Stone v. Commissioner of Internal Revenue

David Stone and two others (collectively, the whistleblowers) (plaintiffs) submitted a complaint and a claim for an award to the Internal Revenue Service (IRS) (defendant). The whistleblowers reported that over 300 financial entities were fraudulently claiming tax benefits for investments that no longer qualified. Through this system, those entities had avoided paying income taxes on hundreds of millions of dollars in income. Under the IRS’s rules, the whistleblowers could receive an award of up to 30 percent of whatever amount of unpaid taxes the IRS ultimately collected from the entities (in a manner similar to a qui tam action under the False Claims Act). The IRS investigated the claims and determined they had merit. However, the agency also determined that pursuing enforcement actions would require significant agency resources and could harm both the government and the entities’ investors. After taking these considerations into account, the IRS declined to pursue enforcement. Because the agency did not collect any unpaid tax, it denied the whistleblowers’ award claim. The whistleblowers petitioned the United States Tax Court to review the denial. The tax court dismissed the petition. The whistleblowers then sued the IRS in federal district court, bringing a claim under the Administrative Procedure Act (APA) alleging that the IRS’s refusal to institute enforcement proceedings and subsequent denial of the whistleblowers’ award claim was an arbitrary and capricious agency action that should be overturned by the court. As a remedy, the whistleblowers asked the court to order the IRS to institute enforcement proceedings. The district court dismissed the complaint. The whistleblowers appealed to the United States Court of Appeals for the Eleventh Circuit.