Federal Taxation - Dustin M. Covello and Augustus N. Makris

• Publication year: 2010

Federal Taxationby Dustin M. Covello^* and Augustus N. Makris^**

I. Introduction

This Article surveys the limited number of significant federal tax cases decided by courts in the Eleventh Circuit in 2009.¹ In Commissioner v. Neat,² the United States Court of Appeals for the Eleventh Circuit became the first circuit court of appeals to examine whether the United States Tax Court was required to conduct a trial de novo when a taxpayer appealed the Internal Revenue Service's denial of relief under I.R.C. Sec. 6015.³ In Nero Trading, LLC v. United States,⁴ the Eleventh Circuit addressed the nature of the hearing a district court must provide to a taxpayer who challenges a summons from the Service before the district court may enforce such a summons.⁵ In United States v. UBS AG,⁶ the United States District Court for the Southern District of Florida denied a motion by the Swiss bank UBS AG in the ongoing controversy surrounding the United States government's efforts to force the bank to release the names of account holders suspected of tax evasion.⁷ In United States v. Klohn,⁸ the United States District Court for the Middle District of Florida addressed the period within which a taxpayer may claim a credit or refund of an overpayment of tax.⁹ The case of In re Willis¹⁰ involved whether an individual's actions with respect to his individual retirement accounts (IRAs) disqualified the IRAs from bankruptcy exemption.¹¹

II. Eleventh Circuit Court Cases

A. Commissioner v. Neal

In Commissioner v. Neal,¹² the Eleventh Circuit considered the following question: When a taxpayer appeals a decision by the Service to deny that taxpayer equitable relief under I.R.C. Sec. 6015(f),¹³ must the Tax Court conduct a trial de novo, or is it limited to considering only the evidence included in the administrative record developed during the Service's examination?¹⁴ Neal involved a spousal conflict between Alimam and Ruth Neal. The Neals kept their finances largely separate; they had separate checking accounts, and they did not often discuss their financial affairs with each other. Ruth and Alimam each paid half of their monthly mortgage payment, Ruth paid most of the family's expenses, and Alimam paid the housekeeper, utility bills, and car payments. Despite Ruth's requests, Alimam refused to answer her questions about the financial aspects of his business or allow her to participate in the filing of the couple's joint federal income tax re-turns.¹⁵ She gave her W-2 forms to Alimam, and Alimam's accountant prepared the returns. Ruth never looked at the completed tax returns and never spoke to the accountant.¹⁶

As it turned out, Alimam had not paid taxes attributable to his income. Though income taxes had been withheld from Ruth's own salary, none of the taxes attributable to Alimam's business were paid. Ruth finally learned that the couple owed taxes when she and her husband sought bankruptcy protection in 1989. The bankruptcy hearings revealed that Alimam had secretly purchased a boat, a Colorado villa, at least six cars, and expensive fine art. After an audit of the couple's 1990, 1991, and 1992 returns, a second declaration of bankruptcy in 1995, and a second garnishment of her wages in 1996, Ruth began to investigate the reasons underlying the couple's financial problems. She eventually discovered that Alimam had been supporting another woman who bore his child and that his share of the tax liability was channeled to his secret life and the support of his second family.¹⁷

The couple divorced in 1998, and the divorce court ordered Alimam to "pay all past and future tax liabilities incurred by the couple during their marriage."¹⁸ He failed to do so. The Service turned to Ruth, seeking to collect the unpaid tax liabilities from her. The total amount in controversy, exclusive of interest and penalties, was $278,996.¹⁹

Since 1938 the tax law has provided that spouses who file joint returns are generally jointly and severally liable for the taxes associated with the returns.²⁰ In 1961, when the United States Supreme Court held that embezzled funds constitute income,²¹ the Service began holding the spouses of insolvent embezzlers jointly and severally liable for the taxes associated with the embezzler's ill-gotten gains.²² The Service continued to hold this position even in circumstances in which the non-offending spouse was unaware of and did not benefit from the embezzled funds.²³

In 1971 Congress, dissatisfied with this result, enacted I.R.C. Sec. 6013(e).²⁴ This exception relieved an innocent spouse from joint and several liability when (1) an understatement was due to the other spouse's fraud, (2) the innocent spouse did not know and had no reason to know of the understatement, and (3) it was inequitable in light of all the facts and circumstances (particularly whether the innocent spouse benefitted from the other spouse's concealed income) to hold the innocent spouse liable for the other spouse's tax liability.²⁵ In 1998 Congress decided that these requirements were overly technical.²⁶ Therefore, Congress enacted I.R.C. Sec. 6015(f).²⁷ Section 6015(f) authorizes the Service to grant equitable relief to a taxpayer if it would be inequitable to hold that taxpayer liable for any unpaid tax and relief would not otherwise be available under Sec. 6015.²⁸ If the Service denies equitable relief, I.R.C. Sec. 6015(e)²⁹ allows the taxpayer to petition the Tax Court to determine the appropriate relief.³⁰

Ruth followed this course. Pursuant to Sec. 6015(f), Ruth petitioned the Service for equitable relief from joint and several liability for the portion of the couple's tax attributable to Alimam's unpaid income tax. Her petition was denied by an examining agent the following year. An appeal to the IRS office of Appeals was also unsuccessful. In 2003 the office echoed the examining agent's conclusions and denied her request for equitable relief.³¹

Ruth then petitioned the Tax Court pursuant to I.R.C. Sec. 6015(e). In her Tax Court case, Ruth sought to introduce new evidence concerning the degree of economic hardship she would suffer if she paid the tax. The Service argued that this evidence was inadmissible because the Tax Court's review was limited to the administrative record.³² The Tax Court held for Ruth, stating that its "review and determination was not limited to the administrative record but was de novo."³³ Therefore, the Tax Court allowed the parties to introduce testimony and other evidence from outside of the administrative record. To prevail in a trial de novo, Ruth had to show that the Service had abused its discretion in denying her equitable relief.³⁴

Ruth made that showing. After hearing the evidence, the Tax Court found that she did not have knowledge of the unpaid taxes, that the facts were inconclusive as to whether she would suffer economic hardship if she were denied relief, and that, taking into account all the facts and circumstances, it would be inequitable to hold her liable for the tax.³⁵

The Service timely appealed to the Eleventh Circuit, arguing that the Tax Court had erred in conducting a trial de novo. The Service contended that the Tax Court was confined to considering only the evidence contained in the administrative record.³⁶

The Tax Court had considered this issue twice before. In 2004 in Ewing v. Commissioner,³⁷ the Tax Court held that it could conduct a trial de novo when reviewing a denial of equitable relief.³⁸ Four years later, the Tax Court reaffirmed that holding in Porter v. Commission-er.³⁹

The Neal case, however, presented this question to a United States court of appeals for the first time. The court began by analyzing the Tax Court's reasoning in Ewing and Porter. It noted that in those cases, the Tax Court focused on the statutory language in Sec. 6015(e) and Sec. 6015-(f).⁴⁰ Section 6015(e) permits the taxpayer to "petition the Tax Court . . . to determine the appropriate relief available to the individual."⁴¹ The Court reiterated the conclusion in Ewing that a de novo review "gives effect to the congressional mandate . . . that we determine whether a taxpayer is entitled to relief under section 6015."⁴² The court then turned to the Tax Court's reasoning in Porter that reviews of Sec. 6015(e) petitions should be conducted de novo because Sec. 6015(e) uses language similar to that in I.R.C. Sec. 6213⁴³ and I.R.C. Sec. 6214,⁴⁴ and the Tax Court has long reviewed petitions under those sections de novo.⁴⁵

The court noted that there are other situations in which de novo determinations are appropriate. For example, under I.R.C. Sec. 7436(a),⁴⁶ the Tax Court can "determine" whether the Service correctly determined an individual's employment status.⁴⁷ Section 6404⁴⁸ additionally authorizes the Tax Court to "determine" whether the Service has abused its discretion when it has refused to abate interest.⁴⁹ In both instances, the Tax Court's practice has been to make its determination de novo.⁵⁰ Accordingly, the court held that when the Tax Court is asked to make a "determination," as it is under Sec. 6015(f), de novo review is appropri-ate.⁵¹

The court then turned its attention to the Service's argument that the record rule of the Administrative Procedure Act of 1946 (APA)⁵² generally limits a court's review of an agency decision to the administrative record.⁵³ The court noted, however, that by its own terms the APA does not limit or repeal other requirements imposed by statute or otherwise recognized by law.⁵⁴ The predecessors to the Tax Court had a well-established practice of conducting determinations and redeterm-inations de novo in deficiency determinations prior to the enactment of the APA in 1946.⁵⁵ According to the court, the fact that Sec. 6015(e) was enacted in 1998, well after the passage of the APA, was irrelevant because Sec. 6015 is "part and parcel" of the statutory framework that permitted de novo review of deficiency determinations in the pre-APA era.⁵⁶ Accordingly, the record...