Codification of the Economic Substance Doctrine or how Congress Commemorated the Seventy-Fifth Anniversary of the Gregory Case

Abstract

The year 2010 marks the 75th anniversary of Gregory v. Helvering, 293 U.S. 465 (1935), a landmark case in the area of corporate reorganizations. Gregory journeyed through the Board of Tax Appeals, the Second Circuit Court of Appeals, and eventually the Supreme Court in 1935. The concepts that evolved from the Gregory case include the business purpose test, continuity of business, the taxpayer’s right to minimize tax liability, step transaction doctrine, and the economic substance doctrine. As of November 30, 2010 the Gregory case had been cited 3,432 times, indicating that Gregory has passed the test of time. Earlier in this decade, the Treasury Department sought a codification of the economic substance doctrine, which had its origin in the Gregory case, as a necessary weapon to curb the growth of corporate tax shelters. While the doctrine had been part of the fabric of our tax system since Gregory, it had been eroded by some confusing and conflicting case law. On March 30, 2010 Congress granted this wish by codifying the economic substance rules as part of P.L. 111-152 entitled Healthcare and Education Reconciliation Act of 2010 Section 7701(o) of the Internal Revenue Code now reads: In the case of any transaction to which the economic substance doctrine is relevant, such transaction shall be treated as having economic substance only if -- (A) the transaction changes in a meaningful way (apart from Federal income tax effects) the taxpayer's economic position, and (B) the taxpayer has a substantial purpose (apart from Federal income tax effects) for entering into such transaction. In order to understand this new legislation it is necessary to explore the long and grand history of the Gregory case. In addition this paper will consider the merits and demerits of the codification of the economic substance doctrine.