A group of Utah-based companies, led by Standard Insurances, failed in their attempt to use federal district court to challenge the Internal Revenue Service’s (IRS) findings regarding their micro-captive insurance structure. The Tenth Circuit Court of Appeals upheld the lower court’s decision, ruling that federal statutes designed to protect the assessment and collection of federal taxes barred the lawsuit.
The core issue revolved around the Declaratory Judgment Act (DJA) and the Tax Anti-Injunction Act (AIA). Both laws generally prevent federal courts from hearing cases aimed at restraining the assessment or collection of federal taxes. The plaintiffs argued their suit was about procedural fairness and the legality of an IRS notice, not directly about stopping a tax bill. The Tenth Circuit disagreed, concluding that the relief sought—a declaration that Standard was a legitimate captive insurer—would inevitably undermine the tax deficiency cases already pending in Tax Court.
The Micro-Captive Dispute
Standard Insurances operates as a “micro-captive” insurer, providing coverage exclusively to its parent company and sister entities within the Standard corporate family. Micro-captives, defined by receiving less than $2.2 million in annual premiums, offer significant tax advantages: the captive excludes premiums from its taxable income, and the insured companies can deduct those premiums as business expenses.
This favorable structure came under IRS scrutiny following Notice 2016-66, which flagged micro-captive transactions as having a potential for tax avoidance. After an audit in 2022, the IRS issued Deficiency Notices to Standard and its insureds. The IRS asserted that Standard did not qualify as a legitimate micro-captive, claiming the transactions “lack[ed] economic substance” and were not genuine insurance arrangements. This determination led to increased taxable income for Standard and disallowed deductions for the insureds.
Parallel Legal Battles
Crucially, Standard immediately challenged the deficiency in the U.S. Tax Court, a specialized court that handles disputes over tax liability *before* the tax is paid. Standard also made advance payments toward the disputed liabilities.
However, Standard simultaneously filed a separate lawsuit in the U.S. District Court for the District of Utah. In this district court action, Standard sought four main remedies:
1. A declaration voiding IRS Notice 2016-66 as unlawful.
2. An injunction forcing the IRS to return or destroy documents collected during the audit.
3. A declaration confirming Standard’s status as a legitimate captive insurer under Utah law, invalidating the IRS’s contrary finding.
4. General equitable relief.
The district court dismissed the case entirely on jurisdictional grounds. While it agreed that the first claim (against Notice 2016-66) was moot—as the IRS had since withdrawn the notice following related litigation in another jurisdiction—it held that the remaining claims were barred by the DJA and AIA because their objective was to restrain tax collection.
The Tenth Circuit’s Analysis: Focus on the Objective Aim
On appeal, Standard argued that its suit was not barred because it sought relief based on legal principles (like the Administrative Procedure Act) unrelated to the assessment itself, or because it was entitled to the narrow “South Carolina exception.”
The Tenth Circuit, however, emphasized the Supreme Court’s directive in *CIC Services, LLC v. Internal Revenue Service*: courts must look at the “objective aim—essentially, the relief the suit requests,” rather than the taxpayer’s subjective motives.
Declaratory Relief Barred
Regarding the request to declare Standard a legitimate captive insurer, the appellate panel found this relief to be inextricably linked to tax collection. If the district court had granted Standard’s desired declaration, it would have effectively forced the IRS to concede the ongoing Tax Court cases.
Standard countered that the IRS had cited multiple, independent reasons for the deficiency—such as the lack of “economic substance”—meaning a win on the captive status issue wouldn’t automatically resolve the entire tax dispute. The Tenth Circuit rejected this, stating that all the IRS’s cited reasons flowed from the foundational determination that Standard was not a qualifying micro-captive. Therefore, granting the requested declaration would restrain the IRS’s ability to defend its deficiency determination, falling squarely under the AIA and DJA prohibitions.
Document Destruction Also Barred
Standard’s second major request—the destruction of audit documents—was also dismissed. Standard claimed this was a necessary step to protect privacy and security risks associated with the data.
The court found this request also served the objective of restraining tax assessment. The documents were the evidentiary support for the deficiency notices currently being litigated in Tax Court. Ordering their destruction, even if temporary, would “hinder the tax court’s determination of the deficiency, a necessary and proximate step in assessment.”
No Exception Applied
Finally, the court swiftly dismissed Standard’s reliance on the *South Carolina v. Regan* exception. This exception allows jurisdiction only when a taxpayer has *no* other avenue for judicial review of the contested tax.
The Tenth Circuit noted that Standard was not without recourse. It already had, and was actively using, the proper forum: the U.S. Tax Court. If the Tax Court rules against Standard, the decision can be appealed through the federal court system, or the issues could potentially be litigated in a subsequent tax-refund suit after payment. Because Standard had access to judicial review through established tax procedures, the *South Carolina* exception did not apply.
In conclusion, the Tenth Circuit affirmed the district court’s judgment, holding that the requested relief in both the declaratory and injunctive claims was fundamentally aimed at impeding the assessment and collection of federal taxes, thus stripping the district court of jurisdiction.