In episode 54 of How Tax Works, Matt Foreman discusses the wonderfully-named Project Soy (Liberty Global v. U.S., No. 23-1410), the economic substance doctrine, GILTI, and why citing Helvering v. Gregory is rarely a good idea.

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How Tax Works, hosted by FRB Partner Matthew E. Foreman, Esq., LL.M., delves into the intricacies of taxation, breaking down complex concepts for a clearer understanding of how tax laws impact your financial decisions. Through this, listeners are treated to a comprehensive breakdown of entity structures, from the robust shield of C corporations to the flexibility of partnerships and LLCs. Foreman navigates through the maze of tax considerations, shedding light on entity-level taxation, shareholder responsibilities, and nuanced tax strategies. Foreman shares valuable insights and practical advice, emphasizing the need for informed decision-making and consultation with tax professionals. From qualified small business stock to state and local tax considerations, no stone is left unturned in this illuminating exploration of tax law and entity selection.

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Transcript:

**This transcript has been prepared automatically by AI and may contain inaccuracies**

Matthew Foreman [00:00:00]:
Hello, and welcome to the 54th episode of How Tax Works. I’m Matt Foreman. In this episode, I’ll talk about Substance versus Form Part three, the Economic Substance Doctrine and Project Soy. How Tax Works is meant for informational and entertainment purposes only. This may be attorney advertising and it is not legal advice. It’s also not illegal advice. So there we go.

Matthew Foreman [00:00:35]:
Hire an attorney. How Tax Works is intended to help listeners navigate the intricacies and complexities of tax law, regulations, case law, and guidance to demystify how taxes shape the business and financial decisions that we all make. Let’s get through some administrative stuff. New episodes every two weeks. In the next episode, I’m going to talk about Entity Selection Part two, Payroll Taxes in the era of Sorobond Capital Partners and Sirius Solutions. Lllp it will also be I just want to know the 55th episode. 55th episode is going to be the first of season three. It’s year three, which is kind of wild to say how well, so that’s interesting.

Matthew Foreman [00:01:10]:
If you’re asking why there’s why we hit 54 before the end of year two, since there’s 52 weeks in the year, the answer is that the Gregorian calendar is really kind of wonky and has extra days. And so what happened is we went to 53 and then I released the AI ones that I did last year at the same time. Two at the same time. So it pushed it up too. So instead of 53 had extra time, extra week got built in, extra Monday to 54, and then the double episode went to 55. If you have any questions, comments or constructive criticism such as don’t talk about the Gregorian calendar that much, you can email me my FRP email address. A upcoming webinars and speaking engagements are on the How Tax Works landing page on the FW website and in LinkedIn. Now we’re going to talk about the economic substance doctrine and Project soy, which I promise you is a very real thing.

Matthew Foreman [00:02:00]:
So economic substance doctrine I talked about in episode 46, so not, not that long ago, just a couple, couple short months. So to recap extremely, extremely quickly, I promise you it is more nuanced than this, but we’re going to go really quickly is if a transaction has a business purpose and changes the economic situation other than federal income tax benefits, then it has economic substance. If it has no business purpose or it does not change the taxpayer’s economic situation other than the federal income tax benefits, then it lacks economic substance and it won’t be respected. That that’s it that’s the really, really, really short version, I promise you. I’m going to go into it more cases. Liberty Global Inc. Versus the United States 10th Circuit, two to one decision. The dissent is actually more interesting.

Matthew Foreman [00:02:45]:
I think I’m actually going to talk about the dissent for longer than I do the majority, which is, which is somewhat telling. I don’t, I don’t know, maybe it’s not, but I think it’s an interesting case. Liberty. Liberty Global undertook in late 2017. It undertook what it called Project Soy. For those who don’t know, any time that there’s a transaction, they give it a code name. And they do that for reasons that are somewhat beyond my comprehension. When a company’s being bought or sold, I understand it because they don’t want to call it Project by Microsoft, you know, or, or Project by this company, whatever.

Matthew Foreman [00:03:19]:
They want to give it a code name, so they do. Why internal ones have code names is slightly beyond my understanding. But here we are. You know, maybe they don’t have to call it, you know, Project Reorganization, wink wink. Right. So what, what they did was they undertook Project SOY to a. Due to a timing mismatch at the last moments before the Tax Cuts and Jobs Act. I won’t explain what they did because it isn’t actually relevant to this episode, which is strange to say, but I actually think if I were to discuss what they did from a mechanical perspective, I would spend 20 minutes.

Matthew Foreman [00:03:52]:
The one of the dissents actual points in this is basically, and actually it’s a valid point is there’s. They say, well, the majority doesn’t actually explain what happened, so we will. And they do. There’s slides from the deck and the decision. The dissent actually does a fairly good job of explaining actually the, the majority actually does it enough. The issue in Liberty Global, I’m going to call it Project soy. I think it’s better name anyway. And I was told by a someone who writes about tax law and taxation for a living that Project SOY gets a lot of clicks because it’s more interesting.

Matthew Foreman [00:04:25]:
Okay. Anyway, so the issue isn’t whether the transaction has any non tax purpose, but whether the economic substance doctrine is relevant to attempts by the taxpayer to mechanically utilize the provisions of the tax code to attain a benefit not intended by Congress. So before I get into the majority, which I will do in just a moment, it’s important to understand that both the taxpayer, the irs, US Government and the majority and the dissent agreement that this restructuring had no purpose other than tax benefits. I cannot express how strange that is to say out loud because it’s the kind of thing that you hear and you’re just like, I can’t believe my client actually said we did it for tax only. We didn’t do anything else. There are certain situations which I’ll get into where that’s okay. But yeah, no, not something, not something you ever want to hear. Clients say I did it for tax benefit.

Matthew Foreman [00:05:24]:
Right. There are situations again, but not always. So the majority. Right. Two to one. I think for the record, this is, this is going to come back to a. I believe the taxpayer is already appealed, but I’m not sure for en banc. And en banc is when the entire circuit.

Matthew Foreman [00:05:40]:
Right. The whole thing listens to it and rehearse the case. So I do think that’s going to happen. I don’t think it’s going to Supreme Court, at least not yet. And candidly, I don’t, I don’t actually think it’s going to go through court generally. I don’t think they want to hear it. So I think the en banc is going to be the final of it. But it’s an interesting one.

Matthew Foreman [00:05:55]:
And just so I buried. Don’t bury the lead. There was no economic substance and the IRS won. All right, so majority. They cited Blum 10 Circuit case, and it says that taxate transactions that comply with the literal terms of the code can be disregarded under federal common law or case law if they have no economic substance and instead they are mere tax avoidance schemes. I think this case is a lot like Gregory, which, boy howdy. The dissent cited for its non holding, but ignored the holding, which is troubling and frustrating. But the crux is that, you know, the economic substance doctrine applies to every single transaction always and forever.

Matthew Foreman [00:06:35]:
Okay. I think that’s a really important point. You know, and this is really what Project SOY stands for, is the idea that there are no transactions and there are actually transactions that are exceptions to this, but there are no transactions that you can do solely for tax benefits. Okay. However, what they sort of point out lightly and the dissent actually makes a valid argument, I just don’t think it’s applicable here, is that there are transactions you can undertake solely for tax benefits. Right. You’re not going to do an A reorg. So for any reason other than the tax benefits, otherwise you would just do certain things.

Matthew Foreman [00:07:10]:
You would just distribute, contribute, whatever. Right. So I think that that’s really important to note that the majority, I actually don’t think says it as strongly as the dissent seems to think it says I’ll use the word interesting. I don’t know what the right word is. And I think it’s really important to kind of go through it somewhat slowly. So footnote eight, you know, this is one of those ones where I actually think the footnotes, some of the footnotes are really interesting. Footnote 8 discusses economic substance doctrine in some detail with a lot of citations. Cites Keeler, collect.

Matthew Foreman [00:07:41]:
I’m not able to read my Keeler. It’s Coltech. Excuse me. C O L, T E C. I’m dealing with allergies, so my eyes are a little bloodshot now. And a great article by Brett Wells from When 7710, which is the economic substance doctrine, was enacted. I actually recommend reading the article by Brett Wells. I think it’s worth reading to really understand it, really work through it and think about kind of what.

Matthew Foreman [00:08:04]:
What economic substance trying to do at the time. Right. What. Why was it enacted when there was already case law? Right. The question at hand is when does the economic substance doctrine apply? And what they say is, you look at is the transaction a basis, basic business transaction. Basic business transactions are not subject to the economic substance doctrine. So a basic. A reorg.

Matthew Foreman [00:08:29]:
That’s okay. Formation of an entity. That’s okay. Right. Remember, a transaction in this important is defined to include parts of a transaction and the transaction on the whole itself. So it’s a bit of a catch 22, if I’m using that. Right. But it’s kind of interesting, you know, and I think that’s really interesting.

Matthew Foreman [00:08:46]:
And this is really kind of what the dissent took up. And I’ll talk about this in a moment. The conclusion, and it’s that even, and this is, I actually think, really important, even if each part of the large of a larger transaction is fine, you must look at the whole thing, the overarching transaction. And what they’re saying is if you have a transaction that’s just like in this case, four basic transactions, four basic business transactions, that doesn’t mean you’re fine. That doesn’t mean you’re okay. What it actually means is that even though a single part or a couple parts of the transaction are okay, if you look at the overarching thing and say, is the whole transaction a basic business transaction? And one of the things I talked about, and I’ve talked, discussed it before, is let’s say that there’s a different, a different tax consequence for having an S Corp, for having a partnership. They are generally, despite my frustrations with S Corps, they’re generally taxed in Extremely similar manners. But for example, under section108, which is for cancellation of deadness income, the analysis to whether to exclude the cancellation of indebtedness income under section 108 is done at the partner level, but it’s done at the S Corporation level.

Matthew Foreman [00:09:57]:
Right? So what happens is if you’re an S Corp and the S Corp is broke, is bankrupt, then there’s no income that goes up to the S Corp shareholders. But for a partnership, that’s not the case. The income goes up and then you do the 108 analysis. Right. And so what people say is, well, can’t we just a moment before become it? And this is actually a really interesting open question, right. Making a check the box election is actually a basic business transaction, most likely as they define it. So the question is, does the check the box regime, which is something they actually talk about in the dissent in pretty heavy detail, would you be able to do that immediately before I suspect the IRS would say, would attack it? And they say, no, no, no, this has no economic substance. It doesn’t matter.

Matthew Foreman [00:10:37]:
The business is going out. You’re doing this only for tax benefits. I respond, why else can you make an election but for tax benefits? Right. And that’s, I think an important argument is that, well, why else would you do this? And this is kind of what the dissent saying. I think they’re taking it too far. I’m gonna make fun of them a little bit because I think they miss Gregory. But here we are, and I’ll talk about Gregory later. If you don’t know who Gregory is, then you should really go through famous, My famous cases, one episode, which was a while ago.

Matthew Foreman [00:11:05]:
But I think it talks about Gregory in a lot of detail and explains why I generally, when people cite it, I kind of cringe for the most part. All right, let’s get some music in. And we’re going to come back and talk about the descent. All right, welcome back. We are talking about Project soy. Let’s get to the dissent, Judge. It’s EID or eid. I don’t, I honestly don’t know how to pronounce her name.

Matthew Foreman [00:11:47]:
I apologize for that. But the dissent is. Is interesting. It’s about, it’s, you know, roughly as long as the majority opinion, which I’m always kind of fascinated by that general idea. Dissents generally fascinate me. I suspect that I’m not the only lawyer who thinks about that. But someone being like, majority is so stupid, I have to tell them why they’re stupid. It’s Kind of fascinating, especially at the district or circuit court level, where, you know, they’re basically like, look, I’m just going to write this and hope the Supreme Court, or hope the next level, you know, agrees with me.

Matthew Foreman [00:12:17]:
Ha. Right. That that’s all they’re really doing. Sometimes they get a little snooty, but here we are. So what the dissent says is you determine if the economic substance doctrine applies as if 7701 doesn’t exist, I. E. You’re going to use your case law that’s in 7701.05cap capital C. And it’s O, not 077010 is the full citation.

Matthew Foreman [00:12:40]:
This is correct, Right. You have to say, even if 7710 doesn’t exist, you’re going to do it. And I think she misapplies it here. The judge misapplies it here, which I’ll get to here. But it’s important to note, 7701 basically said, here’s the economic substance doctrine stated, however, it does not override, modify, change anything the case law that existed before. So there’s actually slight differences in the economic substance doctrine by. By circuit, not substantial, but a little bit quirky in different cases. But basically what it did was it pulled it in and tried to standardize it.

Matthew Foreman [00:13:18]:
I just think they viewed it as, A, unusable, and B, there’s some questions whether it existed generally because it was the case law and Congress didn’t do anything. So Congress said, all right, we’re gonna. We’re gonna step in here and do something that. This had cited a lot of cases. You know, they cited Williams v. Taylor, which is a 2003 court case, citing. Which is a 1955 Supreme Court case, and it says that the cardinal principle of statutory construction is that courts must give the effect, if possible to every clause and every word of a statue. And I think that’s really important to think about, right? Because sometimes you get.

Matthew Foreman [00:13:54]:
And this is. This is a Ben Fold song, right? A quote out of context, right? Withholding the rest. So I can be for you what you want me to be. And what. What happens is you get people. And this is. This is Gregory, right? They quote. There’s no, you know, there’s no American duty.

Matthew Foreman [00:14:12]:
It’s not patriotic to pay more tax you have to do. But people was like, yeah, but the conclusion in Gregory is this is not bad. This is not that situation. It did go too far. There is too far. It may not be patriotic to pay more taxes, but it’s Something we have to do as Americans is pay the correct amount of taxes and you can’t do any goofy, ridiculous thing in order to lower your taxes solely for that reason. So I think that’s a really important point. Then cites part, the dissent then cites part of the, of the code where economic substance doctrine is not relevant because various statutes provide favorable tax treatment and for non economic reasons, this is true.

Matthew Foreman [00:14:49]:
Okay. Those areas are, there’s a lot of them. I’m going to give you a couple because I think that they’re important. It talks about the concept of the check the box regime, which is where you can decide to be an S Corp, C Corp. Partnership, disregard entity, whatever it is, depending on different factors, you’re allowed to do that. That is something that you can do for non economic reasons, solely for tax reasons. Okay. And you know, she talks about, the judge talks about that a lot.

Matthew Foreman [00:15:17]:
He called her she, which is really interesting because I actually don’t know if the, the who, the earth majority. But you know, what the judge talks about is it gives specific examples. But what’s really important and the majority kind of talks about this too is this is true. But guilty is not that the taxes issue was repatriation and guilty. So it was an extremely substantive tax code section that they then try to structure around for, for not doing non economic things but for tax reasons. Right. And then it says the economic, the dissent says the economic substance doctrine cannot frustrate congressional intent. But and this is really important, Congress didn’t allow, you know, they’re like, oh, but you know Congress, they, she says, well, you know, Congress allowed to do this.

Matthew Foreman [00:16:02]:
They could have drafted better. And look, I am the first, the first person to say that guilty was not the best draft of statute. Neither was that entire bill. It was rushed. It was rushed. At the end. There were some real issues, you know, talk about. There was the grain glitch.

Matthew Foreman [00:16:14]:
It wasn’t a glitch. That was bad drafting. And I think it’s really important to understand that, okay, what the tax here says, and the taxi admits this, right. And the majority says this and dissent actually says this too, is that this wasn’t really what Congress intended, right, for this specific mismatch to happen. But they saw a planning opportunity because candidly, they have an extremely interesting structure. This is a, a, a public company that owns, partially owns other public companies across multiple borders. Okay. So it is an extremely specific and nuanced structure that comes in that allowed them to do it.

Matthew Foreman [00:16:51]:
I wouldn’t be surprised if they were the own either. A the only company that really did this on an aggressive level the way they did it or everyone else settled because at this point we would know if anyone else did it, it would have worked through litigation. Okay. Then it cites Bullware, which is a 2008 Supreme Court opinion. It says to apply the economic substance doctrine to see if the economic steps of the transaction are real, which the taxpayer again said that they were hollow and tax motivated. So this is where I’m really struggling to understand the dissent because they’re like yo, just you see if it is real and you have to do this and it’s like, well look like, like the tax repeatedly says these are not real real. Because I think the taxer knows that there is no moment, there’s no argument, probably the best word to say that these were real steps because before it owned what it owned and after it owned exactly the same thing in exactly the same proportion by the same economic owners, it just restructured an internal sales in order to, in order to get a tax benefit. So the sense is you start the analysis.

Matthew Foreman [00:17:50]:
So dissent now starts their analysis and then gives some background law. And it cites the dicta and Gregory, look, Gregory was hollow machinations and reorganizations to lower taxes. There was no hint of irony or sarcasm in the dissent inciting it. And then moving on is the fifth Circuit. Right. This is, excuse me, this is the tenth Circuit case. So I don’t know if I can say, you know, bless their heart and I don’t think they really say that far out west. But this is a, that’s a quirky one.

Matthew Foreman [00:18:17]:
Right, right. You know, like you’re, you’re citing a case for a proposition that I don’t think it says in, in a manner that I don’t think it works. And they’re doing it without like being uhuh, we got some irony here because I, I, that’s really struggling. It cites Frank Lyon. Frank Lyon’s a really interesting one there. In that case, again, famous, famous case I talked about, Frank Lyon, you know, ownership actually changed. Yes, it was tax motivated, but there’s real economic change. I think that’s important.

Matthew Foreman [00:18:44]:
Inside Cottage Savings, again actually exchange loan portfolios, there was economic change. If one portfolio outperformed the other, one would do better, one would do worse. Yes, it allowed them to recognize realize gains, but it also had real economic consequences. This one, the ownership did not change at all. The cases make it clear in my view that the most relevant factor, save economic reality and tax, the most relevant factors are. Can’t read my own handwriting. Most Relevant factors are economic reality and the taxpayer’s motive. It notes.

Matthew Foreman [00:19:19]:
This is where I really talk about the checks. Checks. The box regime requires no business purpose. It talks about like the sale of certain tax credits. Oh, there’s no business purpose for that. I actually think there is a business purpose that is to raise capital. So, you know, I’m not convinced that that’s really true. But anyway, so, you know, look, the economic substance doctrine does not apply to all provisions and that are all form and no substance.

Matthew Foreman [00:19:41]:
That’s sum of holdings. I agree with that. That’s true. If they’re all form and no substance, that’s good. However, and I think this is really important. Tax free reorgs are not that. That’s not how it works. The reorg provisions require substance use in their forms.

Matthew Foreman [00:19:55]:
This is functionally. Gregory. Right. This is what was going on there. And this is where I really fell apart in the dissent. I liked a lot of the arguments that were made by the judge. I thought the writing was quite good, actually, of ways probably better than the majority. But I struggle with the idea that you’re citing a case for what is not its proposition without a hint of irony that the main argument that it makes actually dovetails really well with what’s going on here.

Matthew Foreman [00:20:22]:
And that’s it. So I just. I didn’t buy it. I didn’t buy it. I’m going to talk about Gregory a little bit more and then come to a conclusion. But let’s, let’s get another quick break in. We’re back with the Bring It On Home version or portion of episode 54 of how tax Work. So let’s talk about Gregory.

Matthew Foreman [00:21:00]:
All right, I’m going to just quote Justice Sutherland’s words because I think they were. I’m going to slightly paraphrase them to make them a little more direct as what’s, you know, really going on here. But I am not going to substantively change them because A, I don’t think I need to, and B, I don’t think I need to. So I’m just. I’m not gonna. This is from Gregory, in case you’re wondering. It’s. This is not the majority.

Matthew Foreman [00:21:26]:
This is the majority holding in Gregory. The whole undertaking, though conducted according to the terms of the code, was in fact an elaborate and devious form of conveyance masquerading as a corporate reorganization and nothing else. The rule that excludes from consideration the motive of tax avoidance is not pertinent to the situation because the transaction on its face lies outside of the plain Intent of the statute. To hold otherwise would be to exalt artifice above reality and to deprive the statutory provision in question of all serious purpose judgment affirmed. The majority says that this is a hollow right. This is hollow. These are forms. You’re just doing tax free reorgs, but nothing actually changed.

Matthew Foreman [00:22:07]:
The dissent seems to say, well, if there’s, if there’s a basic business transaction here, and each one is a basic business transaction here, then you’re fine. I think the dissent seeks to overrule Gregory. Gregory created for the first time Supreme Court level in the United States of America. I believe the economic sustenance doctrine. This is functionally what was eventually codified in 7710 of the internal revenue Code. So I think it’s really important to understand, okay. That in my view, hollowly following formalities without substance is the direct purview of the economic substance doctrine. And those hollowly falling formalities without substance will not be permitted under the economic substance doctrine.

Matthew Foreman [00:22:56]:
The entire purpose of the economic substance doctrine is to ensure that there is economic substance in the transaction. All right. And I think that that is where the dissent really went off. I think it got too into going through literal words and trying to carve out, I think that, that the judge wrote the dissent did not like the fact that they followed the law and it created a problem and saved on taxes. The IRS is trying to figure out, figure out what happened and then tries to recharacterize the transaction to clean up the fact that Congress is not terribly good at drafting. Use that present tense on purpose. I don’t disagree with their analysis. However, I disagree with the idea that you can take overly hollow machinations like they did and turn it into a, a reorganization to save on taxes, as they would have.

Matthew Foreman [00:24:05]:
Where something has absolutely no economic substance beyond what happened. Where the difference is. And they talk about this with clients, a fair amount is. If you do something where there’s reorganizations, where you in fact pay taxes, changing the timing of taxes is a real economic change and can change the real tax situation. So I’m not as worried and bothered by this. As long as you have a real economic change that happens, change in ownership, you’re paying taxes, tax situation changes, maybe there’s some ordinary income and later you have capital gains, things like that. That is a real and viable, real and viable argument. That does not bother me at all.

Matthew Foreman [00:24:50]:
However, what Liberty Global did, which candidly fairly brilliant, actually, I thought they did a really good job. Really interesting what they thought of. They found a nice one they exploited it. No one else can do it because no one else figured out what happened. Well, very few people thought of as a possibility. Plus it was extremely fact specific until into 2018. Law change, that was it. They had an extremely tight timeline to do it and boy did they ever do it.

Matthew Foreman [00:25:14]:
My guess is that they had a plan if there would ever be a change from a, from a worldwide system to a territorial system that required certain things to happen and they had thought through it and they were ready to go. There is no way, in my view, someone could have thought this through in the six or so weeks, even in the 10 or so weeks since the first draft. I just, I don’t view that as a realistic possibility. And I in some ways commend them for being able to do this. This, this was really, you know, look, tax lawyers like this interesting stuff. We enjoy the idea that what we do is complicated. And so I, I commend them for, you know, doing what they did. This is not easy and they work through it and it worked.

Matthew Foreman [00:26:04]:
I just, you know, good game, good effort, right. And that’s it. I don’t think this is the kind of thing that would work and I understand why. I do think this is the kind of thing. This is kind of interesting fact pattern. They filed it one way and then they amended and I suspect they did that because they may not have totally thought it would work and they didn’t want to have to pay interest and taxes and penalties. I suspect they just wanted to limit their exposure at litigation costs, which is what they did anyway, so that, that was the 54th episode that was Project Soy of how tax works. I hope you learned something.

Matthew Foreman [00:26:40]:
I’ll be back in two weeks with the 55th episode, first episode of season three. I’ll be talking about entity selection. Part two, payroll taxes in the era of Sorbonne Capital Partners and Serious Solutions. Lllp. Now for the best song of all time, Sam.