The Honorable Michael Faulkender
United States Deputy Secretary of the Treasury
Acting Commissioner, Internal Revenue Service
1111 Constitution Ave., NW
Washington, DC 20224
Dear Commissioner Faulkender:
On behalf of National Taxpayers Union (NTU), America’s oldest national level taxpayer advocacy organization, I write first to wholeheartedly praise the decision you and your colleagues made in withdrawing REG-124593-23, “Certain Partnership Related-Party Basis Adjustment Transactions as Transactions of Interest.” In addition, I write to recommend withdrawing or clarifying Revenue Ruling 2024-14, which NTU would describe as the most problematic part of the Internal Revenue Service’s flawed attempt at addressing what it indiscriminately termed “basis-shifting transactions” among partnerships. Allowing Revenue Ruling 2024-14 to perpetuate itself would drive uncertainty among taxpayers and practitioners, as well as foment administrative mischief at the Internal Revenue Service.
As you may know, NTU has a 40-plus year history of involvement in tax administration issues, predating the first IRS Taxpayer Bill of Rights that was enacted in the Technical and Miscellaneous Revenue Act of 1988. Our former Executive Vice President was named by then-Senator Bob Dole to the National Commission on Restructuring the IRS, many of whose recommendations became the basis (in 1998) of the most comprehensive IRS reform effort in a generation. We led a coalition of dozens of center-right organizations that supported passage of the Taxpayer First Act of 2019, and subsequently warned that the Inflation Reduction Act’s massive infusion of tax enforcement resources unwisely broke from the bipartisan, consensus-driven approach to IRS transformation that had prevailed in the past.
Given NTU’s history, we were greatly concerned over the IRS’s recent, aggressive stance toward partnerships and its arbitrary invocation of the Economic Substance Doctrine (ESD) to justify increasingly tenuous positions against taxpayers. We filed comments in response to the Service’s rulemakings and guidance in this area, while the public interest litigation arm of National Taxpayers Union Foundation (the Taxpayer Defense Center) has filed amicus briefs in two precedential cases involving the ESD. On March 28, we published yet another coalition statement of organizations urging Secretary Bessent to undertake urgent tax administration changes that included reexamining “cumbersome, unworkable strictures on economic sectors the IRS did not understand, unnecessary compliance burdens on the public, depredations on taxpayers’ rights, and outright defiance of congressional statutory intent.”1 Revenue Ruling 2024-14 meets all of these criteria.
Throughout the course of our work, we have become more convinced in our belief that, unless the IRS realigns its behavior toward the ESD in general and partnership activities in particular, even broader swaths of the tax filing population could be subject to harsh, onerous enforcement tactics at the hands of the government. You and your colleagues have already taken the first steps toward addressing these maladies. We therefore urge you to move forward with the following additional actions.
Repeal or Substantially Limit Revenue Ruling 2024-14. As vital and welcome as Treasury’s decision to withdraw REG-124593 is, other IRS edicts are inextricably linked to that rulemaking and continue to present challenges to taxpayers. As we noted in our comments to the IRS in August of 2024:
[T]he IRS acknowledges that REG-124593-23 is part of a coordinated guidance effort aimed at curbing what it calls ‘basis shifting’ among certain partnership operations. An integral part of this guidance is Revenue Ruling 2024-14, which explains the Service’s new position that it will wield the statutorily codified economic substance doctrine (ESD) against three defined ‘basis shifting’ transactions among related parties, across its entire spectrum of examination and enforcement powers [emphasis added].2
We also wrote that this is “a controversial position,” and cited a publication from Skadden that warned:
Notably, the IRS relies on IRC section 7701(o) and not Treasury Regulation section 1.701-2, the partnership anti-abuse rules. This reflects a broader and questionable trend by the IRS to expand the application of IRC section 7701(o) in contexts not traditionally considered to be subject to the economic substance doctrine or where another anti-abuse provision or doctrine already exists. Additionally, Revenue Ruling 2024-14 applies the economic substance doctrine without any consideration of its relevancy to the transactions at issue.3
Other respected members of the tax practitioner community, including Holland and Knight and EY, expressed concerns over 2024-14 as well, especially in light of two legal challenges to the IRS’s assertion of ESD that appeared to extend far beyond the statute in section 7701(o).4 A Tax Notes piece earlier this month authored by attorneys with SouthBank Legal also pragmatically pointed out the contradiction between reversing REG-124593-23 and allowing Revenue Ruling 2024-14 to stand:
[L]eaving the revenue ruling in place would be ironic since the revenue ruling was the theoretical foundation of the now targeted reportable-transaction rules and the now rejected additional regulations that were under development. Assuming the new administration does not aim to be self-defeating, betting odds may be long on Rev. Rul. 2024-14 making it many more rounds.5
In its August 2024 comments to the IRS, NTU recommended that, because of 2024-14’s problematic nature, “it is sensible from a cost-benefit standpoint for both stakeholders inside and outside of government to pause making further guidance in this area final.” Now that REG-124593-23 has been withdrawn, the next logical step is to prevent 2024-14 from doing any further damage to the already battered confidence taxpayers had in the efficacy of 7701(o)’s limits.
Prevent the Aggressive, Potentially Unlawful Enforcement Mentality from Metastasizing. Since the fall of 2023, the IRS and Treasury have operated a combined enforcement unit whose primary purpose was to wield ESD claims against pass-through businesses.6 As long as this entity exists, it will be driven in search of activities to justify its original remit—that partnerships are some mother lode of undiscovered revenue and the ESD is a convenient tool to mine it regardless of how badly the tax administration landscape is scarred. Even without rulemakings and guidance to buttress this reason for creation, the special enforcement unit could collaborate on additional “bottom-up” sub regulatory guidance, engage in questionable examination tactics against law-abiding business arrangements, develop exotic ESD-litigation strategies that could prove costly to the government, or conduct biased research and modeling efforts that presage another round of enforcement against taxpayers engaging in perfectly legitimate behavior.
In the March 28 coalition letter to Secretary Bessent, NTU and its colleague organizations wrote that “the special unit is creating the next crisis for taxpayer rights and government enforcement resources with this arbitrary campaign.” Disbanding it, and directing its human resources to other, less tenuous, enforcement pursuits, is in the best interest of the government as well as taxpayers.
Additional problems with the IRS’s overreliance on ESD will persist from the top down unless such action is taken. Recently, an IRS Associate Chief Counsel told attendees at the NYU/KMPG Tax Symposium that the Service’s recent turn to ESD-based enforcement was “an antidote to literalism.” Practitioners see the matter differently, and more darkly. As a partner with Mayer Brown, LLC remarked, at the hands of tax authorities the ESD is now “essentially being used as if it’s a general anti-avoidance rule.”7 For this reason, another important step would be a managerial communication from leadership directing lower-level staff to cease creative reinterpretations of Regulation 1.701-2 (partnership anti-abuse rules) that apparently began in 2022 and provided convenient justification for REG-124593-23, Revenue Ruling 2024-14, and Notice 2024-54. Current cases initiated under this 2022 mindset should be reevaluated in light of REG-124593-23’s withdrawal.
Take a More Holistic View of the Tax Administration Sphere. The previous administration’s near-obsessive focus on partnerships was driven by the belief that vast revenue collection potential exists in some sectors of our economy if only the IRS were handed sufficiently intimidating enforcement tools. Unfortunately, history has shown that there are no gold mines leading to such easy riches for the government. Instead, the pursuit of the “shiny object” leaves many innocent taxpayers harmed along the way, while distracting the Service’s attention from top-notch customer service and clear, consistent, guidance that provide the basis of respect for the law. One area in need of clarity and consistency is the IRS’s listed transaction and transaction of interest authority. Traditionally, the IRS has invoked these powers when it needs a closer look at, and more regular flow of, information to fairly administer complex tax provisions that a few taxpayers may be stretching beyond congressional intent.
More recently, however, listed transactions and transactions of interest have taken on a menacing character, appearing to many taxpayers as a method of imposing such heavy reporting, recordkeeping, and defensive planning burdens that they are deliberately deterred from utilizing the laws Congress expressly provided. Three examples include Section 170(h) and Section 831(b) of the Tax Code, along with Notice 2024-54. Fortunately, 2024-54 was also recently repealed, but the question of when and how far the IRS may interpret its reportable-transaction prerogatives remains. Instead of drawn-out litigation, taxpayers and the government would both be better off if the IRS were to issue new guidance (subject to notice and comment under the Administrative Procedure Act) that would establish “rules of the road” for this authority across all areas of tax law. As NTU has observed before, strategic ambiguity may have its place in statecraft, but it carries far greater risks in tax law enforcement.
Many other matters of tax administration reform await the Treasury’s and the IRS’s leadership, including, but not limited to:
- Enhancing customer service, which could encourage front-end compliance with tax laws;
- Modernizing legacy IT systems such as the Individual and Business Master Files, which could greatly facilitate speedy resolution of controversies over relatively simple taxpayer filing errors or government misinterpretations;
- Prioritizing resources to the Independent Office of Appeals and the Taxpayer Advocate, which could avoid costly and protracted litigation in the courts as well as bolster taxpayer confidence in the fairness of the system;
- Repealing or modifying other counterproductive rulemakings that the legislative branch fails to address through the Congressional Review Act process. The IRS’s recent decision to delay until mid-July implementation of controversial rules regarding 831(b) activities is but one praiseworthy example.
Over the longer term, establishing or reconstituting additional mechanisms to ensure better tax administration (e.g., a regulatory simplification commission or a revived IRS Oversight Board).
In the nearer future, however, the IRS and the Treasury can make tremendously helpful strides toward voluntary taxpayer compliance and sound tax administration by completing the job of withdrawing Revenue Ruling 2024-14.
NTU’s team would eagerly appreciate the opportunity to collaborate with you on all your endeavors at the IRS. Thank you for your consideration.
Sincerely,
Pete Sepp
President
cc: Kevin Salinger
United States Deputy Assistant Secretary for Tax Policy
Department of the Treasury
1 See the letter to Secretary Bessent at https://www.ntu.org/publications/detail/improve-the-us-tax-system-by-repealing-last-minute-rulemakings.
2 See NTU’s comments at https://www.ntu.org/publications/detail/ntu-submitted-comments-to-the-irs-on-new-compliance-burdens.
3 See The IRS Takes Aim at Basis Adjustments in Partnership Transactions | Insights | Skadden, Arps, Slate, Meagher & Flom LLP.
4 The public litigation arm of NTU’s educational affiliate, National Taxpayers Union Foundation, has filed amicus briefs in these two cases. See https://www.ntu.org/foundation/detail/taxpayer-defense-center-urges-narrow-application-of-economic-substance-doctrine-in-liberty-global-inc-v-united-states and https://www.ntu.org/foundation/detail/ntuf-urges-tax-court-to-limit-economic-substance-doctrine-on-captive-insurance-companies.
5 See the article at https://www.taxnotes.com/tax-notes-federal/litigation-and-appeals/trumping-economic-substance-doctrine-varian/2025/04/28/7s108. The authors, Nathaniel S. Pollack, Stephen M. Judge, and Tiernan B. Kane, provide an excellent analysis of how the Tax Court’s August 2024 Varian decision slowed the Biden Administration’s rush to rely upon ESD, but also buttressed arguments for withdrawing 2024-14 in light of the Trump Administration’s subsequent Executive Orders.
6 See https://www.irs.gov/newsroom/irs-to-establish-special-pass-through-organization-to-help-with-high-income-compliance-efforts-new-workgroup-to-blend-current-employees-and-new-hires-to-focus-on-complex-partnerships-other-key-areas.
7 See media coverage of and reaction to the IRS official’s remarks at https://news.bloombergtax.com/daily-tax-report/court-cases-spur-irs-economic-substance-test-use-official-says.