Supreme Court Briefing Underway in Quality Stores

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November 20, 2013

The government has filed its opening brief in the Quality Stores case, which involves the question whether severance payments made pursuant to an involuntary reduction in force are subject to FICA taxation.  See our prior coverage here. The brief is considerably shorter than the page limit, as the government has sought to take a relatively simple approach to an issue that in the past has generated complex and detailed briefs and opinions.

The government’s primary submission is that the Court needs to focus its attention on the FICA statute and not be distracted by the income tax withholding statute that formed the basis for the Sixth Circuit’s opinion.  The FICA statute broadly defines “wages” for FICA purposes as “remuneration for employment,” and that language assertedly encompasses the severance payments at issue here.  To support the argument that this language should be read broadly, the government points to current Treasury regulations and to the Supreme Court’s decision in Social Security Board v. Nierotko, 327 U.S. 358 (1946).  The government also relies on the history of the FICA definition of wages, pointing out that it originally contained an exception for discretionary “dismissal payments” like those at issue here, but that exception was repealed in 1950.

The brief then moves on to respond directly to the Sixth Circuit’s reliance on 26 U.S.C. 3402(o), the income tax withholding provision stating that severance payments should be “treated as . . . wages” (and therefore, according to the taxpayer, must be something different from “wages.”)  The government states that, by its terms, this provision applies only to income tax withholding and can provide no inference for determining whether the severance payments are subject to FICA taxation.  Even if that basic point does not prevail, however, the government argues that the inference drawn by the Sixth Circuit is incorrect.  Adopting the analysis of the Federal Circuit in CSX, the government argues that the term “wages” and the class of payments included in section 3402(o) are not mutually exclusive; the latter section is broadly drafted and can encompass payments that also fall within the category of “wages.”  The brief then embarks on a fairly detailed account of the history of the IRS’s administrative rulings on the scope of “wages,” seeking to explain why Congress was motivated to enact section 3402(o) as it did and, correspondingly, why that action should not carry any logical inference for the definition of FICA wages.  In particular, the government argues that Congress was concerned that the IRS had determined that certain payments were includible in gross income, but not subject to income tax withholding, thus leaving taxpayers with an unexpectedly high tax bill when it came time to file their return.  In acting to solve that problem, the government maintains, Congress was not saying anything about FICA nor was it defining “wages” even for income tax withholding purposes.

For those that have followed this issue over the years, we note one subissue that has receded in importance under the government’s current approach — namely, the relevance of legislation enacted by Congress in the wake of the Court’s decision in Rowan Cos. v. United States, 452 U.S. 247 (1981).  Taxpayers have pointed to Rowan as indicating that terms in the FICA statute and income tax withholding statute generally ought to be interpreted harmoniously.  In the Sixth Circuit and in other litigation, the government has defended against the citation of Rowan by pointing to later legislation in which Congress codified the specific result in Rowan but also enacted a “decoupling amendment” establishing that nothing in the income tax withholding regulations providing an exclusion from “wages” “shall be construed to require a similar exclusion from ‘wages'” in the FICA regulations.  31 U.S.C. § 3121(a).  The legislative history described this provision as broadly decoupling the FICA definition of wages from the income tax withholding definition.   See our reports on the Sixth Circuit briefing here and here.  The Sixth Circuit, however, was unpersuaded by the “decoupling amendment” argument because applying decoupling to statutory definitions of “wages” is based entirely on the legislative history; the decoupling amendment itself expressly addresses only regulations.  The Federal Circuit in CSX similarly rejected the government’s position on the decoupling amendment, even though it agreed with the government on the ultimate issue of including severance pay in FICA wages.

The government apparently has concluded that the “decoupling” argument will fare no better in the Supreme Court.  Instead, it makes other arguments to defend against the taxpayer’s reliance on Rowan.  First, it argues simply that Rowan is irrelevant because it was addressing a different issue — the validity of a Treasury regulation providing that the value of meals and lodging should be included in FICA wages.  More substantively, the government argues that its position is consistent with the rationale of Rowan.  The Court stated there that Congress intended to coordinate the FICA and income tax withholding systems to advance Congress’s interest in “simplicity and ease of administration” (452 U.S. at 257).  According to the government, that interest is disserved by the Sixth Circuit’s decision because Congress has provided that the supplemental benefits included in the section 3402(o) definition are to be treated as wages for income tax withholding purposes.

The taxpayer’s response brief is due in mid-December, and oral argument is scheduled for January 14.

Quality Stores – Opening Brief for the Government