices instead emphasized in part that other factors such as collateral effects can indeed be considered beyond, if not in place of, the closing agreement.
To justify its complete reversal of BMC Software, the Tax Court mentioned that the issue had only come to it once before, and no other opinions had cited to it. While these facts may be true, many tax advisers had already relied on it to structure settlements with the IRS.
Contesting IRS additional assessments is already costly. All administrative remedies must be pursued at the IRS before any party can bring suit in court. Then, a party must choose whether to bring the case before the Tax Court, Court of Federal Claims, or district court for the relevant jurisdiction. This choice is further complicated by what the relevant U.S. Court of Appeals has said about the issue.
All the while, though, a tax adviser could at least assume for general purposes that Tax Court decisions would remain valid as settled legal precedent. Unfortunately, Analog Devices signals in a big way that what may have seemed possible before, though unlikely, is now fully operational: The Tax Court may simply decide to disregard its prior precedents, perhaps based on a single appellate court’s decision. This situation is even more dire when one considers that Tax Court judges have fixed rather than lifetime terms. With its composition almost constantly in flux, at least in comparison to other federal courts, Tax Court decisions are more vulnerable to later regrets. ■