LB3 Scores First Win in Nationwide Effort to Recover Federal Excise Tax Overpayments
The federal excise tax on communications has been the bane of telecom users for decades. Under the Internal Revenue Code, in order to be taxable, long distance service must be charged based on both the "distance and elapsed transmission time" of each individual communication. However, the rates for modern long distance services are non-distance sensitive: carriers charge the same price for a call from New York City to Pittsburgh as they do for a call from New York City to Los Angeles.

Given this fact, these services should not be taxable.

The IRS has maintained that, despite the plain language of the Internal Revenue Code, Congress intended to tax all long distance voice service -- whether the underlying rates are distance sensitive or not. Accordingly, the IRS has instructed carriers to keep collecting this tax on non-distance sensitive services.

The amount of the tax is not insignificant -- 3 percent of an enterprise's spend on intrastate, interstate, and international voice minutes. Moreover, filing these claims does not upset the telecom vendor (carriers are merely collection agents for the IRS), nor does it create a shortfall, since taxes are not contributory.

LB3, on behalf of a number of its large enterprise clients, challenged the legality of the IRS's position.

The first step in this process was filing refund claims with the IRS. Historically, the practice of the IRS was to deny such claims at the examination level. If the taxpayer requested a review by IRS Appeals, the IRS then would settle the claims for 30-40 cents on the dollar.

Such settlements have two drawbacks. First, they recover only a portion of the excise taxes paid. Second, they do not provide relief on a going forward basis – even after settling with the IRS, taxpayers still have to remit the tax and begin anew the process for filing for refunds.

LB3 met with the IRS and tried – unsuccessfully -- to negotiate a more favorable settlement on behalf of its clients.

In the spring of 2003, LB3 filed refund lawsuits on behalf of several of its clients. In late January 2004, the first summary judgment opinion issued in favor of the Government in American Bankers Insurance Group, Inc. (“ABIG”) v. United States that found the term “and” was ambiguous.

Just weeks later, however, the United States District Court for the Northern District of Ohio found for the taxpayer in OfficeMax, Inc. v. United States. The OfficeMax court had no difficulty discerning the plain meaning of ยง 4252(b)(1):

"This Court respectfully disagrees with the conclusion of the ABIG court that the phrase ‘distance and elapsed transmission time’ is ambiguous. While the Court recognizes that the word ‘and’ can have different meanings and can be used cumulatively in certain circumstances, it does not believe that the use of the word ‘and’ in the phrase ‘distance and elapsed transmission time’ can be read other than in the conjunctive … Although the present-day Congress might wish to tax long-distance service as it is currently charged (i.e., on the basis of elapsed transmission time only), this Court believes the relevant inquiry is what Congress intended when it amended the statute in 1965."


ABIG has appealed the district court decision to the Eleventh Circuit, and has already filed its initial brief. The Government is expected to appeal the OfficeMax decision to the Sixth Circuit, but has yet to do so. As the other cases are decided by the district courts, additional appeals can be expected in the Second, Third, and Federal Circuits. If a significant number of these cases are decided in favor of the taxpayer, the Government might abandon its efforts to defend them and institute a policy of settling all pending claims on more favorable terms. Alternatively, given the revenue at stake the Government might attempt to carry the fight to the Supreme Court. LB3, on behalf of its clients, is committed to litigating these cases through the Circuit Courts of Appeals and to the Supreme Court, if necessary. We believe that the OfficeMax decision provides confirmation that the long distance services purchased by most large business users are not properly subject to the federal excise tax under a plain reading of section 4252(b)(1). While the ABIG court reached the opposite conclusion, we believe that the basis on which it was decided makes it ripe for reversal by the Eleventh Circuit.

For further information, please contact Hank Levine or Stephen Rosen. 

Additional Information

Wrangling for a Refund
David Rohde and Stephen Rosen
Network World, 04/12/04

Is Federal Tax Relief Finally on the Way?
The Telecom Manager's
Voice Report Online, 03/08/04

Federal Excise Tax Refunds Could be Paid in Full
The Telecom Manager's
Voice Report, 10/06/03