dissenting.
While I agree with the majority that the proper standard of review under 26 U.S.C. § 7430 is an abuse of discretion standard, I believe the Tax Court’s decision in this case that the Commissioner’s position was not unreasonable is incorrect and an abuse of discretion.
The Commissioner’s conduct in this proceeding was anything but reasonable. In the October 4, 1976 amendments to 26 U.S.C. § 1372(e)(1) Congress specifically directed the Commissioner to promulgate regulations to prescribe the manner in which a new shareholder of a subchapter S corporation would “affirmatively refuse[] ... to consent to such [subchapter S corporation] election_” Pub.L. No. 94-455, § 902(c)(3), 90 Stat. 1520, 1609 (1976). It is undisputed that the Commissioner had not prescribed such regulations by the time a year later, in November 1977, that the petitioners sought to change the status of their subchapter S corporation. On November 30, 1977, three new shareholders filed a Refusal to Consent to Small Business Corporation Election with the corporation. It was not until April 17,1980, nearly two and one-half years later, and approximately three and one-half years after Congress directed that regulations be issued, that the Commissioner even promulgated proposed regulations. As the majority correctly points out, at 1353 (citing the Tax Court), proposed regulations are not binding and, in any event, these were issued long after the petitioners’ actions in this case.
*1359Notwithstanding the fact that the Commissioner had not timely prescribed the manner by which new shareholders would be required affirmatively to refuse to consent, the IRS was given early and ample notice that such an affirmative refusal to consent had been made here. On November 30, 1977, the same date the refusal to consent was filed with the corporation, the corporation’s officers filed an Application For Determination For Defined Contribution Plan (a Form 5301) with the Commissioner reflecting, that for federal tax purposes, Sierra Ltd. was a general corporation, not a subchapter S corporation. Because the IRS knew that Sierra Ltd. had previously been a subchapter S corporation, it also had to know that some action had been taken to convert it from a subchapter S corporation to a general corporation. Thereafter, on February 23, 1978, the Commissioner issued a favorable determination of the (new corporate status) contribution pension plan.
In June 1978, Sierra Ltd. filed its income tax return for the 1977-78 fiscal year, the year of the change in status. In its return, Sierra Ltd. reported the termination of its status as a subchapter S corporation. Attached to the June 1978 tax return was a letter stating the following:
Dear Sirs:
In accordance with the requirements of Regulation Section 1.1372-4(b)(l)(iii), this is to notify you of the termination of the election to be subject to Sub-Chapter S made by Sierra Limited, Post Office 247, North Prairie, Wisconsin 53153. The election was terminated by the failure of new shareholders to consent to the election within the required time. On November 30, 1977, Jane Merryfield, Margaret Samuels and Gayle Zinniel each acquired thirty shares of Sierra Limited. They subsequently failed to consent to the election to treat Sierra Limited as a Sub-Chapter S corporation.
SIERRA LIMITED
BY: _
John C. Zinniel, Agent
The document reflecting the refusal to consent (“Refusal to Consent to Small Business Corporation Election”) was not attached to Sierra’s June 1978 tax return. However, on December 28, 1978, pursuant to a request from the IRS, Sierra’s accountant filed a copy of the refusal to consent. It was not until June 6, 1984, six years after the return was filed and five and one-half years after the refusal to consent was filed with the IRS, that the Commissioner decided to issue a notice of deficiency with respect to the years 1978 and 1979, claiming, without any case authority or applicable regulations, that the petitioners’ attempted affirmative refusal was ineffective because the signed document indicating a refusal to consent had not been timely submitted to the IRS.
The unreasonableness of the IRS’ position is further evidenced by a comparison between section 1372 prior to the 1976 amendment and section 1372 as amended in 1976. Section 1372(e)(1)(A) was amended in 1976, effective for the tax years in question, to require that new shareholders affirmatively refuse to consent to a subchap-ter S election in order to terminate such election. Previously, there was no requirement for new shareholders to act in order to terminate the subchapter S status. Instead, a new shareholder had to consent to the status by filing a consent with the IRS in order to maintain the status. This created a problem in that taxpayers were inadvertently terminating their corporation’s subchapter S status by failing to file their consent. Thus, under the old law the petitioners here would have effectively terminated their subchapter S corporation status by doing nothing.
By amending section 1372, Congress attempted to prevent unintentional terminations of subchapter S corporation status. The amendment mandated that the Commissioner promulgate regulations prescribing how such an affirmative refusal was to be made. It is undisputed that at the time the petitioners elected to change their corporate status, and for more than three years thereafter, the Commissioner had not promulgated any regulations or revenue procedures or issued any letter rulings. *1360Ironically, had the Commissioner prevailed before the Tax Court, it would have to have been because the failure to promulgate regulations “inadvertently” prevented the petitioners from properly changing the status of Sierra Ltd., a truly ironic result.
Indeed, the Commissioner’s position before the Tax Court was that the petitioners had failed effectively to terminate their subchapter S corporate status because they did not send their affirmative refusal to the IRS although, as the Tax Court held, the plain language of the statute (in the absence of any regulations prescribed by the Commissioner) did not require such action. While the Commissioner’s long delay in prescribing such regulations may sometimes be excusable, it is difficult to believe that not even issuing a ruling or temporary regulations was reasonable in this case. Even worse, it was not reasonable for the Commissioner thereafter to contend that taxpayers failed to comply with regulations which had not yet been promulgated, particularly when the IRS had all the information it would have obtained under the regulations as ultimately promulgated. As previously indicated, a copy of the refusal to consent was filed with the IRS in December 1978, more than a year before proposed regulations were issued and five and one-half years before the deficiency was asserted.
While the majority acknowledges, at 1352 n. 5, that the petitioners attempted in good faith to comply with whatever procedures were necessary, it apparently attaches little or no significance to their efforts. Their tax attorney sought advice from the Milwaukee District Director’s office on November 11, 1977 with respect to the new method for termination of sub-chapter S corporations and was advised that no information was available and that he should communicate with the District Director. The taxpayers’ attorney wrote to the District Director on November 15, 1977 and was called in response by an office representative who indicated that no regulations had yet been promulgated. The Commissioner’s failure to issue regulations as mandated by Congress, or even a ruling, clearly contributed to the taxpayers’ dilemma.
Terminating a subchapter S corporate status, it should be noted, is within the shareholders’ discretion. The Commissioner does not approve or disapprove of this action. Thus, there was no harm to the Commissioner and, as noted previously, the IRS had effective notice of the petitioners’ refusal to consent as early as November 30, 1977.
The Commissioner correctly points out that his position during this litigation was not contrary to any case law. There were no reported cases with respect to an alleged improper refusal to consent under section 1372. However, the Commissioner cannot escape liability under section 7430 for unreasonable conduct simply because a statute is new and its application untested. Indeed, the purpose of section 7430 is to “deter abusive actions and overreaching by the Internal Revenue Service and ... enable individual taxpayers to vindicate their rights regardless of their economic circumstances.” In re The Testimony of Arthur Andersen & Co., 832 F.2d 1057, 1060 (8th Cir.1987) (citing Kaufman v. Egger, 584 F.Supp. 872, 879 (D.Me.1984). The Commissioner’s conduct here in failing to issue regulations and then seeking to assess deficiencies for failure to comply with them before they were issued was abusive and overreaching.
The Tax Court’s decision in the underlying litigation confirms the unreasonableness of the Commissioner’s position.
[W]e fail to understand how the Secretary could fail to issue any temporary or final regulations prescribing the procedures for new shareholders to affirmatively refuse to consent to subchapter S elections when there was a statutory direction to issue such regulations (the statute required that the new shareholders affirmatively refuse to consent “in such manner as the Secretary shall by regulations prescribe”) (Emphasis supplied.) Furthermore, in light of the prior regulatory requirement under section 1.1372-3, Income Tax Regs., that new shareholders file consents to the continu*1361ation of subchapter S elections with the Service, it does not appear that it would have been difficult to issue temporary regulations prescribing similar filing requirements for new shareholders to affirmatively refuse to consent. Finally, if the Commissioner and the Secretary deemed a filing requirement to be crucial to their ability to administer section 1372(e)(1), they should have issued temporary or final regulations prescribing the requirement. It is obvious that the amendment of section 1372(e)(1) was an attempt by Congress to remove a trap for the unwary, i.e., an inadvertent termination of a subchapter S election. The failure to issue temporary or final regulations under the new statutory section frustrated that purpose by creating a new trap, i.e., an inadvertent failure to terminate a subchapter S election.
Zinniel v. Commissioner, 89 T.C. 357, 369-70 (1987) (footnotes omitted).
The Commissioner contends that it was reasonable for the taxpayers to expect to have to file their affirmative refusals with the IRS because otherwise the IRS would not be sure that the corporation had made a timely election. While there may be some merit to this argument in general, it is not persuasive in this case. This transaction was not done in any way to conceal the action from the IRS and had there been an IRS regulation in place which required a filing with the IRS, there is no evidence suggesting that it would have been done. Moreover, the IRS had all the information it would have received under the regulations, since a copy of the refusal was filed in December 1978.
As I have previously noted, the taxpayers’ attorney inquired of the IRS at least twice as to what steps were necessary— they were ready to comply. The new shareholders filed a notice of refusal with the company. The company attached a letter with its next tax return indicating that this had been done. As soon as requested, and long before even proposed regulations were issued, it filed a copy of the Refusal to Consent with the IRS. Even before that, the company filed for approval of a qualified pension plan (which it could not have done under subchapter S) and received approval of the plan from the Commissioner.
Section 7430 does not define what is unreasonable but the legislative history suggests that the Commissioner’s conduct is to be reviewed in light of the then prevailing law and regulations, in addition to the particular facts of the case. H.R.Rep. No. 97-404, 97th Cong., 1st Sess. 12 (1981); Arthur Andersen, 832 F.2d at 1060. It is intended to deter exactly the kind of unreasonable and inexcusable conduct engaged in by the IRS here. The taxpayers have been put to considerable effort and expense to defend against a deficiency which, as the Tax Court found, should never have been asserted. They should at least be reimbursed for their expenses in doing so.
The Tax Court’s decision that the Commissioner’s conduct was not unreasonable, since the case was complex and one of first impression and because the Commissioner was attempting to enforce the tax laws is, I believe, clearly an abuse of discretion. The Commissioner’s failure to prescribe regulations was unreasonable. To later attempt to recover a deficiency from the petitioners based on a statute which did not require them to do anything they failed to do, particularly when the IRS had all the information it would have obtained under the regulations as finally promulgated was, to put it mildly, likewise unreasonable and abusive. Section 7430 was enacted to keep from putting taxpayers through such an unjustified and expensive experience and to compensate taxpayers who are victims of such IRS conduct. Accordingly, I respectfully dissent from the majority’s finding that the Tax Court did not abuse its discretion in holding the IRS and Commissioner’s conduct in this case reasonable and section 7430 inapplicable.