Court of Federal Claims Holds that Unlimited Civil Statute of Limitations Requires Taxpayer's Fraud (10/3/13)

BASR Partnership v. United States, 113 Fed. Cl. 181 (9/30/13 Filed; As Revised 10/29/13), here, the Court of Federal Claims (Judge Susan G. Braden), in a partnership TEFRA proceeding, held that Section 6501(c)(1), here, required the taxpayer's fraudulent intent in order for the unlimited statute of limitations to apply.  In so holding, the Court rejected the reasoning and holding of Allen v. Commissioner, 128 T.C. 37, 40 (2007), here and here., and of the Second Circuit in City Wide Transit, Inc. v. Commissioner, 709 F.3d 102 (2d Cir. 2013), here and here.  (Note:  I think the is Judge Braden's bottom-line holding, although one has to work through the TEFRA context and special Section 6229 rules to get there; see the TEFRA summary at the end of the blog.)

In BASR, the partnership reported a fraudulent tax shelter item that, under the partnership reporting rules found its way to the ultimate taxpayer's returns in a way that was less visible to the IRS.  Apparently in order to test the legal position that Section 6501(c)(1) applied at the partnership level solely by virtue of the return finding its way to individual taxpayer's return, the IRS did not urge that the taxpayers signing the ultimate returns had the required fraudulent intent.  Hence, the only issue was whether the reporting of a fraudulent item on the ultimate taxpayers' returns was alone sufficient to invoke Section 6501(c)(1).

The statutory text at issue is as follows (Section 6501(c)(1)):

(1) False return. -- In the case of a false or fraudulent return with the intent to evade tax, the tax may be assessed, or a proceeding in court for collection of such tax may be begun without assessment, at any time.

Textually, there is no requirement that the requisite intent be the taxpayer's intent.  Read literally, therefore, fraud on the return will invoke Section 6501(c)(1).  Essentially, that is the holding of the Judge Kroupa in Allen.  Judge Kroupa in Allen just could not find any other persuasive interpretive sources that could permit her to say that the statute should be read to limit the "intent" to the taxpayer's intent.

A literalist or strict constructionist such as Justice Scalia would, I project, have reached the same conclusion as Tax Court Judge Kroupa.  The statute appears plain on its face and contains no explicit or implicit ambiguity regarding who must be the author of the fraud that is on the return.

The question is whether there are other sources for interpretation that would permit a court to hold that a limitation that it be the taxpayer's fraudulent intent can be read into the text (meaning, I supposed, that the text is not so plain when the other sources are consulted).  When and how courts undertake such an extra-textual inquiry is a broad subject in the law, so I cannot do little more than say that it is undertaken if the reviewing court finds the text itself not to be plain.  It all depends upon what plain is.  That is the process that Judge Braden undertook.

Judge Braden started her analysis with Section 6501(a) which states the general rule that the assessment statute of limitations is three years from the date the return is filed.  Judge Braden noted the following text in Section 6501(a) that the return in question is  "the return to be filed by the taxpayer (and does not include a return of any person from whom the taxpayer received an item of income gain, loss, deduction, or credit)."  In other words, for example, a partnership return does not affect the application of Section 6501(a) to the partner's return even though the partner reports partnership items.  That is an unstartling proposition.

Judge Braden then takes an interpretive leap:

Because the language of 6501(a) is expressly limited to a return filed by the "taxpayer," the fraudulent intent referenced in I.R.C. § 6501(c) is by implication limited to fraud by the taxpayer. As such, the IRS is bound by the standard three-year limitations period in I.R.C. § 6501(a), unless the taxpayer possesses fraudulent intent, or unless I.R.C. § 6229 applies. 

The premise (i.e., that the return in question must be the return filed by the taxpayer) does not support the conclusion (the fraud must be the taxpayer's fraud).  That is simply a leap of faith.  (Perhaps a leap of faith that proves the old saw that the Court of Federal Claims will render decisions in aid of jurisdiction -- i.e., render taxpayer friendly-decisions to encourage business because otherwise taxpayers would not bring their tax business to that court.)

Judge Braden does try to "support" its leap with the legislative history:

Moreover, the legislative history of I.R.C. 6501(c)(1) supports the view that it is the taxpayer who must have "the intent to evade tax," because the text of I.R.C. § 6501(c)(1) is the same as the "false or fraudulent with intent to evade the tax" language found in the Revenue Act of 1918, § 250(b), (d), 40 Stat. 1057, 1083 (1919). Pl. Reply at 10 (stating that the taxpayer is not liable for a penalty, "if the return is made in good faith and the understatement of the amount in the return is not due to any fault of the taxpayer" (quoting section 250(b), 40 Stat. at 1083)). In addition, "false or fraudulent with intent to evade the tax" had the same meaning in Revenue Act section 250(d), the predecessor to I.R.C. § 6501(c).

Essentially, as I gather it, Judge Braden reviews the legislative history of Section 6663, the civil fraud penalty. Section 6663 is here. Section 6663 currently imposes the civil fraud penalty when "any part of any underpayment of tax required to be shown on a return is due to fraud."  Like Section 6501(c)(1), it too has no explicit statutory requirement that the taxpayer's fraud be involved.  But, being a penalty section, it has always been interpreted to require taxpayer culpability.  The statute of limitations is, however, not a penalty provision and certainly need not be interpreted with the same concerns as Section 6663 or its legislative history.  Thus, it is another leap of faith for Judge Braden to conclude that ""false or fraudulent with intent to evade the tax" had the same meaning in Revenue Act section 250(d), the predecessor to I.R.C. § 6501(c)."  That just begs the question of what was the proper interpretation of that language under the prior Codes and Revenue Acts related to unlimited statute of limitations for fraudulent returns.

I could spend more time and words analyzing the Court's decision but I think that is pretty much the guts of the holding and the deficiency I perceive in the holding.

I will just spend some time briefly on some issues as to the TEFRA posture of the proceeding and how, in a TEFRA proceeding, the partner level statute of limitations was relevant.  There are special TEFRA partnership limitations periods provided in Section 6229, here.  The limitations periods in Section 6229, however, are minimum statutes of limitations for partnership proceedings.  The courts have held that TEFRA proceedings may be pursued even outside the special TEFRA partnership limitations periods as to any partner whose statute of limitations remains open.  So, there was a drill-down to the partner level to determine whether the partner's statute of limitations was open.  That is what required Judge Braden to encounter and interpret Section 6501(c)(1).  Had Judge Braden interpreted Section 6501(c)(1) as did the Tax Court in Allen and the Second Circuit in City Wide, the statute of limitations would have remained open.  (OK, I know Judge Braden interpreted City Wide as to require a factual inquiry as to the relationship of the fraud in question to the fraudulent reporting, but that is a nexus easily made in this case and a nexus not even required by Allen, so long as the fraudulent item is reported on the return.)

Let me say finally that I don't have a clue how this issue will be finally resolved.  I could speculate.  But one thing I know is that my speculation would be useless information for readers (and even for me).  So I won't speculate.  But I do know that there is potentially major tax revenue riding on the resolution of that issue.

Addendum 10/4/13 7:00 pm:

For readers interested in other nuance related to the case, see Leslie Book's excellent blog entry on the case at Court of Federal Claims Holds that Agent’s Fraud Does Not Extend Statute of Limitations (Procedurally Taxing 10/4/13), here.