The Internal Revenue Code, a body of federal law enacted by Congress, is controlling authority in any federal tax dispute. Treasury Regulations, which interpret and expound upon various Code provisions, are also controlling except in the rare circumstance where a court decides that the regulation conflicts with the Code provision.
Even the voluminous and authoritative Treasury regulations cannot, however, address every conceivable tax issue that might arise under the Code. Consequently, the IRS is empowered to issue rules, policy statements, and interpretations in order to clarify the revenue laws. Two such pronouncements are the Revenue and Letter Rulings.
Constituting nothing more than the official position of the IRS with respect to the interpretation of the revenue laws, these rulings do not have the force of law. Consequently, courts of law are free to reject positions of the Service expounded in these agency briefs. Still, courts regularly defer to the expertise of federal agencies entrusted to administer federal law, and deference to the IRS in the administration of the federal tax laws is no exception.
As a practical matter, these rulings assume great importance, since structuring a transaction so that it falls within the scope of the ruling minimizes the potential for future problems with the IRS, at least with respect to that transaction. Moreover, although courts are not bound by rulings articulated by the Service, the converse is not true: The Service is bound by its position taken in Revenue Rulings, provided the ruling has not been withdrawn or superseded by the Code.
Revenue Rulings and Letter Rulings are different in scope and effect. The former constitute official interpretations of the tax law with respect to a specific set of facts. Their purpose is to inform and advise taxpayers, as well as to promote the uniform application of the tax laws by the IRS. As noted, Revenue Rulings may be cited and relied upon by any taxpayer in structuring contemplated transactions. The issuance of a Revenue Ruling is determined exclusively by the IRS, rather than by a direct request by any taxpayer.
Letter rulings, unlike Revenue Rulings, are issued in response to taxpayer request, and opinions expressed therein may be relied upon by the taxpayer seeking the ruling. However, the IRS takes the position that these rulings may not be relied upon by other taxpayers. Still, other taxpayers may seek guidance and illumination from these rulings, especially where the factual circumstances are similar.
The Service will not issue letter rulings in certain circumstances, including those where the transaction (1) has no bona fide business purpose or has as its principal purpose tax avoidance, (2) involves alternate plans or a hypothetical situation, (3) involves income or gift tax after a return has been filed, (4) involves issues which are under the jurisdiction of a District or Appeals Office, (5) concerns the applicability of an estate tax to matters involving a living person is involved, (6) involves a question of fact or a determination of “reasonableness” under the Code, or (7) involves a transaction which is part of an larger, integrated transaction.
Although advantageous for the reasons articulated above, it is not always in the taxpayer’s best interest to seek a letter ruling. Before issuing a favorable ruling, the Service may recommend changes in a proposed transaction. If the taxpayer is unable or unwilling to make the changes, he may withdraw the request for a ruling. However, having alerted the I.R.S. to the proposed transaction, the likelihood of the taxpayer’s being questioned on subsequent audit is increased. Therefore, if the likelihood of a favorable ruling appears slim, and the contemplated transaction that has little room for flexibility, then it might be preferable not to seek a ruling.
Another less abstruse factor may also discourage the taxpayer from making a request for a letter ruling: The taxpayer must pay a fee, ranging from $500 for a request from an individual, trust, or estate with total income of less than $150,000, to $2,500 for most other rulings. Letter rulings are generally handled in the order in which they are received by the Service, although expedited handling of requests is possible if there is a “compelling need” for such priority.
Once a decision is made to request a ruling, the taxpayer must furnish the Service with a statement of facts, a statement of the ruling requested, supporting authorities, and a declaration stating that none of the issues pertaining to the ruling request is under current audit, or is in a return of a taxpayer with reference to which the statute of limitations for assessment has not expired.
Despite the cost and delay associated with seeking a letter ruling, and the circumscribed number of situations in which the Service will issue letter rulings, the issuance of a favorable ruling may well provide a level of certainty and freedom from future controversy that is unparalleled in the tax law. The possibility also exists that the Service will, during the process of ruling on the request, suggest changes in the proposed transaction that will permit the I.R.S. to give its blessing. If those recommended changes can be implemented without causing substantial hardship for the taxpayer, the ruling request may have accomplished the result of resolving a potential dispute at an early juncture, in an efficient and equitable manner.