Moulton v. United States

United States Court of Appeals
For the First Circuit

No. 04-2426

CECIL J. MOULTON,

Plaintiff/Counterclaim Defendant, Appellant,

v.

UNITED STATES OF AMERICA,

Defendant/Counterclaim Plaintiff, Appellee,

v.

GREGORY PRATT,

Counterclaim Defendant, Appellant.

APPEAL FROM THE UNITED STATES DISTRICT COURT
FOR THE DISTRICT OF MASSACHUSETTS
[Hon. Patti B. Saris, U.S. District Judge]

Before

Lynch, Circuit Judge,
Stahl, Senior Circuit Judge,
and Lipez, Circuit Judge.

Paul J. Dee, Jr., with whom Michael S. Marino and
Truelove, Dee & Chase LLP were on brief, for appellants.
Teresa E. McLaughlin, Attorney, Tax Division, Department
of Justice, with whom Robert J. Branman, Attorney, Tax Division,
Department of Justice, Eileen J. O'Connor, Assistant Attorney
General, and Michael J. Sullivan, United States Attorney, of
counsel, were on brief, for appellee.

November 21, 2005
 LYNCH, Circuit Judge. The issue in this case is whether

the district court abused its discretion in denying an award under

26 U.S.C. § 7430 of attorneys' fees and costs to two taxpayers,

Cecil J. Moulton and Gregory Pratt, one of whom initiated the

underlying lawsuit in this case. The United States (the IRS) would

be liable for such sums if it were not substantially justified in

its earlier tax assessments, and in the underlying lawsuit in

asserting counterclaims, against the two men as "responsible

persons" liable under 26 U.S.C. § 6672 for the unpaid federal

withholding taxes of a company with which they had been involved.

Moulton and Pratt were shareholders and officers of a

company which failed to pay withheld income and FICA taxes for five

quarters. The government succeeded in holding them responsible for

only one of the quarters; Moulton and Pratt won on the other four

quarters. Moulton and Pratt then sought their fees and costs for

defense on those quarters. Several of their arguments rest on a

fundamental misreading of the standards set by this court for

"responsible person" liability, and more particularly on a

misreading of Vinick v. Commissioner, 110 F.3d 168 (1st Cir. 1997)

("Vinick I") and Vinick v. United States, 205 F.3d 1 (1st Cir.

2000) ("Vinick II"). We clarify and affirm.

I. Background

William Glick founded B.G. Enterprises, Inc. in 1993.

The company, which did business as Spectrum Thin Films, made

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specialized coatings for computer chips, glass, and auto trims.

The company did not survive for long, and its assets were sold in

1997.

Glick recruited Cecil Moulton, Gregory Pratt, and two

others to invest in his company. From January 1994 through

November 1996, the Board of Directors, which met monthly, consisted

of these five stockholders.

Among them, the shareholders and directors held a variety

of offices. From April 1993 through December 1996, Glick was the

President and Chief Executive Officer of B.G. He was also the

Chairman of the Board until November 1994, when Pratt succeeded to

that position.1 Pratt had become Vice President earlier in 1994,

after Glick had a heart attack. Moulton was B.G.'s Treasurer and

Secretary.

By 1995, if not earlier, B.G. began to have difficulty

paying its taxes. It negotiated a payment plan with the IRS, but

even with that modified schedule, it began to fall behind in

October 1995. B.G. entered a tailspin, accumulating large debts.

The Board employed a variety of unsuccessful measures, which we do

not detail here, and Glick quit as President and CEO. Eventually

the company wound down. Its assets were sold in March 1997, and

the proceeds went to Pratt, leaving B.G. with at least one unpaid

1
Pratt remained in the position of Chairman through March
1997.

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creditor: the United States government. All told, the company had

failed to pay withheld income and FICA taxes for the last quarter

of 1995 and all four quarters of 1996.

In late 1999, the government assessed the unpaid taxes

against Moulton, Pratt, and Glick as "responsible persons,"

pursuant to 26 U.S.C. § 6672. It assessed all three of the men for

all four quarters of 1996, and it assessed Pratt and Glick for the

last quarter of 1995 as well.2 Moulton and Pratt contested

liability, pointing the finger at Glick instead. Moulton paid just

over $100 to the IRS and, in February 2001, filed administrative

claims for a refund and requests for abatement. When the IRS had

not taken any action on his refund and abatement claims by October,

Moulton filed suit in the district court. The government

counterclaimed, seeking the amount still unpaid on Moulton's

assessment for 1996 -- over $24,000. It also impleaded Pratt and

Glick as counterclaim defendants, seeking the amount that remained

unpaid on the assessments against them -- over $31,000 each, as the

two had been assessed for the last quarter of 1995 in addition to

all of 1996.3

The district court held a bench trial on November 10 and

13, 2003. On December 8, it issued a Memorandum and Order

2
Moulton was also originally assessed for the last quarter of
1995, but the IRS abated that assessment in full.
3
Glick defaulted.

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concluding that "Moulton and Pratt exercised significant control

over the financial affairs of B.G. in the fourth quarter of 1996,

and are responsible persons under the totality of the circumstances

for that quarter." The court also concluded that "[w]ith respect

to the earlier quarters, the evidence does not support the

government's claim that they were engaged in day-to-day

management." Citing Vinick I and Vinick II, the court stated that

"[o]ccasional involvement in business affairs is insufficient to

create liability" and emphasized that even though Moulton and Pratt

both had check-writing authority for some quarters during 1994 and

1995, "no taxes were overdue in those quarters." The court stated

that "[t]here is scant to no evidence of actual exercise of control

in 1995 or the first two tax periods of 1996." It acknowledged

that there was "some evidence of an increasing role in financial

management in the third quarter [of 1996]," but not enough to

persuade it that Moulton and Pratt "could have paid the taxes at

that time." The court ordered entry of judgment in favor of the

government for the fourth quarter of 1996.

On March 9, 2004, Moulton and Pratt moved under 26 U.S.C.

§ 7430 for an award of their reasonable litigation costs.4 On

March 29, the district court denied this motion. The order stated,

4
The statute defines "reasonable litigation costs" to include
"court costs," "expenses of expert witnesses," and attorneys' fees,
provided all of these expenditures are reasonable. 26 U.S.C.
§ 7430(c)(1).

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in its entirety: "Denied as premature. In addition, [Moulton and

Pratt] were not prevailing parties for one quarter and the

government had a reasonable basis for the action."

On April 20, the court entered judgment. On July 19,

2004, after entry of judgment, Moulton and Pratt again filed a

motion for an award of litigation costs under 26 U.S.C. § 7430.5

They fared no better than they had before. The district court

denied the motion on August 13, 2004. Its order was succinct: "The

government's position was substantially justified. This was a

close case." Moulton and Pratt now appeal from this order denying

the application under § 7430.6

II. Discussion

We review for abuse of discretion the district court's

determination that a taxpayer is or is not entitled to costs under

26 U.S.C. § 7430. See Jean v. United States, 396 F.3d 449, 453

(1st Cir. 2005).

Under § 7430, reasonable administrative and litigation

costs, including attorneys' fees, "may be awarded" to the

"prevailing party" in any proceeding involving "the determination,

collection, or refund of any tax, interest, or penalty" under the

5
They sought four-fifths of their attorneys' fees,
representing the fractional amount as to which they had succeeded
at trial.
6
Neither side appeals from the underlying determination of
responsibility for one but not all of the quarters in question.

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Internal Revenue Code. 26 U.S.C. § 7430(a). Under

§ 7430(c)(4)(A), a "prevailing party" is defined as any party who

has "substantially prevailed with respect to the amount in

controversy" or "the most significant issue or set of issues

presented."

There is a key exception which poses the issue here: "A

party shall not be treated as the prevailing party . . . if the

United States establishes that the position of the United States in

the proceeding was substantially justified." Id.

§ 7430(c)(4)(B)(i). The government's "position . . . is

substantially justified if it has a reasonable basis in both law

and fact, a determination made on a case by case basis." Jean, 396

F.3d at 455 (omission in original) (quoting United States v.

Bisbee, 245 F.3d 1001, 1007 (8th Cir. 2001)).

Moulton and Pratt argue on appeal that the government's

position that they were responsible for B.G.'s tax debts during the

first four quarters in question was not substantially justified.

Their argument rests, in part, on a misunderstanding of two aspects

of this circuit's law on responsible person liability.

A. Standard for Liability as a "Responsible Person"

"The Internal Revenue Code ('Code') requires employers to

withhold federal social security and income taxes from the wages of

their employees and to remit the amounts withheld to the United

States." Stuart v. United States, 337 F.3d 31, 35 (1st Cir. 2003)

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(citing 26 U.S.C. §§ 3102(a), 3402(b)). The amounts withheld are

held in trust for the United States; the employer must report the

amounts quarterly, and "is liable for them from the time the wages

are paid." Thomsen v. United States, 887 F.2d 12, 14 (1st Cir.

1989) (citing 26 U.S.C. § 7501). Further, the Code "imposes

personal liability not only upon employers but upon their officers

and agents who are responsible for collecting, accounting for, and

paying over to the government the taxes withheld." Id. The

provision for personal liability is set forth in 26 U.S.C. § 6672,

which states, in part:

Any person required to collect, truthfully
account for, and pay over any tax imposed by
this title who willfully fails to collect such
tax, or truthfully account for and pay over
such tax, or willfully attempts in any manner
to evade or defeat any such tax or the payment
thereof, shall, in addition to other penalties
provided by law, be liable to a penalty equal
to the total amount of the tax evaded, or not
collected, or not accounted for and paid over.

Id. § 6672(a).7

Moulton and Pratt argue that the government's

counterclaim alleging that they were responsible persons (for the

quarters as to which they were held not liable) was not

substantially justified. One of their primary arguments is that to

be deemed responsible, a person must have actually exercised -- and

not simply possessed -- authority to pay creditors. This theory

7
Moulton and Pratt stipulated that if they were "responsible
persons," their failure to collect and pay over taxes was willful.

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rests on a misreading of a phrase, plucked out of context, from

Vinick II. The passage in Vinick II on which Moulton and Pratt

rely stated that "[a]bsent a finding that [the taxpayer] possessed

actual, exercised authority over the company's financial matters,

including the duty and power to determine which creditors to pay,

as a matter of law [the taxpayer] cannot be a responsible person."

205 F.3d at 15. Moulton and Pratt argue that Vinick II changed the

law of this circuit, which previously had not adopted "actual

exercise" as a requirement. They claim that "the United States

deliberately ignored the 'exercised authority' standard in Vinick,"

which replaced "the First Circuit's standard prior to Vinick." Not

so. Vinick II itself repeatedly cited, and adhered to, the

standards set in our earlier cases -- Vinick I, 110 F.3d 168;

Thomsen, 887 F.2d 12; Caterino v. United States, 794 F.2d 1 (1st

Cir. 1986); and Harrington v. United States, 504 F.2d 1306 (1st

Cir. 1974). See Vinick II, 205 F.3d 1 passim.

A series of decisions before and after Vinick II, and

indeed Vinick II itself, have made clear that "[t]he controlling

inquiry in determining whether the taxpayer should be held

'responsible' is whether the person possessed sufficient control

over corporate affairs to avoid the default." Stuart, 337 F.3d at

36 (citing Vinick I, 110 F.3d at 172). "Courts have explicitly

given the word 'responsible' a broad interpretation." Caterino,

794 F.2d at 5. Elaborating on the many factors pertinent to this

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inquiry, this court has cited various "[i]ndicia of

responsibility," including "the holding of corporate office,

control over financial affairs, the authority to disburse corporate

funds, stock ownership, and the ability to hire and fire

employees." Thomsen, 887 F.2d at 16 (citations omitted); see also

Stuart, 337 F.3d at 36 (same).

More to the point, it has long been the law in this

circuit that "delegation will not relieve one of responsibility;

liability attaches to all those under the duty set forth in the

statute." Harrington, 504 F.2d at 1311. This principle was

reiterated in Thomsen, which stated that the fact that the

taxpayer's business partner "agreed to accept full responsibility

for managing the company's financial affairs did not render [the

taxpayer] any the less responsible to pay withheld taxes to the

government." 887 F.2d at 17. Vinick II followed the holdings of

Thomsen and Harrington. See Vinick II, 205 F.3d at 4, 8, 11, 13.

Indeed, Vinick II stated quite clearly that the "crucial

inquiry is whether the person had the 'effective power' to pay the

taxes -- that is, whether he had the actual authority or ability,

in view of his status within the corporation, to pay the taxes

owed," id. at 8 (emphasis added) (quoting Barnett v. IRS, 988 F.2d

1449, 1454 (5th Cir. 1993)), and the decision set forth a multi-

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factor test8 which did not require actual exercise of authority as

a sine qua non. See id. at 7. As we said in Lubetzky v. United

States, 393 F.3d 76 (1st Cir. 2004):

[T]he case law criteria . . . provide a
framework. These indicia are said to include
whether the defendant is a member of the board
or an officer, has a stake in the company, is
active in management and personnel decisions,
makes decisions as to payment of bills,
controls bank accounts, and has check-signing
authority. Vinick II also said of this list
that corporate title is not decisive, and that
the last three criteria are particularly
important.

Id. at 80 (citations omitted) (citing Vinick II, 205 F.3d at 7-9).

Vinick II nevertheless left open the possibility that a person who

did not exercise authority but, for example, had actual authority

and delegated or ignored it, could be found liable under the

statute.

The language in Vinick II that Moulton and Pratt misread

simply refers back to specific facts in that case. Taken in

8
Vinick II stated that "[t]he inquiry focuses on whether the
individual":
(1) is an officer or member of the board of
directors, (2) owns shares or possesses an
entrepreneurial stake in the company, (3) is
active in the management of day-to-day affairs
of the company, (4) has the ability to hire
and fire employees, (5) makes decisions
regarding which, when and in what order
outstanding debts or taxes will be paid, (6)
exercises control over daily bank accounts and
disbursement records, and (7) has check-
signing authority.
205 F.3d at 7 (quoting Fiataruolo v. United States, 8 F.3d 930, 939
(2d Cir. 1993)).

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context, the language simply cannot be read as saying that a person

must have exercised a particular form of authority to be held

responsible. See id. (citing Vinick II for the proposition that

the "responsible person" inquiry is governed by a "laundry list of

criteria" tied to a "concept of power or control").

B. Limitation on Facts That May Be Used to Prove Liability

Moulton and Pratt misunderstand not only the legal

framework under which taxpayers may be held liable, but also the

evidence to which the government may point -- and to which the

district court may give consideration. Citing Vinick I and Vinick

II, they argue that this court has, "on more than one occasion,

limited this entire [§ 6672] analysis to a period-by-period

review." Their argument suggests that evidence outside a

particular quarter may not be used to establish liability for that

quarter. Such a rule would not be sensible and is not the law of

this circuit.

Vinick I analyzed the evidence of responsibility on a

quarter-by-quarter basis, but did so against a backdrop of evidence

of activities over a ten-year period. 110 F.3d at 170-72. Vinick

II stated that "the central question in determining whether a

taxpayer is a responsible person is whether he had the power to pay

the taxes during the quarters in question," 205 F.3d at 10, that

the "inquiry . . . should focus on the taxpayer's activities during

the quarters in question," id. at 10 n.7, and that

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"[r]esponsibility during one period does not equate to

responsibility in all periods," id. at 11. But a footnote in

Vinick II expressly rejected Moulton and Pratt's reading of this

language:

We do not mean to suggest that in all § 6672
cases a district court is precluded from
considering evidence from outside the quarters
in question. For example, behavior in one
quarter, depending on the circumstances, could
cast light on one's status as a responsible
person in other quarters. Because one's
function and status can change between
quarters, however, it would be erroneous based
solely on evidence from one quarter
automatically to conclude that a person is
responsible in another quarter.

Id. at 11 n.8.

C. Abuse of Discretion

With this clarification of the law, it is evident that

the district court did not abuse its discretion in determining that

the government's position was substantially justified. This was,

as the district court observed, a "close case." The closeness of

this case was compounded by the fact that, once the IRS assessed

Moulton and Pratt under § 6672, the burden of proof was on them to

prove that they were not responsible persons (or that, if they were

responsible, their failure to ensure that the taxes were paid was

not "willful"). See Jean, 396 F.3d at 454 (citing rule putting

burden of proof on taxpayer assessed under § 6672); Lubetzky, 393

F.3d at 80; Stuart, 337 F.3d at 36 (citing Caterino, 794 F.2d at

5). Jean emphasized this factor in holding that "the district

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court did not abuse its discretion in finding that the government

was substantially justified in initially pursuing the litigation."

396 F.3d at 457; see also id. (stating that "it was not

unreasonable for the government to seek clarification . . . at

trial" of taxpayer's potential responsibility).

Moulton and Pratt argue that the district court's

determination under § 7430 was "intellectually inconsistent" with

its findings of fact and conclusions of law under § 6672. They

claim that during the periods in question, they not only did not

exercise or delegate the requisite authority, but in fact did not

possess it.9 The district court found otherwise, stating that

Glick was Moulton and Pratt's "delegee" and that "their failure

over many months to sanction him constitutes a ratification of his

conduct."

Moulton and Pratt would have us give decisive weight to

the fact that they did not have signatory authority over B.G.'s

operating account at Fleet Bank. But it would be contrary to our

law to make one factor outcome-determinative.10

9
They claim that they held their offices "in title only" and
without possessing the powers of those offices as enumerated in
B.G.'s bylaws, and that as mere Board members, neither possessed
authority over B.G.'s financial affairs.
10
We note that Moulton and Pratt make this argument while at
the same time decrying the government's supposed attempt to make
certain other factors dispositive. They suggest that the
government sought to hold them liable solely because of their
status as shareholders, officers, and directors. The government,
in fact, did no such thing; it asserted other reasons besides each

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 The district court found facts that support several of

the indicia of responsibility. For instance, both Moulton and

Pratt had check-signing authority over an account at Centerpoint

Bank for substantial lengths of time. The court also found that

"Moulton presented the financials to the Board at every meeting,"

"was responsible for proposing B.G.'s operating budget," and "was

responsible for the corporation's funds." For a time during the

summer of 1994, Moulton "exercised actual financial control" and

"assumed control of many of the daily operations, including check-

writing."

There was no abuse of discretion in the district court's

determination that the government was substantially justified in

taking the position that Moulton and Pratt were responsible persons

even before the final quarter of 1996. The district court's order

denying Moulton and Pratt's motion under 26 U.S.C. § 7430 is

affirmed. Costs of appeal are awarded to the United States.

taxpayer's status and title.

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