The following article is adapted and reprinted from the M&A Tax Report, Vol. 11, No. 6, January 2003, Panel Publishers, New York, NY.


By Robert W. Wood

Justice Potter Stewart once had great difficulty describing pornography, but uttered the inimitably pithy phrase about knowing pornography when we see it. I'm not sure the same can be said for sham transactions, something that, in an odd way, might be viewed as a type of pornography by the Service. After all, the Service surely considers sham transactions as unwholesome, destructive, and morally corrupt. I suppose tax shelters could fit this description, too, but let's stick to the topic.

Like some of the other amorphous doctrines that get bandied about from time to time, including the broad notion of "economic substance" and the more specific (and therefore a little less annoying) step transaction doctrine, the sham transaction doctrine is a repository for old lore. The applicable law (if one can elevate the status of these authorities to call it that) becomes murkier still when one tries to apply the related code sections that are often seen as substitutes for this doctrine. Much like Section 111 of the Code attempting to codify (at least in part) the tax benefit doctrine, Section 269 was meant (at least in part) to codify the IRS' ability to just say no.

Understandably, business purpose, economic substance and sham transactions all get mixed up in a particular kind of stew. Recently, we talked about some authority in the making, Nicole Rose Corp. f/k/a Quintron Corp. v. Commissioner, 2d Cir. Dkt. No. 02-4110 (Aug. 1, 2002). See Wood, "Business Purpose and Economic Substance: Catch Me If You Can," Vol. 11, No. 4, The M&A Tax Report (Nov. 2002), p. 5. The IRS also came out with a helpful Field Service Advice, FSA 200238045, an analysis that melds together the business purpose doctrine, the economic substance requirement, and the Service's statutory authority under Section 269.

Here at The M&A Tax Report, we like getting mail. Recent reader comments suggest that an analysis of this uneasy triumvirate is warranted. In a future issue we'll delve into this important (but messy) topic.

Sham Transactions: Do You Know One When You See It?, Vol. 11, No. 6, The M&A Tax Report (January 2003), p. 7.