On February 25, 2020, the Supreme Court decided Rodriguez v. Federal Deposit Insurance Corporation, No. 18-1269, overruling a federal common law rule that was used in some circumstances to determine how to distribute the tax refund of an affiliated group of corporations that filed a consolidated federal return.
The IRS allows affiliated corporations to file consolidated federal tax returns but provides little guidance on distribution when it issues a single-payment refund to the group. If disputes arise and the group lacks a tax allocation agreement, some federal courts have looked to applicable state law to resolve the distribution question, while other federal courts have relied to varying degrees on a federal common law rule known as the “Bob Richards” from a 1973 Ninth Circuit decision. As it has evolved, the rule directs the refund to the responsible member unless the group had an agreement that unambiguously specified otherwise.
In this case, United Western Bank suffered significant losses, and its parent company was forced into bankruptcy. Following the bankruptcy, the IRS issued a $4 million tax refund, leading to a dispute between (1) the bank’s receiver, the Federal Deposit Insurance Corporation, and (2) the parent company’s bankruptcy trustee, Simon Rodriguez. Instead of applying the group’s tax allocation agreement, the Tenth Circuit applied an expansive version of the Bob Richards rule and directed the refund to the FDIC as the receiver for the subsidiary bank.
The U.S. Supreme Court vacated and remanded, holding that the Bob Richards rule went beyond the constitutional authority of the federal courts. The Court held that federal common law plays a “modest role” under the U.S. Constitution, which gives the Congress the legislative power and vests the remainder to the states. Given this, federal courts may craft rules of decision only in limited areas, including admiralty disputes and some controversies between the states.
For new areas for common lawmaking, strict conditions must be satisfied, including the need “to protect uniquely federal interests.” Here, although federal interests may arise in how the IRS receives taxes from corporate groups or in the IRS’s delivery of tax refunds, the distribution of a federal tax refund within a group of corporations involves no unique federal interests. Corporations are created by state law, and disputes involving the distribution of money — even in the context of a federal bankruptcy and a federal tax dispute — present state law issues of corporate property rights.
Justice Gorsuch issued the opinion for a unanimous Court.