By Steve Johnson, University Professor, Florida State University College of Law

There is a strong trend in the direction of international cooperation in tax enforcement. The ease with which money can flow around the global – approximately $1 trillion cross national borders every day – means that determined tax evaders often can hide taxable amounts from their home countries by moving wealth abroad.

Florida Bankers is an important recent event in international cooperation to detect and defeat such evasion. The United States District Court for the District of Columbia upheld the validity of Treasury regulations requiring U.S. banks to report interest paid to account holders residing in 70 foreign countries.[1] Pursuant to treaty obligations, this information can then be shared with the revenue authorities in those countries, to help them ascertain whether their residents are evading resident-country tax by using – and not reporting interest from – accounts in U.S. banks. Foreign countries will be expected to reciprocate by collecting and providing to the IRS information on accounts held by U.S. citizens and residents in banks in the foreign countries, helping the IRS curb evasion of U.S. taxes.[2]

For decades, Treasury regulations have required U.S. banks to provide to the IRS, to be shared with Canada, interest earned by Canadians from U.S. accounts.[3] In 2001, Treasury considered extending this approach as to nonresident aliens from all countries, but it chose not to do so.[4]

In 2011, Treasury revived that proposal. Extensive comments – some supportive, many negative – were submitted to Treasury with respect to the proposed regulations. Treasury considered and responded to these comments. It finalized the regulations, in 2012, but with changes.[5] Most importantly, the final regulations narrow the scope of the required reporting from accountholders from 196 countries to accountholders from only 70 countries – the 70 countries with which the U.S. has treaty obligations to share tax information.

The Florida Bankers Association and Texas Bankers Association collectively represent over 800 banks, at least 300 of which are considered small businesses under federal criteria. The Associations brought suit seeking injunctive and declaratory relief. They argued that the Treasury violated both the Administrative Procedure Act (“APA”)[6] and the Regulatory Flexibility Act (“RFA”)[7] in promulgating the regulations.

Before reaching the merits, the district court considered two jurisdictional arguments advanced by the Government. First, the court unsurprisingly rejected the Government’s contention that the plaintiffs lacked standing to sue. The Associations’ member banks were directly affected by the regulations. Under the representative standing doctrine, the Associations were proper parties to sue to vindicate their members’ interests because the suit was germane to their organizational purposes, “which involves policy advocacy on behalf of financial institutions.”[8]

Second, the Anti-Injunction Act (“AIA”) provides that, outside certain exceptions not here applicable, “no suit for the purpose of restraining the assessment or collection of any tax shall be maintained in any court by any person, whether or not such person is the person against whom such tax was assessed.”[9] Although judicial application of the AIA has been less than fully consistent, the AIA usually has been held to bar pre-enforcement challenge to tax regulations, requiring taxpayers or other aggrieved parties to raise the invalidity of the regulations in litigation after the IRS asserted that a tax or penalty was due.[10]

The district court rejected the Government’s contention that the AIA precluded the Associations’ pre-enforcement challenge to the regulations. The court reasoned in part that the suit sought to restrain a reporting requirement, not “the assessment or collection of [a] tax.”[11] Other recent cases also avoided the AIA on a variety of grounds.[12] Current AIA doctrine is in a state of serious confusion.

On the merits, the Associations’ principal set of arguments contended that the regulations were “arbitrary and capricious” under the APA. A long list of perceived substantive and procedural inadequacies was offered to support this contention, including that Treasury had failed to adequately quantify the relevant factors, had failed to adequately explain the choices embodied in the regulations, and had failed to appropriately balance the benefits and burdens of the additional reporting. Among the alleged burdens, the Associations were particularly concerned about loss of privacy of customers’ tax information and about possible capital flight – foreign depositors pulling their money out of U.S. accounts.

The court appropriately rejected these contentions. The Associations exaggerated the degree of precision the APA demands of an agency engaged in rulemaking. Agencies need not measure the immeasurable when exact data is not available. They may estimate within the bounds of reason. They need not explain what is common-sensical.[13]

Moreover, the Associations asked the court to perform an impermissible action in reweighing the competing policy considerations. The court noted that “arbitrary and capricious” is a narrow standard of review under which the court “is not supposed to substitute its judgment for that of the agency.”[14] Instead, “[b]alancing such costs and benefits is a policy choice for the Executive Branch to make.”[15]

The Associations’ other contention involved the RFA, which requires agencies to either analyze the impact of proposed rules on small businesses or certify “that the rule will not, if promulgated, have a significant economic impact on a substantial number of small entities.”[16] The Treasury had so certified. Courts are highly deferential as to such certifications, upholding them as long as the agency made a “reasonable, good-faith effort to carry out RFA’s mandate.”[17]

The Associations’ “capital flight” contention did not matter for RFA purposes. The Court read the RFA narrowly, concluding that it is concerned only with direct impacts (like reporting, recordkeeping, and similar costs), not with indirect effects, such as capital flight.[18]

Two “meta” conditions contributed to the Associations’ defeat. First, Treasury saw the regulations as important to the effectiveness of our extensive web of information sharing tax treaties, and judicial deference to the Executive Branch is at or near its apogee when foreign relations are implicated.[19]

Second, the court understood the seriousness of cross-border tax evasion and the importance of international cooperation to solve it. The challenged regulations are part of that cooperation. Similarly, the IRS has begun doing joint audits of some taxpayers with other countries’ tax agencies; the Organization for Economic Cooperation and Development is spearheading an international effort to prevent erosion of countries’ tax bases through avoidance and evasion schemes, and the U.S. Foreign Account Tax Compliance Act[20] is spawning a network of cooperative treaty arrangements. The Associations’ suit appears as an “America First” effort in tension with growing international tax cooperation. It seems like an attempt to turn the clock back. A party on “wrong end of history” is fighting up a steep hill.

The Associations may choose to appeal, but such an appeal would not be likely to succeed.[21] But the Associations and their allies may also pursue political redress. Home states congressional delegations have protested the regulations. Thus, the district court’s decision probably will not be the last we hear of this issue.

[1] Florida Bankers Ass’n v. U.S. Dep’t of Treasury, ___ F. Supp. 2d ___, 2014 WL 114519 (D.D.C. Jan. 13, 2014).

[2] The seriousness of evasion of U.S. taxes by use of foreign accounts, and the seriousness of the Government’s efforts to combat such evasion, are indexed in Senate Comm. on Homeland Security & Governmental Affairs, Permanent Subcomm. on Investigations, Offshore Tax Evasion: The Effort to Collect Unpaid Taxes on Billions in Hidden Offshore Accounts (Feb. 26, 2014).

[3] 61 Fed. Reg. 17,572 (Apr. 22, 1996).

[4] 66 Fed. Reg. 3925 (Jan. 17, 2001), corrected by 66 Fed. Reg. 15,820 (Mar. 21, 2001) & 66 Fed. Reg. 16,019 (Mar. 22, 2001), withdrawn by 67 Fed. Reg. 50,386 (Aug. 2, 2002).

[5] T.D. 9584, 77 Fed. Reg. 23,391 (2012).

[6] As here relevant, 5 U.S.C. § 706(2)(A) & (E).

[7] 5 U.S.C. §§ 603 to 605.

[8] 2014 WL 114519 at * 6 (citing International Broth. of Teamsters v. Dep’t of Transp., 724 F.3d 206, 211 (D.C. Cir. 2013)).

[9] 26 U.S.C. § 7421(a). A comparable prohibition exists with respect to declaratory judgments. 28 U.S.C. § 2201(a).

[10]  E.g., Alexander v. “Americans United” Inc., 416 U.S. 752, 762 (1974).

[11] 2014 WL 114519 at * 6-7 (citing Foodservice & Lodging Inst. Inc. v. Regan, 809 F.2d 842, 846 (D.C. Cir. 1987).

[12] E.g., National Fed’n of Indep. Bus. v. Sebelius, 132 S. Ct. 2566 (2012) (“NFIB”); Seven-Sky v. Holder, 661 F.3d 1 (D.C. Cir. 20122) abrogated on other grounds by NFIB; Cohen v. United States, 650 F.3d 717, 724 (D.C. Cir. 2011) (en banc); Halbig v. Sebelius, ___ F. Supp. 2d ___, 2014 WL 129023 (D.D.C. Jan. 15, 2014).

[13] 2014 WL 114519 at * 7-8.

[14] Id. at * 5 (quoting National Ass’n of Home Builders v. Norton, 340 F. 3d 835, 841 (9th Cir. 2003)).

[15] 2014 WL 114519 at * 9.

[16] 5 U.S.C. §§ 603-605(b).

[17] 2014 WL 114519 at * 10 (quoting United Cellular Corp. v. FCC, 254 F. 3d 78, 88 (D.C. Cir. 2001)).

[18] 2014 WL 114519 at * 10.

[19] E.g., Pasquantino v. United States, 544 U.S. 349, 369 (2004); United States v. Curtiss-Wright Export Corp., 299 U.S. 304, 320 (1936).

[20] 26 U.S.C. §§ 1471-1474.

[21] But see Patrick J. Smith, District Court Misapplies APA in Florida Bankers Association, 142 Tax Notes 745 (Feb. 17, 2014) (criticizing the decision).