## Facts

- Cemco Investors, LLC was treated as a partnership for federal tax purposes, passing items through to its owners.
- Related entities included Cemco Investment Partners, Cemco Investors Trust, and Deutsche Bank as the counterparty.
- The Trust entered paired euro options with Deutsche Bank: a long option and an offsetting short option with nearly identical economics and similar premium amounts.
- Because the options largely offset, the Trust’s net cash outlay and economic risk were minimal, and the options expired producing only a small actual economic loss.
- Through transfers among the entities, Cemco claimed an inflated tax basis in property (euros) and reported an approximately $3.6 million capital loss on its 2000 return.
- Cemco argued, relying on a Tax Court memorandum opinion, that the short option was a contingent obligation not treated as a “liability” under I.R.C. § 752 for partnership basis purposes.
- The IRS disallowed the claimed loss, citing Notice 2000-44 (warning against basis-inflation shelters using contingent obligations) and Treas. Reg. § 1.752-6 (promulgated later but made retroactive to transactions after October 18, 1999).
- Cemco paid the asserted tax and sued for a refund; the district court entered judgment for the United States, and Cemco appealed.

## Issues

1. Whether Treas. Reg. § 1.752-6 could validly be applied retroactively to Cemco’s 2000 transaction based on congressional authorization.
2. Whether the IRS could disallow the claimed loss as an abusive shelter lacking economic substance and resting on an improper basis computation, regardless of the regulation.

## Decision

- The Seventh Circuit affirmed the judgment for the United States.
- The court held that Congress expressly authorized retroactive regulations in this area and that Treas. Reg. § 1.752-6 fell within that authorization.
- The court rejected Cemco’s reliance argument based on older authority, emphasizing that Notice 2000-44 warned taxpayers that such basis-inflation transactions would be challenged.
- The court concluded the transaction created a large tax loss without a meaningful corresponding economic loss and could be disallowed on anti-abuse/economic-substance grounds even apart from the regulation.

## Legal Principles

- When Congress explicitly authorizes retroactive tax regulations for a defined subject matter and period, Treasury may issue regulations with retroactive effect consistent with that authorization.
- Taxpayer reliance on prior interpretations is weakened where the IRS has issued formal guidance identifying and disapproving a specific shelter structure.
- A transaction structured to generate tax losses disproportionate to actual economic exposure may be disregarded or adjusted under economic-substance and related anti-abuse doctrines.
- Partnership basis rules may not be applied to treat offsetting, contingent positions as a mechanism to manufacture artificial basis and paper losses.

## Conclusion

The Seventh Circuit upheld retroactive application of Treas. Reg. § 1.752-6 and sustained the IRS’s denial of Cemco’s refund claim, finding the claimed loss to be an artificial basis-inflation result from a Son-of-BOSS-type transaction lacking meaningful economic substance.


Cemco Investors, LLC v. United States, 515 F.3d 749 (7th Cir. 2008)