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Supreme Court rebuffs IRS on statute of limitations for basis overstatements

April 25, 2012  |   Tax Alerts   |     |   0 Comment

The Supreme Court has resolved a longstanding split among U.S. circuit courts by concluding in Home Concrete & Supply, LLC, Sup. Ct., April 25, 2012, that a taxpayer’s overstatement of tax basis does not result in an omission of income for statute of limitations purposes. As a result, the Supreme Court invalidated Treasury regulations (TD 9511) that gave the IRS six years, rather than the three provided under Code Sec. 6501(a), to act against taxpayers that overstated their basis in an interest. The final regulations had provided that an overstatement of basis was an omission of income, which under Code Sec. 6501 increased the statute of limitations period for assessment to six years.


Under Code Sec. 6501(a), the IRS ordinarily must assess a deficiency against a taxpayer within three years after the return was filed. Under Code Sec. 6501(e)(1)(A), however, the three-year period is extended to six years if a taxpayer “omits from gross income an amount properly includible therein,” which exceeds 25 percent of the amount of gross income shown on the return.

In the past, the IRS has attempted to use the longer statute of limitations to assess taxes against taxpayers that overstated their basis, generally those involved in basis-reduction tax evasion schemes such as “Son of Boss” tax shelters. However, the circuit courts have been split on the issue of whether or not overstatement of basis constitutes an omission of income. Most notably the Fourth, Fifth and Ninth Circuits ruled that overstatements of basis were not omissions of income and therefore triggered only a three-year, rather than six-year, limitations period on assessment.

Home Concrete

In the Home Concrete case, the IRS failed to act within the requisite three years after the filing of the return. Since the IRS issued a deficiency notice within a six-year period, the statute could have applied if the taxpayer had been treated as having omitted gross income. The issue was whether the taxpayer should be treated as having omitted gross income when the taxpayer overstated its basis in property sold, thereby understating the gain realized on the sale.

The district court found that an overstatement of basis triggered the six-year statute of limitations. However, on appeal, the Fourth Circuit concluded that the plain meaning of “omit” clearly meant “to leave out or to fail to mention.” Since the taxpayers had not left out their transaction (and had in fact provided its details on their return), the court applied the three-year statute of limitations.

Meanwhile, during the litigation on the statute of limitations issue, the IRS issued the final regs.

Final regs

The IRS and Treasury issued final regulations in December 2010. The promulgation of these final regulations on overstatement of basis was a controversial exercise of agency authority, because the Treasury had effectively intended to render the trial courts’ role meaningless by issuing the retroactive regulations. The Supreme Court now has limited the IRS’s power to do so, particularly in situations in which a position contrary to the IRS’s is also deemed to be “reasonable.”

The Home Concrete Supreme Court case therefore becomes a significant case for two reasons. First, it sets the limitations period for basis adjustments to three years, applicable not only to tax shelter investors but, more importantly, to ordinary business owners and investors who may make a mistake in determining their tax basis on any particular sale. And second, it sets a limit on the IRS’s ability to reinforce its interpretation of the law through retroactive regulations, as well as setting restrictions on the level of deference to be given to agency rulemaking in general.