Contracting in Anticipation of Tax Reform—Can a Tax Transaction Really Be Rescinded?

Tax reform is on the horizon. It’s in the press every single day, however till US Congress can get collectively and make a closing resolution, it’s all conjecture. So what can taxpayers do to arrange for the inevitable? One concept is to enter into a transaction now with the expectation that sure tax provisions might be enacted, and if these tax provisions will not be enacted by December 31, 2021, unwind the transaction as if nothing ever occurred—the proverbial tax “do-over,” “mulligan,” or “oopsie.” There may be foundation for this technique beneath the doctrine of rescission.

A transaction rescission happens when all events conform to void the transaction as if nothing occurred. (Suppose of the events bodily ripping up the formal, executed contracts.) This may increasingly sound a bit foolish, but when the events can enter into a transaction, why shouldn’t they have the ability to determine to void it?

The doctrine of rescission is well-entrenched in the regulation and finds its roots in contract regulation, nevertheless it can be relevant (and efficient) in tax regulation. Whereas the doctrine of rescission is nowhere to be discovered in the Inside Income Code or the Treasury Rules, case regulation ensures taxpayers that the doctrine is offered in a tax context. (See: e.g., Penn v. Robertson, 115 F.2d 167 (4th Cir. 1940).)

Likewise, in Income Ruling 80-58, the Inside Income Service (IRS) endorsed the doctrine of rescission, and the details in that ruling reveal the boundaries of the doctrine. In February 1978, A (a calendar yr taxpayer) offered a tract of land to B and obtained money for the whole buy worth. The contract of sale obligated A, on the request of B, to simply accept reconveyance of the land from B if at any time inside 9 months of the date of sale B was unable to have the land rezoned for B‘s business purposes. If there was a reconveyance under the contract, A and B would be placed in the same positions they were prior to the sale. The IRS ruled that “the original sale is to be disregarded for federal income tax purposes because the rescission extinguished any taxable income for that year with regard to that transaction.” There are numerous private letter rulings that provide additional examples of the IRS’s approval of the doctrine of rescission.

Importantly, the doctrine of rescission as relevant to tax points is ruled by the “annual accounting concept.” This idea pervades tax regulation and measures habits for tax functions based mostly upon the tax yr of the taxpayer. Because the Supreme Court docket of the US held, every taxable yr is a separate unit for tax accounting functions. (See: Security Flour Mills Co. v. Comm’r, 321 U.S. 281 (1944).) So the concept is that if a taxpayer enters into a transaction and the transaction is voided earlier than the top of the yr, for tax functions, it’s as if the transaction by no means occurred.

So, if any taxpayers are fascinated about partaking in a transaction they might need to rescind later, there are not less than two issues to the technique:

  • The rescission (in no matter kind achieved) should put the events again in the identical positions that they had previous to contracting

  • The rescission should happen in the identical tax yr as to when the transaction was entered

Observe Level: Whether or not the doctrine of rescission is relevant to a transaction is a extremely factual query. We suggest anybody contemplating this technique to completely analyze the difficulty and details and seek the advice of with a tax skilled.

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