4th Circuit rejects BofA bid to net Merrill tax interest

SUMMARY

• Court ruled Bank of America and Merrill Lynch were not the same taxpayer at time of tax payments
• BofA sought to offset 2005 underpayment interest with Merrill overpayment interest from 1999 and 2010
• Judge Wynn said statute requires same taxpayer when payments are made, rejecting BofA’s interpretation
• Panel affirmed district court’s grant of partial summary judgment for the government

The 4th U.S. Circuit Court of Appeals has rejected Bank of America’s argument that interest it owed for tax underpayments should be offset by overpayment interest owed to Merrill Lynch after the corporations merged.

Bank of America claimed that its post-merger integration with Merrill rendered it the same taxpayer for purposes of interest-netting. The district court granted partial summary judgement because the corporations were distinct entities when the relative payments were made.

U.S. Circuit Judge James Andrew Wynn held that BofA’s statutory interpretation “overlooks the statutory requirement that the underpayments and overpayments must be made by the same taxpayer.”

“Because Bank of America and Merrill Lynch were distinct corporate entities when the relative payments were made, the interest netting provision does not apply,” the judge wrote.

Judges G. Steven Agee and Allison Jones Rushing joined Wynn in affirming the district court’s grant of summary judgment in Bank of America Corporation v. United States of America.

Attorneys representing the parties did not respond to a request for comment.

Interest-netting

Following its merger with Merrill Lynch in 2013, Bank of America sought to recover interest on its tax underpayments from 2005 by netting them against Merrill’s overpayments from 1999 and 2010 pursuant to § 6621 of the Internal Revenue Code.

Corporations are charged interest on federal tax underpayments at a higher rate than on overpayments. But a taxpayer who made both equivalent underpayments and overpayments during the same time period may eliminate any interest liability via interest-netting.

However, that provision applies only when both payments are made by the same taxpayer.

The District Court granted the government’s motion for partial summary judgment, finding that the BofA and Merrill Lynch were different companies before the merger, and therefore were not the same taxpayer when the payments were made.

Bank of America appealed.

Last-antecedent

Wynn agreed with the parties that “by the same taxpayer” modified “equivalent underpayments and overpayments,” rather than payable interest.

Looking to Lockhart v. United States, the judge said the “last-antecedent rule of construction, which the Supreme Court has applied ‘from [its] earliest decisions,’ ‘provides that a limiting clause or phrase … should ordinarily be read as modifying only the noun of phrase that it immediately follows.’”

“The preposition ‘by’ has many definitions, but by far the most natural here is ‘through the means or instrumentality of,’” Wynn wrote. “‘After all, no observation about taxpayers is more natural than that they make tax payments.’”

“In other words, the statute requires that the same taxpayer made the ‘equivalent underpayments and overpayments,'” the judge clarified.

In Energy East Corp. v. United States, the U.S. Court of Federal Claims concluded that § 6621(d) “provides an identified point in time at which the taxpayer must be the same, i.e., when the overpayments and underpayments are made.”

And the U.S. Federal Circuit Court of Appeals held in Wells Fargo & Co. v. United States “that a merged corporation could not net pre-merger interest in a situation materially identical to the case before us because even though ‘the two entities later merged[,] … Energy East makes clear that it is the identity of the corporation at the time of the payments that matters.’”

‘By the same taxpayer’

The parties disputed the meaning of the phrase “by the same taxpayer.” The bank argued that “by” in this context meant “with respect to” or “concerning,” and because overpayments and underpayments were BofA’s responsibility, they were considered the same taxpayer.

The bank’s reading of the statute “avoids the most natural understanding of the word ‘by,’” Wynn said.

“The Bank relies on the ninth definition of that word in a dictionary that lists definitions ‘in a numbered sequence in order of relative familiarity and importance, with the most current and important senses given first,’” the judge said.

“In contrast, ‘through the agency, means, instrumentality, or causation of’ is that dictionary’s second definition of ‘by,’” he pointed out.

Wynn explained that the latter definition worked more smoothly the context of § 6621(d) because “in a taxation case, the central relationship between ‘underpayments and overpayments’ and ‘taxpayer’ is one of causation by the taxpayer: the taxpayer underpays or overpays.”

“In practice, the Bank’s view would rewrite the statutory text to require the ‘same taxpayer’ to be liable now for the interest payable on an underpayment and entitled now to interest allowable on an overpayment,” the judge opined.

“But it is the underpayments and overpayments themselves, and not the ‘interest [that] is payable [on underpayments] and allowable [on overpayments],’ that must be ‘by the same taxpayer,’” he wrote.

The statute provided an identified point in time at which the taxpayer must be the same — when the overpayments and underpayments are made.

Here, the bank sought to net the interest on a pre-merger Bank of America underpayment against the interest on a pre-merger overpayment by Merrill.

“Underpayments and overpayments are made on specific dates prescribed by federal law — in this case, well before the Bank merged with Merrill Lynch in 2013,” Wynn noted. “‘The date of the overpayment,'[…] is defined as the date when the ‘amount allowable … exceeds the tax imposed.’”

There was no dispute about the dates that Merrill’s payments first exceeded its liabilities for the 1999 and 2005 tax year liabilities. Nor did BofA challenge the district court’s finding that the last date prescribed for the payment of its 2005 taxes was in 2006.

According to the bank, whether a taxpayer has an underpayment or overpayment for a particular tax year often is not known until after the taxpayer and the IRS finish making adjustments for that tax year, which can be many years later.

“But those adjustments do not themselves mark the date of an under- or overpayment; they only recognize the existence of earlier under- or overpayments, which is why interest begins accruing at that earlier date,” Wynn responded.

Wynn held that Bank of America and Merrill Lynch were not the same taxpayer when they made the under- and overpayments at issue here, therefore BofA was ineligible for interest netting under the plain text of the statute.

Textual differences

The bank contended that § 6621(d) should be interpreted consistently with § 6402(a), the balance-netting provision, because Congress wanted to ensure that a taxpayer that owes no tax will not have to pay interest.

“Although this argument has intuitive appeal, the interest-netting and balance-netting provisions have materially different language and purposes and therefore should not be applied together in every case,” Wynn rebutted.

Unlike the broader balance-netting provision, “the interest-netting provision applies only when there are under- and overpayments ‘by the same taxpayer’ and interest accrues on those payments during an overlapping period,” the judge said.

“Those textual differences make practical sense,” he noted, adding that a corporation’s overpayment credit toward its underpayment liability under §6402 would not cover the interest accrued on the underpayment.

“And logically, it is fair for the corporation to pay the government interest because the government essentially acted as the corporation’s creditor for five years,” Wynn said. “Thus, even if that corporation owes no tax, it does owe interest.”

Legislative history

Because the text of § 6621 was clear, Wynn felt no need to examine its legislative history, which also lent no support to the bank’s position.

Prior to § 6621’s passage, the judge said “‘if a corporate taxpayer has overpayments and underpayments outstanding at the same time, the IRS [c]ould offset those amounts [under § 6402(a)] and apply the appropriate interest rate to the remaining amount.’”

“But, under § 6402(a), the IRS would not offset an overpayment with an underpayment that had ‘been satisfied,’” Wynn wrote. “That is because § 6402(a) only applies when a corporation has tax ‘liability,’ which the IRS naturally interpreted to mean outstanding tax liability.”

Therefore, once a taxpayer paid off their underpayment, they could no longer offset that underpayment with an outstanding overpayment to obtain interest netting.

Wyn described how taxpayers were perversely incentivized to delay the payment of uncontested underpayments so that they would be available to offset any later overpayments.

“Congress responded by passing § 6621(d), which eliminates interest on ‘equivalent underpayments and overpayments’ ‘for any period,’ ‘without regard to whether the underpayments or overpayments are currently outstanding,’” the judge said.

Rather than address whether merged companies are the same taxpayer, Wynn found that Congress only intended to allow taxpayers who had already satisfied their underpayments to obtain interest netting.

Wynn agreed that the bank’s position could lead to abusive mergers for the purpose of retroactively creating a “same taxpayer” to make interest-netting claims.

“[I]t’s not hard for us to believe that corporations would merge to obtain a tax benefit,” the judge noted. “That is particularly so given the high stakes of interest netting.”

Finally, the panel rejected the bank’s appeal to Delaware’s merger law, which retroactively treats the surviving company and the merged companies as the same company for federal tax purposes.

Not only did Congress — not the state — control federal taxing power, under which there was no analytical hole to be filled, Delaware’s law did not retroactively make BofA and Merrill the same at the time of payment.

“The Bank’s fundamental error is making the unsupported leap that A must therefore be retroactively the same as B prior to the merger,” Wynn wrote, adding that cases cited by the bank did not support its assertions.

EXTERNAL LINKS

• 4th U.S. Circuit Court of Appeals Opinions
• Internal Revenue Code § 6621
• U.S. Court of Federal Claims