The growing controversy over federal excise tax on long-distance calls.

• Author: Sykes, Thomas D.

When I use a word ... it means just what I choose it to mean--neither more nor less.

--Lewis Carroll's Humpty Dumpty, in Through the Looking Glass

Section 4251 of the Internal Revenue Code imposes a federal excise tax of three percent on amounts paid for "communications services." The tax is embedded in a subscriber's monthly phone bill, which typically bears a vague reference to "federal taxes" or "taxes." After the subscriber pays the bill (including the embedded tax component), the carrier pays the tax over to the Internal Revenue Service pursuant to section 4291. Historically, the tax has had a low profile.

In recent years, many businesses using large amounts of long-distance services have been seeking refunds of the tax from the IRS, on the basis that these services do not come within the terms of the statute imposing the tax. The IRS is now moving to arm itself for litigation over the applicability of the tax to long-distance services. Thus, in April the IRS promulgated a proposed regulation on the statutory definition of "toll telephone service" for purposes of the tax. Prop. Reg. [section] 49.4252-0, 68 Fed. Reg. 15,690 (Apr. 1, 2003), would readout of the statutory definition the explicit requirement that the charge for the service vary with the distance of each individual communication--a requirement that is not met when long-distance services are billed, as they now often are, without regard to the distance spanned by the call.

This article reviews the arguments that the government has made in support of the position reflected in the proposed regulations. It concludes that the regulation is fundamentally flawed and, accordingly, should not be made final.

Section 4252(b)

Under section 4251 of the Code, three types of "communications services" are subject to the tax: "local telephone service," "toll telephone service," and "teletypewriter exchange service." Subject to certain exceptions, whether tax is due on long-distance calls turns on whether those services are "toll telephone service" within the meaning of section 4252(b):

(b) Toll telephone service.--For purposes of this subchapter, the term "toll telephone service" means--

(1) a telephonic quality communication for which (A) there is a toll charge which varies in amount with the distance and elapsed transmission time of each individual communication and (B) the charge is paid within the United States, and

(2) a service which entitles the subscriber, upon payment of a periodic charge (determined as a flat amount or upon the basis of total elapsed transmission time), to the privilege of an unlimited number of telephonic communications to or from all or a substantial portion of the persons having telephone or radio telephone stations in a specified area which is outside the local telephone system area in which the station provided with this service is located. (Emphasis added.)

These provisions were enacted as part of the Excise Tax Reduction Act of 1965, Pub. L. No. 89-44, [section] 302, 79 Stat. 146 (1965 Act), and have not been amended.

The Growing Controversy

Controversy over the tax has grown in recent years because long-distance carriers, especially in the context of rate plans available to large business subscribers, have moved away from basing charges for long-distance calls upon the distance spanned by the call. Beginning in the first half of the 1990s, long-distance charges have been increasingly based upon the elapsed transmission time of the call, without regard to distance. Accordingly, amounts paid for long-distance service under many rate plans no longer come within the definition of "toll telephone...