In a strongly worded opinion that is very favorable for taxpayers who engage in sophisticated tax planning, the Sixth Circuit overturned a Tax Court opinion denying the benefits of a domestic international sales corporation (“DISC”) under the theory that the transaction violated the substance over form doctrine.  In short, a DISC was used to channel large amounts to a Roth IRA, permitting accumulation of substantial funds which will be available tax free to the owners of the Roth IRA after they reach a certain age.  The details are not as fun as the opinion, which, assuming it stands, will surely be cited many times over.  The Court’s words are strong:

  • “If the government can undo transactions that the terms of the Code expressly authorize, it’s fair to ask what the point of making these terms accessible to the taxpayer and binding on the tax collector is.”
  • Because the taxpayer “used the DISC and Roth IRAs for their congressionally sanctioned purpose – tax avoidance – the Commissioner has no basis for recharacterizing the transaction and no basis for recharacterizing the law’s application to them.”
  • “It’s one thing to permit the Commissioner to recharacterize the economic substance of a transaction-to honor the fiscal realities of what taxpayers have done over the form in which they have done it.  But it’s quite another to permit the Commissioner to recharacterize the meaning of statutes-to ignore their form, their words, in favor of his perception of their substance.”
  • “The line between disregarding a too-clever-by-half accounting trick and nullifying a Code-supported tax-minimizing transaction can be elusive.”
  • “Decisions from our sister courts also straddle the line between holding that the transactions were a sham and suggesting that the Commissioner has a broad power to recharacterize transactions that minimize taxes, though none of them holds that a tax-avoidance motive alone may nullify an otherwise Code-compliant and substantive set of transactions.”
  • “The substance-over-form doctrine does not authorize the Commissioner to undo a transaction just because taxpayers undertook it to reduce their tax bills.”

The case is Summa Holdings, Inc. v. Comm’r.