Court Rejects Sunoco's $300 Million Refund Claim Relating to Fuel Mixture Credit

(Parker Tax Publishing December 2016)

The Court of Federal Claims, in an issue of first impression, held that the Code Sec. 6426 fuel mixture credit reduces a taxpayer's gross excise tax liability under Code Sec. 4081, leading to a reduction in the taxpayer's costs of goods sold and an associated increase in taxable income. The court rejected the taxpayer's $300 million refund claim, as well as the taxpayer's argument that the credit is a tax-free payment that does not reduce gross excise tax liability and, thus, does not reduce cost of goods sold. Sunoco, Inc. v. Comm'r, 2016 PTC 492 (Fed. Cl. 2016).

Sunoco, Inc., a fuel producer, filed suit in the Court of Federal Claims seeking a $300 million tax refund for tax years 2005 to 2008, based on its interpretation of the Code Sec. 6426 alcohol fuel mixture credit (mixture credit). The court noted that the case was one of first impression, and that Sunoco's arguments turned exclusively on statutory interpretation.

As a fuel producer that blends ethanol into its fuel, Sunoco, Inc. is entitled to claim the mixture credit against its excise tax liability under Code Sec. 4081. The court, citing to Mohawk Liqueur Corp. v. U.S., 324 F.2d 241 (6th Cir. 1963), noted that excise tax payments are includable in a taxpayer's cost of goods sold, and that the cost of goods sold reduces the taxpayer's gross income. With lower gross income comes lower income tax liability. The court observed that one could compare the relationship between excise tax liability and income tax liability to two people on a seesaw: when excise tax liability goes up, income tax liability goes down, and vice versa.

The question central to the case was whether a taxpayer like Sunoco must include its net excise tax liability, reduced by the mixture credit, in its cost of goods sold, or whether Sunoco could include its gross excise tax liability, without a reduction for the mixture credit, in its cost of goods sold. The court observed that if the mixture credit is interpreted as a reduction of excise tax liability, as argued by the IRS, then the taxpayer's income tax liability would increase as a result of that reduction. However, the court said, if the mixture credit does not affect the taxpayer's excise tax liability - as Sunoco argued - then the taxpayer's income tax liability would decrease.

Sunoco's argument, the court stated, treated the mixture credit as a tax-free payment of its gross excise tax liability, which would significantly reduce Sunoco's income tax liability because it would not reduce Sunoco's cost of goods sold. The IRS argued that Sunoco's interpretation would result in a windfall that Congress did not intend, citing the mixture credit's plain language and legislative history to show that Congress intended to replace the previous excise tax exemption for alcohol mixtures with an "equivalent benefit," rather than a significantly larger combined excise and income tax incentive.

Noting that the statutes at issue were not crystal clear, the court found the IRS's interpretation more persuasive. The court held that the mixture credit must be treated first as a reduction of the taxpayer's excise tax liability, with any remaining amount treated as tax-free payment. Had Congress intended, as Sunoco argued, to drastically increase the tax incentives fuel producers receive from blending alcohol into their fuels, the court said, one would expect to see at least some inkling of this intent in the legislative history or the Code. No such inkling appeared and the court concluded that Sunoco was not entitled to a tax refund.

For a discussion of the manufacturer's excise tax on fuel, see Parker Tax ¶236,101.

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

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