The full bore application of the Flora full payment exception is troubling on these facts with very, very large § 6707 penalties. The IRS assessed a $24,745,026 penalty for the FLIP/OPIS shelter and a $135,487,056 penalty for the BLIPS shelter. The total was thus $160,232,026. The IRS did reduce the penalty by amounts paid by other co-promoters. The aggregate amount of that reduction was $96,820,667, leaving Larson liable for $63,411,359. (Co-promoters also might be liable for the unpaid balance.)
Larson made a partial payment of $1,432,735, hence his refund suit alleging a divisible tax as a basis for not paying all. The Court's basic analysis as to why the § 6707 penalty is not divisible is fairly straight-forward. I think the following discussion relating to the claims of hardship because of the amount of the penalty is interesting.
Indeed, at oral argument, Larson did not dispute that the failure to register a tax shelter was "only one act," or "one act per shelter," Tr. at 17:22-23; rather, Larson seeks to limit the applicability of the full-payment rule to his particular circumstances. In a due process challenge to the application of the full-payment rule, Larson argues that the full-payment rule violates "the Fifth Amendment where there is no alternative forum having jurisdiction over pre-payment challenges to such penalties and where an individual does not have the financial means to pay the penalties in full." Opp. Br. at 7. Foreclosed from review in Tax Court, Larson argues that because he cannot pay the penalty, and he cannot seek review for his claim without paying the penalty, the imposition of the full-payment rule violates his Fifth Amendment right to due process. n9
n9 Larson did not assert a Due Process claim in his Complaint, but he makes arguments based on the Due Process Clause in opposing the Government's motion to dismiss.
Larson argues that the Supreme Court in Flora I and Flora II never intended for the full-payment rule to apply in circumstances in which Tax Court review is unavailable and the challenged penalty amount is unaffordable to the taxpayer. Larson's reading of Flora I and Flora II strains to find due process arguments where none exists. In reviewing the legislative history of 26 U.S. § 1346(a)(1) and the legislative history that led to the creation of Tax Court, the Supreme Court noted that Congress created the Tax Court as a prepayment forum to ameliorate "the hardship of prelitigation payment." Flora I, 357 U.S. at 74, 75; Flora II, 362 U.S. at 158. But it is clear that Congress created the Tax Court out of legislative grace, not because it was a constitutionally-required response to the full payment rule. See Flora I, 357 U.S. at 75; Flora II, 362 U.S. at 158. Flora I and Flora II held that, in district court, a taxpayer must "pay first and litigate later," and Larson points to no authority that supports his argument that the unavailability of the Tax Court vitiates the full-payment rule in district court. Carving a "when Tax Court is unavailable" exception into the full-payment rule would subvert the full-payment rule's purpose in "promot[ing] the smooth functioning of [the tax litigation] system." See Flora II, 362 U.S. at 647. Although this Court is sympathetic to Larson's circumstances, this Court declines to recognize such an exception to well-settled jurisdictional limits.
Courts of appeals have also declined to carve a "hardship" exception to the full-payment rule for taxpayers foreclosed from Tax Court review. For example, the Seventh Circuit stated in Curry v. United States, 774 F.2d 852 (7th Cir. 1985), that the fact that the Flora taxpayer had a choice between the Tax Court and the district court, and the Curry plaintiffs did not have that choice was a distinction without a difference. 774 F.2d at 854 (citing Flora I, 357 U.S. at 75-76 ("[w]here the time to petition [the tax] court has expired, or where for some other reason a suit in the District Court seems more desirable, the requirement of full payment may in some instances work a hardship")). The Seventh Circuit noted that creating a hardship exception would be a task for Congress, not the courts, and that a hardship exception would undermine the full-payment rule's policy interests by "endanger[ing] the 'public purse' and disrupt[ng] the smooth functioning of the tax system." Id. at 855. The Federal Circuit similarly concluded that the argument that the full-payment rule does not apply where Tax Court lacks jurisdiction is an argument "without merit." Rocovich v. United States, 933 F.2d 991, 995 (Fed. Cir. 1991) (discussing review of section 6166 estate taxes). The Second Circuit also has acknowledged that the full-payment rule applies even though "taxpayers with patently meritorious refund claims can be tripped up procedurally and be left without a remedy." Forma, 42 F.3d at 763.
The Supreme Court specifically acknowledged that the full-payment rule "may in some instances work a hardship," but concluded that any amelioration of that hardship is for Congress, not the Courts. Flora I, 357 U.S. at 75-76; see also Curry, 774 F.2d at 854 (a hardship exception to the full-payment rule "is a matter for legislative, not judicial remedy."). Although full payment of Larson's challenged assessment may be prohibitively costly, courts have consistently rejected the argument that application of the full-payment rule deprives a taxpayer of "fundamental due process" in circumstances where the taxpayer is unable to pay the full amount. See Johnston v. Comm'r, 429 F.2d 804, 806 (6th Cir. 1970) ("While we appreciate that the payment of taxes as a precondition to sue for their return places a burden on the taxpayer, we do not believe that it is such as to deny him the fundamental processes of fairness required by the Fifth Amendment of the United States Constitution."); see also Pfaff, 2016 WL 915738, at *4 (plaintiff's argument that required prepayment of approximately $67.6 million violated his due process rights did not provide a basis for subject matter jurisdiction).
Because this Court concludes that Larson is required to pay the assessed penalties in full prior to bringing suit in federal district court, his tax-refund claim is DISMISSED for lack of subject matter jurisdiction. n10As an alternative, Larson made an interesting APA Claim. The Court rejected the claim because there was an adequate remedy other than the APA. That remedy is the refund remedy dealt with above. The Court said:
n10 Larson attempts to side-step the jurisdictional inquiry by arguing, "In order to determine whether this Court has jurisdiction, i.e. whether Mr. Larson has made a full payment, the Court must first decide whether the IRS properly computed the penalty." Opp. Br. at 3. According to Larson, the IRS incorrectly calculated the penalty assessment; because the IRS erroneously included the value of loan and loan premiums in the penalty calculation, the penalty was "inflated . . . from approximately $7 million to approximately $160 million." Compl. ¶¶ 10-11. If the penalty is $7 million, Larson argues, then he "has made full payment because his $1,432,735 payment, plus the $96,820,667 collected from the other co-promoters, would more than cover the assessment." Opp. Br. at 1.|
Larson's argument impermissibly conflates the merits of the challenged assessment with this Court's jurisdiction to review the assessment at all. Larson does not dispute that the amount of the IRS assessment is $160,232,026. Compl. ¶ 16. Before Larson may challenge the $160,232,026 assessment, he must make full payment of the challenged assessment. See Flora II, 362 U.S. at 177; see also Moorehead v. IRS., No. 88 CIV. 3083 (ELP), 1989 WL 46580, at *2 (S.D.N.Y. Apr. 24, 1989) (dismissing tax-refund suit where full payment of the assessment had not been made and rejecting plaintiffs' arguments that "go to the merits of their claim that the deficiency assessment . . . was incorrect."). Interpreting the full-payment rule in the manner in which Larson suggests would eviscerate the Supreme Court's mandate that a taxpayer must "pay first and litigate later." See Flora II, 362 U.S. at 168. Because this Court lacks jurisdiction to adjudicate Larson's claim, his request for jurisdictional discovery, see Opp. Br. at 3 and Tr. 25:8-21, is DENIED.
Congress created a statutory scheme through which Larson can seek refund and abatement of his section 6707 penalty. See 26 U.S.C. § 7422; 28 U.S.C § 1346. Larson's ability to seek relief through this statutory scheme forecloses judicial review via the APA for the same relief. * * * *
* * * * Larson attempts to avoid Flora's restriction of federal court jurisdiction by dressing up his tax-refund suit as an APA claim, but his APA claim "is a refund suit in everything but name." See Clark Cty., 2014 WL 5140004, at *9. This Court declines to participate in that masquerade.Finally, in support of his argument that, if the IRS will just divulge the information about its collections and collection efforts, it might be discovered that the IRS did miscalculate on the high side, so that with a proper calculation and credit for all collections, the payment he made might still meet the full payment rule. The basis for his claim for information was:
Larson's sole argument in support of his claim to compel information is that because section 6672 penalties, which also are imposed jointly and severally, are administered similarly to section 6707 penalties, the authorization in 26 U.S.C. § 6103(e)(9) for the disclosure of information about section 6672 penalties also is applicable to information about section 6707 penalties. Larson is correct that penalties under sections 6672 and 6707 are both imposed jointly and severally and that the IRS has "look[ed] to the cases decided under section 6672 for guidance in determining the rights and responsibilities of the parties in cases of joint and several liability for the section 6707 promoter penalty." Internal Revenue Service, 2003 WL 22205991. The IRS's analogy to section 6672 penalties, however, was made in the context of "how the promoter penalty under section 6707 is to be collected in the (fairly typical) case of multiple promoters of the same transaction." Id. The question of how to allocate and collect a penalty is different from the question of whether a taxpayer is entitled to require the IRS to disclose information; the fact that an analogy to section 6672 is helpful on the allocation question does not necessarily mean that the same analogy is helpful (or even correct) relative to the information-disclosure question.
Larson's citation to 26 U.S.C. § 6103(e)(9) as a basis for disclosure of section 6707 penalty information undercuts his own argument. Despite the "[g]eneral rule" that "[r]eturns and return information shall be confidential," 26 U.S.C. § 6103(a), Congress [*24] listed "[d]isclosure of certain information where more than 1 person [is] subject to penalty under section 6672" as a category for which "[d]isclosure to persons having material interest" was permissible. 26 U.S.C. § 6103(e)(9). If Congress had intended to allow for the disclosure of such information for section 6707 penalties, it easily could have done so. Congress, however, did not do so, and Larson has not pointed to any other statutory or legal authority for his requested relief. n16JAT Comments:
n16 At oral argument, Larson also cited 26 U.S.C. § 6103(h) as a basis for finding that disclosure of information was appropriate. Tr. at 59:19-21. That provision authorizes disclosure "to certain Federal officers and employees for purposes of tax administration," which does not apply to Larson's circumstances.
1. I think that the Court gives short shrift to a very serious issue. The holding is that the IRS can make an arbitrary and punitive assessment for a tax or penalty which does not permit the Tax Court prepayment remedy (or have one of the statutory partial payment relief provisions) and thereby preclude a taxpayer from litigating the merits.
2. I had a similar issue arise with respect to an assessment of state fuel excise tax that the taxpayer could not pay. My argument, as best I recall it now (from the mid-1990s) relied in significant part upon the holding in Commissioner v. Shapiro, 424 U.S. 614 (1976) and the resulting jeopardy assessment legislation that assured the taxpayer quick potential legislative relief in a situation where he would be shut out of an effective remedy. Although Shapiro involved an actual seizure and deprivation without the opportunity to litigate, the IRS's assessment of a tax or penalty puts its powerful collection tools in play that permit a seizure, not unlike that in Shapiro. I don't know what kind of allegations Larson made as to his ability to pay, but I would think that serious due process claims could be raised if indeed he clearly could not pay. Of course, I realize that the trajectory of the law may be against this, but it just does not seem right to me.
Addition on 1/9/17: Procedurally Taxing Blog has an excellent posting on the Larson case. Stephen Olsen, Additional Courts Hold Promoter Penalties Not Divisible For Refund Claim (Procedurally Taxing 1/9/17), here. Steven's entry refers back to a prior Procedurally Taxing blog entry by Keith Fogg, titled Another Flora Decision – Bad News for Tax Shelter Promoters Highlights Possible CDP Jurisdictional Issue (Procedurally Taxing Blog 9/15/15), here, discussing the Diversified case. Keith notes that the CDP route to litigating the merits of the underlying liability may be available, but cautions that a procedural misstep by filing an appeal to a proposed assessment before the assessment is actually made. One problem is that, if the taxpayer has actually had an Appeals hearing (whether in response to a notice of proposed assessment or a request for abatement), the CDP merits review is unavailable if the merits issue “the issue was raised and considered at a previous hearing under section 6320 or in any other previous administrative or judicial proceeding” and the taxpayer participated meaningfully. § 6330(c)(4)(A), here. However, I suggest that there may be an even more fundamental barrier to CDP merits review for penalties such as those in Larson. Section 6330(c)(2)(b) provides that, in a CDP hearing, the merits of the underlying liability may be contested in the CDP hearing (and thus the CDP Tax Court proceeding) only if the taxpayer did not receive a notice of deficiency or “did not otherwise have an opportunity to dispute such tax liability.” The Regulations § 301.6330-1(e), Q&A E2, here, provide that, in cases requiring a notice of deficiency, the opportunity for an appeals hearing (e.g., after a 30-day letter) is not considered “an opportunity to dispute such tax liability.” This preserves the taxpayer’s opportunity for a CDP hearing if the taxpayer does not file a petition in the Tax Court in response to a notice of deficiency. But, the implication is that, in a case not requiring a notice of deficiency (such as for example the Trust Fund Recovery Penaly ("TFRP") under § 6672, here, or the § 6707 penalty, here, in Larson), the opportunity for an appeals hearing whether exercised or not will preclude a CDP hearing and Tax Court proceeding on the merits of the liability. That seems to me the implication of the Tax Court cases denying CDP merits review for the TFRP. McClure v. Commissioner, T.C. Memo. 2008-136 (citing Lewis v. Commissioner, 128 T.C.48, 50-61 (2007)) (§ 6672 liability, Appeal requested); Solucorp, Ltd. v. Commissioner, T.C. Memo. 2013-118 (§ 6672 liability, no Appeal requested). As these cases noted, even though there is no prepayment judicial remedy after an Appeals hearing prior to or shortly after the TFRP assessment, that does not mean that the statute must be read to offer a CDP hearing and CDP judicial remedy.
3. I have written about Larson's earlier woes with the IRS (in addition to his criminal conviction). See Jeopardy Assessment and Levy on Fine Excess (Federal Tax Crimes Blog 7/14/11) here, discussing Larson v. United States, 2011 U.S. Dist. LEXIS 74319 (ND CA 2011), here. In that case, the IRS made a jeopardy assessment and jeopardy levy against Larson on a large tax refund he was otherwise due. According to opinion discussed in that blog: "Mr. Larson’s net worth exceeded $21 million in January 2000, but only a small fraction of that wealth is accounted for in the present assets he disclosed to the government * * *." I suspect that Larson has a credibility issue with the IRS and with at least the sentencing court in his criminal case and the judge in the jeopardy assessment and levy case. I don't know if the judge in the SD NY case questions his credibility, but the judge was clearly unimpressed with an argument for which, perhaps, someone might have some sympathy because of the amounts involved.