Problems with Restitution Based Assessment in Excess of Amount Due (2/3/18)

In Choi v. United States, 2018 U.S. Dist. LEXIS 14393 (D. Md. 2018), here, the Court rejected an attempt by a defendant convicted of tax evasion to reduce the amount of restitution based on a subsequent resolution of the underlying liability with IRS Appeals that, on its face to me at least, indicates that the restitution amount was grossly overstated.  There is a lot to unpack there.  At the outset, I offer the following additional documents that I pulled from Pacer:

• The defendant's memorandum in support of the 28 USC § 2255 motion, here, whereby the defendant sought to invoke the Court's authority to reduce the restitution award and the resulting tax assessment under § 6201(a)(4).
• The U.S. Response, here, and Exhibit 1, here, to the Response (a Memo from Appeals)
• The docket entries as of yesterday, here.  Note that there are many extensions for the U.S. response, as the views of IRS CI and IRS Appeals were sought (this is noted in the U.S. response linked above).

The basic problem is that, once the criminal judgment becomes final, there appears to be no way to reduce the restitution award even if it exceeds the subsequently determined real loss to the victim (here the IRS).  Bottom line, that is what the Choi court held, although in any event the procedural device Choi used - the 28 USC § 2255 motion was not the proper procedure in any event.

The basic facts as narrated by the Court are (I eliminate the record references for easier readability):

On March 30, 2012, Petitioner Choi pled guilty in this Court to one count of tax evasion in violation of 26 U.S.C. § 7201. In his plea agreement, he agreed that the corporate tax returns that he filed for his business, Frankford Garden Liquors, for the years 2006 through 2009 "each understate the amount of the corporation's taxable gross receipts by more than $300,000." Further, he acknowledged that he understated his corporation's income to evade paying taxes. The plea agreement, however, did not state an agreed amount of taxes due and owing as a result of Choi's undereporting. Rather, the plea agreement laid out the Internal Revenue Service's (IRS) calculation of the taxes due and owing for the years 2006 through 2009. By the time of Choi's sentencing, however, both parties told this Court that they agreed to the IRS's calculation of tax loss and the imposition of a restitution order in the amount of $739,253.98 representing the taxes he owed for the years 2006 through 2009. This Court subsequently sentenced Choi to eighteen months incarceration, six months home detention, and three years supervised release. Additionally, this Court ordered a payment of $100.00 in special assessment, a $20,000.00 fine, and $739,253.98 in resitution. 

After his sentencing, Choi challenged the amount of taxes owed by his company in a civil action with the IRS Office of Appeals. In December of 2013, Petitioner was released from prison after serving his eighteen month term. Around January of 2016, Choi negotiated a settlement through the IRS Office of Appeals for total amount of $132,991.00.1

Now, to drill down a bit on that, we need to understand the role of "tax loss" for calculating the Sentencing Guidelines advisory sentencing range and restitution.  The relevant Guidelines are in §2T1.1, here.  For economic crimes, such as tax crimes, the opening calculation, called the Base Offense Level, is the seriousness of the crime based on the dollar amount involved.  The dollar amount for tax crimes is the tax loss.  "[T]he tax loss is the total amount of loss that was the object of the offense." §2T1.1(c).  "[T]he definition of tax loss corresponds to what is commonly called the "criminal figures."  Id., Application Note 1.  Criminal figures is a term of art used by criminal tax professionals not otherwise described in the Guidelines.  Basically, in a tax evasion case it is the amount of evaded tax.  The same concept of evaded tax is an element of the crime of tax evasion but is used in the Sentencing Guidelines as the "tax loss." (I develop this subject at the bottom of this blog entry with links to earlier blogs.  For now the tax loss is the tax evaded rather than the tax deficiency (which, as noted. may include components for which there was no intent to evade.)

A separate sentencing concept is restitution.  See generally S.G. §5E1.1, here.  Restitution is the harm to the victim.  For federal crimes related to taxes, the victim is the IRS or the United States fisc.  (Normally Title 26 crimes do not permit restitution, but may if the defendant agrees in the plea or is imposed as a condition of some benefit given the defendant.)  Restitution is not the same amount as the tax loss.  For example, by the time of sentencing, the defendant may have paid all or some of the tax evaded in which case restitution is the net amount then owed but unpaid. For example, say the defendant attempted to evade $100,000 but before sentencing paid $25,000 toward the liability, technically the restitution amount is $75,000 because that is the amount the victim (IRS) has suffered and needs compensation.  (I am not sure that this always plays out with a net restitution amount of $75,000 or a gross restitution amount of $100,000 with a $25,000 credit then being given.)  More importantly for present purposes, the tax loss conceptualized as the amount the defendant intended to evade (as the Guidelines require) does not include unclaimed deductions that would lower the tax loss  unless those unclaimed credits or deductions "related to the tax offense."  S.G. §2T1.1, Application Note 3.  In other words, unclaimed deductions and credits unrelated to the tax or tax related offense of conviction do not reduce the tax loss although they do reduce the real amount the defendant owes the IRS.  This means that the tax loss amount may be more than the tax actually due. Restitution should be only the amount the taxpayer really owed because that is the amount that the victim (the IRS) was really owed.

Under legislation adopted in 2010, previously discussed on this blog (see links at the end of this blog), under § 6201(a)(4), here, the IRS must assess the restitution amount as a tax and the taxpayer may not contest that assessment.  As I have previously noted, this can create serious problems if the amount of the restitution overstates the real tax due.  (I have some links at the end of this blog to some blog entries on that issue.)  This appears to be the problem addressed in Choi.

In Choi, the parties stipulated at sentencing to the following tax loss computations (including state income and sales tax evaded which are included in the tax loss):  $739,253.98 in the aggregate for the years involved.  The portion of that aggregate figure representing federal income tax evade was $533,208.77.  That amount was assessed under § 6201(a)(4).  Now, after that restitution based assessment (often called RBA), the IRS has the right to further audit.  Often this is done if the IRS has some basis to expend audit resources to determine whether an additional tax is due beyond the RBA or it wants to assess interest on the amount of the RBA which does not include interest.  The IRS audited that in Choi and, in the audit determinations, the agent adopted the federal tax figures in the RBA. (The audit proposal was tax of $536,497.61, about $3,000 difference from the restitution amount, but that appeared not to be an issue.)  Choi took the issue to Appeals.  Appeals then resolved the case by determining that the tax for the years involved was $132,506.61, rather than the RBA amount of $533,208.77.  That resolution did not reflect inability to pay but was solely a resolution based on the litigating hazards standard.  Basically, the litigating hazards standard reflects the Appeals Office's best judgment of the result that would be obtained, handicapped for risks of litigation, if the case were fully litigated.  It may be a "settlement" in the sense that it resolves the matter on the litigating hazards, but if those hazards are properly handicapped it may be viewed as the amount of the tax liability the taxpayer owes.

Not surprisingly, Choi wanted relief from what he viewed -- and I view on the case as presented -- an excess RBA.  The RBA statutes prevent Choi from attacking the RBA and appear to prevent the IRS from unilaterally giving relief even if the IRS thinks the RBA excessive.  Relief has to come from the district court by reducing the restitution order.  There is no direct way to request reduction, so Choi launched his attempt to reduce the restitution order under 28 USC § 2255 under the argument that he received ineffective assistance of counsel in not addressing this issue before restitution was ordered.

The Court held that § 2255 could not be used to modify an otherwise final restitution order.  Indeed, the law appears to be that, even if in imposing restitution, the parties and the court assumed it could later modify the restitution amount downward, it cannot do so.  See United States v. Cooper (N.D. TX 3:01-CR-231-D 8/6/14), here (involving a third party victim who agreed to accept less than the restitution amount), here.  Further, the Court held that Choi was not entitled to relief because (i) he indicated at sentencing that he was satisfied with counsel and (ii) in any event, the Appeals Office resolution was a "settlement."  See also Cooper.  The Choi Court reasoned:

Second, Choi relies on the IRS Office of Appeals settlement amount to argue that his counsel should have proven that the total loss was equal to the settlement amount and, therefore, his restitution should be consistent with those numbers. (ECF No. 28-1 at 7-8.) The Government argues that the "IRS Appeals' willingness to settle on a particular figure . . . should not be taken as an agreement that the compromise figure was correct and the figure calculated in the criminal case was incorrect." (ECF No. 44 at 5.) A memorandum from the Acting Director of Appeals Policy explains:
In an appeal of a civil tax examination following the close of a criminal case, Appeals considers the civil tax liability without reference to the restitution ordered by the federal district court and may determine that the taxpayer's civil tax liability differs from the amount ordered as restitution.
. . .
Because the assessment of restitution under section 6201(a)(4) of the Internal Revenue Code ("restitution-based assessment") is not itself a determination of the actual civil tax liability for the tax period for which restitution was ordered, and is assessed only "as if such amount were a tax" (emphasis added), the IRS does not treat the amount of restitution as either the minimum or the maximum tax liability for the relevant tax period.
. . .
In this case, Appeals reached a settlement taking into account hazards of litigation, which is within its authority to settle cases independent of the IRS Examination function. The fact that the settlement reduced the tax liability to an amount less than the restitution ordered by the court does not affect the finality of the restitution order, and should not allow the taxpayer to challenge or modify the order.
(ECF No. 44-1.) Throughout his petition, Choi continually states that these settlements were the result of the IRS Court of Appeals consideration of "previously unclaimed business deductions" and "additional expenses not previously considered." (ECF No. 28-1 at 6; ECF No. 46 at 3.) Despite these assertions, nowhere on the record does Choi provide evidence of these "previously unclaimed business deductions" or "additional expenses not previously considered." Nor does the record indicate that the IRS Court of Appeals made a finding that the calculation of the tax owed in the criminal case was incorrect. Instead, the Director of the Appeals Policy explicitly stated that the settlement amount is not a determination of actual civil tax liability for the period in which restitution was ordered. (ECF No. 44-1.) Accordingly, even if Petitioner could challenge his restitution order in a § 2255 Motion, he has not shown that the restitution owed was incorrect, and his Motion to Vacate, Set Aside, or Correct Sentence (ECF No. 28) is DENIED.

The Choi court does fall back on failure of Choi to proved the unclaimed deductions and expenses in the § 2255 proceeding, but it seems fairly evident to me that he had proved something sufficiently to Appeals in order for it to accept a liability of far less than the restitution amount.  And, I think the Court fundamentally misperceives the litigation of hazards standard that Appeals applied to determine the lesser liability.  (That notion was from the IRS Appeals memo, Exhibit 1 linked above and the Government's argument in its response.)  The hazards of litigation hazards standard is a proxy for the result that the taxpayer would achieve if he litigated.  If the taxpayer litigates and achieves that result, that is his liability, regardless of what may have been determined and incorporated in a restitution order (unless that restitution order were to estop the defendant from litigating the issue of liability).  Plainly, if the IRS resolution reflects the litigating hazards and thus quantifies the liability, that is the liability and this defendant has been screwed.  (Please note that that is my conclusion; Appeals, the prosecutor and the Court appear to view it differently.)

I wonder though, if and when Choi pays the RBA in excess of what the IRS knows he owed, the IRS has the authority to refund the excess because it knows it has funds it is not entitled to except for the excessive RBA.  My hunch is that it may not without some creative exercise of authority.  And, in any event, the excessive RBA will remain outstanding and have some potential detrimental effects (application of refunds, filing of tax liens, etc.) even if the IRS were to exercise discretion not to formally force payment.  Bummer

And, of course, this should be a reminder to counsel to work the numbers hard at the earliest stages of a criminal tax investigation or prosecution.  The first thing I do is to engage a forensic accountant under a Kovel agreement to work the numbers.  Getting the lowest possible numbers can sometimes avoid a prosecution referral altogether but will in any event lower the criminal figures the IRS presented to DOJ Tax and, in turn, DOJ Tax asserts in the prosecution, particularly at sentencing.  And, focusing on the Choi issue itself, it is critical to distinguish between tax loss and restitution actual loss to the victim (IRS) as was the case here.  That issue must be addressed at least by sentencing.


Some Prior Blogs on Restitution In Excessive of Tax Due and Related Issues:

• More on the Relationship Between Tax Liability and Tax Restitution Assessed as a Tax (Federal Tax Crimes Blog 10/25/13), here.
• What Can Be Done If Tax Restitution Exceeds the Tax Due (Federal Tax Crimes Blog 9/2/13), here.
• Tax Restitution and Doubt As to Amount (Federal Tax Crimes Blog 7/10/13), here.
• Can Restitution Be Reduced by Payments on the Tax Liability Subject to Restitution? (Federal Tax Crimes Blog 10/26/13), here.
• Restitution Permits Double Assessments But Only One Collection (Federal Tax Crimes Blog 5/21/17), here.

Blogs and Article on the Distinction Between Tax Deficiency and Tax evaded as Element of Tax Evasion Crime

• Daugerdas Retrial Jury Instructions - Part 07 Tax Evasion Instructions Part 3 Tax Evaded (Federal Tax Crimes Blog 11/25/13) here.
• Is the Spies Element for Evasion (i) Tax Deficiency or (ii) the Criminal Tax Number? (9/17/13), here.
• John A. Townsend, Criminal Tax Sentencing: Fairness and Deterrence: Tax Evaded in the Federal Tax Crimes Sentencing Process and Beyond, 59 Vill. L. Rev. 599 (2014), here