Should state law or federal common law principles govern the ownership of a tax refund paid to a corporate parent, but solely attributable to a corporate subsidiary, as part of a consolidated tax return?
This case asks the Supreme Court to determine whether state law or federal common law principles govern the ownership of a tax refund solely attributable to a single corporate subsidiary but received from the IRS by that subsidiary’s corporate parent as part of a consolidated tax return. Petitioner Simon E. Rodriguez, Chapter 7 Trustee for the bankruptcy estate of United Western Bancorp., Inc., contends that this area of law is not open to federal common lawmaking and thus should be governed by state agency law. Respondent Federal Deposit Insurance Corporation, Receiver for United Western Bank, counters that the issue here is not governed by federal common law in the strict sense, but rather by interpretations of Internal Revenue Service regulations that inform private party contract interpretation. The outcome of this case will have implications on the equitable ownership interests of tax refunds issued to corporate parents on behalf of their subsidiaries as part of consolidated tax returns.
Questions as Framed for the Court by the Parties
Whether courts should determine ownership of a tax refund paid to an affiliated group based on the federal common law “Bob Richards rule,” as three circuits hold, or based on the law of the relevant state, as four circuits hold.
On January 1, 2008, United Western Bancorp, Inc. (“UWBI”), a bank holding company, entered into a Tax Allocation Agreement (“the Agreement”) with its affiliate subsidiary corporations, including its principal subsidiary, United Western Bank (“Bank”). Rodriguez v. FDIC at 3. Under Section 1504(a) of the Internal Revenue Code (“the Code”), UWBI’s subsidiaries were members of an “affiliated group” that filed consolidated tax returns. Id. Under the Agreement, UWBI and its subsidiaries sought to (i) allocate the group’s consolidated tax liability among the affiliates, (ii) reimburse UWBI for paying the consolidated tax liability, and (iii) compensate each affiliate for the use of its losses by any other affiliate. Id.
For 2008, UWBI filed a consolidated federal income tax return reporting that the Bank generated $34,397,709 in taxable income. Id. at 6. Two years later, the Bank suffered losses of at least $35,351,690, causing UWBI to file, in 2011, for a tax refund of $4,846,625 from the 2008 taxes. Id. As the Bank was a federally chartered savings and loan association, the Office of Thrift Supervision closed the Bank in January of 2011 and appointed Respondent, the Federal Deposit Insurance Corporation (“FDIC”), as receiver to manage the Bank’s assets. Id. The Bank’s closure caused UWBI to file for Chapter 11 bankruptcy in March 2012. Id.
In August 2012, the FDIC filed a proof of claim in UWBI’s bankruptcy case for the still-pending tax refund. Id. at 6–7. The FDIC claimed that it was entitled to the refund as the Bank’s receiver—even though the refund was owed to the affiliate group—because the full amount stemmed from the Bank’s net-operating-loss carryback. Id. at 7. In April 2013, UWBI converted from Chapter 11 to Chapter 7 bankruptcy, and Petitioner Simon E. Rodriguez was appointed as trustee for UWBI’s bankruptcy estate. Id. A year later, in April 2014, Rodriguez initiated an adversary proceeding in the bankruptcy court against the FDIC, seeking a declaratory judgment that the tax refund belonged to UWBI’s bankruptcy estate. Id. The FDIC filed a counterclaim, alleging that it was entitled to ownership of the refund as the Bank’s receiver and successor. Id. On October 30, 2015, both parties moved for summary judgment. Id. at 8. Meanwhile, the Internal Revenue Service (“IRS”) completed an audit and issued a refund of $4,081,334.67 to UWBI. Id.
On September 16, 2016, the bankruptcy court granted summary judgment in favor of Rodriguez. Id. The bankruptcy court found that UWBI’s bankruptcy estate had “bare legal title” to the tax refund, that the FDIC did not establish equitable title to it, and that the Agreement unambiguously created a creditor-debtor relationship between UWBI and the Bank, not an agent-principal relationship. Id. at 9–10. The FDIC then appealed to the United States District Court for the District of Colorado (the “District Court”), which reversed the bankruptcy court’s ruling and found that the Agreement was ambiguous as to UWBI and the Bank’s relationship. Id. at 10. As such, the District Court held that the Agreement, which directs ambiguities to be resolved in favor of the Bank, gave the Bank equitable title to the refund. Id. at 10–11.
Rodriguez appealed to the United States Court of Appeals for the Tenth Circuit (the “Tenth Circuit”), which affirmed the District Court’s ruling after analyzing the case under the federal common law “Bob Richards rule.” Id. at 11, 13. The Bob Richards rule states that, absent an agreement to the contrary, a tax refund resulting solely from the losses of one member in a consolidated filing group should go to that member. Id. at 15. Analyzing the Agreement itself, the Tenth Circuit agreed with the District Court as to its ambiguity and held that the Bank owned the tax refund—a result that coincidentally does not differ from the general Bob Richards rule. Id. at 22–24.
Following the Tenth Circuit’s decision, Rodriguez’s filed a petition for rehearing, which was denied in part on January 29, 2019. Brief for Petitioner, Simon E. Rodriguez (“Rodriguez”) at 4. Rodriguez then filed a petition for a writ of certiorari, which the United States Supreme Court granted on June 28, 2019. Id.
THE VALIDITY OF THE “BOB RICHARDS RULE”
According to Rodriguez, no statutory or regulatory authority exists to support the Bob Richards rule; thus, the only possible legal basis for the rule is federal common law. Brief for Petitioner, Simon E. Rodriguez (“Rodriguez”) at 24. However, Rodriguez contends that the Bob Richards rule is not a valid exercise of federal courts’ federal common lawmaking power. Id. Rodriguez explains that federal courts can only create federal common law when three conditions are satisfied: first, there must be a “uniquely federal interest”; second, Congress must not have enacted a comprehensive regulatory scheme governing, or have vested a federal agency with regulatory power over, the issue; and third, the use of state law to resolve the issue must be in “significant conflict” with federal policy. Id. at 26. Rodriguez argues that none of these conditions are met with respect to consolidated tax returns, and thus that the creation of the Bob Richards rule was in error. Id.
First, Rodriguez contends that the Bob Richards rule does not involve a “uniquely federal interest,” as the rule does not fall within any established federal common law enclave recognized by the Supreme Court, such as foreign affairs, disputes between states, or the rights and obligations of the federal government. Brief for Petitioner at 26–27. Second, Rodriguez asserts that Congress has comprehensively addressed the area of tax law via the Tax Code and has delegated further lawmaking authority in that area to a federal agency, namely the IRS. Id. at 30–32. Rodriguez further claims that the IRS has used its regulatory powers to create “a default rule that tax refunds are paid ‘directly to and in the name of the’ corporate parent” of an affiliated group. Id. at 33. Lastly, Rodriguez argues that the Bob Richards rule upends state law in three areas that do not significantly conflict with federal policy: corporate law, property law, and commercial law. Id. at 34–35. As Rodriguez maintains, the Bob Richards rule cannot be based on an interest in national uniformity because there is no need for uniform laws governing private commercial transactions. Id. at 36. Rodriguez thus concludes that the Bob Richards rule fails to have any legal basis. Id. at 39.
The FDIC argues in response that Rodriguez focuses on the wrong part of the Bob Richards decision. Brief for Respondent, Federal Deposit Insurance Corporation (“FDIC”) at 22. The FDIC asserts that the default “Bob Richards rule” concerns the ultimate ownership of a tax refund and only applies in the absence of an agreement. Id. As such, the FDIC contends that the default rule from Bob Richards is not implicated in this case due to the parties’ Agreement. Id. Instead, the FDIC asserts that the issue in this case concerns the interim ownership of a tax refund owed to a corporate subsidiary, and that the relevant aspect of the Bob Richards decision was the interpretation of IRS regulations. Id. Specifically, the FDIC states, the Bob Richards court observed that the IRS regulations on consolidated filings require corporate parents to receive subsidiaries’ tax refunds as an “agent.” Id. at 31. As the FDIC argues, a corporate parent acts as an agent for its subsidiaries merely because it is more convenient for the IRS to deal with one entity. Id. at 31–32. Thus, the FDIC claims, when the IRS issues a tax refund to a corporate parent acting as an agent, the corporate parent does not gain temporary title to the refund. Id.
Further, the FDIC asserts that the term “agent,” when used in the IRS’s consolidated tax-filing regulations to refer to corporate parents, has the same meaning as it does under the common law of agency. Id. at 32–34. The FDIC argues that a well-established principle of common agency and bankruptcy law is that an agent who collects property on behalf of its principal does not receive equitable title in that property—thus, UWBI’s interim possession of the tax refund when entering bankruptcy does not provide UWBI with an equitable ownership interest. Id. at 34, 38. Additionally, the FDIC argues that it is irrelevant that UWBI is considered an agent of the entire consolidated filing group and not of any individual subsidiary, as agency law allows for multiple principals to agree that an agent may take action on their collective behalf. Id. at 36. Finally, the FDIC contends that the Bob Richards interpretation of the IRS regulations harmonizes the regulations with federal tax law, specifically 26 U.S.C. § 6402(k), which allows the IRS to pay a refund to the fiduciary of an insolvent financial institution without the fiduciary gaining ownership rights in the refund. Id. at 36–37.
ESTABLISHING EQUITABLE TITLE TO THE TAX REFUND
Rodriguez argues that even if the Bob Richards rule is validly within the federal courts’ federal common lawmaking authority, the rule is nonetheless invalid because it is inconsistent with federal tax laws. Brief for Petitioner at 39–40. In addition to the IRS paying tax refunds directly to and in the name of a corporate parent, Rodriguez contends that IRS has promulgated other regulations directing when consolidated tax refunds should be paid to a subsidiary instead of a parent. Id. at 40–41. Rodriguez asserts that the Bob Richards rule cannot be squared with these regulations because it would give a subsidiary ownership to a refund in circumstances other than the narrow ones the IRS has specified. Id. at 41. Rodriguez further claims that the Bob Richards rule is inconsistent with consolidated-return rules. Id. at 42. As Rodriguez explains, for a consolidated filing group, taxable income and carrybacks are attributed to the group as a whole, and not any individual affiliate. Id. at 43, 45. Lastly, Rodriguez contends that because IRS regulations allow affiliated groups to freely assign consolidated tax liability among members, it would be anomalous to require that refunds go to a particular subsidiary. Id. at 47–48.
Rodriguez asserts that, once the Bob Richards rule is found invalid, the only way that the FDIC could have equitable title to the refund is if UWBI is holding the refund as an agent of the Bank under the applicable state law—here, Colorado law. Brief for Respondent at 51–52. According to Rodriguez, under Colorado law, an agency relationship exists if (1) the agent consents to act on behalf of the principal, and (2) the principal controls the agent. Id. at 52. Rodriguez argues that no agency relationship exists here because the Bank lacked control over UWBI, as evidenced by the Agreement. Id. at 53. Specifically, Rodriguez points out that, under the Agreement, UWBI had broad discretion to handle the group’s tax return and the Bank had no authority to direct UWBI or revoke the Agreement. Id. Indeed, Rodriguez states, UWBI actually had control over the Bank by way of being the Bank’s corporate parent. Id. Further, Rodriguez argues that the Agreement’s use of the terms “agent” and “intermediary” are just “bare labels” insufficient to create an agency relationship under Colorado law. Id. at 55. Rodriguez thus concludes that UWBI is unambiguously not an agent of the Bank and therefore holds both legal and equitable title to the tax refund. Id. at 55–56.
The FDIC counters that the Agreement’s use of the terms “agent” and “intermediary” to describe UWBI are consistent with an intent among the parties to create an agency relationship. Brief for Respondent at 40. According to the FDIC, under “settled common-law principles” an agent “does not acquire equitable title to the funds that it is charged with receiving and distributing.” Id. Additionally, the FDIC maintains that the Agreement uses the word “merely” to qualify UWBI’s intermediary status, further proving that neither party intended for UWBI to gain equitable title to the tax refund. Id. Further, the FDIC contends that under the Agreement’s own rule of construction, Rodriguez can only prevail if “the Agreement unambiguously vested UWBI with equitable title to the tax refund.” Id. at 41. Because Rodriguez cannot show that, the FDIC argues, the Agreement must be interpreted as only creating an agency relationship between UWBI and the Bank. Id. The FDIC also contends that the Agreement should be understood in light of a federal interagency financial-regulation directive—that UWBI and its subsidiaries, as sophisticated corporations, would have been aware of at the time of contracting—which explains that parent companies do not receive tax refunds from consolidated group filings as property. Id. at 42. The FDIC also asserts that there is no reasonable explanation for why the affiliates would even have vested UWBI with temporary equitable title to tax refunds. Id. at 43.
The FDIC further counters that Rodriguez’s arguments conflict with basic rules of agency law and contract interpretation. Brief for Respondent at 44. First, the FDIC notes that while labels do not determine whether an agency relationship exists—because an agency relationship can exist without parties labeling it as such—Rodriguez failed to cite a Colorado case that “rejected contracting parties’ description of their relationship as one of agency.” Id. at 44–45. Additionally, the FDIC argues that the Bank and other subsidiaries do have the control over UWBI based on UWBI’s “self-executing” obligations under the Agreement. Id. at 45–46. According to the FDIC, the Agreement entitles subsidiaries to tax refunds they would have received had they filed separately, and UWBI must pay those refunds to the subsidiaries. Id. The FDIC also asserts that UWBI’s corporate-parent status is irrelevant, as every affiliate had to independently decide whether or not to join the Agreement. Id. at 46–47. Finally, the FDIC maintains that even if a court were to find that the Agreement did not establish an agency relationship under Colorado law, Colorado law does not command that UWBI was vested with equitable title to the tax refund. Id. at 47. Rather, according the FDIC, that determination is based on the parties’ intent when forming the Agreement, which, as evidenced by the Agreement’s reference to UWBI as an “agent,” suggests that the parties did not intend UWBI to obtain equitable title. Id. at 48.
(DIS)ADVANTAGING CORPORATE PARENTS OR SUBSIDIARIES
Rodriguez argues that upholding the Bob Richards rule—which favors assigning a refund to a consolidated-group member whose income and losses gave rise to it—imposes disparate obligations on other group members who might bear some responsibility for the income or loss via, for example, an intercompany transaction yet receive no part of the refund. Brief for Petitioner at 49. In effect, Rodriguez reiterates, the Bob Richards rule allows one subsidiary to gain benefits from assets that are only made possible from the nature of the group relationship, which Rodriguez asserts unjustly enriches that one subsidiary. Id. at 49–50. Conversely, Rodriguez contends that getting rid of the Bob Richards rule would not unjustly enrich parent corporations because parent corporations, invested in the success of their subsidiaries and subject to state-law fiduciary duties, are incentivized to distribute tax refunds to subsidiary corporations. Id. at 50–51. Additionally, Rodriguez asserts that the Bob Richards rule misses the real point of consolidated-return laws: treating affiliated groups as a single business enterprise. Id. at 50. By keeping the federal common law Bob Richards rule, Rodriguez argues that affiliated groups will be disaggregated as certain members, rather than the group as a whole, receive valuable tax benefits. Id. Under that construction, Rodriguez concludes, parent corporations lose the “flexibility to manage the group’s affairs” and, in turn, lose assets they would have controlled had the affiliated group been treated as a single business enterprise. Id.
The FDIC notes, on the other hand, that in the Bob Richards court’s opinion, allowing a corporate parent to obtain equitable title in a tax refund generated solely from a subsidiary based merely on the procedural device of a consolidated tax filing would unjustly enrich the parent. Brief for Respondent at 29. However, the FDIC contends that, whatever ill effects the default Bob Richards rule has on ultimate entitlement to a tax refund, those effects can be mitigated by clear contracting. See id. at 29–30. The FDIC further asserts that the whole point of requiring a corporate parent to alone file and receive tax refunds on behalf of a consolidated group is so that the IRS can efficiently process consolidated tax returns without incidentally altering ownership of the refunds within a group. Id. at 32. As the FDIC contends, that requirement was not intended to give the corporate parent special advantages over the members of the affiliate group it represents. Id. at 37. Instead, the FDIC argues, if parties to a consolidated filing group would like to give a corporate parent equitable ownership of the tax refunds paid to it by the IRS, such intention is better achieved by contract. See id. at 38.
- Donald L. Swanson, Who Gets the $4 Million Tax Refund in Bankruptcy: U.S. Supreme Court to Decide (Rodriguez v. FDIC), Mediatbankry (July 18, 2019).
- Spresa Culafi & Brett E. LaBelle, Supreme Court Agrees to Settle Tax Allocation Agreement Refund Dispute, Crowe (Sept. 23, 2019).