Section of Taxation Publications

VOL. 63
NO. 1
FALL 2009

Contents | TTL Home


Note: The following is an excerpt from the introduction to the article as published in The Tax Lawyer. Author citations have been omitted for brevity. Tax Section members may read the article in its entirety in Adobe Acrobat format.

The Frame Game: How Defining the “Transaction” Decides the Case

David P. Hariton*

I. Introduction

In this Article, I make several points. First, all tax-motivated financial structures are designed to allow taxpayers to avoid some of the tax that they would otherwise have to pay. Regardless of whether the structure involves a tax-free reorganization, a collar transaction, an issuance of hybrid debt, or a specialized structure for holding foreign operations (to name just a few of hundreds of examples), the taxpayer is always taking additional, and sometimes costly, steps to structure business affairs in a manner that allows avoidance of the tax that it would otherwise have to pay.

Second, any tax-motivated financial structure can be made to look like a tax shelter by defining the transaction as consisting solely of the relevant tax-motivated structuring steps (rather than of the broader business objective or operations to which those steps are applied). Thus defined, the transaction serves to shelter the tax that the taxpayer would otherwise have to pay. In other words, the Internal Revenue Service (the “Service”) can, and now does, routinely attack any tax-efficient structure that it ultimately concludes is too aggressive by labeling it a tax shelter. As a result, the battle in the courts is primarily about “framing” the transaction as consisting of either the narrower tax-motivated structures or steps (in which case the taxpayer loses because the “transaction” is a tax shelter) or of the broader business objectives (in which case the taxpayer wins because a taxpayer is allowed to structure its business affairs to mitigate its taxes). But this battle does little to help corporations understand the line between permissible and impermissible tax planning.

Third, when it comes to novel tax-motivated structures (whether born out of changes in the business environment, changes in law, or sheer cleverness), it is really not possible for a taxpayer to know ex ante which ones will ultimately be accepted or rejected by the Service. Some of the structures that have been accepted are arguably more aggressive or more costly to the public fisc than those that have been rejected, and the former may bear a remarkable resemblance to the latter on any relevant technical or policy measure. It certainly is not possible to ask the Service for answers on a real-time basis; the Service lacks the resources, and Congress won’t provide it with more. Thus, in a competitive business environment, corporations can only do their best to guess what will ultimately work and what won’t, and hope that they get it right. The consequences of being wrong are serious in both directions. Corporations cannot afford to anger the Service or pay interest and penalties on substantial understatements, but neither can they afford to pay substantially more in taxes than their competitors pay because they are too timid in structuring their business affairs. It is important for the Service to take this into account in judging the behavior of taxpayers ex post.

*Tax Partner, Sullivan & Cromwell LLP.


Published by the
American Bar Association Section of Taxation
in Collaboration with the
Georgetown University Law Center


If you are an ABA member, you can receive The Tax Lawyer and the Section NewsQuarterly, both quarterly publications, when you join the Section of Taxation. Anyone can subscribe to The Tax Lawyer by contacting the ABA Service Center.