GSS Holdings (Liberty) Inc. v. United States, No. 21-2353 (Fed. Cir. 2023)Annotate this Case
GSS is the managing member and owner of Liberty. In 2006, Liberty purchased a note issued by Aaardvark and entered into a liquidity asset purchase agreement (LAPA) for that Note. BNS was Liberty’s counterparty for the Aaardvark LAPA, requiring BNS to purchase the Aaardvark Note at par value if Liberty exercised the LAPA. Months later, Liberty entered into a note purchase agreement with an unrelated investor, Scotiabank’s predecessor, and issued the First Loss Note; Scotiabank’s predecessor funded the “First Loss Note Account” to cover some of the risk of Liberty’s assets. That Account would compensate BNS for a loss in value of Liberty’s assets. For tax purposes, Scotiabank’s investment in the Note was treated as a partnership interest in Liberty. In 2011, Liberty exercised the Aaardvark LAPA; BNS purchased the Aaardvark Note at a loss. BNS certified this loss to Scotiabank, causing Liberty to pay $24 million to BNS from the Account. Liberty’s loss was allocated to GSS.
GSS filed an amended return for the 2009 tax year, requesting to carry back the allocated 2011 loss, 26 U.S.C. 165. The IRS disallowed the deduction under section 707(b)(1), focusing on Liberty’s Aaardvark Note sale to BNS and the $24 million payment to BNS to conclude that these transactions should be treated as a single transaction. The Claims Court rejected GSS’s appeal. The Federal Circuit vacated. The Claims Court erred by applying a hybrid legal standard that improperly conflated the step transaction doctrine and the economic substance doctrine. Under the end result test, the Claims Court must “examine whether it appears that separate transactions were really component parts of a single transaction intended from the outset to be taken for the purpose of reaching the ultimate result.”