In the ensuing civil proceeding, the IRS urged that the conviction was collateral estoppel as to the issue of fraud for purposes of the civil fraud penalty and for purposes of the statute of limitations.COUNT TWOTAX EVASION1. The allegations contained in paragraphs 1 through 10 of Count One of this Superseding Information are repeated, realleged, and incorporated by reference as though fully set forth herein.
2. During the calendar year 2003, defendant BOHDAN SENYSZYN embezzled taxable income from the sale of real estate owned by DH that was in addition to the income paid to him as salary and wages by the IRS. Specifically, defendant BOHDAN SENYSZYN embezzled approximately $252,726.00 from the November 19, 2003 sale of DH-owned property in Andover Township identified as Lot 72, which was sold for $351,000.00.
3. On or about January 29, 2004, defendant BOHDAN SENYSZYN prepared, co-signed, and filed a United States Individual Income Tax Return, Form 1040, for himself and his wife, who also signed the return. That joint return declared $78,115.80 in wages and salaries as their only income, and stated that the amount of tax due and owing was $0.
4. The return did not include about $252,726.00 in additional taxable income that defendant BOHDAN SENYSZYN embezzled in 2003 from the sale of Lot 72. Upon this additional income, an additional tax of about $85,016.27 was due and owing to the United States.
5. On or about January 29, 2004, in the District of New Jersey, and elsewhere, defendant BOHDAN SENYSZYN knowingly and willfully did attempt to evade and defeat a substantial part of the income tax due and owing by him to the United States for the calendar year 2003 in that he signed, filed and caused to be filed a false and [*6] fraudulent United States Individual Income Tax Return, Form 1040, as described in paragraph 3, knowing it to be false and fraudulent as described in paragraph 4. In violation of Title 26, United States Code, Section 7201.
As a result of the case, I have slightly revised the working draft of my Federal Tax crimes book discussion of collateral estoppel as it relates to the civil fraud penalty. Here is the discussion (footnotes omitted):
1. Civil Fraud Penalty.
In the tax setting, the civil penalty most applicable to tax crimes is the fraud penalty under § 6663.
Sec. 6663. Imposition of fraud penalty.
(a) Imposition of penalty. If any part of any underpayment of tax required to be shown on a return is due to fraud, there shall be added to the tax an amount equal to 75 percent of the portion of the underpayment which is attributable to fraud.
(b) Determination of portion attributable to fraud. If the Secretary establishes that any portion of an underpayment is attributable to fraud, the entire underpayment shall be treated as attributable to fraud, except with respect to any portion of the underpayment which the taxpayer establishes (by a preponderance of the evidence) is not attributable to fraud.
(c) Special rule for joint returns. In the case of a joint return, this section shall not apply with respect to a spouse unless some part of the underpayment is due to the fraud of such spouse.
The statute does not define fraud, but it may be viewed as the civil counterpart of criminal tax evasion in § 7201. The courts dealing with the civil fraud penalty do not usually state the standard as the crisp elements in § 7201 – affirmative act, tax due and owning and willfulness (the standard Cheek formulation being “intentional violation of a known legal duty”). Those courts do, however use words that, in my view, say the same thing. For examples, in civil fraud cases, courts had stated: (i) “Fraud is the intentional commission of an act or acts for the specific purpose of evading tax believed to be due and owing;” and (ii) fraud requires that “the taxpayer have intended to evade taxes known to be due and owing by conduct intended to conceal, mislead or otherwise prevent the collection of taxes and that is an underpayment.” In making the determination, as with criminal cases, courts will often look to certain common patterns indicating fraud – referred to as badges of fraud, such as unreported income, failure to keep adequate books, dealing in cash, etc. The key differences between the two is that § 6663 is a civil penalty and different burdens of proof apply as I note later.
The civil penalty, although clearly a penalty, does not constitute double jeopardy when asserted after a criminal conviction for tax evasion because the penalty is remedial in nature rather than punitive. This penalty is often referred to as the civil fraud penalty to distinguish it from a criminal fraud penalty.
For the initial showing of fraud, the IRS must prove fraud by clear and convincing evidence. Other than to state the obvious that clear and convincing evidence lies somewhere between more likely than not evidence and beyond a reasonable doubt evidence, I won’t offer in the text of this book a more finely calibrated discussion, but do offer some materials in the footnote below. Once the Government meets this burden to show fraud as to some portion of the underpayment by clear and convincing evidence, the taxpayer then bears the burden of establishing by a preponderance of the evidence which portion, if any, of the underpayment is not attributable to fraud.
This penalty will play out as follows in a civil case in which the IRS asserts the penalty following a criminal investigation and/or prosecution: The IRS must prove fraud by “clear and convincing evidence.” The taxpayer’s prior conviction for tax evasion will be preclusive on the issue of fraud in the civil suit under collateral estoppel principles. There is a nuance in the last sentence. The only issue as to which collateral estoppel from a tax evasion conviction applies is the issue of fraud as to some, unspecified amount, since the conviction for tax evasion does not require a finding as to a specific amount. Under § 6663's burden shifting procedure, collateral estoppel will cause the conviction for evasion to meet the IRS’s burden to establish some portion of the tax underpayment is due to fraud, thus shifting to the taxpayer the burden to reduce the portion attributable to the civil fraud penalty.
A prior conviction of any charge that does not include fraudulent underpayment of tax (e.g., § 7206(1)) is not preclusive under principles of collateral estoppel, so that the taxpayer is free to contest the imposition of the civil fraud penalty and put the Government in the position of proving fraud by clear and convincing evidence. If, however, the taxpayer is acquitted of tax evasion, the acquittal merely means that the taxpayer was not guilty beyond a reasonable doubt and thus the IRS is not precluded from proving by clear and convincing evidence that the taxpayer is liable for the civil fraud penalty.
Let’s test our understanding of collateral estoppel.
Example 1: For tax year 1, taxpayer fraudulently claims large deductions, thus wiping out his year 1 tax liability and creating a net operating loss on the tax year 1 tax return filed 4/15 of year 2. Taxpayer elects not to carryback his losses, and therefore carries them forward. He claims some portion of the NOL carryforward in each of the years 2 through 4 on 4/15 of each succeeding year (e.g., the year 2 tax return is filed on April 15 of year 3, etc.). On 5/1 of year 5 (shortly after filing the year 4 tax return), he is indicted for tax evasion for years 1 through 3, each year being a separate count. He is subsequently convicted on all counts. Based on the foregoing, the conviction of tax evasion for years 1 through 3 is collateral estoppel as to civil fraud in years 1 through 3. But, is the year 1 conviction collateral estoppel on the civil fraud issue as to the year 4 return? One court has so held, reasoning that the claiming of a fraudulent NOL carryforward perforce renders the return fraudulent and, since the fraudulent claiming of the NOL loss itself has already been litigated between the parties in the NOL year (year 1 in this example and, by extrapolation, years 2 and 3 for which he was convicted for carrying the fraudulent loss to those years), it is perforce collateral estoppel in the subsequent nonconviction year (year 4 in the example). What would you argue in response?
You would argue, of course, that the convictions in the prior years are not preclusive on the issue of whether the taxpayer had the requisite intent in the fourth year. It is at least conceivable that he would not. For example, what if the carryforward to year 4 were relatively small in amount, and the taxpayer perhaps just did not think about the issue in year 4 (his return preparer just carried it forward from last year’s return without discussing it with the taxpayer)? By analogy, in the criminal proceeding involving tax evasion charges for years 1 through 3, could the judge have instructed the jury that, if it found the taxpayer guilty for year 1, it must find him guilty for years 2 and 3? I think not, because even though the fraudulent tax benefit traced to year 1, the issue is the taxpayer’s guilt at the time he filed his year 2 or 3 return. If that finding of guilt is not preclusive in the criminal proceeding, why should a finding of guilt be preclusive in a noncharged year?
Example 2: Assume the same example. In the sentencing phase, the quality of the evidence is as follows: (1) the tax loss number established by a preponderance of the evidence for each of the years 1-3 is $100,000; and (2) the sentencing judge is in equipoise as to an additional $25,000 and thus cannot include that amount in the tax loss number. In the ensuing civil fraud case, the parties agree that the total underpayment in each of the first 3 years was $200,000. Assume that the Government establishes by collateral estoppel its initial burden to show fraud by clear and convincing evidence (i.e., the evasion conviction for years 1-3 establishes beyond a reasonable doubt that some amount of tax was evaded, hence it is collateral estoppel as to the Government’s ability to show fraud by clear and convincing evidence). Then, assume that the evidence in the civil trial shows by a preponderance of the evidence that $75,000 of the $200,000 understatement is not due to fraud and that $100,000 of the $200,000 understatement is due to fraud (the latter being the same as at the sentencing phase). Just as in the sentencing phase, however, the civil trial finder of fact is in equipoise as to the remaining $25,000. Under§ 6663, the civil fraud penalty base is $125,000 for each of the years 1-3.
What I want this example to illustrate is that the only difference between the sentencing finding as to the tax loss number and the civil fraud base is with respect to a possible inclusion or exclusion of the amount, if any, as to which the trier in the civil case is in equipoise. In both proceedings (sentencing and civil trial), the base is the same (i.e., at sentencing it is the tax loss number and in the civil trial it is the civil fraud penalty base which define the same base). Yet, as illustrated in the example, the base is a different amount at sentencing than at the civil trial solely because of the phenomenon of equipoise. Equipoise is a useful tool for analyzing burden of proof but, I submit, not helpful in real world cases where it is only the rare case that has key findings turn upon a state of equipoise. In other words, for the real world, the example illustrates a phenomenon not likely to occur. For this reason, I have argued that, for judicial estoppel and prudential reasons, the sentencing findings as to the tax loss number should determine the civil penalty base. The case authority, however, rejects collateral estoppel, although the circumstances may be distinguishable.
Example 3: Assume that, in the sentencing phase, the sentencing court is unable to determine a tax loss number and thus determines the guidelines without a tax loss number. (You will recall that Base Offense Level applies in that case.) Is the sentencing court’s inability to determine a tax loss number by a preponderance of the evidence collateral estoppel against the IRS on that issue in the subsequent civil case? I would argue that it should be. If the Government has been unable to prove any fraudulent underpayment in the sentencing phase by a preponderance of the evidence, why should it be allowed to have a second bite at the judicial resource apple where it is required to make an affirmative showing by clear and convincing evidence? I argue that it should be.
Note that, if collateral estoppel were to apply to the tax loss number sentencing findings (still, I think, an open issue), the preclusive effect would be a two way street. It would preclude the IRS from getting a larger civil penalty base but would preclude the taxpayer from getting a lower one (provided, of course, that the IRS meets its initial burden of showing fraud by clear and convincing evidence (a showing it can make by collateral estoppel from a criminal finding to that level of proof (i.e., guilt of tax evasion) or by actual evidence in the civil case).
Returning from this esoterica of collateral estoppel, the big picture you should remember about the civil fraud penalty is that it is a big penalty that attends tax criminal misconduct. The taxpayer can count on the fraud penalty being asserted if he or she is convicted. Similarly, as suggested, even if the taxpayer is acquitted, the IRS can and usually will assert the fraud penalty where it has recommended the taxpayer for prosecution even if ultimately not prosecuted or convicted. And, keep in mind that fraud not only controls application of the civil fraud penalty, but also will usually govern whether the statute of limitations after a criminal trial is still open.
Also, the theory of collateral estoppel is that it can apply to those in privity in the earlier litigation in which the fact was determined. However, the application of this principle to the tax fraud penalty appears limited in application.
I include elsewhere in these materials the DOJ Tax’s policy on resolving civil taxes, including the fraud penalty, in pleading to criminal charges.Finally, I offer the following from a working draft of a paper for publication (footnotes also omitted)
B. The Civil Tax Audit / Notice of Deficiency - the Civil Tax Number / Deficiency.
The IRS may also assert by audit the unpaid civil tax liability which, as noted above will exceed the amount of the restitution ordered by the Court. If the sentencing court did not include interest in restitution, the assessment will include the interest plus, even if the sentencing court did, will include further interest from the date of the restitution order. And, in all likelihood, penalties will be assessed on at least the restitution amount and perhaps some of the other portions of the tax ultimately assessed. The normal tax collection measures will then be available to the IRS to collect any portion of the unpaid assessments.
As noted above, the taxpayer is bound civilly by the amount of restitution determined in the criminal case. But, as noted, the IRS can assert more tax and penalty (with resulting interest) than was determined for restitution.
An issue that may arise is whether either party may be bound by other determinations made during the criminal process. For example, in the sentencing phase, the Court is required to make determinations of the tax loss. Is that preclusive? Of course, if the taxpayer has not paid any of the tax loss, the tax loss and the restitution may be in the same amount. But what if the taxpayer has, prior to sentencing, fully paid the tax and even the penalties that might apply? Can that taxpayer then assert that the IRS is bound by the tax loss determination? Can the IRS assert that the taxpayer is bound by the tax loss determination?
The traditional way to approach potential binding effects of previously litigated issues in this context is via the doctrine of collateral estoppel. In United States v. Montana, 464 U.S. 154, 158 (1984), the Supreme Court summarized the doctrine of collateral estoppel as follows: “once an issue is actually and necessarily determined by a court of competent jurisdiction, that determination is conclusive in subsequent suits based on a different cause of action involving a party to the prior litigation.” Courts have rejected taxpayer attempts to collaterally estop the IRS in subsequent civil cases as to the amount of the tax loss determined by the sentencing court. I think that makes sense. As noted above, the tax loss is not the same as the tax the taxpayer may owe. The tax loss is only the portion of the tax the taxpayer owed that is attributable to fraud. The taxpayer may owe more tax that is not attributable to fraud. The taxpayer should not get a benefit from the criminal prosecution of paying less tax than he owes. And, of course, in collateral estoppel analysis, the amount of tax the taxpayer owes was not litigated in the criminal proceeding.
Could the taxpayer make a more subtle argument that at least the tax loss should be preclusive under collateral estoppel as to the amount attributable to fraud for purposes of determining the civil fraud penalty under § 6663? The issue – tax evaded and the portion of the tax attributable to fraud – is the same issue. There are some subtle burden-shifting nuances that, in my opinion, are just not of sufficient weight to forego collateral estoppel on the issue of the portion of the tax attributable to fraud. While I hesitate to get too deeply into the burden of proof rules, I will try to summarize them to introduce them to readers.
At sentencing, the Court determines the amount of the tax loss – “the total amount of loss that was the object of the offense.” That is basically the same standard as the civil fraud standard in § 6663. At sentencing, the court determines the tax loss based on a preponderance of the evidence. In the civil case, the court determines civil fraud under a burden-shifting concept as follows: (i) the IRS must prove some portion of the deficiency is due to civil fraud by clear and convincing evidence and (ii) upon meeting that burden, the balance of the underpayment is deemed to be subject to fraud except to the extent that the taxpayer shows otherwise. Now, the finding of tax loss at sentencing should not be preclusive under collateral estoppel as to the first burden the IRS must meet in the civil case because the sentencing court was not required to make a determination that any portion of the tax loss was attributable to fraud by a preponderance of the evidence. In the civil case, the IRS should be required to prove by clear and convincing evidence that some portion of the tax deficiency is attributable to fraud. But, once it has done so, we focus on the burden-shift in clause (ii). The key difference is the theoretical one of who has the burden of persuasion as to the portion of the deficiency attributable to fraud. In the sentencing proceeding, the Government had the burden of persuasion to show the tax evaded; in the civil proceeding, the taxpayer has the burden of persuasion to show the part not attributable to fraud. Both burdens are based on a preponderance of the evidence – meaning that the allocation of the burden only affects outcomes where the trier of fact is in equipoise. According to astute observers of trial outcomes, it is not common that triers are in equipoise. Hence, I would argue that the tax loss should be preclusive as to the amount attributable to fraud for purposes of § 6663; the possibility that equipoise could affect the outcome is too inconsequential to justify relitigating the issue. In short, in the civil case, after the IRS has established some portion of the deficiency to be attributable to fraud, the portion that is then subject to the civil fraud penalty should be the amount of the sentencing tax loss determined for that year. Readers should be wary, though, that I cannot cite any authority for the reasoning and conclusion that I have just expounded.
Finally, a recent case has raised the prospect of another type of estoppel – judicial estoppel – that might apply to sentencing determinations. In that case, the taxpayer (in his role as defendant) and the prosecutors stipulated in a plea agreement that “the total tax liability, including interest and penalties, amounted to $448,776.13.” It is not clear what role that stipulation played in the sentencing. In any event, in the subsequent refund suit, the court said that the taxpayer was judicially estopped from claiming a lower amount. The Court reasoned that the taxpayer had clearly stipulated as to the amount, but cited no authority that such stipulations should be binding outside the proceeding at hand. The court then reasoned:
Moreover if Mirando was allowed to proceed in this action, he would gain an unfair advantage. By pleading guilty to tax evasion and specifically agreeing to a total tax liability of $448,776.13, Mirando avoided the possibility of a longer sentence and the United States agreed not to prosecute Mirando's ex-wife or two children. After obtaining this benefit from the United States, Mirando cannot turn around and sue the United States for a refund.
Plaintiff Mirando relies on United States v. Hammon [277 F. App'x 560 (6th Cir. 2008)] for its position that his refund claim is not barred by estoppel. In Hammon, the Sixth Circuit held that the defendant was not collaterally or judicially estopped from denying the accuracy of the government's assessments despite pleading guilty to tax evasion and agreeing to pay $2.39 million in restitution. However, the present case can be distinguished from Hammon. In Hammon, the plea agreement only stipulated that the defendant willfully attempted to evade taxes assessed by the government in "the amount of approximately $2.39 million." Since the plea agreement was ambiguous as to whether the defendant admitted that the $2.39 million assessment was correct, the defendant was not estopped from challenging the accuracy of the tax assessment. In contrast, Plaintiff Mirando specifically agreed in his 2007 plea agreement that "beyond a reasonable doubt ... [a]s of June 29, 2007, the total tax liability, including interest and penalties, amounted to $448,776.13." Consequently, Hammon is not controlling, and judicial estoppel prevents Mirando from bringing his refund claim.
I wonder whether the IRS would be bound by that stipulation.