Economic Substance Doctrine: The Key to Preventing Tax Evasion Schemes

The “economic substance” doctrine allows the Commissioner to disregard transactions that lack a non-tax business purpose or economic substance beyond creating tax benefits, and to determine additional tax based on the true economic substance of the transactions. This doctrine is outlined in Internal Revenue Code (IRC) section 7701(o) and has been established through court decisions.

In Acqis Technology v. Commissioner (TC Memo 2024-21), the court reaffirmed the importance of this doctrine in preventing tax evasion schemes. The case involved proceeds from the settlement of patent infringement claims, where the taxpayer’s actions were considered to lack economic substance and were disregarded by the Commissioner. This highlights the significance of conducting transactions with a legitimate business purpose and economic substance to avoid tax implications.