The Fifth Circuit’s recent decision in Balentine v. United States serves as a critical reminder of the "pay first, litigate later" principle that has long governed federal tax refund litigation. This article will delve into the details of the Balentine case, its reliance on the landmark Supreme Court decision Flora v. United States, 362 U.S. 145 (1960), and provide a comprehensive analysis of the issues involved for the benefit of tax professionals.

Balentine v. United States: The Facts

Jay and Lisa Balentine failed to file their 2017 joint tax return in a timely manner. Consequently, the IRS, using third-party data, estimated Jay’s 2017 income, which included income distributed to Jay from various partnerships. Critically, the IRS did not subtract losses that the Balentines claimed were reported and distributed to Jay, and subsequently assessed a penalty of approximately $1.2 million.

The Balentines eventually filed a 2017 joint tax return, calculating their income differently, including the disputed losses. They asserted that they had overpaid their federal taxes by hundreds of thousands of dollars. They then sued for a refund of this alleged overpayment.

The United States moved to dismiss the suit, citing Flora v. United States, 362 U.S. 145 (1960), which requires full payment of an assessment before a taxpayer can sue for a refund. The district court granted this motion, and the Balentines appealed.

On appeal, the Balentines argued that Flora did not apply because they had, in effect, paid the assessment in full. They contended that if the IRS honored their 2017 return, their tax liability would be zero, making them fundamentally different from the plaintiff in Flora who sought a refund far smaller than the penalty assessed. However, the Fifth Circuit rejected this argument, stating that it improperly addressed the merits of their refund claim, and that jurisdiction must be established before the court can proceed to the merits of the case.

The court, citing Christianson v. Colt Indus. Operating Corp., 486 U.S. 800, 818 (1988), Steel Co. v. Citizens for a Better Env’t, 523 U.S. 83, 101 (1998), and USPPS, Ltd. v. Avery Dennison Corp., 647 F.3d 274, 277 (5th Cir. 2011), reiterated that jurisdictional issues must be addressed first. The Fifth Circuit held that the Flora decision provides a "bright-line rule: pay first, litigate second" and affirmed the district court’s dismissal for lack of subject matter jurisdiction.

Flora v. United States: The Supreme Court Precedent

The Supreme Court’s decision in Flora v. United States, 362 U.S. 145 (1960), is the bedrock of the "pay first, litigate later" rule. In Flora, the taxpayer paid only a portion of the assessed deficiency and then sued for a refund in District Court. The Supreme Court, in a detailed opinion, held that a federal district court does not have jurisdiction over a tax refund suit when the taxpayer has not paid the full amount of the tax assessment.

The Court based its decision on several grounds:

Statutory Interpretation: The Court interpreted 28 U.S.C. § 1346(a)(1) as requiring full payment before suit. The Court stated that the phrase "any internal-revenue tax" could readily be construed to refer to payment of the entire amount of an assessment, and that the phrase "any sum" was intended to refer to amounts that are neither taxes nor penalties, such as interest.
Legislative History: While the legislative history of § 1346(a)(1) itself was not particularly enlightening, the Court looked at other related tax statutes, finding that Congress had repeatedly acted as if full payment was a prerequisite for bringing suit in District Court.
Board of Tax Appeals (now Tax Court): The creation of the Board of Tax Appeals in 1924, now the Tax Court, demonstrated Congress’ understanding that full payment was a prerequisite to a suit in District Court, and that the Board was established to provide taxpayers with an alternative forum where they could litigate the validity of an assessment without paying first.
Declaratory Judgment Act: The Court highlighted the 1935 amendment to the Declaratory Judgment Act, which expressly excluded disputes "with respect to Federal taxes". This was viewed as preventing taxpayers from circumventing the pay first, litigate later rule by seeking declaratory judgments.
Section 7422(e) of the Internal Revenue Code of 1954: The Court noted that § 7422(e) addresses situations where a taxpayer brings a refund suit in District Court and the IRS subsequently asserts an additional deficiency, clearly assuming that full payment is a prerequisite to bringing a suit.

The Supreme Court also addressed the argument that requiring full payment would subject taxpayers to undue hardship. The Court responded by noting the availability of the Tax Court, where taxpayers could challenge a deficiency without paying the tax first.

The Supreme Court reviewed legislative history and historical practices and found no conclusive evidence that Congress ever intended to allow a suit for recovery of part payment of an assessment.

The Dissenting Opinion in Flora

It is worth noting that the Flora decision was not unanimous. Justice Whittaker, joined by Justices Frankfurter, Harlan, and Stewart, dissented, arguing that the majority’s interpretation departed from the plain language of 28 U.S.C. § 1346(a) and defeated its purpose. The dissent pointed out that the statute grants jurisdiction over suits for the recovery of “any sum alleged to have been excessive or in any manner wrongfully collected,” which they argued could not be clearer in its intent. Furthermore, the dissent asserted that the majority opinion was based on a misreading of the legislative history and an inaccurate assessment of the historical understanding of the refund process.

The dissent also noted that the majority decision would create hardships, particularly for taxpayers who could not afford to pay the full assessment before seeking judicial review. Additionally, the dissent argued that the creation of the Tax Court was to address a different issue, namely to prevent the IRS from collecting on the disputed assessment before it could be challenged, and not as a means to bypass the jurisdiction of District Courts.

Implications for Tax Professionals

The Fifth Circuit’s decision in Balentine underscores the continued relevance of Flora and the "pay first, litigate later" rule. Tax professionals should advise clients that, in most cases, they must fully pay a tax assessment before they can sue for a refund in federal district court. The Balentine decision makes it clear that taxpayers cannot circumvent this requirement by asserting that they have effectively paid the assessment via other credits, refunds, or claimed losses.

The Balentine case clarifies that if a taxpayer disagrees with an IRS assessment, they have two primary paths:

Petition the Tax Court: The taxpayer can petition the Tax Court without first paying the tax assessment. This option allows for a determination of the tax liability before payment is required.
Pay the Assessment and Sue for Refund: The taxpayer can pay the full assessment, file a claim for refund with the IRS, and then sue for a refund in a federal district court or the Court of Claims if the IRS denies the claim.

Tax professionals must be diligent in informing their clients of the jurisdictional requirements for federal tax refund litigation. Failure to adhere to these requirements can lead to dismissal of a case, as seen in Balentine. While the Flora rule can create hardships for taxpayers who struggle to pay large assessments, the availability of the Tax Court provides a crucial alternative for those who cannot pay before litigating.

Conclusion

The Balentine decision reinforces the importance of the "pay first, litigate later" rule established in Flora v. United States. Although this rule can create difficulties for taxpayers, it remains a critical component of our federal tax system.

The Balantine decision can be read at https://www.taxnotes.com/tax-notes-today-federal/litigation-and-appeals/fifth-circuit-affirms-bright-line-rule-bars-refund-suit/2025/02/03/7qv37#7qv37-0000002

Prepared with assistance from NotebookLM.