IRS Announces That It Will Violate Court of Appeals Ruling Regarding Excise Tax on Phone Service

October 26, 2005. The Internal Revenue Service (IRS) announced in a notice [PDF] that it will violate the holding of the U.S. Court of Appeals (11thCir) announced in its May 10, 2005 opinion [22 pages in PDF] in American Bankers Insurance Group v. US.

Introduction. This case concerns 26 U.S.C. § 4251, which imposes a 3 percent excise tax on some, but not all, communications services. This tax is sometimes referred to by its opponents as the "Spanish American War tax", since it was originally imposed to help fund that war. 26 U.S.C. § 4252 contains the applicable definitions. This case involves interpretation of these definitions.

This case is not about the constitutionality of the excise tax on phones. The tax remains legal. This case is about which phone services are subject to the tax. American Bankers Insurance Group (ABIG) purchased a communications service from AT&T that it asserted was not covered by the statute. The IRS said that it was, and continued to collect taxes. The Court of Appeals, applying the plain meaning of the statute, held that the service in question falls outside of the definition of taxable services.

The IRS did not petition to Supreme Court for writ of certiorari in the ABIG case. Nor can it point to a split between the various circuits on this issue. Yet, it stated in its notice that it will continue to collect excise taxes on "communications services similar to those at issue" in the ABIG case. Moreover, it will collect these taxes in all circuits, including the 11th Circuit.

Chief Justice John Marshall wrote in 1803 in the landmark case of Marbury v. Madison that "It is emphatically the province and duty of the judicial department to say what the law is." The IRS now rejects this principle. (This case is reported at 5 U.S. 137.)

This IRS notice may have significance beyond the collection of excise taxes on communications services not covered by the statute. The IRS has also announced an interest in expanding the scope of this excise tax to include information services. See, story titled "IRS Publishes Advance NPRM Regarding Expanding the Excise Tax on Telephones to Include New Technologies" in TLJ Daily E-Mail Alert No. 931, July 6, 2004.

Since the IRS has ignored the plain meaning of the statute excise tax statute, and the holding of the Court of Appeals, in one tax scenario (toll telephone service that does not vary with distance), it may be inclined to ignore the plain meaning of the statute in another scenario (information services).

The Statute. § 4251 imposes a tax on certain "communications services". § 4251(b) provides that the term ''communications services'' means "(A) local telephone service; (B) toll telephone service; and (C) teletypewriter exchange service".

The ABIG case concerns "toll telephone service".

26 U.S.C. § 4252(b) provides that "toll telephone service" means

"(1) a telephonic quality communication for which
   (A) there is a toll charge which varies in amount with the distance and elapsed transmission time of each individual communication and
   (B) the charge is paid within the United States, and
(2) a service which entitles the subscriber, upon payment of a periodic charge (determined as a flat amount or upon the basis of total elapsed transmission time), to the privilege of an unlimited number of telephonic communications to or from all or a substantial portion of the persons having telephone or radio telephone stations in a specified area which is outside the local telephone system area in which the station provided with this service is located."

(Parentheses in original.)

That is, to be taxable, a "toll telephone service" must include a "toll charge which varies in amount with the distance and elapsed transmission time". The key word here is "and". The ABIG asserted that "and" means "and". The IRS asserted that, in this case, "and" means "or".

ABIG v. IRS.  The Court of Appeals recited the pertinent facts. "Between October 1, 1998, and March 31, 2002, taxpayer, ABIG, purchased interstate, international, and (in five states) intrastate long distance service from AT&T. ABIG paid a uniform toll rate for all interstate calls made within the United States, uniform toll rates for all intrastate long distance calls made within the five states in which it purchased service, and toll rates for international calls (other than calls to and from Mexico) that varied only according to which country the calls were being placed." (Parentheses in original.)

That is, this is a charge that does not vary with distance, but that does vary with elapsed time.

AT&T collected from ABIG federal excise taxes on these services pursuant to 26 U.S.C. § 4252(b)(1) and then gave the money to the IRS.

AIBG filed refund claims with the IRS. The IRS ignored these refund claims.

ABIG then filed a complaint in U.S. District Court (SDFl) seeking a refund of its money. The District Court granted summary judgment to the IRS. ABIG appealed. The Court of Appeals reversed, and directed the District Court to enter judgment for ABIG.

The IRS argued that, notwithstanding the statute's use of the word "and", it could collect the tax on any service that either varies with distance or varies with elapsed time. And since ABIG's service varied with elapsed time, it did not matter that is did not vary with distance. It was covered by the statute.

The gist of the IRS's argument is that "telephone toll service", at the time of the Spanish American War, and when the statutory language was amended in 1965, meant long distance service. The AT&T monopoly charged on the basis of distance and time, and the statute reflected this. However, the IRS argues, if a service provider now offers a service for which it bills on the basis of time, but not distance, it should still be covered, notwithstanding the statutory language.

The Court of Appeals reasoned that the word "and" means "and", not "or". It held that the meaning of the word "and" is not ambiguous. Therefore, it held that the District Court erred, and that the IRS is wrong.

See also, story titled "IRS Loses Appeal Over 3% Excise Tax on Communications" in TLJ Daily E-Mail Alert No. 1,133, May 11, 2005.

This case is American Bankers Ins. Group v. United States, U.S. Court of Appeals for the 11th Circuit, App. Ct. No. 04-10720, an appeal from the U.S. District Court for the Southern District of Florida, D.C. No. 03-21822 CV-PCH. Judge Dubina wrote the opinion of the Court of Appeals, in which Judge Anderson and Black joined. The Court of Appeals opinion is also reported at 408 F.3d 1328. The District Court opinion is also reported at 308 F. Supp. 2d 1360.

IRS Notice. The IRS announced that it "will continue to assess and collect the tax under § 4251 on all taxable communications services, including communications services similar to those at issue in the cases. Collectors should continue to collect the tax, including from taxpayers within the jurisdiction of the United States Court of Appeals for the Eleventh Circuit."

The IRS added in its notice that "Persons paying for taxable communications services (taxpayers) are required to pay the tax to a collecting agent (the person receiving the payment on which tax is imposed), and collecting agents are required to pay over the tax to the United States Treasury and to file the required returns. Taxpayers may preserve any claims for overpayments by filing administrative claims for refund with the Service pursuant to § 6511. Taxpayers are advised, however, that these claims, including claims for which appellate venue would lie in the United States Court of Appeals for the Eleventh Circuit, will not be processed while there are pending cases in other United States Courts of Appeals." (Parentheses in original.)

This notice also concedes that "The government did not seek review by the United States Supreme Court in American Bankers Insurance Group."

It continues that "the government will continue to litigate this important issue. The government is prosecuting appeals in five different circuits. The appeal in Office Max v. United States, 309 F. Supp. 2d 984 (N.D. Ohio 2004), has been briefed and argued, and the parties are awaiting a decision.

It also states that "The principal author of this notice is Barbara B. Franklin of the Office of Associate Chief Counsel".

The IRS notice is numbered "Notice 2005-79". It is undated. However, an index in the IRS web site associates this notice with the phrase "20-Oct-2005". Although, it is not clear if this is the effective date, publication date, adoption date, or what. Also, the properties file for the IRS's PDF file provides that this PDF file was created on October 26.

Legal Options for the IRS. Were the IRS to conduct its operations in accordance with law, it would have several options. First, it could have petitioned for writ of certiorari to the 11th Circuit. Had it done so, and obtained a reversal, it could collect excise taxes on ABIG type services. The time limit for filing such a petition has lapsed.

Second, the IRS could recommend and obtain from the Congress an amendment to the statute that brings ABIG type services within the scope of the statute. It has not obtained such an amendment. Nor is it likely to obtain such a change. There are bills pending in the Congress that would abolish the tax, not expand it.

For example, on April 27, 2005, Rep. Gary Miller (R-CA), and 39 other Representatives, introduced HR 1898, the "Telephone Excise Tax Repeal Act of 2005". See also, story titled "Rep. Miller Introduces Bill to Repeal Excise Tax on Phones" in TLJ Daily E-Mail Alert No. 1,128, May 4, 2005. See also, S 1321, the "Telephone Excise Tax Repeal Act of 2005".

There were similar bills in the 105th, 106th, 107th, and 108th Congresses. None became law. See, HR 3648 in the 105th Congress, HR 3916 in the 106th Congress, HR 236 in the 107th Congress, and HR 2957 in the 108th Congress. The House approved HR 3916 (106th) on a roll call vote of 420-2, on May 25, 2000. See, Roll Call No. 233. However, the full Senate did not approve the bill. HR 236 (107th) had 149 sponsors.

This legislative history suggests that there is not enough support to move the law in either direction, but that there is more support for abolishing the excise tax than for expanding it.

There other legal option for the IRS would be to follow the plain meaning of the statute, as interpreted by the Court of Appeals, and cease collecting excise taxes on ABIG type services.

Reaction. Steve Largent, P/CEO of the CTIA, wrote in a release that "I'm outraged that the IRS ignored the 11th Circuit Court's clear ruling on the FET in American Bankers Insurance Group, Inc. v. United States, and in doing so robbed America’s 200 million wireless subscribers of needed tax relief."

Largent (at right) also argued as a matter of policy that the entire excise tax, and not just the IRS's attempt to extend it to the services at issue in the ABIG case, is wrong. He wrote that "Having been put in place more than 100 years ago to finance a war that has long since been won, the FET is now an outdated and unnecessary tax that has no place in a 21st century high-technology economy."

He continued that "The American wireless consumer is buried under a heap of taxes and fees, and last week's news from the IRS merely adds insult to injury. As of right now, the average wireless consumer in America pays more than 17% of his or her monthly bill in taxes and fees. This is a completely unjustifiable rate of taxation, and I strongly encourage the IRS to reverse course and protect the wireless consumer from paying what is clearly an illegal tax."