Celia Mazzei v. Cir

FOR PUBLICATION

UNITED STATES COURT OF APPEALS
FOR THE NINTH CIRCUIT

CELIA MAZZEI; ANGELO L. MAZZEI; No. 18-72451
MARY E. MAZZEI,
Petitioners-Appellants, Tax Ct. Nos.
16702-09
v. 16779-09

COMMISSIONER OF INTERNAL
REVENUE, OPINION
Respondent-Appellee.

Appeal from a Decision of the
United States Tax Court

Argued and Submitted February 14, 2020
Pasadena, California

Filed June 2, 2021

Before: Jay S. Bybee and Daniel P. Collins, Circuit Judges,
and Barry Ted Moskowitz, * District Judge.

Opinion by Judge Collins

*
The Honorable Barry Ted Moskowitz, United States District Judge
for the Southern District of California, sitting by designation.
2 MAZZEI V. CIR

SUMMARY **

Tax

The panel reversed a decision by the full Tax Court in
favor of the Commissioner on a petition for redetermination
of federal excise tax deficiency, in a case involving the use
of a Foreign Sales Corporation to reduce the tax paid on
income that was then distributed as dividends to Roth
Individual Retirement Accounts.

Appellants established a FSC under since-repealed
provisions of Internal Revenue Code §§ 921–927 (the FSC
statute). Under the FSC statute, a corporation with foreign
trade income could establish a related FSC as a shell
corporation and then effectively cycle a portion of that
income through the FSC where it would be taxed at lower
rates. As a result, the FSC’s taxable income was generated
through related-party transactions that lacked meaningful
economic substance. The FSC taxation rules thus reflected a
departure from the normal principle that taxation is based on
economic substance rather than on legal form.

Appellants made their Roth IRAs formal shareholders of
their FSC. Appellants’ export corporation paid commissions
into the FSC, and the FSC’s after-tax income was returned
as dividends and distributed to appellants’ IRAs rather than
to their export corporation. As a result, no tax was paid when
the money was received into the Roth IRAs, and no tax
would be paid on qualified withdrawals from the Roth IRAs.

**
This summary constitutes no part of the opinion of the court. It
has been prepared by court staff for the convenience of the reader.
 MAZZEI V. CIR 3

The Commissioner challenged this scheme, asking the
Tax Court to recharacterize the entire scheme under the
doctrine of substance over form. The Tax Court held that,
under substance-over-form principles, appellants—not the
Roth IRAs—were the real owners of the FSC. This meant
that appellants should be deemed to have received the
dividends, their contributions to the Roth IRAs exceeded the
statutory limits for such contributions, and appellants were
consequently liable for excise taxes on the excess
contributions.

The panel concluded that, due to the unusual statutory
provisions at issue here, the Tax Court erred by invoking
substance-over-form principles to effectively reverse
congressional judgment and to disallow what the statute
plainly allowed. The panel joined three other circuits that
have similarly disallowed the invocation of substance-over-
form principles to undo the congressionally authorized
separation of substance and form that is involved in an entity
similar to the FSC at issue here.

COUNSEL

Lewis R. Walton Jr. (argued) and Lewis R. Walton, Walton
& Walton LLP, Marina Del Ray, California, for Petitioners-
Appellants.

Judith A. Hagley (argued), Gilbert S. Rothenberg, and
Teresa E. McLaughlin, Attorneys, Tax Division; Richard E.
Zuckerman, Principal Deputy Assistant Attorney General;
United States Department of Justice, Washington, D.C.; for
Respondent-Appellee.
4 MAZZEI V. CIR

OPINION

COLLINS, Circuit Judge:

Angelo, Mary, and Celia Mazzei appeal the Tax Court’s
ruling that they are liable for excise taxes for having made
excess contributions to their Roth Individual Retirement
Accounts (“IRAs”). Invoking substance-over-form
principles, the Commissioner insists that the dividends that
the Mazzeis’ Roth IRAs received from a specific corporation
were actually contributions from the Mazzeis, because the
Commissioner deemed the Mazzeis, rather than the IRAs, to
be the real owners of that corporation. Over the vigorous
dissent of four judges, the full Tax Court sided with the
Commissioner. Because we conclude that the unusual
statutory provisions at issue here expressly elevated form
over substance in the relevant respects, the Tax Court erred
by invoking substance-over-form principles to effectively
reverse that congressional judgment and to disallow what the
statute plainly allowed.

The underlying dispute arises from the Mazzeis’
establishment of a Foreign Sales Corporation (“FSC”) under
the since-repealed provisions of Internal Revenue Code
§§ 921–927 (“the FSC statute”). As we explain in detail
below, FSCs were an unusual type of corporation that
Congress first authorized in 1984 to promote exports and
that the World Trade Organization held in 2000 constituted
an impermissible trade subsidy. Under the FSC statute, a
corporation with foreign trade income could establish a
related FSC as a shell corporation and then effectively cycle
a portion of that income through the FSC where it would be
taxed at lower rates. Specifically, the export corporation
could pay tax-deductible “commissions” to the FSC that did
not correspond to any actual services provided by the FSC
but that were instead determined according to complex
 MAZZEI V. CIR 5

statutory formulas. The FSC would pay a modest tax on the
resulting income, and the FSC would then return the
remaining income back to the export corporation (or a
related entity) as dividends, usually tax-free. As a result, the
FSC’s taxable income was largely generated through
related-party transactions that lacked meaningful economic
substance, and the FSC taxation rules thus reflected a sharp
departure from the normal principle that taxation is based on
economic substance rather than on legal form.

The Mazzeis (and many others) took this one step further
by having their Roth IRAs be the formal shareholders of the
FSC. This meant that, when the FSC’s after-tax income was
being returned as dividends, it was distributed to the IRAs
rather than to the export corporation that had paid the
commissions into the FSC. As a result, no tax was paid when
the money was received into the Roth IRAs, no tax would be
paid on the growth of those funds over time, and no tax
would be paid if and when the Mazzeis made qualified
withdrawals from the Roth IRAs. The Commissioner
thought that this arrangement was too good to be true, and
he challenged what the Mazzeis had done here, as well as
similar arrangements involving other taxpayers invoking
related strategies. The Tax Court declined to adopt the
Commissioner’s broad effort to recharacterize the relevant
transactions as a whole, and the court instead held only that,
under substance-over-form principles, the Mazzeis rather
than the Roth IRAs were the real owners of the FSC. That
meant that the Mazzeis should be deemed to have received
the dividends. And that meant, in turn, that the Roth IRAs
received those funds as contributions from the Mazzeis, and
these were well in excess of the statutory limits on such
contributions. As a result, the Tax Court concluded, the
Mazzeis were liable for excise taxes on the excess
contributions.
6 MAZZEI V. CIR

Three circuits have addressed comparable questions in
the context of a similar type of corporation allowed by the
Internal Revenue Code, namely, a Domestic International
Sales Corporation (“DISC”). All three courts reversed the
Tax Court and disallowed the invocation of substance-over-
form principles to undo the congressionally authorized
separation of substance and form that is involved in a DISC.
We reach a similar conclusion as to FSCs here, and we
therefore reverse the judgment of the Tax Court.

I

This is a case in which the details matter a great deal, and
so we first set forth the complex legal backdrop and then
explain the specific facts of this case.

A

The legal context for this dispute involves three different
entities that are (or were) specially authorized by the Internal
Revenue Code, namely, Roth IRAs, FSCs, and DISCs.
Although the Mazzeis did not use a DISC, the FSC regime
was expressly modeled after the DISC system, and so an
understanding of the latter will help to elucidate the
distinctive features of the former. Moreover, the only circuit
decisions addressing comparable issues arose in the DISC
context, thereby underscoring the importance of
understanding both types of corporations. Accordingly, we
briefly review the key features of the Roth IRA, DISC, and
FSC.

1

Congress first authorized tax-advantaged IRAs in 1974,
initially as a means of providing retirement assistance to
those who lacked coverage under a pension plan. See
 MAZZEI V. CIR 7

Employee Retirement Income Security Act of 1974, Pub. L.
93-406, § 2002, 88 Stat. 829, 958–64. Congress has
substantially expanded the availability of IRAs since then,
and it has made numerous changes to the tax treatment of
such accounts. In particular, Congress in 1997 authorized a
new alternative type of IRA called a “Roth IRA.” See
Taxpayer Relief Act of 1997, Pub. L. No. 105-34, § 302(a),
111 Stat. 788, 825.

The tax treatment of earnings in a Roth IRA are generally
the same as for a traditional IRA: earnings grow tax-free,
except that they remain “subject to the taxes imposed by
section 511” concerning unrelated business income. I.R.C.
§ 408(e)(1). But the tax treatment of contributions and
withdrawals differs sharply for a Roth IRA versus a
traditional IRA. With a traditional IRA, authorized
contributions into the account are deductible from taxable
income, see id. § 219(a), but subsequent authorized
withdrawals are generally subject to taxation as ordinary
income, see id. § 408(d)(1). For a Roth IRA, these rules are
reversed: no deduction is allowed for a contribution into a
Roth IRA, see id. § 408A(c)(1), but distributions from a
Roth IRA are not taxable, id. § 408A(d)(1). Loosely
speaking, money is taxed only before going into a Roth IRA,
and money is taxed only on the way out of a traditional IRA.

Given the significant tax advantages of a Roth IRA, in
which funds grow tax free and then remain free from
taxation upon authorized distribution, Congress has
established a statutory formula that strictly limits
contributions to Roth IRAs. See I.R.C. § 408A(c). Under
that formula, as a taxpayer’s income increases, the
contribution limit generally decreases. Id. To enforce such
contribution limits to Roth IRAs (as well as other tax-
favored vehicles), Congress has imposed a 6 percent tax on
8 MAZZEI V. CIR

excess contributions, subject to the proviso that the amount
of the tax cannot exceed 6 percent of the value of the
account. Id. § 4973(a), (f). Moreover, a comparable excise
tax is imposed each subsequent year unless and until an
amount corresponding to the excess contribution is properly
removed from the Roth IRA. Id. § 4973(b)(2).

2

To promote exports of domestic goods, Congress in 1971
authorized the creation of DISCs, which are governed by
special rules that allow companies to reduce the taxes they
pay on export income. See Revenue Act of 1971, Pub. L.
No. 92-178, §§ 501–507, 85 Stat. 497, 535–53. The DISC
system has been amended over the intervening years, and we
briefly sketch its key features in their present form.

The central feature of the DISC system is a special
statutory exception for DISCs from the normal rules that
govern allocation of income between “two or more
organizations, trades, or businesses . . . owned or controlled
directly or indirectly by the same interests.” I.R.C. § 482.
Under this statutory exception, the shareholders of a
corporation with products to export can create a commonly
controlled DISC and then “sell” those products “to the DISC
at a hypothetical ‘transfer price’ that produce[s] a profit for
both seller [i.e., the export corporation] and buyer [i.e., the
DISC] when the product [is] resold to the foreign customer.”
Boeing Co. v. United States, 537 U.S. 437, 441 (2003)
(emphasis added). This hypothetical “transfer price” for the
sale of goods between the two commonly controlled entities
is not based on any underlying economic reality, but is
instead set artificially in accordance with a complex
statutory formula. I.R.C. § 994(a) (explicitly stating that, in
the case of a “sale of export property” to the DISC, income
can be allocated to the DISC in accordance with the statutory
 MAZZEI V. CIR 9

formula “regardless of the sales price actually charged”).
The details of that statutory formula are not relevant here.
What matters is that the ultimate consequence of these rules
is effectively to reallocate a portion of the company’s export
income to the DISC, where that income would not be subject
to corporate income tax. See id. § 991.

Although the statute itself articulates these special rules
only in the context of the “sale of export property to a DISC”
by a commonly controlled entity, I.R.C. § 994(a) (emphasis
added), the statute also instructs the Secretary of the
Treasury to issue regulations establishing comparable rules
applicable in “the case of commissions, rentals, and other
income” between a DISC and a commonly controlled entity,
id. § 994(b) (emphasis added). The Secretary has issued
such regulations, which allow an export corporation to
obtain comparable advantages by paying a hypothetical
“commission” to a commonly controlled DISC for the
latter’s provision of export services. See 26 C.F.R. § 1.994-
1(d)(2). These regulations set forth specific instructions for
calculating the “maximum commission the DISC may
charge” the export corporation and the “amount of the
income that may be earned by the DISC in any year” in
connection with “qualified export receipts.” Id. § 1.994-
1(d)(2)(i)–(ii). Once again, the details of these formulas are
not relevant for present purposes. The key point is that,
under these special rules, an export corporation may pay a
tax-deductible “commission” to the DISC in an amount that,
as a general matter, is explicitly divorced from the value of
any services actually provided by the DISC. See id. § 1.994-
1(a)(2) (application of these rules “does not depend on the
extent to which the DISC performs substantial economic
functions (except with respect to export promotion
expenses)”); see also id. § 1.993-1(k)(1) (to earn such
commissions, “such DISC need not have employees or
10 MAZZEI V. CIR

perform any specific function”). 1 The DISC, in turn, is
generally exempt from any tax on its income from these
commissions. I.R.C. § 991.

As a result of these unique rules, neither the export
corporation nor the DISC pays any income tax on the
applicable income that is attributable to the corporation’s
qualified export receipts but that was effectively allocated to
the DISC by way of (as the case may be) the hypothetically
priced sale or the artificially determined “commissions.”
Income tax is generally only paid when the DISC distributes
its received commissions as dividends to the DISC’s
shareholders, either because the DISC actually pays out the
dividends, see I.R.C. §§ 1(h)(11), 246(d), or because,
according to a detailed statutory formula, the shareholder is
deemed to have “received a distribution taxable as a
dividend with respect to his [or her] stock,” id. § 995(b)(1).

1
The regulation gives the following stark example to illustrate just
how much of a shell a DISC can be and still earn commissions:

P Corporation forms S Corporation as a wholly-owned
subsidiary. S qualifies as a DISC for its taxable year.
S has no employees on its payroll. S is granted a sales
franchise with respect to specified exports of P and
will receive commissions with respect to such exports.
Such exports are of a type which will produce gross
receipts for S which are qualified export receipts as
defined in paragraph (b) of this section. P’s sales force
will solicit orders in the name of P. Billings and
collections are handled directly by P. Under these
facts, the commissions paid to S for such taxable year
with respect to the specified exports shall be treated
for Federal income tax purposes as the income of S,
and the amount of income allocable to S is determined
under section 994 of the Code.

26 C.F.R. § 1.993-1(k)(3) (example 2).
 MAZZEI V. CIR 11

The “net effect” of these complex rules is thus to allow an
export company to ultimately transfer a portion of its export
revenue to the DISC’s shareholders (who are often either the
export company or its shareholders) in the form of dividends,
without having it ever being taxed “as corporate income.”
Summa Holdings, Inc. v. Commissioner, 848 F.3d 779, 782
(6th Cir. 2017).

The Internal Revenue Code explicitly contemplates that
tax-exempt entities—a category that now includes Roth
IRAs—may own shares of a DISC. It does so by
establishing a special rule that applies when the “shareholder
in a DISC” is an “organization . . . subject to tax under
section 511.” See I.R.C. § 995(g). As noted earlier, that
category includes traditional IRAs and, since their
authorization in 1997, Roth IRAs. See id. § 408(e)(1)
(stating that, although IRAs are generally exempt from
income taxation, they are “subject to the taxes imposed by
section 511”); see also supra at 7. Under this special rule,
when an IRA owns the shares of a DISC, any dividends
distributed, or deemed distributed, to the IRA are generally
“treated as derived from the conduct of an unrelated trade or
business,” I.R.C. § 995(g), and therefore subject to taxation
under § 511. That unrelated-business-income tax rate is
“equal to the corporate rate,” which is generally higher than
the “dividend rate” that would apply to DISC dividends paid
to an individual shareholder of a DISC. See Benenson v.
Commissioner, 910 F.3d 690, 694 (2d Cir. 2018). 2 As a
result, when a traditional IRA holds shares in a DISC, the
“DISC dividends are subject to high unrelated business
income tax when they go into [that] traditional IRA and, like

2
When a corporation that is subject to income tax is the owner of a
DISC’s shares, it must generally pay income tax, at the corporate rate,
on dividends received from a DISC. I.R.C. § 246(d).
12 MAZZEI V. CIR

all withdrawals from [a] traditional IRA, are subject to
personal income tax when taken out.” Id. (emphasis added)
(citing Summa Holdings, 848 F.3d at 783). That makes a
traditional IRA a singularly unattractive vehicle for holding
DISC shares. Id. And that is no accident—Congress enacted
the special taxation rule in § 995(g) in 1989 precisely
because, under the prior rule in which “tax-exempt entities
like IRAs paid nothing on DISC dividends,” export
companies were “shield[ing] active business income from
taxation by assigning DISC stock to controlled tax-exempt
entities like pension and profit-sharing plans.” Summa
Holdings, 848 F.3d at 782.

But the situation with a Roth IRA is somewhat different.
To be sure, a Roth IRA, like a traditional IRA, generally
must still pay unrelated-business-income tax on dividends
received from a DISC. I.R.C. §§ 511, 995(g). However,
once those monies are safely in a Roth IRA, they can
thereafter grow tax-free and—unlike a traditional IRA—
they are not subject to income tax when they are properly
distributed out of the Roth IRA. For some taxpayers, that
can make a Roth IRA an attractive vehicle for holding DISC
shares.

3

“Soon after its enactment, the DISC statute became ‘the
subject of an ongoing dispute between the United States and
certain other signatories of the General Agreement on Tariffs
and Trade (GATT)’ regarding whether the DISC provisions
were impermissible subsidies that violated our treaty
obligations.” Boeing Co., 537 U.S. at 442 (citation omitted).
As a result, Congress in 1984 authorized a distinct but
similar entity known as a “Foreign Sales Corporation” or
“FSC.” See Deficit Reduction Act of 1984, Pub. L. No. 98-
369, §§ 801–805, 98 Stat. 494, 985–1003. The hope was that
 MAZZEI V. CIR 13

the FSC system, which would serve as an alternative to a
modified DISC scheme, would ameliorate such international
controversy. Boeing Co., 537 U.S. at 442. That hope proved
illusory, and the FSC regime itself was determined by the
World Trade Organization in March 2000 to be “an
impermissible subsidy.” Ford Motor Co. v. United States,
908 F.3d 805, 808 (Fed. Cir. 2018). Congress promptly
repealed the FSC provisions in November 2000, but the
repeal statute contained transition provisions that allowed
for certain existing FSCs to continue for a specified time.
See FSC Repeal and Extraterritorial Income Exclusion Act
of 2000, Pub. L. No. 106-519, 114 Stat. 2423. 3 Throughout
all of this, Congress did not eliminate the alternative DISC
regime, whose current form we described earlier. See supra
at 8–12.

The statutory provisions governing FSCs were set forth
in former §§ 921–927 of the Internal Revenue Code. 4 In

3
Specifically, § 5 of the repeal statute specified that FSCs could not
be formed after September 30, 2000, but that for active FSCs in existence
as of that date, the repeal generally would not apply to transactions
involving the FSC (1) that occurred before January 1, 2002; or (2) that
occurred after December 31, 2001, pursuant to certain binding contracts
in effect on September 30, 2000. See Pub. L. No. 106-519, § 5(b)(1),
(c), 114 Stat. at 2433. (The second of these transitional rules, concerning
transactions pursuant to certain binding contracts, was itself later
repealed for taxable years beginning after May 17, 2006. See Tax
Increase Prevention and Reconciliation Act of 2005, Pub. L. No. 109-
222, § 513(a), 120 Stat. 345, 366 (2006).)
4
All citations of those sections in this opinion refer to the 1999
edition of the Code, which is available at
https://www.govinfo.gov/app/collection/uscode/1999/. Likewise, all
citations of the regulations governing FSCs refer to the 1999 edition of
the Code of Federal Regulations.
14 MAZZEI V. CIR

contrast to DISCs, which are domestic corporations, a FSC 5
generally must be organized under the laws of certain
foreign countries or under the laws applicable to a U.S.
possession. I.R.C. § 922(a)(1)(A). The centerpiece of the
FSC system was similar to that of the DISC system, viz., an
explicit statutory exception from the ordinary rules that
govern allocation of income between “two or more
organizations, trades, or businesses . . . owned or controlled
directly or indirectly by the same interests.” Id. § 482.
Specifically, the shareholders of an export corporation could
create a commonly controlled FSC and then make “sale[s]
of export property” to the FSC at hypothetical “transfer
price[s]” that were fixed by a complex statutory formula
“regardless of the sales price actually charged.” Id. § 925(a).
As with the DISC system, the FSC statute required the
Secretary to issue regulations that would establish
comparable rules “in the case of commissions, rentals, and
other income,” id. § 925(b)(1), and the Secretary did so, see,
e.g., 26 C.F.R. § 1.925(a)-1T(d)(2). Similar to their DISC
counterparts, these regulations set forth specific instructions
for calculating the “maximum commission the FSC may
charge” the export corporation and the “amount of the
income that may be earned by the FSC in any year.” Id.
§ 1.925(a)-1T(d)(2)(ii), (iv). Once again, the details of these
formulas are not relevant here. What matters is that the
formulas allowed the FSC’s commissions and income to be
set at artificial levels that did not necessarily correspond to
the actual value of any services provided by the FSC. See
id. § 1.925(a)-1T(a)(3) (application of certain pricing rules

5
There appears to be some debate as to whether the phrase should
be “a FSC” (which assumes that the term is pronounced “a Fisc”) or
should instead be “an FSC” (which assumes that it is pronounced “an F-
S-C”). We follow the statute, which consistently uses the phrase “a
FSC.” See, e.g., I.R.C. § 921(a).
 MAZZEI V. CIR 15

“does not depend on the extent to which the FSC performs
substantial economic functions beyond those required by
section 925(c)”).

In contrast to a DISC, whose income is generally exempt
from tax, see I.R.C. § 991, a FSC’s income was partially
subject to tax. Specifically, after an export company paid
tax-deductible commissions to its related FSC, a statutorily
specified portion of the FSC’s income attributable to those
commissions was declared to be “exempt foreign trade
income.” Id. § 923(a)(1); see also id. §§ 923(b), 924(a). The
statute stated, in turn, that “[e]xempt foreign trade income”
would be “treated as foreign source income which is not
effectively connected with the conduct of a trade or business
within the United States,” thereby exempting such income
from taxation. Id. § 921(a). 6 The remaining non-exempt
portion of the FSC’s foreign trade income, however, was still
subject to the corporate income tax rate. The net effect of
these provisions was to allow an export corporation to
allocate a portion of its export sales income to the FSC by
paying the FSC artificially determined “commissions,” with
the consequence that the export corporation paid no income
tax on any of the commissions (which it deducted as an
expense) and the FSC paid income tax only on the non-
exempt portion of its income attributable to those
commissions.

6
To take advantage of these rules, a FSC generally had to be
managed, and transact its business, outside the United States. I.R.C.
§ 924(b)(1), (c), (d). However, those requirements generally did not
apply to a “small FSC,” id. § 924(b)(2)(A), as that term was defined by
statute, id. § 922(b). It is undisputed that the relevant FSC in this case
was a “small FSC,” and it therefore was not subject to these additional
requirements.
16 MAZZEI V. CIR

The taxation of a FSC’s dividend payments differs in
some respects from those of a DISC. Dividends that are
distributed by a FSC to a domestic parent corporation out of
the earnings and profits attributable to the FSC’s foreign
trade income are generally not subject to corporate income
tax. I.R.C. § 245(c)(1)(A). This allowed the export
corporation to effectively allocate income to the FSC, where
it was subject to reduced taxation, and then to receive back
some of those funds as dividends without paying income tax
on them. The Commissioner estimates that the bottom-line
result of these complex rules was to allow “a U.S.
manufacturer to reduce its corporate income tax on export
sales by approximately 15%.”

If the FSC paid dividends to individual shareholders,
then those dividends would generally be subject to taxation
under the default rule that dividends are treated as income.
See I.R.C. § 1(h)(11). By contrast, if an IRA was the
shareholder of the FSC, then any FSC dividend received by
the IRA, like almost any other income to the IRA, is exempt
from taxation. See id. § 408(e)(1). Although the general rule
against taxation of IRA income does not apply to “unrelated
business income” that is taxed under § 511, see id.
§ 408(e)(1), the default rule under the Code is that dividends
are excluded from “unrelated business taxable income,” id.
§ 512(a)(1), (b)(1). As noted earlier, see supra at 11–12, the
Code contains a special provision that expressly reverses
that default rule in the case of dividends paid by “a DISC”
to a tax-exempt entity (such as an IRA), see id. § 995(g), and
that means that an IRA must pay tax on such “unrelated
business income” under § 511, see id. § 408(e)(1). But the
Code contains no such similar provision with respect to
dividends of a FSC that are paid to a tax-exempt shareholder,
such as an IRA, and so the default rule remains in place. And
if the IRA that owned the FSC shares was a Roth IRA, as
 MAZZEI V. CIR 17

opposed to a traditional IRA, then the authorized
distributions from the IRA to the individual holder of the
account would not be taxed either. The net result of having
a Roth IRA hold the shares of a FSC would thus be that
(1) the export corporation would pay no tax on the income it
allocated as “commissions” to the FSC; (2) the FSC would
pay only a reduced level of corporate income tax on the
income attributable to its commissions; (3) the Roth IRA
would pay no tax when it received dividends from the FSC;
and (4) the individual IRA holder would pay no tax when
receiving the FSC dividends in the form of authorized IRA
distributions. That is, only one of these four transactions
would be taxable and that one only at a reduced effective
rate.

B

With this complex statutory background in place, we can
now turn to the facts of this case. We first describe the
Mazzeis’ relevant transactions and then recount the
proceedings below.

1

In 1977, Angelo Mazzei filed a patent application for an
“injector” that added fertilizers to the water used in
agricultural irrigation systems. The following year,
recognizing the business potential in his invention, Angelo
and his wife Mary Mazzei formed the Mazzei Injector Corp.
(“Injector Corp.”) as an S corporation. 7 Angelo and Mary
7
“S corporations” are ordinary business corporations that elect to
pass corporate income, losses, deductions, and credits through to their
individual shareholders for federal tax purposes. See I.R.C. §§ 1361–
1379. Thus, the S corporation generally pays no income tax, and the
shareholders of S corporations instead report the flow-through of income
18 MAZZEI V. CIR

thereafter actively ran the business, although Mary later
reduced her role. Once their daughter, Celia, graduated from
college, she became more active in the company and served
as its vice president of research and development. During
the time period at issue in this case, Angelo and Mary each
owned 45 percent of Injector Corp. while Celia owned the
remaining 10 percent. Through the Mazzeis’ efforts,
Injector Corp. grew rapidly, and by 1984, the business began
exporting its products through foreign distributors. By the
late 1990s, export sales provided a steady stream of revenue
to Injector Corp.

The Mazzeis also owned a 20-acre farm, and as a result
they were long-time members of the Western Growers
Association (“WGA”), a trade association representing
farmers. In the 1990s, WGA developed a program for its
members that would facilitate their use of FSCs, and in 1998
the Mazzeis decided to participate in that program. In
connection with doing so, the Mazzeis took steps to set up
Roth IRAs. The amount that may be contributed to a Roth
IRA is determined according to a statutory formula, see
I.R.C. § 408A(c), and for the years prior to 1998, each of the
Mazzeis’ contribution limits to a Roth IRA was zero.
Through a complex business restructuring that the
Commissioner does not challenge here, each of the Mazzeis
had a Roth IRA contribution limit of $2,000 for 1998 only.
Under that restructuring, the Mazzeis formed another S
corporation, ALM Corp., which was owned in the same
proportions as Injector Corp. ALM Corp. and Injector

and losses on their personal tax returns and pay tax at their individual
income tax rates. Id. §§ 1363(a), 1366. In this way, S corporations avoid
the problem of double taxation in which the corporation would first pay
tax on its income and then the individual shareholder would pay tax on
distributions received from the corporation.
 MAZZEI V. CIR 19

Corp., in turn, then formed Mazzei Injector Co. (“Injector
Co.”), an LLC that was treated as a partnership for tax
purposes. Having secured a Roth IRA contribution limit of
$2,000 for 1998, each of the Mazzeis opened a Roth IRA and
contributed $2,000. However, in the ensuing four calendar
years (1999 through 2002), the Roth IRA contribution limits
for each of the Mazzeis reverted back to zero.

Meanwhile, the newly formed entity, Injector Co.,
applied to join WGA’s FSC program. Once WGA approved
Injector Co.’s application, the Mazzeis took steps to
establish a FSC under WGA’s auspices. The WGA FSC
program took advantage of the statute’s allowance of a
“shared FSC,” under which an entity (such as WGA) could
arrange for a FSC to maintain “separate account[s]” that
each would then generally “be treated as a separate
corporation for purposes” of the FSC statute. I.R.C.
§ 927(g)(1), (g)(3)(A). In formally establishing their FSC as
a separate account in one of WGA’s shared FSCs, the
Mazzeis arranged for their separate Roth IRAs to each
purchase 33⅓ shares of their FSC, at a total price of $500 for
the 100 shares. The Mazzeis also elected to have their FSC
treated as a “small FSC,” which meant that it was not subject
to the same foreign-presence requirements as regular FSCs.
See supra note 6.

WGA also provided Injector Co. with drafts of the
various agreements that would be needed to ensure that its
FSC—which was ultimately a separate account in the
“Western Growers Shared Foreign Sales Corporation IV
Ltd.” (“WG FSC IV”) 8—would be able to operate as

8
The relevant shared FSC was originally “Western Growers Shared
Foreign Sales Corporation III Ltd.,” but because the change makes no
difference here, we will refer only to “WG FSC IV.” And because
20 MAZZEI V. CIR

intended, and Injector Co. executed these agreements in
early 1998. These various agreements underscore what the
statutory framework expressly contemplates, which is that
the FSC would be paid commissions that were set according
to regulatory formulas and that did not reflect any actual
services provided by the FSC.

First, Injector Co. and WG FSC IV executed a “Foreign
Trade Commission, Sale, License, Lease and Services
Agreement” (“Commission Agreement”), under which WG
FSC IV agreed to perform certain activities and services for
Injector Co. “but only to the extent it can delegate such
activities and services” back to Injector Co. “and is not
required to use its own assets and/or personnel to perform
such activities and services” (emphasis added). Thus, for
example, WG FSC IV agreed to “promote the license, lease
and sale” of Injector Co.’s products, but it also stated that
none of these activities “shall be of the type which involve
the use of the FSC’s own assets or personnel to perform such
activities.” The Commission Agreement also specified that
if a particular sale, license, or lease was “considered as
solicited or promoted” by WG FSC IV, then the FSC would
receive a commission, but that Injector Co. would have the
“final decision” as to whether the FSC was to be “considered
as having solicited or promoted a transaction” (emphasis
added). If a commission was to be paid, then it would be
determined by mutual agreement in accordance with the
formulas in the applicable federal FSC regulations “so as to
provide the maximum federal income tax benefits” to
Injector Co. Likewise, the Commission Agreement
specified that if Injector Co. “performs any service for a

nothing turns on the distinction here, we will also for the sake of
simplicity use “WG FSC IV” interchangeably to refer to both the shared
FSC and the Mazzeis’ separate account within that shared FSC.
 MAZZEI V. CIR 21

customer that would constitute” a relevant service “if
performed by [WG FSC IV] for a customer considered as
solicited or promoted” by the FSC, then Injector Co. would
pay a “commission” to the FSC. Once again, Injector Co.
had the “final decision” as to whether WG FSC IV would be
“considered” to have solicited or promoted a transaction, and
any commission paid would be determined by mutual
agreement in accordance with the relevant regulatory
formulas.

Second, consistent with what was expressly
contemplated in the Commission Agreement, the “Export
Related Services Agreement” (“Services Agreement”)
formally delegated back to Injector Co. the relevant
activities and services that WG FSC IV was to perform in
connection with “earning foreign trade income.” WG FSC
IV agreed to pay Injector Co. a “service fee” for performing
these services, but any such fee could not exceed the
commissions that the FSC received and was to be
“immediately offset against the discretionary commissions
which [Injector Co.] would otherwise pay to [the FSC].”
The agreement further provided that services would be
deemed to have been performed by Injector Co. for WG FSA
IV only to the extent required to “maxim[ize] federal income
tax benefits.”

Third, under the “Management Contract,” WG FSC IV
agreed to pay “administrative fees” to Quail Street
Management (“Quail Street”), the Bermuda-based
management company that administered WGA’s FSC
program. The fee was set at 0.1 percent of the FSC’s foreign
gross trading receipts as defined in Internal Revenue Code
§ 924. The fee had to be at least $3,500 and at most $10,000.

Fourth, under the “Shareholders’ Agreement,” each IRA
shareholder owned one-third of their FSC’s 100 shares,
22 MAZZEI V. CIR

which could not be sold without the approval of the FSC’s
directors. The agreement confirmed the $500 purchase price
for the 100 shares and specified that this amount consisted
of $1 of “paid-in capital” and $499 of “paid-in surplus.” The
agreement further stated that, in the event that the FSC
exercised its right to purchase the FSC stock from the
shareholders, the purchase price would be the paid-in-capital
amount ($1). However, the agreement specified that this
right of purchase did not apply in the case of an “IRA
Shareholder” and that any such sale by an IRA Shareholder
to the FSC was prohibited.

With these agreements in place, Injector Co. thereafter
reported its foreign sales to Quail Street each quarter. Based
on these numbers, Quail Street computed the maximum
commission that Injector Co. was allowed to pay to the FSC
in accordance with the federal FSC regulatory formulas.
Quail Street then reported that amount in letters to the
Mazzeis that identified (1) the amount of the FSC tax that
had been paid (and that had to be reimbursed); 9 and (2) the
remainder amount that could be distributed to the IRA
shareholders. In accordance with these instructions, Injector
Co. paid a total of $558,555 in commissions and taxes to WG
FSC IV between 1998 and March 2002. In turn, the FSC
paid $533,057 in dividends to the Mazzeis’ Roth IRAs over
that same time period.

9
As explained earlier, only a portion of the commissions received
by a FSC are untaxed, see supra at 15, and so the FSC here paid tax on
a portion of Injector Co.’s payments and distributed the rest to the
Mazzeis’ Roth IRAs. The Roth IRAs did not pay tax on these FSC
dividends, but had the dividends instead been paid to the Mazzeis
individually, they would have owed tax on the dividends. See supra
at 16.
 MAZZEI V. CIR 23

Through these various steps, the Mazzeis took full
advantage of the tax benefits described earlier. See supra
at 17. The corporations that generated the foreign sales
ultimately benefitted from a tax deduction for the
“commissions” paid to the FSC. WG FSC IV paid a modest
amount of tax on the income attributable to its commissions.
The Roth IRAs paid no tax on the substantial dividends they
received from the FSC because (unlike § 995(g) in the case
of a DISC) there is no statutory provision imposing such a
tax in the case of a FSC. And, now that the funds are safely
in the Roth IRAs, they can be withdrawn by the Mazzeis tax
free when they are eligible to make such withdrawals.

2

Unsurprisingly, the Commissioner did not like this
arrangement. On April 6, 2009, the Commissioner served
notices of deficiency against each of the Mazzeis. The
Commissioner asserted that the $533,057 that had been paid
by WG FSC IV into their respective Roth IRAs should be
deemed, in substance, to be contributions to their Roth IRAs
that exceeded their statutory contribution limits. For tax
years 2002 through 2007, the Commissioner asserted excise
tax deficiencies against Angelo and Mary (who filed joint
returns) in the amount of $67,590, as well as penalties
totaling $19,215. 10 For tax years 2002 through 2007, the
Commissioner asserted against Celia excise tax deficiencies
of $40,692 and penalties totaling $11,912. All three
petitioned the Tax Court for a redetermination of the
deficiency in tax, and the cases were consolidated.

10
The penalties were imposed for failing to timely file a tax return,
see I.R.C. § 6651(a)(1), and for failing to timely pay the tax shown on a
return, see id. § 6651(a)(2).
24 MAZZEI V. CIR

The consolidated case was tried on November 20, 2014
before Judge Mark Holmes. After Judge Holmes circulated
his proposed opinion within the Tax Court, the full Tax
Court determined to decide the matter. See I.R.C. § 7460(b);
see also Mazzei v. Commissioner, 150 T.C. 138, 184 n.1
(2018) (Holmes, J., dissenting). The Tax Court ultimately
upheld the Commissioner’s assessment of excise taxes
against the Mazzeis by a vote of 12 to 4 (with Judge Holmes
dissenting), but the Tax Court unanimously set aside all of
the penalties. Mazzei, 150 T.C. at 168, 182. Invoking the
doctrine of substance over form, the Tax Court concluded
that the Roth IRAs’ purchase of the FSC stock did not reflect
“the underlying reality” because the “Roth IRAs effectively
paid nothing for the FSC stock, put nothing at risk, and from
an objective perspective, could not have expected any
benefits” from that ownership. See id. at 167–68. The court
therefore “disregard[ed] the purchase” and treated the
Mazzeis as “the owners of the FSC stock for Federal tax
purposes at all relevant times.” Id. at 168. That meant that
the payments from the FSC must be “recharacterized as
dividends from the FSC” to the Mazzeis. 11 Id. And that
meant that the payments into the Roth IRAs were made by
the Mazzeis and were, therefore, excess contributions to the
Roth IRAs by the Mazzeis. Id.

The dissenters disagreed, asserting that the majority had
overlooked the import of the special rules that governed
FSCs, which expressly allowed transactions between
commonly held entities that lacked economic substance. In

11
The logic of the Tax Court’s reasoning would suggest that the
Mazzeis should have paid income taxes on those dividends. See supra
at 16. But as the Tax Court noted, “any income tax issues from 1998–
2001 are barred” by the “statute of limitations” in I.R.C. § 6501. See
150 T.C. at 149 n.15.
 MAZZEI V. CIR 25

particular, the dissenters questioned the majority’s
conclusion that, because the Roth IRAs had “paid so little”
for their FSC stock and had put nothing at risk, they could
not be the true owners of the FSC. 150 T.C. at 192–93
(Holmes, J., dissenting). As the dissent explained, “the
Mazzeis also put nothing at risk to get the FSC, so by the
majority’s reasoning they couldn’t have owned the FSC
either.” Id. at 193. Indeed, the dissenters argued that, under
a consistent application of the majority’s reasoning, “no one
could ever own an FSC because FSCs never put capital at
risk.” Id.

The Mazzeis filed a motion for reconsideration and a
motion to vacate, which the Tax Court denied. The Mazzeis
timely appealed to this court.

II

In addressing the parties’ contentions on appeal, we
begin by identifying several points that are not in dispute. In
particular, the Commissioner does not contend that the
Mazzeis failed to follow any of the formalities required by
the Internal Revenue Code concerning the FSC or their Roth
IRAs. On the contrary, the Commissioner stipulated at trial
that WG FSC IV met all of the requirements for a small FSC;
that the Mazzeis’ Roth IRAs were properly established under
the Code; that there had not been a prohibited transaction
involving the Roth IRAs within the meaning of I.R.C.
§ 4975; and that compliance with I.R.C. § 482—which (as
noted earlier, see supra at 14) addresses allocation of income
and deductions among commonly controlled entities—was
“not at issue in this case.” Nor has the Commissioner
contended that any commissions that Injector Co. paid to the
FSC were calculated incorrectly under the applicable
statutory and regulatory formulas. See Mazzei, 150 T.C.
at 175.
26 MAZZEI V. CIR

Rather than contest whether the Mazzeis followed the
letter of the Code, the Commissioner instead asked the Tax
Court to “‘recharacterize [the Mazzeis’] entire scheme’”
under the “doctrine of substance over form.” See 150 T.C.
at 150. The Tax Court, however, expressly rejected the
Commissioner’s “request for a complete recharacterization
of all [of the Mazzeis’] transactions,” id. at 151, and the
Commissioner has not challenged that ruling in this court.
Instead, the Tax Court recharacterized only one of the
transactions at issue, viz., the purchase of the FSC’s stock by
the Roth IRAs. Id. Accordingly, the only issue before us is
whether the Tax Court properly concluded that, under the
substance-over-form doctrine, the Mazzeis, rather than their
Roth IRAs, were the owners of the FSC for federal tax
purposes.

We review the Tax Court’s decision “in the same manner
and to the same extent as decisions of the district courts in
civil actions tried without a jury.” I.R.C. § 7482(a)(1). “We
review questions of fact for clear error.” Knudsen v.
Commissioner, 793 F.3d 1030, 1033 (9th Cir. 2015). “We
review the Tax Court’s conclusions of law, including its
interpretations of the Internal Revenue Code, de novo.” Id.
“The general characterization of a transaction for tax
purposes is a question of law” subject to de novo review.
Frank Lyon Co. v. United States, 435 U.S. 561, 581 n.16
(1978); see also Sacks v. Commissioner, 69 F.3d 982, 986
(9th Cir. 1995).

A

It is a “black-letter principle” that, in construing and
applying the tax laws, courts generally “follow substance
over form.” PPL Corp. v. Commissioner, 569 U.S. 329, 340
(2013); see also United States v. Eurodif S.A., 555 U.S. 305,
317–18 (2009) (“[I]t is well settled that in reading regulatory
 MAZZEI V. CIR 27

and taxation statutes, ‘form should be disregarded for
substance and the emphasis should be on economic reality.’”
(citation omitted)). Indeed, quoting Professor Boris Bittker,
we have described this “substance-over-form doctrine” and
other related doctrines as resembling, in combination, a sort
of “‘preamble to the Code, describing the framework within
which all statutory provisions are to function.’” Stewart v.
Commissioner, 714 F.2d 977, 987–88 (9th Cir. 1983)
(quoting Boris I. Bittker, Pervasive Judicial Doctrines in the
Construction of the Internal Revenue Code, 21 How. L.J.
693, 695 (1978)). Under these settled background
principles, this would be an easy case if it involved ordinary
business entities, as opposed to the distinctive vehicle of a
FSC. The taxpayers used what is essentially a shell
corporation to engage in arbitrarily priced, self-dealing
transactions that lacked economic substance and then
funneled those proceeds as “dividends” to a tax-free Roth
IRA. This would appear to present a paradigmatic case to
apply such doctrines. Cf., e.g., Repetto v. Commissioner,
103 T.C.M. (CCH) 1895, 2012 WL 2160440, at *9–12
(2012) (invoking substance-over-form doctrine where two
Roth IRAs respectively received dividends from commonly
controlled C corporations that received “service” payments
without themselves actually performing any business
services).

But like any background maxim that informs the
construction and application of a statute, the doctrine of
substance over form can be negated by Congress in express
statutory language. See Chickasaw Nation v. United States,
534 U.S. 84, 94 (2001) (interpretive “canons are not
mandatory rules” and “other circumstances evidencing
congressional intent can overcome their force”). Thus, there
are some circumstances “‘when form—and form alone—
determines the tax consequences of a transaction,’” Stewart,
28 MAZZEI V. CIR

714 F.2d at 988 (citation omitted), such as when “statutory
provisions deliberately elevate, or have been construed to
elevate, form above substance,” see 1 Boris I. Bittker &
Lawrence Lokken, Federal Taxation of Income, Estate and
Gifts ¶ 4.3.3, at 4-34 (3d ed. 1999). This is such a case. As
we have set forth in detail above, Congress has expressly
decreed that FSCs can engage in transactions, with
commonly controlled entities, that lack any economic
substance and that are assigned hypothetical values
determined according to statutory formulas that bear no
relationship to any underlying real-world valuation. See
supra at 13–15. Indeed, as this case well illustrates, the
entire FSC need not have any substance to it because it can
“contract” for another related entity to perform its relevant
activities. See I.R.C. § 925(c); see also 26 C.F.R.
§ 1.925(a)-1T(a)(3) (application of the relevant valuation
formulas “does not depend on the extent to which the FSC
performs substantial economic functions beyond those
required by section 925(c)”); Mazzei, 150 T.C. at 157 (noting
that, under the FSC regime, a “related supplier was permitted
to pay the FSC a ‘commission’ for services (relating to an
export transaction) that were not, in substance, performed by
the FSC (although the FSC could perform such services if it
wished)”). Put simply, the FSC statute expressly
contemplates that, without itself performing any services, a
FSC can receive “commissions” from a related entity and
then (after paying a reduced level of tax) the FSC can pay
the remainder as dividends to the same or another related
entity. Under the scheme that Congress devised in the FSC
statute, the taxation rules in certain respects plainly follow
the form of the matter and not its substance.

The question in this case, then, is whether the Tax Court
applied the substance-over-form doctrine in a manner that
properly takes account of Congress’s limited abrogation of
 MAZZEI V. CIR 29

that doctrine here. The Tax Court construed that abrogation
very narrowly, saying that Congress endorsed form over
substance only with respect to the “specific transactions” in
which the export company pays commissions based on
statutory formulas that lack any economic reality, and then
“only for the purpose of computing the income taxes of the
FSC and its related supplier.” See Mazzei, 150 T.C. at 159
(emphasis added). Beyond that, the Tax Court concluded,
the FSC statute left the substance-over-form doctrine intact.
As that court stated, “[n]o part of the FSC statutes and
regulations states, or even implies, that purchases or
transfers of FSC stock, or any transactions at the shareholder
level or between the FSC and its owners, are exempt from
application of the substance doctrines, which are our normal
tools of statutory interpretation.” Id. at 160 (simplified).
The Tax Court therefore held that the FSC statute’s partial
abrogation of substance-over-form principles did not apply
“in deciding who actually owned the FSC stock” and that
that question was therefore governed by “normal substance
principles.” Id. at 154. While we share the Tax Court’s
concern that exemptions from normal substance-over-form
rules should not be read overly broadly, we cannot agree
with that court’s extremely restrictive view of the exemption
reflected in the FSC statute. In our view, the Tax Court’s
invocation of the substance-over-form doctrine in this case
rests on subsidiary premises that cannot be reconciled with
what Congress has decreed with respect to FSCs.

B

1

In applying normal substance-over-form principles to
the issue of the ownership of WG FSC IV, the Tax Court
considered whether the stockholders—i.e., the Roth IRAs—
had “the benefits and risks of ownership,” or whether some
30 MAZZEI V. CIR

other entity possessed them. 150 T.C. at 163. The court
noted that the Roth IRAs had put essentially nothing at risk
because the $500 “prearranged” price they paid for the FSC
stock bore no “relationship to the actual value” of that stock.
Id. at 165. The court concluded that the $500 the Roth IRAs
paid thus “represented at most a de minimis risk which was
insufficient to give substance to the Roth IRAs’ purported
ownership of the FSC stock.” 12 Id. at 164. The Tax Court
also addressed “what benefits an independent holder of the
FSC stock could realistically have expected on the basis of
the ‘objective nature’ of the FSC stock,” and the court
concluded that there were none: because “Injector Co.
retained complete control over whether any of its export
receipts would flow to the FSC in any year,” it followed that
“no independent holder of the FSC stock could realistically
have expected to receive any benefits (before or after tax)
due to its formal ownership of the FSC stock.” Id. at 166–
67. Because the Roth IRAs thus lacked the risks and benefits
of ownership, the court “disregard[ed]” their purchase of the
FSC stock. Id. at 168. Instead, the court concluded, the
Mazzeis (through Injector Co.) were the true owners of the
FSC. Id. And that meant that, under Commissioner v.

12
Indeed, the Tax Court suggested that, despite the parties’
agreement that the total stock was worth “$100 when it was purchased,”
the actual value was only $1 because that was the sale price set forth in
the Shareholders’ Agreement in the event that the shareholders sold their
stock. Mazzei, 150 T.C. at 165. The rest of the purchase price, according
to the Tax Court, was simply a fee to WGA. Id. This analysis appears
to overlook the fact that the $1 mandatory sale price, by its terms, only
applied to a purchase of the stock by WG FSC IV and that this option to
purchase did not apply if (as here) the stock was owned by an IRA.
Although a sale of the stock by the Roth IRAs to some other party would
still have required the approval of WG FSC IV’s directors, the agreement
does not appear to specify a price in such circumstances. In all events,
our analysis does not depend upon whether the value of the FSC stock at
the time of purchase was $1, $100, or $500.
 MAZZEI V. CIR 31

Banks, 543 U.S. 426 (2005), the income of the FSC that was
paid out as dividends was, in the view of the Tax Court,
received by the Mazzeis for tax purposes. Mazzei, 150 T.C.
at 160–61 (“‘In an ordinary case attribution of income is
resolved by asking whether a taxpayer exercises complete
dominion over the income in question.’” (quoting Banks,
543 U.S. at 434)).

The problem with this analysis is that its underlying
premises are directly contrary to what is expressly
contemplated by the FSC statute. It makes no sense to ask
whether the formal owner of the FSC stock would, by virtue
of that purchase, be exposed to any risk as a result of that
ownership because the statute allows FSCs to be set up so as
to eliminate any risk from owning the FSC stock.
Specifically, the statute explicitly authorizes the
establishment of a FSC that will not conduct any operations
itself, and in such cases the FSC will effectively be a shell
corporation that generates value only by virtue of the
reduced rate of taxation that is paid on moneys that are
funneled through it in accordance with strict statutory
formulas. See supra at 13–17, 27–28. Such a shell
corporation presents little, if any, risk at all to its owner
because it will be used only if and when there is value (in the
form of tax savings) to be obtained by flowing funds through
it.

The Tax Court discounted this point, noting that
“nothing in the Code prevents an FSC shareholder from
capitalizing its FSC,” and such capital could be at risk.
Mazzei, 150 T.C. at 164 n.36 (emphasis added). This is an
ironic comment to make in an analysis that is supposedly
focused on economic realities. The reality is that, for a FSC
to function as the statute contemplates, there must be related
parties on both sides of the FSC, because the whole point of
32 MAZZEI V. CIR

the FSC vehicle is to cycle money through it so that it is
taxed at the FSC’s lower rate. The statute clearly envisions
that the parties who pay money into the FSC and the parties
who receive dividends out of it will be related. 13 Given that
reality, it would not make much economic sense to
“capitalize” the FSC with more than a nominal amount of
capital. As the dissenters noted, taking the Tax Court’s
analysis seriously would lead to the illogical conclusion that
“no one could ever own an FSC” because no owner would
ever “put capital at risk” in the FSC. Id. at 193 (Holmes, J.,
dissenting). The Tax Court also claimed that the Mazzeis
(unlike the Roth IRAs) did have risk because they were
“exposed at all times” to the risk “that their investment in
their export business would decline.” Id. at 165 n.37
(majority opinion). But this is the risk that the Mazzeis faced
as the owners of Injector Co.; it is not a risk that they would
face as the owners of the FSC.

Moreover, it makes even less sense to ask, as the Tax
Court did, “what benefits an independent holder of the FSC
stock could realistically have expected.” 150 T.C. at 166
(emphasis added). By statutory design, a FSC typically will
not be owned by an “independent” entity; it will be owned
by “a person described in section 482,” I.R.C. § 925(a)—
viz., an entity “owned or controlled directly or indirectly by
the same interests,” id. § 482 (emphasis added). As we have
explained, the tax benefits associated with the FSC regime
contemplate related entities on both sides of the FSC. See
supra at 14, 31–32. As a result, no “independent” person
would realistically be expected to obtain value from owning

13
One possible exception might be a scenario in which the FSC is
effectively used to make a gift to a third party. Cf. Benenson, 910 F.3d
at 696 n.5. We express no view on how the Code and regulations would
apply in such a distinct scenario.
 MAZZEI V. CIR 33

an FSC because a foreign exporter would have no practical
incentive to choose to pour money into such a FSC. 14

For similar reasons, the Tax Court’s reliance on the
“anticipatory assignment doctrine” discussed in Banks,
543 U.S. at 434, is also flawed. That doctrine states that, as
a general matter, “gains should be taxed ‘to those who
earned them,’” so that a “taxpayer cannot exclude an
economic gain from gross income by assigning the gain in
advance to another party.” Id. at 433 (citation omitted). The
FSC regime explicitly departs from that principle as well
because the key feature of the FSC mechanism is that the
relevant income earned by the export company is instead
funneled to the FSC—which did not earn it—and it is then
taxed at the FSC level (rather than the export company level)
before then being cycled back out to a related entity. 15
Application of the anticipatory assignment doctrine here
would mean that Injector Co., rather than the FSC, should be
treated as the earner of the income, all of which was
produced by Injector Co.’s efforts. Such an outcome, of
course, is directly contrary to the scheme of the FSC statute.
The Tax Court sought to side-step this problem by

14
Moreover, in treating the Roth IRA ownership as illusory, the Tax
Court overlooked that there are real-world consequences to the fact that
the Roth IRAs own the FSC rather than Injector Co. or the Mazzeis.
Although there are certainly tax advantages to that arrangement, one
consequence of that ownership is that the moneys distributed by the FSC
to the Roth IRAs as dividends could not be withdrawn without penalty
unless and until the respective owner is eligible to make qualified
withdrawals. For a younger individual such a Celia Mazzei, that is not
an insignificant limitation.
15
As noted earlier, if the related entity that received the money on
the return trip is taxed as a corporation, then it typically pays no tax on
those dividends when they are received from the FSC. See I.R.C.
§ 245(c)(1)(A); supra at 16.
34 MAZZEI V. CIR

characterizing the FSC as the generator of the income, see
Mazzei, 150 T.C. at 161, but of course the FSC did pay tax
on its income. The court purported to treat the dividends as
the relevant income, see id., but that approach—which asks
who controls the assignment of the FSC’s dividends—
simply begs the earlier-addressed question of who owns the
FSC.

Accordingly, the Tax Court’s application of substance-
over-form principles in determining who owned the FSC in
this case rested critically on subsidiary premises that directly
conflict with the very features of the FSC regime that
explicitly depart from such principles. The court therefore
erred in invoking such principles to set aside the Roth IRAs’
formal ownership of the FSC’s shares.

2

This conclusion is reinforced by two further textual clues
in the language of the FSC statute.

First, as noted earlier, the special hypothetical valuation
formulas contained in the FSC statute are an express
exception to the allocation rules that would otherwise govern
under § 482 of the Code, and the statute thus expressly
contemplates that a FSC will ordinarily receive its funds
from “a person described in section 482,” I.R.C. § 925(a)—
viz., an entity “owned or controlled directly or indirectly by
the same interests,” id. § 482 (emphasis added). Because the
FSC statute waives the normal rules with respect to any
“person described in section 482,” the statute applies its
special rules regardless of which related entity owns it. Id.
§ 925(a). The Tax Court’s reasoning, however, effectively
rewrites this provision as if it required the export company
that funnels money into the FSC to be the one that owns it
and that therefore would receive the dividends out of it. But
 MAZZEI V. CIR 35

nothing in the statute imposes such a requirement, and the
text of § 925(a) negates it.

Second, Congress is obviously aware that tax-free
entities, including IRAs, can own a FSC because the FSC
was modeled on the DISC and Congress added a provision
to specifically address that scenario only in the DISC
context. The DISC and FSC statutes use identical language
in waiving the normal allocation rules that would apply to
the DISC or FSC in a transaction with “a person described
in section 482,” and both statutes therefore contemplate that
a variety of related entities might be the holder of the DISC
or FSC stock, including tax-exempt entities like IRAs.
Compare I.R.C. § 925(a) with id. § 994(a). But as noted
earlier, Congress in 1988 enacted a special provision stating
that, if a tax-exempt entity (such as an IRA) owns shares in
a DISC, then any dividends distributed, or deemed
distributed, to the IRA are generally “treated as derived from
the conduct of an unrelated trade or business,” see id.
§ 995(g), and therefore subject to taxation under § 511. See
supra at 11. Congress, however, did not add a similar feature
to the then-existing FSC statute that would similarly tax
dividends received by a tax-exempt entity that owns shares
of a FSC. Congress could have taken similar steps either to
impose a tax on dividends received by tax-exempt entities
from a FSC or to prohibit FSC ownership by such entities
altogether, but Congress must be deemed to have chosen not
to do so. See Russello v. United States, 464 U.S. 16, 23
(1983) (“Where Congress includes particular language in
one section of a statute but omits it in another section of the
same Act, it is generally presumed that Congress acts
intentionally and purposely in the disparate inclusion or
exclusion.” (simplified)). That may have been unwise, but
we cannot rewrite the Code to impose an effective ban on
36 MAZZEI V. CIR

FSC ownership by Roth IRAs, which is essentially what the
Commissioner has asked us to do here.

3

Finally, our conclusion is supported by the decisions of
the First, Second, and Sixth Circuits in three appeals arising
from a single Tax Court proceeding involving a Roth IRA
that indirectly owned shares in a DISC.

In Summa Holdings, Inc. v. Commissioner, 109 T.C.M.
(CCH) 1612, 2015 WL 3943219 (2015), James Benenson,
Jr. (“James Jr.”) and Sharen Benenson were the trustees of a
trust (the “Benenson Trust”) for which their two sons
(“James III” and Clement) were the beneficiaries. 2015 WL
3943219, at *1. The Benenson Trust, together with James
Jr., owned most of the shares of Summa Holdings, a
company whose subsidiaries had significant export sales. Id.
at *1–2. James III and Clement established Roth IRAs,
which ultimately became equal shareholders in JC Holding,
a C corporation, which in turn owned JC Export, a DISC. Id.
Through a series of agreements with Summa subsidiaries, JC
Export received commissions from those subsidiaries in
accordance with the statutory formulas applicable to DISCs.
Id. at *2. JC Export then paid out the sums it received as
dividends to JC Holding, and that company, as a C
corporation, paid corporate tax on those sums. Id. After
withholding that estimated tax, JC Holding then distributed
the remainder equally as a dividend to James III’s and
Clement’s Roth IRAs. Id. The Commissioner issued
deficiency notices to several of the taxpayers involved, and
the Tax Court ultimately relied on substance-over-form
principles in concluding that the payments made by the
Summa subsidiaries to JC Export “were not DISC
commissions but deemed dividends to Summa’s
shareholders followed by contributions to the Benenson
 MAZZEI V. CIR 37

Roth IRAs.” Id. at *8. As a result, Summa’s deduction of
those commissions was disallowed; James Jr. and the
Benenson Trust were found to have failed to report these
“deemed” dividends as income; and James III and Clement
owed excise taxes on the excess contributions to their Roth
IRAs. Id. at *4, *9. These taxpayers each appealed to their
respective circuit courts—Summa to the Sixth Circuit;
James Jr. and Sharen (the trustees of the Benenson Trust) to
the Second Circuit; and James III and Clement to the First
Circuit. All three circuits ruled against the Commissioner.

None of these decisions addressed the exact question
presented here, but the First Circuit’s decision comes closest.
That court addressed the Commissioner’s claim that the
dividends received by the Benenson sons’ Roth IRAs should
be characterized as contributions in excess of the applicable
limits. Benenson v. Commissioner, 887 F.3d 511, 516–22
(1st Cir. 2018). The First Circuit distinguished the Tax
Court’s decision in the Mazzeis’ case on the grounds that, in
the Benenson case, the Commissioner had “never challenged
the valuation of the shares the Roth IRAs purchased.” Id.
at 522; see also id. at 522 n.10. But in rejecting the
Commissioner’s recharacterization of the transaction, the
First Circuit nonetheless went on to make several points that
are directly relevant to our analysis. Specifically, the First
Circuit held that, in light of the Code provisions governing
taxation of DISC dividends paid to C corporations and to
tax-exempt entities, Congress had clearly permitted such
entities to own DISCs and to receive DISC dividends. Id. at
520–21. This recognition that Congress is aware that Roth
IRAs and C corporations can own DISCs likewise applies in
the FSC context. See supra at 35–36.

Moreover, the First Circuit held that it did not matter that
the dividends ultimately received by the Roth IRAs greatly
38 MAZZEI V. CIR

exceeded any risk to the direct and indirect shareholders of
the DISC. As the court explained, the Code provisions
governing IRAs plainly allow the funds in an IRA “to grow
through investment in qualified privately held companies,
even during periods where the taxpayers are no longer
allowed to contribute, and even if such growth occurs at a
swift rate.” Benenson, 887 F.3d at 520 (emphasis added).
And in response to the Commissioner’s complaint that this
enormous return was for an investment in the DISC that
involved “no risk” to the Roth IRAs, the First Circuit noted
that this was “due to the unique, congressionally designed
DISC corporate form.” Id. at 522. The same reasoning
supports our earlier conclusion that, because a similar lack
of risk is inherent in the “unique, congressionally designed
[FSC] corporate form,” the Commissioner may not invoke
that congressionally sanctioned feature as a basis for
attacking the ownership structure of the FSC. See supra
at 29.

Although less directly relevant, the decisions of the Sixth
and Second Circuits in the Benensons’ case are also
consistent with our holding. The appeals in these two
circuits involved different taxpayers (Summa in the Sixth
Circuit and James Jr. and Sharen in the Second Circuit), but
the underlying issue in both cases was the same—viz.,
whether the commissions paid by the Summa subsidiaries to
the DISC were properly recharacterized, under the
substance-over-form doctrine, as dividends to Summa’s
shareholders. Both courts answered that question in the
negative. Underscoring the core point we have made here,
the Second Circuit held that the Commissioner’s effort to
invoke the substance-over-form doctrine to recharacterize
the commissions to the DISC ignored the fact that “Congress
has itself elevated form over substance insofar as DISC
commissions are concerned by affording exporters
 MAZZEI V. CIR 39

‘commission’ deductions for payments that lack the
economic substance generally associated with
commissions.” Benenson, 910 F.3d at 700. And the Sixth
Circuit likewise noted that the Commissioner’s reliance on
the doctrine could not be reconciled with the fact that the
“Code authorizes companies to create DISCs as shell
corporations that can receive commissions and pay
dividends that have no economic substance at all.” Summa
Holdings, 848 F.3d at 786; see also id. (“By congressional
design, DISCs are all form and no substance . . . .”).

We join our sister circuits in concluding that, when
Congress expressly departs from substance-over-form
principles, the Commissioner may not invoke those
principles in a way that would directly reverse that
congressional judgment.

III

As the First Circuit noted in the Benenson case, some
might think that what the Mazzeis did here was too “clever,”
if not “unseemly.” 887 F.3d at 523. But as that court noted,
the substance-over-form doctrine “is not a smell test,” it is
“a tool of statutory interpretation.” Id. It may have been
unwise for Congress to allow taxpayers to pay reduced taxes,
and pay out dividends, “through a structure that might
otherwise run afoul of the Code.” Id. at 518. But it is not
our role to save the Commissioner from the inescapable
logical consequence of what Congress has plainly
authorized. Accordingly, to the extent that it was adverse to
the Mazzeis, the judgment of the Tax Court is reversed.

REVERSED.