As is widely known, taxpayers must pay interest on tax deficiencies and the IRS must pay interest on overpayments.1 The interest rates charged by the IRS for deficiencies is not surprisingly higher than the interest rate paid on overpayments. In situations in which a taxpayer is assessed tax for deficiencies and has refunds, Section 6621(d) provides relief for this mismatch and allows for interest netting on underpayments and overpayments by the same taxpayer. Interest can be netted if the following three criteria are met: (1) the underpayment and overpayment must be the same amount; (2) the time period must overlap; and (3) the underpayment and overpayment must have been incurred by the same taxpayer.
The application of the interest netting rules to consolidated groups has been relatively unsettled as there are no current Treasury Regulations laying out rules when consolidated members come and go. The interplay between consolidated group rules and Section 6621(d) creates an issue as to the "same taxpayer" requirement.
Recently, the U.S. Court of Federal Claims tackled the "same taxpayer" application to consolidated groups in Magma Power Co. v. U.S.2 The taxpayer, Magma Power Company (Magma) and its parent corporation, MidAmerican Energy Holdings Company (MidAmerican), sought a refund of interest assessed against Magma for underpayment in 1993. In 1995, Magma was acquired by its parent company, CalEnergy (MidAmerican is CalEnergy’s successor in interest), and by 2002 Magma had paid a 1993 deficiency plus interest. Post-acquisition, Magma was included in CalEnergy’s consolidated return along with other subsidiaries. The IRS determined, following an examination from 1995-1998, that the consolidated group was entitled to overpayment refunds. Magma filed a refund claim for the 1993 year utilizing the overpayment determined in the IRS exam and by doing so sought the interest paid for the 1993 deficiency in applying the interest netting rules. The IRS conceded that a portion of the overpayment was attributable to Magma; however, it denied MidAmerican’s ability to apply the interest netting rules to offset the interest paid on the 1993 deficiency with the overpayments determined in the later years. The IRS claimed that Section 6621(d) did not allow for the netting of interest between an overpayment of a consolidated group’s income tax for one taxable year and an underpayment of a member’s income tax for a prior taxable year because the consolidated group and the member were not ‘the same taxpayer’ for purposes of both overpayment and underpayment.
The Court of Federal Claims first looked to the plain meaning of "same taxpayer." The IRS argued that the overpayment could only be applied to the consolidated group as a whole and not to the individual taxpayers that made up the group. The court rejected the IRS’s argument because at all times Magma maintained its own EIN; portions of the overpayment were directly attributable to Magma; and it was well established that the individual corporations in a consolidated group were the taxpayers, not the consolidated group itself. After distinguishing a previous case, the court looked to non-precedential IRS guidance in making its determination. In FSA 2002-12-028, the IRS found that in the consolidated group framework, "interest-netting could apply, but such a determination would be based on the facts and circumstances of the particular case."3 Next, the court looked at CCA 2004-11-003 in which Corporation C underpaid its tax liability in year one, and later filed as part of a consolidated group in years eight and nine. The IRS concluded that Corporation C would have met the same taxpayer test and would have been allowed to net the year-one underpayment against year-eight and year-nine overpayments, to the extent Corporation C could have shown it was entitled to the consolidated group overpayments. The court finally noted that in the bankruptcy arena, an individual member of a consolidated group is entitled to a refund resulting from an overpayment that is directly attributable to the member.
The court dismissed the IRS’s remaining arguments regarding pass-through entities and administrative burdens and noted that the IRS’s interpretation of "same taxpayer" would have "completely undermine[d] Congress’s direction to the IRS to ‘implement the most comprehensive interest netting procedures.’" The court concluded that the plain meaning of the term "same taxpayer" focused on corporate identity and that filing as a member of a consolidated group did not destroy that identity. Accordingly, the court held that Magma Power was the same taxpayer when it filed as a member of the consolidated group and was therefore entitled to interest netting to the extent that overpayments could be attributed to it.
1 Unless otherwise stated, all references to Section are to the Internal Revenue Code of 1986 (the Code).
2 108 AFTR 2d. 2011-6943, 2001 U.S. Claims LEXIS 2099 (Fed. Cl. Ct., 2011).
3 FSA 2002-12-028 at *10.
Todd B. Reinstein and Nicholas Metcalf
Mr. Metcalf is a law clerk, resident in Pepper Hamilton’s Washington, D.C. office. He is not admitted to practice law.
The material in this publication was created as of the date set forth above and is based on laws, court decisions, administrative rulings and congressional materials that existed at that time, and should not be construed as legal advice or legal opinions on specific facts. The information in this publication is not intended to create, and the transmission and receipt of it does not constitute, a lawyer-client relationship. Internal Revenue Service rules require that we advise you that the tax advice, if any, contained in this publication was not intended or written to be used by you, and cannot be used by you, for the purposes of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.