The IRS Loses Again!

On March 3, 2022, the United States Circuit Court of Appeals for the Sixth Circuit issued its opinion in Mann Construction, Inc. et al v United States of America.  In its opinion, the Court held that IRS Notice 2007-83 is invalid, because the IRS violated the Administrative Procedure Act.

The case further complicates the efforts of the IRS to impose penalties on taxpayers who fail to report so-called “listed transactions”.


The subject matter of the case is IRS Notice 2007-83 issued in 2007.  In Notice 2007-83, the IRS purported to identify welfare benefit plans funded with cash-value life insurance as listed transactions.  As a result, taxpayers that participated in such plans were required to attach a Form 8886 to their tax returns.

The plaintiffs in this case are the owner/employees of a construction company and the company itself.  The company purchased cash-value life insurance on the owner/employees and deducted the premiums.  The owner/employees only included the economic value of the life insurance in taxable income.  Neither the company, nor the owner/employees, reported this transaction to the IRS by filing a Form 8886.  The IRS subsequently audited the taxpayers and imposed penalties on both the company and the owner/employees under IRC section 6707A.

A taxpayer has a number of options to challenge a penalty under section 6707A.  The first is to pursue the appellate process within the IRS.  The plaintiffs in this case did that but were unsuccessful.  So, the plaintiffs then pursued the second option, which is to pay the penalty and file a claim for a refund with the IRS.  When the IRS denied their claim for refund, the plaintiffs took the next option and filed their lawsuit in federal court.

The plaintiffs challenged the imposition of the section 6707A penalty on four grounds:

  1. the Notice failed to comply with the notice-and-comment requirements of the Administrative Procedure Act;
  2. the Notice constituted unauthorized agency action;
  3. the Notice was arbitrary and capricious; and
  4. even if the Notice was valid, the plaintiff’s life insurance plan was not the same as or substantially similar to the arrangement described in the Notice.

The District Court ruled for the IRS on all four grounds in a decision released before the Supreme Court’s decision in CIC Services, LLC v IRS.  The plaintiffs appealed to the Sixth Circuit.


In short, the Administrative Procedure Act (APA) is the federal statute that governs the way in which a federal regulatory agency, like the IRS, can issue regulations and impose legal obligations on taxpayers.  Under the APA, an agency is required to publish its proposed regulation or rule, provide an opportunity for the public to comment and respond to the comments that it receives before issuing a final, binding regulation.  These requirements apply to what are called “legislative rules”.  A “legislative rule” has the “force and effect” of law and imposes new rights or obligations on the public.  On the other hand, an “interpretive rule”, which simply interprets a statute enacted by Congress and does not create new rights or obligations, is not subject to the notice-and-comment requirement.


The Sixth Circuit in a unanimous opinion ruled for the plaintiffs on the first issue.  It held that Notice 2007-83 was a legislative rule and, therefore, subject to the APA’s notice-and-comment requirement.

The Notice has the force and effect of law. It defines a set of transactions that taxpayers must report, and that duty did not arise from a statute or a notice-and-comment rule. It springs from the IRS’s own Notice. Taxpayers like Mann Construction had no obligation to provide information regarding listed transactions like this one to the IRS before the Notice. They have such a duty after the Notice. Obeying these new duties can “involve significant time and expense,” and failure to comply comes with the risk of penalties and criminal sanctions, all characteristics of legislative rules.      

As a result, the Court found that Notice 2007-83 was invalid.

Because the IRS’s process for issuing Notice 2007-83 did not satisfy the notice-and-comment procedures for promulgating legislative rules under the APA, we must set it aside.

The Court did not consider the other grounds raised by the plaintiffs.  When a court can rule for a plaintiff on one ground, it often does not consider other issues raised in the litigation.


In the first instance, this case means that taxpayers that funded welfare benefit plans with cash-value life insurance do not have to file a Form 8886.  That is because the Sixth Circuit revoked Notice 2007-83.  A caveat to that, however, is that the Court’s decision may only apply in Kentucky, Michigan, Ohio and Tennessee, the states in the Sixth Circuit.

However, the decision in this case may have much broader implications.  In fact, it may jeopardize the entire IRS listed transaction regime.

As stated above, section 6707A imposes a penalty on taxpayers who fail to report their participation in a listed transaction to the IRS.  The report is made by attaching Form 8886 to a taxpayer’s tax return.

The term “listed transaction” is defined in section 1.6011-4(b)(2) of the treasury regulations as:

. . . a transaction that is the same as or substantially similar to one of the types of transactions that the Internal Revenue Service (IRS) has determined to be a tax avoidance transaction and identified by notice, regulation, or other form of published guidance as a listed transaction.  (emphasis added)

Over the past, two decades, the IRS has identified a number of transactions as “listed transactions, mostly by notices or revenue rulings.  However, most, if not all, of the notices and revenue rulings that purport to identify a transaction as a listed transaction were issued without prior notice and an opportunity for comment in violation of the APA’s notice-and-comment requirement.  As a result, under the holding of Mann Construction and the anticipated holding in CIC Services, LLC, those notices and revenue rulings are invalid and must be rescinded.  And, if the effect is that the IRS has not properly identified any transaction as a listed transaction, then no taxpayer has an obligation to report its transaction under section 6011 or is subject to a penalty under section 6707A.

While it is too soon to advise taxpayers to no longer file Form 8886, and it is our position that all taxpayers should continue to comply with the reporting requirements of section 6011, this case may give a taxpayer that has been assessed a penalty under section 6707A a pathway to challenge the penalty.