Substance over form shenanigans
Pulp (non)fiction in Smaldino v. Commissioner, T.C. Memo. 2021-127
Educational content. Not investment, tax, or legal advice. Hire an adviser or tax attorney for personalized guidance.
Tax alpha bulletin board
🎉 Basis Northwest: 2 days of taxable wealth innovation 👉 Seattle - May 2026
🔬 Call for papers: JWM Fall 2026 issue on concentrated wealth due Feb 1, 2026
Substance over form shenanigans
I’ve been reading a lot of Tax Court cases recently to understand Substance over Form, the Step Transaction Doctrine, and the Economic Substance Doctrine.
Why?
Drama. Excitement. Pulp (non)fiction!
There’s some of that, but it’s really because I want to be good at smelling bullshit.
It’s easy to be wowed by a product pitch. And smelling bullshit is the only defense we non-specialists have.
One flavor of bullshit is partial information: Most pitch decks frame the product in the ideal light. That’s understandable, but it’s up to advisers to do an objective assessment on their own.
Another flavor of (much more serious) bullshit is overly aggressive tax machinations, usually delivered as a first-order concern in a pitch.
Tax is deeper in the diligence stack, in my mind, but is often used to grab investor and adviser attention, and sometimes takes over as the motivation for an investment.
That’s not good. The investment has to stand on its own.
AQR had a great little blog post about Economic Substance (IRC § 7701(o), if you’re curious) in 2024 called Separating the Wheat from the Chaff and I pinned the following quotation for later research.
It may seem counterintuitive that investors seeking tax efficiency must look for strategies motivated by a pre-tax investment rationale, otherwise known as “economic substance.” But there’s a lot at stake: If a strategy fails the economic substance requirement, those tax benefits can be lost—and worse, liability penalties imposed.
The penalties are no joke.
In the case of Step Transaction, it could be 20%, and in Economic Substance, it could be 40%, perhaps more.
So, today I diagram (a quick little infographic) Smaldino v. Commissioner, T.C. Memo. 2021-127, as a relatively simple illustration of Substance over Form and the Step Transaction Doctrine.