Swallows Holding, Ltd., Petitioner v. Commissioner of Internal Revenue, Respondent, 126 T.C. 96

Laro, Judge: Petitioner petitioned the Court to redetermine respondent’s determination of deficiencies in its Federal income taxes for its taxable years ended May 31, 1994, 1995, and 1996 (1994, 1995, and 1996 taxable years, respectively; collectively, subject years), and additions thereto under

section 6651(a)(1). The deficiencies and additions to tax are as follows: Taxable year Deficiency Addition to tax sec. 6651(a)(1) 1994 $7,200 $1,800.00 1995 5,850 1,462.50 1996 1,800 450.00 We decide whether petitioner may deduct the ordinary and necessary expenses it incurred during the subject years. The expenses relate to income treated as effectively connected to the conduct of a trade or business in the United States (effectively connected income), and petitioner claimed the expenses on its Federal income tax returns, which it filed before any contact from respondent. Respondent determined in the notice of deficiency that

section 882(c)(2) precludes petitioner from deducting its expenses because it did not file its returns timely. Respondent concedes that the expenses are deductible if

section 882(c)(2) does not include a timely filing requirement. In Anglo-Am. Direct Tea Trading Co. v. Commissioner, 38 B.T.A. 711 (1938), the Board of Tax Appeals (Board) held that

section 233 of the the Revenue Act of 1928, ch. 852, 45 Stat. 849, and the Revenue Act of 1932, ch. 209, 47 Stat. 230, an almost verbatim predecessor to

section 882(c)(2), did not include a timely filing requirement. In so holding, the Board construed the earlier section’s requirement that a foreign corporation file a true and accurate return “in the manner prescribed in this title” and rejected respondent’s argument that the word “manner”, as it appeared in the quoted text, meant that the foreign corporation could deduct its expenses only if it filed its returns timely; i.e., before the time set forth in a predecessor to

section 6072. Subsequently, the Court of Appeals for the Fourth Circuit in Ardbern Co. v. Commissioner, 120 F.2d 424 (4th Cir. 1941), modifying and remanding on other grounds 41 B.T.A. 910 (1940), quoted and applied the Anglo-Am. Direct Tea Trading Co. holding favorably and without reservation. The Court of Appeals for the Fourth Circuit in Blenheim Co. v. Commissioner, 125 F.2d 906 (4th Cir. 1942), affg. 42 B.T.A. 1248 (1940), also acknowledged the Anglo-Am.

Direct Tea Trading Co. holding, construed the relevant text not to contain any reference to time, and stated that Congress had enacted the relevant text in 1928 intending to allow a foreign corporation to deduct its expenses upon its filing of a tax return. In 1990, the Secretary issued

section 1.882-4(a)(2) and (3)(i), Income Tax Regs, (disputed regulations). The disputed regulations interpret

section 882(c)(2) to provide that a foreign corporation generally is entitled to deduct its expenses only if it files a timely return. Under the relevant part of the disputed regulations, a return is timely if it is filed before an arbitrary 18-month deadline (18-month deadline) devised by the Secretary. The Secretary issued the disputed regulations stating that

section 882(c)(2) contains a “clear” requirement that a foreign corporation file its return timely in order to deduct its expenses. The Secretary made no mention of the consistent

interpretation of the relevant text by the Court of Appeals for the Fourth Circuit and the Board not to include any timely filing requirement. Petitioner argues that

section 882(c)(2) does not contain a timely filing requirement and that the disputed regulations are invalid as inconsistent with that section. Respondent argues that

section 882(c)(2) provides clearly that a foreign corporation must file its return timely in order to deduct its expenses and that the disputed regulations are a proper

interpretation of that provision. Respondent asks the Court now to accept his

interpretation, which he acknowledges is the same as that rejected in Anglo-Am. Direct Tea Trading Co. v. Commissioner, supra, and its progeny, and to disavow all contrary

interpretations expressed by the Court of Appeals for the Fourth Circuit and the Board. We agree with petitioner that

section 882(c)(2) does not contain a timely filing requirement and that the disputed regulations are invalid to the extent discussed herein. We hold that petitioner may deduct its expenses. On the basis of our holding and a concession by respondent that

section 6651(

a) is inapplicable if petitioner is entitled to deduct its expenses, we also hold without further discussion that petitioner is not liable for any addition to tax determined by respondent under

section 6651(a). FINDINGS OF FACT Many facts were stipulated and are found accordingly. We incorporate herein by this reference the stipulated facts and the exhibits submitted therewith. I. Background, Petitioner is a Barbados corporation whose mailing address was in Bridgetown, Barbados, when its petition was filed with the Court. It is an accrual method taxpayer that for Federal income tax purposes files a Form 1120-F, U.S. Income Tax Return of a Foreign Corporation, on the basis of a fiscal year ending on May 31.

Its sole activity during the subject years was owning 160 acres of unimproved real estate (U.S. real estate) in San Diego County, California, and receiving option and rental income from the U.S. real estate. Petitioner has never engaged in a trade or business in the United States, and it does not have a separate business activity in Barbados. II. Petitioner’s Formation and Issuance of Additional Shares Raimundo Arnaiz-Rosas (Rosas) is a citizen and resident of Mexico. He acquired the U.S. real estate on December 30, 1986. In June 1991, he formed petitioner as his wholly owned corporation.

He transferred the U.S. real estate to petitioner on November 21, 1991. Aurora Elsa Arnaiz (Arnaiz) is the sister of Rosas. She is a citizen and resident of Mexico. On June 1, 1992, petitioner issued additional shares of its stock to Arnaiz. Afterwards, Arnaiz owned 52 percent of petitioner’s stock, and Rosas owned the remaining 48 percent. III. Petitioner’s Initial Tax Return On September 14, 1992, petitioner filed a Form 1120-F with respondent’s service center in Philadelphia, Pennsylvania (Philadelphia Service Center), for its short taxable year from June 27, 1991, through May 31, 1992 (1992 taxable year).

The return (petitioner’s initial return) was petitioner’s first Federal income tax return. That return was prepared by Francisco A.F. Cervantes (Cervantes), petitioner’s tax adviser and certified public accountant in California. As to petitioner’s 1992 taxable year, petitioner’s initial return reported that petitioner had no income or expense, that it had not engaged in a trade or business in the United States, and that it had no effectively connected income. Petitioner’s initial return also reported that petitioner’s business activity was real estate and that its product or service was investment.

Petitioner’s initial return also reported that petitioner was incorporated in Barbados and that petitioner was subject to income tax under the laws of Barbados. IV. U.S. Real Estate The U.S. real estate has been vacant land throughout the subject years. During the subject years, an apparently unrelated entity leased from petitioner approximately 10 acres of the U.S. real estate for use as a skydiving landing zone. Pursuant to the lease agreements, the lessee was responsible for maintenance costs, utilities, license fees, personal property taxes, and other costs associated with its use of the leased property.

Between March 16, 1993, and April 1, 1996, another apparently unrelated entity held an option to purchase a portion of the U.S. real estate. During the respective subject years, petitioner realized rental income of $12,000, $18,000, and $12,000 as to the lease and $36,000, $21,000, and zero as to the option. During the same respective years, petitioner incurred expenses totaling $77,059, $62,418, and $40,041 for real property taxes payable to the County of San Diego, franchise taxes payable to the State of California, and other fees. V.

Petitioner’s Tax Returns Other Than the Initial Return On July 23, 1999, petitioner filed with the Philadelphia Service Center a Form 1120-F for its taxable year ended May 31, 1993 (1993 taxable year). Also on that date, petitioner voluntarily (before any contact from respondent) filed with the Philadelphia Service Center a Form 1120-F for each of the subject years (collectively, subject returns). Cervantes first advised petitioner in 1999 that it had to file the four returns, and Cervantes prepared those returns shortly after giving this advice.

Petitioner had no communications with Cervantes as of the time of this advice going back to the earlier time at which petitioner’s initial return was filed. When the four returns were filed, respondent had no knowledge that the returns were overdue. The four returns filed in 1999 each listed petitioner’s U.S. employer identification number and reported that petitioner was incorporated in Barbados, that petitioner was subject to income tax under the laws of Barbados, and that petitioner was not liable for a U.S. branch profits tax.

Each return also reported that petitioner’s business activity was real estate and that its product or service was investment. Each return also reported that petitioner had not engaged in a trade or business in the United States, but that petitioner had realized a taxable loss effectively connected with the conduct of a trade or business in the United States. None of the returns included a statement under

section 1.871 — 10(d)(l)(ii), Income Tax Regs., reporting that petitioner was making an election under

section 882(d)(1). Because respondent with petitioner’s acquiescence has treated the subject returns as such an election, petitioner’s income from the U.S. real estate for the subject years is treated as effectively connected income. On its Form 1120-F for its 1993 taxable year, petitioner recognized option income of $16,290 and deducted an expense for taxes of $52,081, resulting in a reported taxable loss of $35,791. On the respective subject returns, petitioner recognized rental income of $12,000, $18,000, and $12,000 and option income of $36,000, $21,000, and zero.

Petitioner also on the respective subject returns deducted expenses for taxes and licenses in the total amounts of $77,059, $62,418, and $40,041, resulting in reported losses (without consideration of any net operating loss (NOL) carryforward) of $29,059, $23,418, and $28,041. Petitioner reported on its Form 1120-F for its 1994 taxable year that it had available as an NOL carryover its prior year’s loss of $35,791. Petitioner reported on its Form 1120-F for its 1995 taxable year that it had available as an NOL carryover its prior years’ losses totaling $64,850 ($29,059 + $35,791).

Petitioner reported on its Form 1120-F for its 1996 taxable year that it had available as an NOL carryover its prior years’ losses totaling $88,268 ($23,418 + $29,059 + $35,791). VI. Respondent’s Determination On January 31, 2002, respondent issued the notice of deficiency to petitioner for the subject years. Respondent determined the deficiencies shown therein by disallowing all of the deductions claimed on the subject returns and applying the corporate income tax rates of

section 11 to petitioner’s gross income, as reported. Respondent disallowed the deductions because none of the returns was filed timely. OPINION I. Burden of Proof The Commissioner’s determinations in a notice of deficiency are generally presumed correct, and taxpayers generally bear the burden of proving those determinations wrong. See Rule 142(a)(1); Welch v. Helvering, 290 U.S. 111, 115 (1933). In certain cases,

section 7491(

a) places the burden of proof upon the Commissioner. Given the manner in which we decide this case, we need not and do not decide which party bears the burden of proof in this case. II. Parties’ Arguments The parties disagree on the

section 882(c)(2) requirements which serve as a prerequisite to a foreign corporation’s deducting its expenses. Petitioner argues that it meets those requirements in that it filed true and accurate Federal income tax returns. According to petitioner,

section 882(c)(2) does not require that the subject returns be filed timely, and the disputed regulations are invalid to the extent they impose such a requirement. Respondent argues that

section 882(c)(2) includes a clear timely filing requirement and that the disputed regulations are a valid construction of that requirement. According to respondent, petitioner may not deduct its expenses because it did not file the subject returns timely. We agree with petitioner. To best understand our decision, we first discuss the relevant provisions and developments in the law which preceded the issuance of the disputed regulations. We then address our

interpretation of the relevant text and the standard by which we judge the disputed regulations to be invalid. III. Relevant Filing Requirements Every corporation subject to Federal income tax must file a Federal income tax return with respect to that tax. See sec. 6012(a)(2). The regulations interpret

section 6012(a)(2) to require that such a corporation file a Federal income tax return even if it does not have any gross or taxable income for the year. See sec. 1.6012-2(a)(l), Income Tax Regs. The regulations interpret

section 6012(a)(2) to apply to foreign corporations to the extent set forth in

section 1.6012-2(g)(l), Income Tax Regs. See id.

Section 1.6012-2(g)(l), Income Tax Regs., generally requires that a foreign corporation file a Federal income tax return on Form 1120-F if it “is engaged in trade or business in the United States at any time during the taxable year or * * * has income which is subject to taxation under subtitle A of the Code (relating to income taxes)”.

Section 6072 sets the time for the filing of Federal income tax returns required by

section 6012. A corporation generally must file its return by the 15th day of the 3d month following the close of its taxable year. See sec. 6072(b); see also sec. 1.6072-2(a), Income Tax Regs. An exception to this rule is found in the case of a foreign corporation without an office or place of business in the United States. In such a case, the foreign corporation may file its tax return up until the 15th day of the 6th month following the close of its taxable year. See sec. 6072(c); see also sec. 1.6072-2(b), Income Tax Regs.

Petitioner did not conduct a trade or business in the United States at any time from its inception through the close of the last subject year. Thus, but for an election under

section 882(d)(1), petitioner was required by

section 6012(a), as interpreted by

section 1.6012-2(a)(

l) and (g)(1), Income Tax Regs., to file a Federal income tax return for a taxable year included within that period only if it had income subject to Federal income tax. Petitioner had no such income for its first taxable year but did have such income for each of its taxable years thereafter through the close of the last subject year. For each of the subject years, therefore, petitioner was required to file a Form 1120-F with the Commissioner. Because petitioner was within the rule of

section 6072(

c) for each of those years, the due dates of the subject returns were November 15, 1994, 1995, and 1996, respectively. IV. Place for Filing Returns

Section 6091(b)(2) sets forth the rules concerning the place where a corporation must file its Federal income tax returns. That

section was enacted as part of the Internal Revenue Code of 1954 (1954 Code), ch. 736, 68A Stat. 752, to replace

section 53(b)(2) of the Internal Revenue Code of 1939 (1939 Code), ch. 2, 53 Stat. 28. Former

section 53(b)(2), which also appeared in the Revenue Act of 1928, 45 Stat. 808, and the Revenue Act of 1932, 47 Stat. 189, provided:

(2) Corporations. — Returns of corporations shall be made to the collector of the district in which is located the principal place of business or principal office or agency of the corporation, or, if it has no principal place of business or principal office or agency in the United States, then to the collector at Baltimore, Maryland. Thus, before the enactment of the 1954 Code, a foreign corporation such as petitioner was required to file its Federal income tax returns at Baltimore, Maryland.

Since the enactment of the 1954 Code, a corporation generally must file its Federal income tax returns with the District Director for the internal revenue district in which is located the corporation’s principal place of business, principal office, or agency. See sec. 6091(b)(2)(A); see also sec. 1.6091-2(b), Income Tax Regs. The rule is different where a foreign corporation has no principal place of business, principal office, or agency in any internal revenue district. See sec. 6091(b)(2)(B)(i), (iii). In that case,

section 6091(b)(2)(B)(

i) and (iii) allows the Secretary to designate by regulation the place where the foreign corporation’s return will be filed. As relevant here,

section 1.6091-3(f), Income Tax Regs, (before amendment on September 15, 2004, by T.D. 9156, 2004-2 C.B. 669, 671), generally required that a foreign corporation file its Federal income tax returns with the “Director of International Operations, Internal Revenue Service, Washington, D.C. 20225, or the district director, or the director of the service center, depending on the appropriate officer designated on the return form or in the instructions issued with respect to such form”. That

section was issued by the Secretary in 1959. See T.D. 6364, 1959-1 C.B. 546, 604. In the 1972 instructions for Form 1120-F, the Commissioner directed that “All foreign corporations (whether or not engaged in a trade or business within the U.S.) must file their return with the Internal Revenue Service Center * * * [in] Philadelphia, Pennsylvania 19155”.

Previously, the instructions for Form 1120-F had stated that- “All foreign corporations (whether or not engaged in a trade or business within the United States) must file their return with the “Director of International Operations, Internal Revenue Service Center, Washington, D.C. 20225”. See, e.g., the 1971 instructions for Form 1120-F. The instructions for the subject returns state that taxpayers must file their Forms 1120-F “with the Internal Revenue Service Center, Philadelphia, PA 19255”. In accordance with these instructions, petitioner filed the subject returns with the Philadelphia Service Center. V.

Section 882 A. Overview A foreign corporation engaged in a trade or business within the United States is taxable under

section 11, 55, 59A, or 1201(

a) on its taxable income that is effectively connected income, see sec. 882(a)(1); such taxation is consistent with that of a domestic corporation. A foreign corporation not engaged in a trade or business within the United States is taxable at a flat rate of 30 percent of the amount received from “interest (other than original issue discount as defined in

section 1273), dividends, rents, salaries, wages, premiums, annuities, compensations, remunerations, emoluments, and other fixed or determinable annual or periodical gains, profits, and income”, but only to the extent that the income is received from sources within the United States (U.S. source income). Sec. 881(a)(1). A foreign corporation is not taxable in the United States on its income that is neither effectively connected income nor U.S. source income. See id.

A foreign corporation that realizes U.S. source income that is not effectively connected income may elect to treat the U.S. source income as effectively connected income if the U.S. source income is derived from real property located in the United States. See sec. 882(d)(1). The Commissioner has ruled that a foreign corporation may not make such an election for a taxable year in which it does not derive income from real property in the United States. See Rev. Rul. 91-7, 1991-1 C.B. 110; see also sec. 1.871-10(a), Income Tax Regs. For purposes of

section 882(a)(1), a foreign corporation generally determines its taxable income by including in its gross income only its effectively connected income. See sec. 882(a)(2). Whether the foreign corporation may claim deductions against its gross income to arrive at taxable income depends on

section 882(c)(2). Under that section, a foreign corporation shall receive the benefit of the deductions and credits allowed to it in this subtitle only by filing or causing to be filed with the Secretary a true and accurate return, in the manner prescribed in subtitle F, including therein all the information which the Secretary may deem necessary for the calculation of such deductions and credits. * * * B. History of Relevant Provisions 1. Predecessors to

Section 882(c)

(2) We trace

section 882(c)(2) to its origin in

section 233 of the Revenue Act of 1928. There, Congress provided: SEC. 233. ALLOWANCE OF DEDUCTIONS AND CREDITS. A foreign corporation shall receive the benefit of the deductions and credits allowed to it in this title only by filing or causing to be filed with the collector a true and accurate return of its total income received from all sources in the United States, in the manner prescribed in this title; including therein all the information which the Commissioner may deem necessary for the calculation of such deductions and credits. Congress enacted

section 233 of the Revenue Act of 1928 in the same form as the related bill had been introduced in the House of Representatives. See H.R. 1, sec. 233, 70th Cong., 1st Sess. (1927). The committee reports underlying this enactment do not explain the section’s intent or breadth.

Section 233 of the Revenue Act of 1928 was reenacted verbatim in the Revenue Act of 1932, 47 Stat. 230, the Revenue Act of 1934, ch. 277, 48 Stat. 737, the Revenue Act of 1936, ch. 690, 49 Stat. 1717, and the Revenue Act of 1938, ch. 289, 52 Stat. 531. The same provision also was codified verbatim in the 1939 Code, 53 Stat. 79, except that Congress placed the word “chapter” in the two places where the word “title” had appeared in the previous statute. Compare

section 233 of the 1939 Code with

section 233 of the Revenue Act of 1938. In the 1954 Code, Congress recodified

section 233 of the 1939 Code in former

section 882(c)(1), 68A Stat. 282, with slight modifications.

Section 882(c)(1) of the 1954 Code provided: SEC. 882(c). Allowance of Deductions and Credits.—

(1) Deductions allowed only if return filed. — A foreign corporation shall receive the benefit of the deductions allowed to it in this subtitle only by filing or causing to be filed with the Secretary or his delegate a true and accurate return of its total income received from all sources in the United States, in the manner prescribed in subtitle F, including therein all the information which the Secretary or his delegate may deem necessary for the calculation of such deductions.

The House committee report underlying the 1954 Code stated as to this action: “Subsection (c), relating to necessity for filing of returns by foreign corporations in order to secure allowance of deductions and credits, is, in substance, identical with sections 232, 233, and 234, 1939 Code.” H. Rept. 1337, 83d Cong., 2d Sess. A246 (1954); see also S. Rept. 1622, 83d Cong., 2d Sess. 417 (1954) (same statement except omits the words “and credits”).

Section 882 of the 1954 Code was next amended in the Foreign Investors Tax Act of 1966, Pub. L. 89-809, sec. 104(b)(1), 80 Stat. 1555. A stated purpose of that act was “To provide equitable tax treatment for foreign investment in the United States”. Foreign Investors Tax Act of 1966, 80 Stat. 1539. To that end, Congress renumbered

section 882(c)(1) of the 1954 Code with slight modification as

section 882(c)(2) and added a new

section 882(d). Foreign Investors Tax Act of 1966, sec. 104(b)(1), 80 Stat. 1556. As to the first action, the House committee report stated: Deductions and credits allowed only if return filed. Paragraph (2) of

section 882(

c) continues the substance of the rule contained in

section 882(c)(1) of existing law that a foreign corporation is to receive the benefit of the allowable deductions only by filing a true and accurate return of its total income (including income subject to tax under

section 881(a)); a technical amendment has been provided, however, to make clear that the return must also include the income derived from sources without the United States which is effectively connected with the conduct of a trade or business within the United States. This rule has also been extended to apply to credits against tax, such as the foreign tax credit, other than the credit provided by

section 32 for tax withheld at the source or the credit provided by

section 39 for certain users of gasoline and lubricating oil. As so amended,

section 882(c)(2) is consistent with

section 874(

a) of the code, as amended by

section 3(

d) of the bill. [H. Rept. 1450, 89th Cong., 2d Sess. 90 (1966).] As to the addition of

section 882(d), the Senate committee report stated: As a general rule, the bill provides that income of a nonresident alien or foreign corporation will be subject to the flat 30-percent (or lower treaty) rate if it is not effectively connected with the conduct of a trade or business within the United States. The regular individual or corporate rates apply to income which is effectively connected to the conduct of a U.S. trade or business. However, the foreigner may elect to treat real property income as if it were income effectively connected with a U.S. business.

This is to permit the deductions attributable to this real property income to be deducted from it. * * * [S. Rept. 1707, 89th Cong., 2d Sess. 19 (1966), 1966-2 C.B. 1059, 1071.] Compare id. at 26, 1966-2 C.B. at 1076-1077, where the Senate committee noted as to nonresident aliens owning property in the United States that Taxing income on real property at a flat 30-percent rate without the allowance of allocable deductions — which in the case of this type of income may be relatively large — may result in quite heavy tax burdens on this type of income.

Your committee agrees with the House that the law in this area should be clarified and doubts whether the disallowance of deductions in such cases is appropriate. Moreover, the disallowance of deductions in such cases would tend to discourage foreign investment in U.S. realty.

Section 217 of the Revenue Act of 1918 a. Overview Ten years before the Revenue Act of 1928, 45 Stat. 791, Congress enacted in

section 217 of the Revenue Act of 1918, ch. 18, 40 Stat. 1069, a provision applicable to nonresident aliens. This provision was substantially similar to

section 233 of the Revenue Act of 1928, except that

section 217 used the words “nonresident alien individual” rather than the words “foreign corporation”.

Section 217 of the Revenue Act of 1918 provided: NONRESIDENT ALIENS-ALLOWANCE OF DEDUCTIONS AND CREDITS. Sec. 217. That a nonresident alien individual shall receive the benefit of the deductions and credits allowed in this title only by filing or causing to be filed with the collector a true and accurate return of his total income received from all sources corporate or otherwise in the United States, in the manner prescribed by this title, including therein all the information which the Commissioner may deem necessary for the calculation of such deductions and credits: * * *

Section 217 of the Revenue Act of 1918 was reenacted in subsequent revenue acts, see, e.g., Revenue Act of 1924, ch. 234, sec. 217(g), 43 Stat. 275; Revenue Act of 1926, ch. 27, sec. 217(g), 44 Stat. 32; Revenue Act of 1928, ch. 852, sec. 215(a), 45 Stat. 848; Revenue Act of 1932, ch. 208, sec. 215(a), 47 Stat. 229, and was codified in the 1939 Code as

section 215(a), ch. 2, 53 Stat. 77. It was recodified in the 1954 Code as

section 874(a), 68A Stat.

Section 874 of the 1954 Code was identical in substance with sections 215 and 216 of the 1939 Code, H. Rept. 1337, supra at A245, and is virtually identical to

section 882(c)(2) except that the latter

section uses the words “foreign corporation” instead of the words “nonresident alien individual”. From the outset, the Secretary interpreted

section 217 of the Revenue Act of 1918 as providing that a nonresident alien was allowed deductions upon the alien’s filing of a true and accurate Federal income tax return and that the alien’s tax liability would be assessed without the benefit of deductions if the Commissioner had to prepare a substitute return for the alien. That

interpretation was set forth in

Article 311 of Regulations 45 as follows: Art. 311. Allowance of deductions and credits to nonresident alien individual. — Unless a nonresident alien individual shall render a return of income as required in

article 404 [i.e., “a full and accurate return on form 1040 (revised) or form 1040 A (revised) of his income received from sources within the United States, regardless of amount”], the tax shall be collected on the basis of his gross income (not his net income) from sources within the United States.

Where a nonresident alien has various sources of income within the United States, so that from any one source or from all sources combined the amount of income shall call for the assessment of a surtax, and a return of income shall not be filed by him or on his behalf, the Commissioner will cause a return of income to be made and include therein the income of such nonresident alien from all sources concerning which he has information, and he will assess the tax and collect it from one or more of the sources of income within the United States of such nonresident alien, without allowance for deductions or credits. * * * b.

Relationship to Former

Section 233 The Court of Appeals for the Fourth Circuit has observed that

Article 311 of Regulations 45 contains the Secretary’s longstanding construction of

section 217 of the Revenue Act of 1918. See Blenheim Co. v. Commissioner, 125 F.2d at 910. That court has stated that Congress is presumed to have included that construction in

section 233 as enacted as part of the Revenue Act of 1928 and as later reenacted. See id. (citing Brewster v. Gage, 280 U.S. 327 (1930); Morgan v. Commissioner, 309 U.S. 78 (1940)).

Section 235 of the Revenue Act of 1928

Section 235 of the Revenue Act of 1928, 45 Stat. 849, was a predecessor to

section 6072 and provided the due date for filing the Federal income tax return of a foreign corporation without an office or place of business in the United States.

Section 235 of the Revenue Act of 1928 provided: SEC. 235. RETURNS. In the case of a foreign corporation not having any office or place of business in the United States the return, in lieu of the time prescribed in

section 53(a)(1), shall be made on or before the fifteenth day of the sixth month following the close of the fiscal year, or, if the return is made on the basis of the calendar year then on or before the fifteenth day of June. If any foreign corporation has no office or place of business in the United States but has an agent in the United States, the return shall be made by the agent.

Section 235 of the Revenue Act of 1928 was reenacted verbatim in the Revenue Act of 1932, 47 Stat. 230. Compare

section 235 of the Revenue Act of 1932 with

section 235 of the Revenue Act of 1928. VI. Relevant Caselaw A. Overview This Court has observed that sections 874(

a) and 882(c)(2), because similar in text and legislative intent, are to be interpreted in pari materia. See Espinosa v. Commissioner, 107 T.C. 146, 152 (1996). The Court has also observed that few opinions discuss the text of these sections in the context of Federal income tax returns submitted to the Commissioner untimely. Id. at 152-153. All of the cases discussing the relevant text are in the setting of former

section 233. Only one case discusses the text of

section 874(a), and no case discusses the predecessors of that section. B. Angló-Am. Direct Tea Trading Co. In the seminal case of Anglo-Am. Direct Tea Trading Co. v. Commissioner, 38 B.T.A. 711 (1938), the taxpayer was a foreign corporation with no offices or agents in the United States, and it did not transact any business in the United States. During its taxable years ended November 30, 1932 and 1933, the taxpayer received gross income in the form of dividends from a wholly owned domestic corporation.

In March 1935, the Commissioner learned of the dividends, determined that the taxpayer had not filed Federal income tax returns for its taxable years of receipt, and discussed this matter with one of the taxpayer’s officers. On or about April 15, 1935, without informing the taxpayer that he was doing so, the Commissioner’s revenue agent prepared substitute Federal income tax returns for those taxable years of receipt.

Before the substitute returns were accepted by the Commissioner, the taxpayer on April 18, 1935, filed delinquent Federal income tax returns that included the dividends in its gross income and claimed corresponding deductions for dividends received. The Commissioner denied the deductions reported on those returns.

Section 23 of the Revenue Act of 1928, 45 Stat. 799, and the Revenue Act of 1932, 47 Stat. 179, allowed the taxpayer to deduct from its gross income any dividend received from a domestic corporation. The Commissioner argued that notwithstanding this law, the phrase in

section 233 of the 1928 and 1932 Revenue Acts that conditioned the allowance of deductions on the filing of returns “in the manner prescribed in this title” meant that deductions were allowable to a foreign corporation only if it filed its return before the time specified in

section 235 of the 1928 and 1932 Revenue Acts. Under

section 235 of the 1928 and 1932 Revenue Acts, the taxpayer’s returns had to be filed by May 30, 1933 and 1934, respectively, in order to be timely. The Commissioner argued more specifically that Congress intended that the word “manner” be construed broadly as including a timeliness requirement or, in other words, a reference to the timely filing requirements found elsewhere in the applicable revenue acts. The Board, in a reviewed opinion with no recorded dissent, disagreed with the Commissioner’s

interpretation of the relevant text and held that the taxpayer was entitled to its deductions even though its returns had been filed untimely. See Anglo-Am. Direct Tea Trading Co. v. Commissioner, supra at 716. The Board reached this holding by carefully examining Congress’s use in the revenue acts of the words “manner” and “time” and by literally applying the word “manner” in accordance with the word’s “usual and ordinary meaning of ‘mode, method, mien, style, or way’”. Id. at 715.

The Board concluded that the word “manner” was not intended by Congress to, and thus did not, include any element of time, let alone impose a requirement that a foreign corporation file its return by a certain date in order to deduct its expenses. Id. at 714-716. The Board stated: “A careful reading of sections 233 and 235 discloses no indication of a legislative intent to extend the meaning of ‘manner’ so as to include ‘time’. Neither

section provides that the deductions may not be allowed unless the return is filed within the time prescribed.” Id. at 715. The Board added that if Congress had intended to deprive a foreign corporation of its right to a deduction when it did not file a timely Federal income tax return, it would have said so. Id. The Board also supported its conclusion by analyzing the “structure” of the revenue acts. The Board concluded from that analysis: They seem to have a more or less common pattern. Thus

section 52 governs the manner of filing corporation returns,

section 215(

a) deals with the manner of filing returns by or for nonresident aliens,

section 251(

f) the manner of filing returns by citizens of the United States who are in receipt of income from sources within possessions of the United States, and

section 233 the manner of filing returns for a foreign corporation. Sections 53, 217, and 235 deal with the time and place of filing returns, while sections 56, 218, and 236 deal with payment. Inasmuch as separate sections deal with “manner” and “time”, we think it highly improbable that Congress ever intended to include the element of time in the

section dealing primarily with the manner of filing. * * * [Id. at 715-716.] C. Mills, Spence & Co. In Mills, Spence & Co. v. Commissioner, a Memorandum Opinion of the Board of Tax Appeals dated Oct. 5, 1938, the Board followed its decision in Anglo-Am. Direct Tea Trading Co. v. Commissioner, supra. In Mills, Spence & Co., the taxpayer was a foreign corporation that had no offices in the United States but derived income from sources within the United States, thus requiring it to file Federal income tax returns.

On July 19, 1934, the Commissioner informed the taxpayer that it had to file tax returns for 1930 through 1933 because it had received during those years gross income subject to Federal income tax. The taxpayer filed those returns on February 21, 1936, reporting net losses for each year. Subsequently, the Commissioner issued a notice of deficiency to the taxpayer that disallowed all of the deductions claimed on the returns. The Commissioner argued before the Board that the taxpayer’s failure to file its tax returns timely meant that it was precluded by

section 233 of the 1928 and 1933 Revenue Acts from deducting its expenses. The Board disagreed, stating: That the petitioner received the gross incomes, incurred the expenses, and sustained the net losses as set out in the tabulation is not in dispute. The contention of respondent is that such expenses are not deductible, for the sole reason that the petitioner, being a foreign corporation, is prohibited from receiving the benefit of such deductions by the provisions of

section 233 of the Revenue Acts of 1928 and 1932, because none of its returns for the periods involved was timely filed. The gist of his contention is that the words in those sections “in the manner prescribed in this title” embrace timely filing of returns within their meaning and that, consequently, deductions are allowable to a foreign corporation only when its returns are filed within the time specified in

section 235 of the Revenue Acts of 1928 and 1932, supra. Under this section, 235, petitioner should have filed its returns for the periods involved on or before June 15 of each of the years 1931, 1932, 1933, and 1934, but did not file any returns until February 21, 1936, when it filed returns for all the periods. The respondent argues that as a consequence of such untimely filing of the returns the petitioner is not entitled to the deductions of the expenses involved and that the tax should be computed upon its gross income. We do not agree with respondent’s contention.

It is unnecessary to assign any reason for such conclusion other than to say that our decision on this point is clearly controlled by the holding of the Board in Anglo-American Direct Tea Trading Co., Ltd., promulgated October 4, 1938, 36 B.T.A. No. 94. Accordingly we hold that petitioner is entitled to the deduction of the expenses as set out in the above tabulation and that respondent erred in computing petitioner’s taxes on the basis of its gross income. [Mills, Spence & Co. v. Commissioner, supra; fn. ref. omitted.] D. Am. Inv. & Gen. Trust Co. In Am. Inv. & Gen. Trust Co. v.

Commissioner, a Memorandum Opinion of the Board of Tax Appeals dated April 13, 1939, the Board again applied its holding in Anglo-Am. Direct Tea Trading Co. v. Commissioner, 38 B.T.A. 711 (1938). The Board found that the taxpayer, a foreign corporation, had not filed its 1929 and 1930 Federal income tax returns timely. The Commissioner again argued that this finding meant that the taxpayer was not entitled to its deductions. The Board disagreed, stating: this is not a “no return” case. It is obvious, however, that the petitioner was delinquent in filing its returns.

The returns were due not later than June 15, 1930 and June 15, 1931, whereas they were not filed until after June 12, 1934. The Commissioner argues that this foreign corporation can not receive the benefit of the deductions and credits allowed under Title I of the Revenue Act of 1928 because the filing of the delinquent returns was not the filing of returns “in the manner prescribed” in Title I. This same argument has been considered and rejected by the Board in the case of Anglo-American Direct Tea Trading Co., Ltd., 38 B.T.A. 711. It is rejected here on authority of that case. [Am. Inv. & Gen.

Trust Co., Ltd. v. Commissioner, supra.] E. Taylor Sec., Inc. Next, the Board decided Taylor Sec., Inc. v. Commissioner, 40 B.T.A. 696 (1939). There, the Commissioner issued a notice of deficiency to the foreign corporation taxpayer on March 23, 1937. That notice reflected substitute returns that the Commissioner had prepared for the taxpayer’s 1930 through 1935 taxable years, using only the taxpayer’s income. On June 16, 1937, the taxpayer petitioned the Board as to the notice of deficiency, and the Commissioner answered the petition shortly thereafter.

On October 20, 1938, the taxpayer was notified by the Board that a hearing was set for a stated session of the Board beginning December 5, 1938. Subsequently, after the Board continued the date of that hearing until January 16, 1939, the taxpayer filed its 1930 through 1935 tax returns on December 13, 1938. The Board held that the taxpayer was not entitled to its claimed deductions because it had not filed a return as required by the statute. In rejecting any argument that the taxpayer’s returns were “returns” for this purpose, the Board distinguished Anglo-Am. Direct Tea Trading Co. v.

Commissioner, supra, on the grounds that there the taxpayer had filed its returns before the notice of deficiency was issued, those returns had been audited (not the returns prepared by the revenue agent), and the returns prepared by the revenue agent had never been accepted by the Commissioner. See Taylor Sec., Inc. v. Commissioner, supra at 702-703. The Board stated: Here the question is whether the petitioner, by filing returns after the respondent made his determination of deficiencies under the circumstances presented, relieved itself of the adverse condition in which it was situated by reason of

section 233 and is entitled to the benefits to which it would otherwise have been entitled by the timely filing of returns. In our opinion it may not. * * * we are unable to conclude that in enacting

section 233, supra, it was the intention of Congress that delinquent returns filed by a foreign corporation after the respondent’s determination should constitute the returns required as a prerequisite to the allowance of the credits and deductions ordinarily allowable to the corporations. * * * By

section 233 the allowance to foreign corporations of the credits and deductions ordinarily allowable is specifically predicated upon such corporations filing returns. In view of such a specific prerequisite it is inconceivable that Congress contemplated by that

section that taxpayers could wait indefinitely to file returns and eventually when the respondent determined deficiencies against them they could then by filing returns obtain all the benefits to which they would have been entitled if their returns had been timely filed. Such a construction would put' a premium on evasion, since a taxpayer would' have nothing to lose by not filing a return as required by statute. [Id. at 703-704.] F. Ardbern I Blenheim One year later, the Board decided Ardbern Co. v. Commissioner, 41 B.T.A. 910 (1940), and Blenheim Co. v. Commissioner, 42 B.T.A. 1248 (1940).

In Ardbern Co., the taxpayer was a foreign corporation that attempted to file Federal income tax returns for 1929 through 1932 in June 1937. The taxpayer tendered those returns to the Commissioner’s revenue agent, but the agent refused to accept them, believing that the returns had to be filed with the Collector of Internal Revenue at Baltimore, Maryland. The agent did not inform the taxpayer how to file those returns properly. On July 3, 1937, the Commissioner issued a notice of deficiency to the taxpayer for the years in question and, 6 days later, prepared substitute returns for the taxpayer.

On September 29, 1937, the taxpayer petitioned the Board with respect to the matter, and the Commissioner answered that petition on December 7, 1937. On October 28, 1938, the taxpayer filed its 1929 through 1932 Federal income tax returns with the Collector of Internal Revenue at Baltimore, Maryland, claiming deductions and reporting no tax due. The Board applied Taylor Sec., Inc. v. Commissioner, supra, and sustained the Commissioner’s disallowance of deductions. The Board stated: Petitioner did not, by the lodgment of returns with * * * [the revenue agent], discharge the duty which the statute laid upon it.

Also, the action of petitioner in filing returns with the collector at Baltimore on October 28, 1938, was ineffective to bring it within the limitations of the statute so as to entitle it to the benefit of deductions. These returns were filed (

a) after respondent had determined the deficiencies and prepared returns for petitioner under

section 3176 of the Revised Statutes, as amended, and (

b) after the petition and answer had been filed and the case was at issue before the Board, and only approximately two and one-half months prior to the hearing. Returns filed under such circumstances do not meet the requirements of

section 233. Taylor Securities, Inc., 40 B.T.A. 696. On the point under discussion, the facts of the instant proceeding are not distinguishable in any material respect from those of the Taylor case. On authority of that decision and for the reasons therein stated, which need not be repeated here, respondent’s action in computing the present deficiencies without the allowance of deductions is approved. [Ardbern Co. v. Commissioner, 41 B.T.A at 919-920.] Upon appeal, the Court of Appeals for the Fourth Circuit modified and remanded the Board’s decision on the authority of Anglo-Am. Direct Tea Trading Co. v.

Commissioner, 38 B.T.A. 711 (1938). The court stated: fair dealing between the Government and a taxpayer would require the agent to whom the returns were improperly tendered for filing to advise the taxpayer as to the official and place where the returns should be filed. Here the agent Muller rejected the returns on the sole ground that they were improperly executed and did not notify the taxpayer that the returns could in no event be filed with him. Soon after the refusal to accept the returns the deficiency was determined against the taxpayer.

It is conceded that, if the return which taxpayer attempted to file before Muller in June 1937 had been properly filed before the Collector at Baltimore, taxpayer would have been entitled to the deductions claimed, which represented expense incurred in connection with the earning of the income taxed. The deductions are denied merely because they were not claimed in a return properly filed until after the deficiency assessment had been made against taxpayer upon a return filed for him by the Commissioner in which no deductions were allowed.

We think, however, that when return was filed by the Commissioner for the taxpayer, he should have given him the benefit of proper deductions for expense of doing business, of which he had been notified by the return which taxpayer had attempted to file with his agent, or, at least, that taxpayer should be allowed such deductions when, upon the assessment of a deficiency against him, he shows that prior to its assessment he attempted in good faith to file a return in which such deductions were claimed. This is nothing but elementary justice, and we find nothing in the statute which forbids it.

The return made by the Commissioner was clearly not based upon the best available information. While there is a specific penalty of 25 per centum fixed for failure to file tax returns,

Section 291, Revenue Act of 1928, * * * there is no provision that there shall be an added penalty in the form of not allowing the delinquent taxpayer deductions to which it otherwise would be entitled. The Board held in Anglo-American Direct Tea Trading Co. v. Commissioner, 38 B.T.A. 711: “Inasmuch as separate sections deal with ‘manner’ and ‘time,’ we think it highly improbable that Congress ever intended to include the element of time in the

section dealing primarily with the manner of filing. We hold, therefore, that the mere fact the return was not filed within the time prescribed by

section 235 does not, under the circumstances here presented, preclude the allowance of deductions claimed.” [Ardbern Co. v. Commissioner, 120 F.2d at 426.] The Board also followed Taylor Sec., Inc. v. Commissioner, 40 B.T.A. 696 (1939), in Blenheim Co. v. Commissioner, 42 B.T.A. 1248 (1940). There, the taxpayer was a foreign corporation that on June 15, 1935, filed a 1934 personal holding company return (Form 1120H) reporting income consisting only of dividends received from domestic corporations.

The Commissioner learned that the taxpayer had not filed a corporate income tax return (Form 1120) for that year and asked the taxpayer to do so. The taxpayer declined. On April 28, 1938, the Commissioner prepared a substitute return for the taxpayer and, on May 18, 1938, issued to it a notice of deficiency. On August 9, 1938, the taxpayer filed a Form 1120 for 1934. The Board held that the filing of Form 1120H did not satisfy the requirements of

section 233 of the 1928 and 1932 Revenue Acts because the personal holding company surtax was separate and distinct from the corporate income tax. Id. at 1251-1252. As to the Form 1120 filed by the taxpayer for 1934, the Board stated: Undoubtedly a taxpayer may litigate a determination of respondent on the basis of a return made by * * * [the Commissioner], But, a “return” filed by a taxpayer after such a return has been prepared and filed for him by respondent, under the circumstances existing here, is a nullity and does not comply with

section 233, supra. The taxpayer can not thus take advantage from an alleged return submitted by the taxpayer not only after respondent’s filing of its return * * * but also after the issuance of a notice of deficiency. Taylor Securities, Inc., 40 B.T.A. 696. * * * [Id. at 1251.] On appeal, the Court of Appeals for the Fourth Circuit affirmed. The court first quoted

section 233 of the 1928 and 1932 Revenue Acts and then stated with respect thereto: “It is true that this

section contains no reference to a time element.” Blenheim Co. v. Commissioner, 125 F.2d at 908. The court then noted that

section 233 of the 1928 and 1932 Revenue Acts applied only to foreign corporations and explained that Congress intended to impose special conditions on foreign corporations vis-a-vis domestic corporations. The court stated: The difficulty here encountered by the Commissioner in attempting to ascertain the petitioner’s correct income tax is a striking example of the many administrative problems inherent in the application of the federal income tax to foreign corporations. This has prompted Congress to impose special conditions on such corporations.

Indeed, unless a foreign corporation is induced voluntarily to advise the Commissioner of all of its income attributable to sources within the United States and of the exact nature of all deductions from such income, the Commissioner may never learn even of the corporation’s existence, and, in any event, he will probably be unable to determine the correct amount of its taxable income. The situation is pregnant with possibilities of tax evasion.

In express recognition of this fertile danger to the orderly administration of the income tax as applied to foreign corporations, Congress conditioned its grant of deductions upon the timely filing of true, proper and complete returns. This is in addition, of course, to the 25% penalty provided by

Section 291 of the 1934 Act for both foreign and domestic corporations which either file no return or a late return unless “reasonable cause” for the failure to file a timely return is shown. * * * [Id. at 909.] As to the “terminal date” that the Board had adopted in Taylor Sec., Inc. v. Commissioner, supra, the Court of Appeals for the Fourth Circuit explained that this date was justified notwithstanding the absence in the statute of a time element.

The court stated: The conclusion that the preparation of a return by the Commissioner a reasonable time after the date it was due terminates the period in which the taxpayer may enjoy the privilege of receiving deductions by filing its own return, is consistent not only with the intention of Congress * * * but also with considerations of sound administrative procedure and the generally accepted rule concerning the number of returns which may be filed. This terminal date, which the Board of Tax Appeals first adopted in Taylor Securities v.

Commissioner, 40 B.T.A. 696 (1939), is directed against those foreign corporations which instead of being induced voluntarily to advise the Commissioner of their domestic operations, might find their interests best served by filing no return whatever, and then waiting until such time, if any, as the Commissioner discovers their existence and acquires sufficient information about their income on which to base a return.

Unless they are precluded from then obtaining the deductions and credits under such circumstances, such foreign corporation can, if detected, come in for the first time after the Commissioner has made a return and suffer no economic loss other than the general 25% late filing penalty which applies to domestic as well as foreign corporations.

Without prescribing an absolute and rigid rule that whenever the Commissioner files a return for a foreign corporation the taxpayer is completely and automatically denied the benefit of deductions or credits, we yet hold that the facts of the instant case justify a disallowance of deductions which petitioner might otherwise have been entitled to claim, had it filed a timely return in compliance with the statutory requirement. [Blenheim Co. v. Commissioner, 125 F.2d at 910.] The Court of Appeals for the Fourth Circuit also found in the legislative history of

section 217 of the Revenue Act of 1918 further support for that conclusion and its reading of the statute to the effect that a foreign corporation was entitled to deduct its expenses upon the filing of an accurate and complete return: It will thus be noted that

Section 233 relating to foreign corporations, which made its first appearance in the Revenue Act of 1928, 26 U.S.C.A. Int. Rev. Acts, page 419, is almost verbally identical with this

section governing nonresident aliens which has been a part of the revenue laws since 1918. The application of

Section 217 of the 1918 Act is clear. From the outset the Treasury Regulations have expressly provided that no deductions were allowable to nonresident aliens unless an accurate and complete return was filed, and the filing of the return by the Commissioner fixed the tax liability. * * * The foregoing regulation [Article 311 of Treasury Regulations 45] states specifically that deductions are allowable to a nonresident alien only if a return is filed, and, if no return has been filed at the time the Commissioner prepares a return for the taxpayer, the tax shall be assessed with no allowance for deductions.

Congress may be presumed to have adopted this longstanding administrative construction when it enacted and reenacted

Section 233. Brewster v. Gage, 1930, 280 U.S. 327, 50 S. Ct. 115, 74 L.Ed. 457, Morgan v. Commissioner, 1940, 309 U.S. 78, 626, 60 S. Ct. 424, 84 L.Ed. 585, 1035. [Id. at 910.] The Court of Appeals for the Fourth Circuit distinguished its holding in Ardbern Co. v. Commissioner, 120 F.2d 424 (4th Cir. 1941), stating: A substantially different factual situation is presented in the case before us. Here the Commissioner prepared a return only after he had unsuccessfully made repeated requests to the taxpayer to do so, and only after the taxpayer had flouted all of these requests.

Then, after the Commissioner had assessed a deficiency on the basis of his return, but only then, the petitioner filed its petition for review by the Board and also a return. Unless the deductions are here denied,

Section 233 will become a meaningless provision, for if, after the Commissioner has earnestly attempted to obtain a return by the taxpayer and has waited a reasonable time before filing his own return, the taxpayer may still enjoy the privilege of all deductions and credits, there is then no inducement to foreign corporations voluntarily to file timely returns. In the absence of demonstrable fraud, they will, by self-serving uncooperative conduct, suffer no loss other than the general late filing penalty which is applicable to domestic as well as foreign corporations.

Such a construction of the statute would put a premium on tax evasion and would reduce the administration of the tax laws to mere idle activity. [Id. at 909-910.] G. Georday Enters. In Georday Enters. v. Commissioner, 126 F.2d 384 (4th Cir. 1942), affg. a Memorandum Opinion of the Board of Tax Appeals, a companion case to Blenheim Co. v. Commissioner, 125 F.2d 906 (4th Cir. 1942), the Court of Appeals for the Fourth Circuit affirmed the Board’s denial of deductions under

section 233 of the 1928 and 1932 Revenue Acts. The court noted that the case for the disallowance was even stronger than in Blenheim Co. because the taxpayer did not attempt to file a return voluntarily until after a petition had been filed with the Board. The court stated: On the issues of the timeliness of Georday’s federal income tax return and the imposition of a 25% penalty, our decision in the Blenheim case is determinative.

The case for disallowance of Georday’s deductions is even stronger here because Georday failed to file a return voluntarily not only after a return had been filed for it by the Commissioner and after a deficiency letter had been sent to it, but even after a petition to the Board had been filed. In point of time, Georday filed its return more than five years after the date on which it was due.

Georday, therefore, clearly failed to file its return within the reasonable terminal period prescribed in the Blenheim case and is now precluded from obtaining the benefits of any deductions it might have otherwise been entitled to claim had it filed a timely return. * * * [Georday Enters. v. Commissioner, supra at 388.] H. Espinosa While each of the previously discussed cases dealt with the applicability of former

section 233 to a foreign corporation, Espinosa v. Commissioner, 107 T.C. 146 (1996), involved the applicability of

section 874(

a) to a nonresident alien taxpayer. In Espinosa, the Commissioner had mailed a letter to the taxpayer on November 13, 1992, asking him whether he had filed returns and, if he had not, instructing him to file returns or otherwise respond. The letter stated that the Commissioner would file substitute returns for the taxpayer if the taxpayer did not respond by December 1, 1992.

On January 12, 1993, the taxpayer had not yet responded, and the Commissioner wrote the taxpayer a second request, adding that “your tax liability [will be determined] based on the information we have” if the taxpayer did not respond within 20 days. On February 3, 1993, after the taxpayer had again failed to respond, the Commissioner notified the taxpayer that the Commissioner had filed substitute returns for the taxpayer for 1987 through 1991. On March 23, 1993, the Commissioner notified the taxpayer that the substitute returns had been computed without the benefit of any deductions.

On October 7, 1993, the taxpayer submitted Federal income 'tax returns for 1987 through 1991; apparently, these returns were never filed by the Commissioner. The returns reported net losses from rental properties located in the United States. On January 13, 1994, the Commissioner issued a notice of deficiency to the taxpayer for 1987 through 1991. The Commissioner determined in the notice of deficiency that the taxpayer was liable for deficiencies and additions to tax as ascertained from the substitute returns. Pursuant to

section 874(a), the Commissioner did not allow the taxpayer to deduct any of his related expenses. This Court upheld the Commissioner’s determination, deciding that a nonresident alien may not avoid the sanctions of

section 874(

a) by filing returns after the Commissioner has prepared returns for the taxpayer, but before the Commissioner has issued a notice of deficiency. See Espinosa v. Commissioner, supra at 150, 158. The Court noted that the Commissioner before preparing the substitute returns had informed the taxpayer that he had not filed a Federal income tax return and had given him a reasonable time to do so. Id. at 157. Respondent argues in this case that the Court in Espinosa v. Commissioner, supra at 156, interpreted Anglo-Am. Direct Tea Trading Co. v. Commissioner, 38 B.T.A. 711 (1938), to hold solely that a foreign corporation’s (or nonresident alien’

s) filing of a Federal income tax return after the due date set forth in

section 6072 (and its predecessors) is not the only factor to consider in determining whether the corporation (or alien) is entitled to deduct its expenses. We disagree. The Court in Espinosa on the referenced page made the following observation as to Anglo-Am. Direct Tea Trading Co.: “while a terminal date does exist [after which a foreign corporation or nonresidént alien can no longer claim the benefit of deductions by filing a Federal income tax return], the timely filing requirements of

section 6072(

c) are not determinative as to whether a taxpayer [the corporation or alien] is entitled to the benefit of deductions.” The Court in Espinosa did not limit Anglo-Am. Direct Tea Trading Co. to that observation or to any other point. In fact, as the Board explained its holding in Anglo-Am. Direct Tea Trading Co. shortly after rendering it: In the Anglo-American Co. case, it was held that the phrase in

section 233 of the Revenue Acts of 1928 and 1932, “in the manner prescribed in this title”, did not mean within the time prescribed in the titles of the respective acts and the allowance of the credits and deductions otherwise allowable by such acts was not dependent under

section 233 on the filing of returns within the time prescribed by said acts. [Taylor Sec., Inc. v. Commissioner, 40 B.T.A. at 702.] Accord Am. Inv. & Gen. Trust Co. v. Commissioner, a Memorandum Opinion of the Board of Tax Appeals dated April 13, 1939; Mills, Spence & Co. v. Commissioner, a Memorandum Opinion of the Board of Tax Appeals dated Oct. 5, 1938. In addition, the Court of Appeals for the Fourth Circuit in Ardbern Co. v. Commissioner, 120 F.2d at 425-426, quoted and applied favorably the following holding from Anglo-Am.

Direct Tea Trading Co. in deciding for the taxpayer: Inasmuch as separate sections deal with “manner” and “time,” we think it highly improbable that Congress ever intended to include the element of time in the

section dealing primarily with the manner of filing. We hold, therefore, that the mere fact the return was not filed within the time prescribed by

Section 235 does not, under the circumstances here presented, preclude the allowance of deductions claimed. I. Inverworld, Inc. In Inverworld, Inc. v. Commissioner, T.C. Memo. 1996-301, the taxpayer was a foreign corporation that had not as of the time of trial filed a Federal income tax return for any of the relevant years. All of those years predated the effective date of the disputed regulations. See discussion infra pp. 125-126. The taxpayer noted that the applicable regulations had been issued in 1957 and that those regulations did not contain a timely filing requirement.

The taxpayer argued that such a requirement was therefore not applicable to the relevant years. The Court did not decide that argument. Instead, the Court applied the opinions of the Court of Appeals for the Fourth Circuit in Blenheim Co. v. Commissioner, 125 F.2d 906 (4th Cir. 1942), and Ardbern Co. v. Commissioner, supra, and held that

section 882(c)(2) applied to deny the taxpayer the benefit of any deductions for those years because the taxpayer had never filed a return. VIL Regulations Interpreting

Section 882(c)(2) and Its Predecessors A. Background The Secretary never issued regulations interpreting former

section 233. Since the enactment of

section 882 of the 1954 Code, the Secretary has issued four sets of regulations interpreting the relevant text of that section. The first set of regulations was issued in 1957 (1957 regulations) and was amended in 1990 through the second set of regulations (1990 regulations), which contain the disputed regulations. The third set of regulations was issued in 2002 (2002 temporary regulations) as temporary regulations amending a portion of the 1990 regulations. The fourth set of regulations was issued in 2003 (2003 regulations) and finalized the 2002 temporary regulations. B. 1957 Regulations On October 23, 1957, the Secretary filed in the Federal Register the 1957 regulations interpreting

section 882 of the 1954 Code. See sec. 1.882-4, Income Tax Regs., 22 Fed. Reg. 8362 (Oct. 23, 1957). According to those regulations,

section 882 of the 1954 Code pertained to “resident corporations”, i.e., corporations with a trade or business in the United States, and such a corporation could deduct its expenses only if it filed a true and accurate Federal income tax return in accordance with

section 6012 and the regulations thereunder. The 1957 regulations stated that a foreign corporation would be taxed on its gross income, without the benefit of any deductions, if it did not so file such a return. The 1957 regulations did not require that the required return be filed by a set time. Nor did the 1957 regulations state that the relevant text included a timely filing requirement. The 1957 regulations stated in relevant part: § 1.882-4 Allowance of Deductions to Foreign Corporations. — * * * (

b) Resident foreign corporations. —

(1) Return necessary. A resident foreign corporation shall receive the benefit of the deductions allowed to it with respect to the income tax, only if it files or causes to be filed with the district director, in accordance with

section 6012 and the regulations thereunder, a true and accurate return of its total income received from all sources within the United States.

(2) Tax on gross income. If a return is not so filed, the tax shall be collected on the basis of gross income, determined in accordance with § 1.882-1 but without regard to any deductions otherwise allowable. C. 1990 Regulations On December 10, 1990, the Secretary issued the 1990 regulations to amend

section 1.882-4, Income Tax Regs., as adopted in 1957. See sec. 1.882-4, Income Tax Regs., 55 Fed. Reg. 50830 (Dec. 11, 1990), T.D. 8322, 1990-2 C.B. 172. The amendments were first published as proposed regulations. See sec. 1.882-4, Proposed Income Tax Regs., 54 Fed. Reg. 31547 (July 31, 1989). In the

preamble to the proposed regulations, the Secretary explained: “Since the filing of a timely return is one of the requirements set forth in subtitle F, these regulations provide that otherwise allowable deductions and credits will be allowed only if a return is filed by the time limits as set forth in these regulations.” Id. As finalized, the 1990 regulations became effective July 31, 1990, for taxable years ended after that date. See sec. 1.882-4, Income Tax Regs., T.D. 8322, 1990-2 C.B. at 172.

The 1990 regulations added to the 1957 regulations a general requirement that a foreign corporation file its Federal income tax return timely, i.e., generally before the 18-month deadline, in order to deduct its expenses for the year covered by the return. As respondent asserts in brief, a timely filing requirement was added because: When Anglo-American and its progeny were decided, the scale and nature of international business activity was markedly different from today’s modern business environment. At that time, international travel was a time-consuming and cumbersome endeavor.

Transatlantic air travel was in its infancy, zeppelins and cruise ships were the predominant means of travel. Books and records were in paper, not electronic form. Data and information was transmitted via mail. In the years since Anglo-American, there have been dramatic changes and increases in the nature and level of international business activity. International air travel is commonplace, taking hours instead of days. Books and records are now maintained in electronic form on computers. Data, information, and money are transmitted around the world in electronic form.

Businesses have instantaneous access to information via the internet. Documents are delivered via overnight delivery or by facsimile.

Section 1.882-4(a)(2), Income Tax Regs., as amended in 1990, states:

(2) Return necessary. A foreign corporation shall receive the benefit of the deductions and credits otherwise allowed to it with respect to the income tax, only if it timely files or causes to be filed with the Philadelphia Service Center, in the manner prescribed in subtitle F, a true and accurate return of its taxable income which is effectively connected, or treated as effectively connected, for the taxable year with the conduct of a trade or business in the United States by that corporation. * * *

Section 1.882-4(a)(3)(i), Income Tax Regs., as amended in 1990, goes on to set forth filing deadlines by which to measure whether the timely filing requirement has been met. See supra note

Section 1.882-4(a)(3)(ii), Income Tax Regs., as amended in 1990, also states, without further explanation, that “The filing deadlines set forth in paragraph (a)(3)(

i) of this

section may be waived by the District Director or Assistant Commissioner (International), in rare and unusual circumstances if good cause for such waiver, based on the facts and circumstances, is established by the foreign corporation.” As to the inclusion of the timely filing requirement, the

preamble to the 1990 regulations states in relevant part: Commentators questioned the validity of the filing deadlines as set forth in the proposed regulations. The filing deadlines were not eliminated in the final regulations, however, since the statute clearly provides for the denial of deductions and credits if returns are not filed in a timely manner. This requirement is justified because of different administrative and compliance concerns with regard to nonresident alien individuals and foreign corporations. [T.D. 8322, 1990-2 C.B. at 172, 55 Fed. Reg. 50827 (Dec. 11, 1990).] Among the referenced commentators was the American Bar Association

Section of Taxation (abast). See Letter from Holden, Chair,

Section of Taxation, American Bar Association

Section of Taxation (May 25, 1990), reprinted in 90 TNT 120-28 (June 7, 1990). The ABAST commented that the timely filing requirement was inconsistent with

section 882(c)(2) and supported that comment by citing Anglo-Am. Direct Tea Trading Co. v. Commissioner, 38 B.T.A. 711 (1938), Blenheim Co. v. Commissioner, 125 F.2d 906 (4th Cir. 1942), Ardbern Co. v. Commissioner, 120 F.2d 424 (4th Cir. 1941), and Georday Enters. v. Commissioner, 126 F.2d 384 (4th Cir. 1942), all of which, the ABAST stated, rejected such a requirement. See Letter from Holden, supra. The ABAST also observed that there had been “almost countless tax bills over the past 50 years, including recodifications in 1939, 1954 and 1986” and concluded that Congress must have acquiesced in the

interpretation set forth in those cases. Id. D. 2002 Temporary Regulations On January 28, 2002, the Secretary filed with the Federal Register the 2002 temporary regulations consisting of

section 1.882-4T(a)(3)(ii), (iii), and (iv), Temporary Income Tax Regs., 67 Fed. Reg. 4217 (Jan. 29, 2002). These temporary regulations amended the waiver standard prescribed in

section 1.882-4, Income Tax Regs., as amended in 1990, and listed examples of the amended standard. The 2002 temporary regulations were effective for open years for which a request for a waiver was filed on or after January 29, 2002. E. 2003 Regulations On March 7, 2003, the Secretary replaced the 2002 temporary regulations with the 2003 regulations. See 68 Fed. Reg. 11313 (March 7, 2003).

The 2003 regulations allow the Commissioner to waive the 18-month deadline prescribed in the 1990 regulations if the foreign corporation “establishes to the satisfaction of the Commissioner or his or her delegate that the corporation, based on the facts and circumstances, acted reasonably and in good faith in failing to file a U.S. income tax return”. Sec. 1.882 — 4(a)(3)(ii), Income Tax Regs.

Section 1.882-4(a)(3)(ii) and (iii), Income Tax Regs., as finalized in the 2003 regulations, is effective for open years for which a request for a waiver is filed on or after January 29, 2002. See sec. 1.882-4(a)(3)(iv), Income Tax Regs. In the case of the subject returns, the 18-month deadlines are May 15, 1996, 1997, and 1998, respectively (i.e., 18 months after the 15th day of the 6th month after the close of the taxable year). VIII. Secretary’s Authority To Issue Regulations The Secretary may issue two types of regulations. See Tutor-Saliba Corp. v. Commissioner, 115 T.C. 1, 7 (2000); Estate of Pullin v.

Commissioner, 84 T.C. 789, 795 (1985); see also E.I. duPont de Nemours & Co. v. Commissioner, 41 F.3d 130, 135 (3d Cir.), affg. 102 T.C. 1 (1994). The first type, legislative regulations, is issued pursuant to a specific delegation from Congress to the Secretary. The second type, interpretative regulations, is issued under the general authority vested in the Secretary under

section 7805(a). Respondent acknowledges that the disputed regulations are interpretative regulations.

Section 7805(

a) reflects a broad delegation of general authority from Congress to the Secretary to prescribe all needful rules and regulations for the enforcement of the Internal Revenue Code. See United States v. Correll, 389 U.S. 299, 306-307 (1967). The authority delegated to the Secretary, however, is not limitless and, if exercised improperly, may usurp the role of Congress as the legislator in our system of Government.

The Secretary’s authority to issue regulations is not the power to make law; it is the power to carry into effect the will of Congress as expressed in the statute under which the regulations are prescribed. See Manhattan Gen. Equip. Co. v. Commissioner, 297 U.S. 129, 134-135 (1936). When a statute’s provisions are unambiguous, and its directive is specific, the Secretary has no power to amend that statute by regulation. See Koshland v. Helvering, 298 U.S. 441, 447 (1936). IX.

This Court's Review of an Interpretative Regulation This Court is empowered to invalidate a regulation that exceeds the authority of the Secretary to issue it. See, e.g., Profl. Equities, Inc. v. Commissioner, 89 T.C. 165 (1987); Estate of Pullin v. Commissioner, supra; Stephenson Trust v. Commissioner, 81 T.C. 283, 288 (1983); Estate of Boeshore v. Commissioner, 78 T.C. 523, 527 (1982); Washington v. Commissioner, 77 T.C. 656 (1981), affd. 692 F.2d 128 (D.C. Cir. 1982). When this Court reviews an interpretative Federal tax regulation, we generally apply the analysis set forth by the Supreme Court in Natl.

Muffler Dealers Association v. United States, 440 U.S. 472 (1979). See, e.g., Robinson v. Commissioner, 119 T.C. 44, 70 (2002); Walton v. Commissioner, 115 T.C. 589, 597-598 (2000); UnionBancal Corp. v. Commissioner, 113 T.C. 309, 317 (1999). Under Natl. Muffler, which like the present case involved an interpretative regulation issued under

section 7805(a), an interpretative regulation is valid if it implements a congressional mandate in a reasonable manner. See Natl. Muffler Dealers Association v. United States, supra at 476-477 (citing United States v. Cartwright, 411 U.S. 546, 550 (1973); United States v. Correll, supra at 307); see also United States v. Cleveland Indians Baseball Co., 532 U.S. 200, 218-219 (2001); Newark Morning Ledger Co. v. United States, 507 U.S. 546, 575-576 (1993); Rowan Cos. v. United States, 452 U.S. 247, 252-253 (1981). We must defer to a Federal tax regulation that is reasonable under this standard. Cf. United States v.

Mead Corp., 533 U.S. 218 (2001); Smiley v. Citibank (S.D.), N.A., 517 U.S. 735, 739 (1996). An interpretative Federal tax regulation is reasonable under Natl. Muffler Dealers Association v. United States, supra, only if it “harmonizes with the plain language of the statute, its origin, and its purpose.” Id. at 477; see also United States v. Vogel Fertilizer Co., 455 U.S. 16, 26 (1982). For this purpose, A regulation may have particular force if it is a substantially contemporaneous construction of the statute by those presumed to have been aware of congressional intent.

If the regulation dates from a later period, the manner in which it evolved merits inquiry. Other relevant considerations are the length of time the regulation has been in effect, the reliance placed on it, the consistency of the Commissioner’s

interpretation, and the degree of scrutiny Congress has devoted to the regulation during subsequent reenactments of the statute. [Natl. Muffler Dealers Association v. United States, supra at 477.] Following its decision in Natl. Muffler Dealers Association v. United States, supra, the Supreme Court decided Chevron U.S.A., Inc. v. Natural Res. Def. Council, Inc., 467 U.S. 837 (1984). There, the Supreme Court stated: When a court reviews an agency’s construction of the statute which it administers, it is confronted with two questions.

First, always, is the question whether Congress has directly spoken to the precise question at issue. If the intent of Congress is clear, that is the end of the matter; for the court, as well as the agency, must give effect to the unambiguously expressed intent of Congress. If, however, the court determines Congress has not directly addressed the precise question at issue, the court does not simply impose its own construction on the statute, as would be necessary in the absence of an administrative

interpretation. Rather, if the statute is silent or ambiguous with respect to the specific issue, the question for the court is whether the agency’s answer is based on a permissible construction of the statute. The question arises from the timing of these two decisions whether the Supreme Court intended for Chevron U.S.A., Inc. v. Natural Res. Def. Council, Inc., supra, to replace Natl. Muffler Dealers Association v. United States, supra, in the review of a Federal tax regulation.

We have previously stated with respect to that question: “we are inclined to the view that the impact of the traditional, i.e., National Muffler standard, has not been changed by Chevron, but has merely been restated in a practical two-part test with possibly subtle distinctions as to the role of legislative history and the degree of deference to be accorded to a regulation.” Central Pa. Sav. Association & Subs. v. Commissioner, 104 T.C. 384, 392 (1995); see also id. at 390-392 (discussing the review of Federal tax regulations under Natl. Muffler in relation to Chevron); cf. E.I. duPont de Nemours & Co. v.

Commissioner, 41 F.3d 130 (3d Cir. 1994) (questioning whether Chevron applies to interpretative Federal tax regulations). Here, we conclude likewise that we need not parse the semantics of the two tests to discern any substantive difference between them. While we apply a

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