Estate of Spear v. Commissioner of Internal Revenue Service

Opinions of the United
1994 Decisions States Court of Appeals
for the Third Circuit

11-21-1994

Estate of Spear v. Comm. IRS
Precedential or Non-Precedential:

Docket 93-7727

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 UNITED STATES COURT OF APPEALS
FOR THE THIRD CIRCUIT

___________

NO. 93-7727
___________

ESTATE OF LEON SPEAR, Deceased;
JEANETTE SPEAR, HARVEY SPEAR and
ROBERT SPEAR, Administrators and
JEANETTE SPEAR,

Appellants

v.

COMMISSIONER OF INTERNAL REVENUE SERVICE
_____________________________________________

Appeal from the United States Tax Court
Tax Court No. 87-03276
_____________________________________________

Argued: June 24, 1994

Before: BECKER, HUTCHINSON, Circuit Judges, and
PADOVA, District Judge.*

(Filed November 21, 1994)

MARK S. HALPERN, ESQUIRE (ARGUED)
BARRY A. FURMAN, ESQUIRE
Furman & Halpern, P.C.
401 City Avenue, Suite 612
Bala Cynwyd, PA 19004

ALAN C. KESSLER, ESQUIRE
Buchanan, Ingersoll,
Professional Corporation
Two Logan Square, 12th Floor
18th & Arch Street
Philadelphia, PA 19103

*Honorable John R. Padova, United States District Judge for
the Eastern District of Pennsylvania, sitting by designation.
 Attorneys for Appellants

PAULA K. SPECK, ESQUIRE (ARGUED)
GARY R. ALLEN, ESQUIRE
RICHARD FARBER, ESQUIRE
U.S. Department of Justice
Tax Division
P.O. Box 502
Washington, DC 20044

Attorneys for Appellees

__________________________

OPINION OF THE COURT
____________________________

BECKER, Circuit Judge.

Jeanette Spear and the Estate of her late husband, Leon

Spear, ("taxpayers") appeal the decision of the United States Tax

Court assessing substantial income tax deficiencies and fraud

penalties against them following a five-day trial. The tax

court's decision depends in significant measure on "deemed" facts

resulting from a sanction imposed because of Jeanette Spear's

failure to appear and testify at trial. These deemed facts were

critical to the outcome because they not only furnished the

predicate for use by the Internal Revenue Service ("IRS") of the

net worth method to determine income tax liability, but also

appear to have shifted the burden of proof on both net worth and

fraud from the IRS to the taxpayer.

The tax court imposed this quite severe sanction

notwithstanding that it had before it a five-hour long videotaped

deposition of Jeanette Spear taken for possible use at trial
which covered all the ground of reasonably expected trial

testimony. Moreover, the ultimate basis for imposition of the

sanction, Jeanette Spear's putative bad faith in failing to

appear at trial, is based on such a frail foundation that the tax

court's bad faith finding does not survive even deferential

review. Given these considerations, and the fact that the other

factors that we consider in applying the principles used to

assess the validity of sanctions favor the taxpayers, we conclude

that the sanction imposed here was improper and an abuse of

discretion. We will therefore vacate the tax court's decision

and remand for further proceedings.

I. FACTS AND PROCEDURAL HISTORY

A. Background

During the years in question, taxpayers were the sole

shareholders in several corporations which operated a large

number of parking lots in Center City Philadelphia on the fringe

of the downtown area. The IRS contends that taxpayers skimmed

money from these cash businesses and failed to report it as

income. The IRS based its assessment of deficiencies on the net

worth method, under which it determined income by subtracting

taxpayers' net worth at the end of the tax year from their net

worth at the beginning of the tax year with appropriate

adjustment for nontaxable receipts and nondeductible

expenditures. The IRS often uses this method when the taxpayers'

income and expense records are inadequate or incomplete.
 In 1986, the IRS issued a Notice of Deficiency to

taxpayers assessing income tax deficiencies of $51,271.70,

$157,706.46 and $93,536.23 for the years 1975, 1976 and 1977

respectively. The Notice also asserted fraud penalties of

$25,635.85, $78,853.23 and $46,768.12 for the same years. JA 27-

33. Taxpayers sought a redetermination of these assessments in

tax court. On October 31, 1989, Leon Spear suffered a stroke and

died soon thereafter. The tax court substituted the Estate of

Leon Spear as a defendant.

The taxpayers contended at trial that: 1) the IRS had

inappropriately used the net worth method because they had kept

adequate records of their income; 2) the source of the funds that

led to the large increase in their net worth was $380,000 in cash

that Leon Spear's father had given to him years earlier which had

been kept in safe deposit boxes, so that taxpayers' net worth at

the beginning of the 1975 was far higher than the IRS believed;

and 3) the parking lots could not have produced sufficient income

to account for the increase in net worth the IRS claimed. The

tax court rejected these contentions and concluded that there

were tax deficiencies of $43,354.65, $155,504.29 and $92,053.20

for 1975, 1976 and 1977. It also imposed fraud penalties of

$21,677.32, $77,752.14 and $46,026.60 for the same years.

Although taxpayers repeat on appeal their contentions

about the use of the net worth method, and challenge the factual

findings pertaining to net worth as clearly erroneous, they also

strenuously argue that the court committed reversible error by

sanctioning them for Jeanette Spear's failure to testify. The
sanction was a linchpin of the tax court's decision, and we limit

our discussion of the record to the facts bearing on the

sanctions issue.

B. The Facts Leading to the Imposition of Sanctions

In April 1990, the tax court entered an order setting

the case for trial on November 9, 1990. JA 5. The IRS

subpoenaed Jeanette to appear at trial because she was the only

living witness to the alleged 1957 gift of $380,000 from Leon's

father, and because she had been responsible for maintaining the

books of the parking corporations. JA 923-24.

On October 25, 1990, taxpayers moved for a continuance

on the basis that Jeanette was experiencing emotional trauma

based on the anniversary of her husband's death (a death she

attributed to the prosecution by the IRS, JA 11-12) and the

approach of the trial. On November 2, 1990, Dr. Sol B.

Barenbaum, a psychologist chosen by the Commissioner, examined

Jeanette and reported that she could testify without mental or

physical harm. JA 10-13, 124-25. However, on November 5, 1990,

Jeanette was admitted to the psychiatric unit of Nazareth

Hospital in Philadelphia after her attending physician, Dr.

Martin J. Durkin, was told that she had attempted suicide by gas

and possibly pills. JA 16, 125.

Taxpayers then moved for a continuance, attaching a

letter from Dr. Durkin, who is a Board-certified psychiatrist,

stating that Jeanette was suffering from "psychotic depression

and a recent serious suicide attempt" and that she needed to be
hospitalized for at least two or three weeks. JA 14. The tax

court granted the continuance on November 6. JA 7. The next day

Jeanette's son, Robert Spear, requested that she be released from

the hospital. The hospital allowed her out for the day on

November 9, 10, and 11, and discharged her on November 12. JA

143-44.

Dr. Durkin evaluated Jeanette again in December 1990,

and January, March and April, 1991. (JA 15-18). On March 18,

Dr. Durkin wrote to defense counsel that after three psychiatric

evaluations of Jeanette he had concluded that

[s]he continues to suffer from a depressive
illness with features of anxiety. I do not
feel it wise to expose the patient to a
judicial process in respect to her concerns
with the Federal Government. This type of
exposure could exacerbate her present illness
and possibly lead to another suicide attempt.
The stress could be a precipitating event to
a possible heart attack or stroke.

J.A. 15. On April 29, after conducting still another psychiatric

evaluation, Dr. Durkin again wrote to defense counsel. He stated

that based on his continuing personal evaluation of Jeanette

combined with the evaluation of a neurologist and a recreational

therapist who observed Jeanette and conducted several tests

during her hospitalization, his
opinion remains that the patient should not
be exposed to depositions or to
interrogatories because of her present
gradual emotional status. To again
summarize, I believe that any type of
exposure to these types of events would
exacerbate her depression and again cause a
psychiatric hospitalization. Worse, the
 patient may again make an attempt at suicide
which could be successful.

JA 18.

There is no evidence that, after this April evaluation,

Jeanette had any further treatment until the next time the case

was set for trial. See T.C. Mem. Op. at 23. In July, 1991, the

Commissioner sought leave to take a videotaped deposition of

Jeanette, arguing that such a deposition was needed due to

Jeanette's possible unavailability for trial as a result of "her

mental, emotional or physical infirmity." JA 105. Taxpayers

opposed the application, submitting the April letter from Dr.

Durkin quoted above, in which Dr. Durkin noted Jeanette's

obsession with the trial and that she suffered from transitional

stress due to her difficulties with the IRS. JA 18.

On August 8, 1991, the IRS moved for a court-ordered

physical and mental examination to determine Jeanette's ability

to testify. Taxpayers opposed the application, submitting

another letter from Dr. Durkin stating that a forced examination

or appearance in a court would "be a serious danger to Mrs.

Spear," JA 21, and pointing out that Jeanette had previously

undergone a court ordered examination. Taxpayers also submitted

an affidavit from Dr. Marvin Rubin, a psychologist who had

treated Jeanette from November 15, 1989 through October 24, 1990,

stating that:

[w]hether correctly or incorrectly Jeanette
attributes the death of her husband to the
fear and anxiety that he had relating to the
Internal Revenue Service hearing. Jeanette
is very anxious and upset about the
 possibility of herself dying at the hearing.
It is my professional opinion that Jeanette
is incapable presently to withstand the
trauma of a court hearing due to her
emotional and psychological state. Add in
the fact that the anniversary of her
husband's death is imminent, the effect would
psychologically devastating.

J.A. 11-12.

The court denied the motion for a videotaped deposition

but granted the motion for a physical and mental examination.

Taxpayers refused to have Jeanette appear for the examination and

the Commissioner moved for sanctions. See T.C. Mem. Op. at 24.

Taxpayers then decided that it was preferable for Jeanette to

appear for the videotaped deposition than the physical

examination. JA 165. On November 13, 1991, the court ordered

Jeanette to appear for the videotaped deposition and scheduled

briefing on the sanctions motion.

On December 12, 1991, the IRS deposed Jeanette (on

videotape) for more than five hours. In taxpayers' submission,

they gave the IRS great leeway in questioning, objecting only

eight times and not asking any follow up questions in order not

to elevate Jeanette's level of stress. The taxpayers contend

that Jeanette was distressed and confused at times during the

deposition; the IRS asserts that she showed that she could

testify coherently and knowledgeably. Compare JA 650, 764-65,

807, 814 with JA 638-40, 659-63, 736-38, 750-52. At the

conclusion of the deposition, IRS counsel asked that the

transcript be marked for use at trial. JA 921. After the

deposition, the court granted the IRS' motion to withdraw its
request for sanctions and denied the IRS' motion for a competency

hearing as moot. JA 185.

The IRS subpoenaed Jeanette to appear as a witness at

trial. On February 17, 1992, taxpayers notified IRS counsel that

Jeanette would not appear at trial because doing so would

endanger her health and because the IRS had taken her videotaped

deposition two months earlier. The Commissioner moved to compel

Jeanette to testify or for sanctions. On February 20, the tax

court held a hearing at which the Commissioner's counsel offered

to limit Jeanette's testimony to one or two hours and to "hold it

in an atmosphere similar to that of a deposition." JA 8, 835-36,

921, 926, 929. Taxpayers did not accept this arrangement, and

the court ordered Jeanette to appear and testify on February 24.

See T.C. Mem. Op. at 25.

Taxpayers requested that the court schedule an

evidentiary hearing on February 25 for Dr. Durkin to testify

about Jeanette's condition and thus to help the court understand

why she could not testify. JA 837, 920. The court denied the

request on the grounds that it would disrupt the trial schedule,

see T.C. Mem. Op. at 24, although counsel offered to have Dr.
Durkin testify before Jeanette's scheduled testimony so as not to

disrupt the trial. JA 930. The court agreed to accept another

affidavit from Dr. Durkin instead, stating "[i]f it's just a

matter of effectiveness of presentation, oral versus writing,

then I'm not going to have a hearing for that purpose." JA 932.

On February 23, the day before she was to testify,

Jeanette was again admitted to Nazareth Hospital. According to
the hospital records, the accuracy of which Dr. Durkin certified

as the attending physician, Jeanette had a "major depressive

affective disorder, recurrent episode, severe with psychotic

behavior" and "unspecified acute reaction to stress." JA 225.

Dr. Durkin's admission note states that Jeanette cried frequently

during the evaluation, had a hopeless demeanor, and had

difficulty concentrating. JA 232-33. Although her sons reported

that she may have been abusing valium, laboratory tests did not

show the presence of valium or any similar substances in her

system. JA 217, 232, 234-40, opinion at 26. Jeanette did not

appear in court on February 24 and the tax court granted the

Commissioner's motion for sanctions. JA 186, 1095.

On February 25, the day after she was supposed to

testify, while the trial was still going on, Jeanette checked out

of the hospital. The taxpayers did not inform the court that

Jeanette had done so (T.C. Mem. Op. at 26).

C. The Sanctions Themselves

As a result of Jeanette's failure to testify, the tax

court sanctioned the taxpayers by deeming the Commissioner to

have "made a prima facie showing" of the allegations in paragraph

7 of the Commissioner's answer, those dealing with net worth and

fraud, JA 186, 1095-96 opinion at 33, and to have "met the burden

of going forward as to those allegations. This shifts the burden

of going forward with evidence to petitioners to rebut

respondent's allegations of fraud." T.C. Mem. Op. at 33.
 Among the facts the court deemed to be true were that:

(1) taxpayers had furnished only incomplete tax records to the

IRS; (2) the IRS had determined correct taxable income for the

years 1975-77 on the basis of the net worth method; (3) taxpayers

did not have available any cash on hand as of December 31, 1974

which was not deposited in one of their bank accounts; (4)

taxpayers used unreported income to acquire eight real estate

properties in their names or the name of a wholly owned nominee

corporation used to conceal their real estate holdings, and also

used unreported income for other expenditures; and (5) taxpayers

understated their taxable income for the years 1975-77 with

fraudulent intent.

In a net worth case, the Commissioner must: (1)

establish with reasonable certainty an opening net worth; and (2)

either (a) show a likely income source, or (b) negate possible

nontaxable income sources. Holland v. United States, 348 U.S.

132-38 (1954), T.C. Mem. Op. at 36. By deeming the IRS to have

established correct taxable income on the basis of the net worth

method, the tax court appears to have shifted the burden of proof

on this central aspect of the case. T.C. Mem. Op. at 33 (holding

for the IRS generally, the court stated that "[p]etitioners did

not provide sufficient evidence to overcome these deemed facts").

That the imposition of sanctions may well have been

critically important to the result is especially clear when

considering the fraud counts. The tax court did state that:
Respondent has the burden of proving fraud by
clear and convincing evidence. Sec. 7454(a);
Rule 142(b). First, respondent must prove
 the existence of an underpayment. Parks v.
Commissioner, 94 T.C. 654, 660 (1990).
Respondent may not rely upon the taxpayer's
failure to carry the burden of proof as to
the underlying deficiency. Parks v.
Commissioner, supra at 660-661; Petzholdt v.
Commissioner, 92 T.C. 661, 700 (1989); Estate
of Beck v. Commissioner, 56 T.C. 297, 363
(1971). Second, respondent must show that
the taxpayer intended to evade taxes by
conduct intended to conceal, mislead, or
otherwise prevent tax collection. Petzholdt
at 699. Stoltzfus v. United States, 398 F.2d
1002, 1005 (3d Cir. 1968); Parks v.
Commissioner, supra at 661; Rowlee v.
Commissioner, 80 T.C. 1111, 1123 (1983).

T.C. Mem. Op. at 55. Yet the tax court seemed to enable the

Commissioner to surmount this steep burden of proof by relying on

the facts deemed to be true. The court wrote:
On February 24, 1992, the Court imposed
sanctions on petitioners because Jeanette
Spear violated an order of the Court by
unreasonably refusing to testify at trial.
The Court ordered that respondent is deemed
to have made a prima facie showing that the
facts in paragraph seven of the amended
answer (paragraph 7) are established.
Petitioners did not convince us that any of
the statements of facts in paragraph 7 are
wrong. As discussed below, we conclude the
facts stated in paragraph 7 and the entire
record in this case clearly and convincingly
show that Leon and Jeanette Spear are liable
for fraud for each year in issue.

T.C. Mem. Op. at 55-56.

Despite these indications that the tax court switched

the burden of proof as well as the burden of production, there

are many other places in the opinion that make it appear that the

tax court found sufficient evidence of net worth and of fraud

without relying on the deemed facts. Nonetheless, because we are
unsure whether the court relied on these facts and shifted the

burden of proof, and because the consequences to the taxpayers

are so significant, we must assume that the court did rely on

these facts. We will thus treat the sanction as one that

essentially shifted the burden of proof (and production) on net

worth and on fraud.

We note that shifting the burden of proof on the fraud

counts would be an even more severe sanction here than it would

be ordinarily because the tax court relied on taxpayers' fraud to

reject their statute of limitations defense. See T.C. Mem. Op.

at 62. Fraud will defeat a statute of limitations defense, Sec.

6501(c)(1), and if taxpayers had prevailed on the fraud count,

they may well have had a valid statute of limitations defense.1

See T.C. Mem. Op. at 62-63. In sum, the sanction in this case

was quite significant and may well have controlled the outcome.

II. DISCUSSION

A. The Applicable Sanctions Standard

T.C. Rule 104(c) as quoted in Gerling Intern. Ins. Co.
v. C.I.R., 839 F.2d 131, 136 n.7 (3d Cir. 1988), provides in

pertinent part that:
"If a party. . . fails to obey an order made
by the court . . . the Court may make such
orders as to the failure as are just and
among others the following:
(1) An order that the matters regarding
which the order was made or any other
designated facts shall be taken to be

1
The Tax Court did not reach this issue because it found
fraud.
 established for the purposes of the case in
accordance with the claim of the party
obtaining the order.

The rule is quite similar to Fed. R. Civ. P. 37(b)(2), and we

construe them in pari materia. We review the sanction of deeming

facts to be true under an abuse of discretion standard. See Ins.

Corp. of Ireland v. Compagnie Des Bauxites, 456 U.S. 694, 707,

102 S. Ct. 2099, 2107 (1982); Ali v. Sims, 788 F.2d 954, 957 (3d

Cir. 1986).

In the context of discovery abuse, the Supreme Court

has provided guidance on use of the sanction of deeming facts to

be established. In Ins. Corp. of Ireland, 456 U.S. at 707, 102

S. Ct. at 2107, the Court explained that
Rule 37(b)(2) contains two standards -- one
general and one specific -- that limit a
district court's discretion. First, any
sanction must be `just'; second, the sanction
must be specifically related to the
particular `claim' which was at issue in the
order to provide discovery.

In that case the Court held that the district court had not

abused its discretion in deeming facts establishing personal

jurisdiction to be true absent proof to the contrary, because

defendants had repeatedly agreed to comply with discovery orders

and then failed to do so despite warnings that sanctions would

result. Ins. Corp. of Ireland at 707-09, 102 S. Ct. at 2107.

The Court held that the second requirement, that the sanction be

related to the claim at issue, was met because the sanctions took

as established facts that plaintiff was seeking to prove through

discovery.
 This court has not elaborated on or applied the

Insurance Corp. of Ireland standard. In Ali, supra, we held that

where a district court sanctioned defendants by deeming

allegations in plaintiff's complaint to be admitted and granted

summary judgment for plaintiff, the ruling was equivalent to a

default judgment and thus required application of the standards

we had set for issuing a sanction of dismissal. See 788 F.2d at

957. More specifically, we held in Ali that, under the factors

we had articulated in Poulis v. State Farm Fire and Casualty Co.,

747 F.2d 863 (3d Cir. 1984), the sanctions constituted an abuse

of discretion. In Poulis we had explained that our review of a

district court's dismissal with prejudice "is guided by the

manner in which the trial court balanced [six] factors . . . and

whether the record supports its findings." Poulis, 747 F.2d at

868. The six factors are:
(1) the extent of the party's personal
responsibility; (2) the prejudice to the
adversary caused by the failure to meet
scheduling orders and respond to discovery;
(3) a history of dilatoriness; (4) whether
the conduct of the party or the attorney was
willful or in bad faith; (5) the
effectiveness of sanctions other than
dismissal which entails an analysis of
alternative sanctions; and (6) the
meritoriousness of the claim or defense.

Id.

In Ali we applied these factors to reverse a sanction

deeming certain facts to be true. We held that, even if there

was inexcusable delay by the defendants in that case, there was

no bad faith, no history of dilatoriness, little prejudice from
the delay that was caused, and less severe sanctions were

probably available. Under those circumstances, sanctions that

were equivalent to dismissal constituted an abuse of discretion.

Id. at 957-58. We explained that, "[i]n Poulis, we established

the strong presumption against sanctions that decide the issues

of a case." Id. at 958.2

Here, unlike in Ali, the tax court's sanction did not

end the case. At most the tax court deemed certain key facts

admitted and reversed the burden of proof. While this is a

severe sanction, it is not the same as deeming allegations in a

complaint to be admitted or granting a default judgment. In

Chilcutt v. United States, 4 F.3d 1313 (5th Cir. 1993), the Fifth

Circuit considered the standards for imposing a similar sanction

(of deeming prima facie elements of the plaintiffs' liability

claim to be established). The court held that, although a

court's decision to deem certain facts established may sometimes

be equivalent to a default judgment, it was not equivalent where

the sanctioned party (the government) was allowed to present its

2
We have reviewed sanctions deeming facts to be
established on only two other occasions, and in neither did we
establish standards for determining whether the trial court
abused its discretion. In Reynolds v. United States, 192 F.2d
987, 998 (3d Cir. 1951), we held that where the government
continued to refuse to produce documents based on a claim of
privilege that had been overruled, the court was authorized by
Rule 37 to deem the facts sought to be proved by the documents to
be admitted -- but we did not consider whether the court had
abused its discretion in applying such a sanction. And in
Gerling we held that a similar sanction was illegitimate because
there had not been any discovery abuse -- thus, there was no
question whether the court had abused its discretion in imposing
sanctions for discovery abuse. See Gerling, 839 F.2d at 139.
case in chief and could have prevailed if it had established its

contentions by a preponderance of the evidence. Id. at 1320 &

n.18. Thus, instead of imposing the sanction under the standards

appropriate for a dismissal, the court applied the two standards

of Insurance Corp. of Ireland (the requirement of "justness" and

the requirement that the sanction be related to the particular

claim at issue in the order to provide discovery) -- "along with

a third -- that the sanction meet the Rule 37 goals of punishing

the party which has obstructed discovery and deterring others who

would otherwise be inclined to pursue similar behavior." Id. at

1321.

Because the sanction was not equivalent to default, for

which a prerequisite under Fifth Circuit law is flagrant and

willful disregard, the court suggested, in what it admitted to be

dicta, that flagrant and willful disregard was not necessary.

Id. at 1322 n.23. On the facts of the case, the Chilcutt court

upheld the sanction. It stated that, where the district court

had warned the government that it would issue sanctions and the

government had repeatedly promised to be forthcoming, the

plaintiffs had a colorable claim, and the evidence the government

had hidden was relevant to the plaintiff's case, the sanction was

just, related to the claim sought to be proved, and was necessary

to compensate for non-compliance and to deter future violations.

As for other considerations, the government's conduct was willful

and was not solely the fault of its attorney. Id. at 1321-25.
We agree with the Chilcutt court that cases on the
sanction of dismissal are not automatically applicable to the
sanction of deeming certain facts to be established.

Nonetheless, the Poulis factors are relevant to evaluating such a

sanction. This is clear from the fact that, in evaluating

whether a district court has properly exercised its discretion in

imposing the sanction of exclusion of testimony, a sanction less

harsh than dismissal and probably similar to shifting the burden

of proof, we consider factors similar to those in Poulis. See

Meyers v. Pennypack Woods Home Ownership Ass'n, 559 F.2d 894 (3d

Cir. 1977). We consider:
(1) the prejudice or surprise in fact of the
party against whom the excluded witnesses
would have testified, (2) the ability of that
party to cure the prejudice, (3) the extent
to which waiver of the rule against calling
unlisted witnesses would disrupt the orderly
and efficient trial of the case or of other
cases in the court, and (4) bad faith or
willfulness in failing to comply with the
district court's order.

Id. Meyers and Poulis supply the sources of the standard we

adopt here.

Comparing the Meyers factors with Poulis, Factor 4 goes

to a party's culpability as do factors 1, 3, and 4 of the Poulis

factors. See supra at 16. Factors 1 and 2 go to prejudice as

does factor 2 of Poulis. Factor 2 also goes to the ability to

correct the problem with action less harsh than the sanction

being considered as does factor 5 in Poulis. Moreover, just as

the ultimate Poulis calculus is a balancing, we think that

balancing similar factors is appropriate in assessing a sanction

of deeming established certain facts. We apply a sliding scale -

- the harsher the sanction being imposed, the more the balance
will have to be against the party being sanctioned to justify the

sanction. See National Hockey League v. Metropolitan Hockey

Club, Inc., 427 U.S. 639, 643, 96 S. Ct. 2778, 2781 (1976)

(dismissed); Society Internationale Pour Parcipations

Industrielles et Commerciales v. Rogers, 357 U.S. 197, 212, 78 S.

Ct. 1087, 1096 (1958) (dismissal); Donnelly v. Johns-Manville

Sales Corp.,677 F.2d 339, 342-43 )3d Cir. 1982) (dismissal);

Meyers v. Pennypack Woods Home Ownership Ass'n, 559 F.2d 894 (3d

Cir. 1977) (exclusion of critical evidence).

This approach is consistent with the Fifth Circuit's

opinion in Chilcutt. Although the Chilcutt court held that the

dismissal cases were not on point and that the test from

Insurance Corp. of Ireland applied, the court referenced all of

the factors we consider in dismissal cases. It considered the

culpability of the sanctioned party including whether the

violation was solely the fault of the attorney or was also the

fault of the client, and the effectiveness of alternative

sanctions. And while the court stated that willfulness was not

required to impose a sanction of deeming facts proved (thus,

incorporating our sliding scale theory of the appropriateness of

sanctions), it also implied that willfulness was relevant. It

stated that "of course, the flagrancy of a party's behavior must

be directly proportionate to the severity of the sanction

imposed." Chilcutt at 1322 n.23.3

3
. Although the Chilcutt court also considered the role of
the sanction in deterring future abuses, we need not consider
that factor here since a deterrence analysis clearly does not fit
 This approach is also consistent with Insurance Corp.

of Ireland itself. The standard articulated there, that a

sanction must be 1) just and 2) specifically related to the

particular `claim' which was at issue, was essentially a general

standard for all Rule 37 sanctions. Thus, like our opinion here,

our opinions in Poulis and Meyers had to be consistent with

Insurance Corp. of Ireland because they involved Rule 37

sanctions. They were consistent with it because they were an

elaboration of the meaning of "just" and "related to the

particular claim" in particular contexts.

In sum, in reviewing a trial court order deeming

evidence admitted as a sanction for litigation misconduct, we

will engage in a weighing and balancing exercise in which we

consider: 1) culpability (including willfulness and bad faith,

and whether the client was responsible or solely the attorney);

2) prejudice; and 3) whether lesser sanctions would have been

effective. In making the actual balancing we utilize a sliding

scale, so that bad faith, for example will have to be quite high

to tip the balance if other factors strongly favor the taxpayers.

We view this exercise to be a transliteration of the Insurance

Corp. of Ireland standard in that the prejudice consideration

subsumes the specific relatedness requirement, all of the factors

of which essentially elaborate on "justness."

the unusual facts of this case. See our discussion of taxpayer's
alleged bad faith infra at p. 24-30.
 B. Application of the Standard

1) The Need to Show Bad Faith or Willfulness.

In the jurisprudence of dismissal, willfulness or bad

faith is almost always required in order for dismissal to be

within the proper scope of the court's discretion. In the

particular cases before it, the Supreme Court, at a minimum, has

required some sort of fault for dismissal to be allowable.

Compare Societe Internationale Pour Parcipations Industrielles et

Commerciales v. Rogers, 357 U.S. 197, 212, 78 S. Ct. 1087, 1096

(1958) (where party could not comply with discovery order due to

Swiss law, dismissal was inappropriate. It was "due to inability

and not to willfulness, bad faith, or any fault of petitioner.")

with National Hockey League v. Metropolitan Hockey Club, Inc.,

427 U.S. 639, 643, 96 S. Ct. 2778, 2781 (1976) ("[D]ismissal was

appropriate in this case by reason of respondents' `flagrant bad

faith' and their counsel's `flagrant disregard' of their

responsibilities.").

Some courts have held that willfulness or bad faith is

always required before dismissal is an acceptable sanction. See

Ford v. Fogarty Van Lines, Inc., 780 F.2d 1582, 1583 (11th Cir.
1986) ("Absent a clear record of delay or contumacious conduct by

the plaintiff, the trial court's discretion is limited to the

application of lesser sanctions [than dismissal]."); Wilson v.

Volkswagen of America, Inc., 561 F.2d 494 (4th Cir. 1977);

Telectron, Inc. v. Overhead Door Corp., 116 F.R.D. 107, 131 (S.D.

Fla. 1987). But see United States v. Sumitomo Marine & Fire Ins.,
Co., 617 F.2d 1365, 1369 (9th Cir. 1980) (although government did
not exhibit bad faith, dismissal was necessary to deter flagrant

disobedience that resulted from understaffing).

Although we have held that dismissals are an extreme

sanction reserved for cases comparable to National Hockey League

where there was flagrant bad faith, see Poulis, 747 F.2d 863,

867-68, we have sometimes upheld a court's sanction of dismissal

even when there was no willfulness or bad faith. See Poulis, 747

F.2d at 868-70; cf. Hicks v. Feeney, 850 F.2d 152, 156 (3d Cir.

1988) (not all Poulis factors have to be present for dismissal).

Nonetheless, we generally have not upheld dismissal absent

willfulness and bad faith. See Donnelly v. Johns-Manville Sales

Corp., 677 F.2d 339, 342-43 (3d Cir. 1982) (dismissal was an

abuse of discretion where there was delay in obtaining local

counsel but it was due to failure to move with dispatch rather

than to bad faith, where the delay caused little prejudice to the

defendant, and where the district court did not consider an

alternative sanction). Even with respect to the less extreme

sanction of exclusion of evidence, we have held that with respect

to critical evidence, "the exclusion of critical evidence is an

`extreme' sanction, not normally to be imposed absent a showing

of willful deception or `flagrant disregard' of a court order by

the proponent of the evidence." Meyers at 905 (quoting Dudley v.
South Jersey Metal, Inc., 555 F.2d 96, 99 (3d Cir. 1977)).

Although, like the Chilcutt court, we do not have to

decide the issue, we assume that, when the sanction of deeming

facts to be true is not the equivalent of dismissal, willfulness

and bad faith are not prerequisites for imposing that sanction.
When a party does not provide information to another party to

which that party is entitled, a court is certainly permitted to

"even out" the proceedings by shifting the burden of proof in a

fair way even in the absence of bad faith. Moreover, in

Insurance Corp. of Ireland, the Supreme Court upheld a sanction

of deeming facts to be established, even though the court had

made no explicit finding of bad faith, finding repeated

violations of discovery orders to constitute sufficient fault to

justify the sanction.

Nonetheless, the presence of willfulness and bad faith

certainly enhances the case for sanctions. Shifting the burden

of proof, as the tax court seems to have done here when it deemed

certain facts to be established, is a fairly extreme sanction.

It significantly changes the likely outcome at trial. In the

absence of willfulness or bad faith, other factors would have to

weigh strongly in the favor of such a severe sanction to justify

it.

2) Did Jeanette's Conduct Constitute Bad Faith?

The tax court's decision to sanction taxpayers was

essentially bottomed on its finding that Jeanette was

deliberately attempting to avoid her testimonial duties. The

finding of bad faith was grounded upon the following: 1)

Jeanette's illness and hospitalizations correlated with the time

of her scheduled testimony; 2) the lack of evidence of illness at

other times; 3) the taxpayers' agreement to a deposition after

the court ordered a mental and physical examination of Jeanette,
while initially maintaining that Jeanette could not be deposed;

4) Jeanette's competent answer to questions at her deposition,

demonstrating a significant knowledge of the case; 5) taxpayers

failure to timely inform the court that Jeanette could not

testify (twice) or see a psychiatrist (once); and 6) taxpayers

failure to inform the court that Jeanette had been released from

the hospital until after the trial was over. T.C. Mem. Op. at

27-29.

A different explanation exists, however, for the

correlation between the severity of Jeanette's illness and the

imminence of court appearances (and the resultant tardiness of

taxpayers informing the court that Jeanette could not testify)

from the one that posits that the alleged illness was a tactic to

avoid testifying. A legitimate, medically grounded connection

may have existed between Jeanette's illness and the imminence of

court appearances. In order to disbelieve this explanation (and

believe that the correlation demonstrated that Jeanette was

making up the illness to avoid court appearances), the tax court

had to entirely discredit the evaluation of several physicians.

Dr. Durkin, a board-certified psychiatrist and

apparently neutral witness who had never treated Jeanette prior

to her admittance to the emergency room at Nazareth hospital,

consistently diagnosed Jeanette as having a major depressive

disorder, and did so upon Jeanette's admission to the hospital

shortly before trial. He also maintained that this disorder was

related to her difficulties with the IRS, and he stated on

several occasions between November, 1991 and August, 1992, that
testifying would pose a serious threat to Jeanette's health.

JA15-JA18. Dr. Durkin reached this conclusion based on several

examinations of Jeanette, including examinations during a time

when trial was not imminent. Moreover, he based his opinion not

only on his own evaluation but on that of a neurologist and a

recreational therapist who had examined Jeanette during her first

hospitalization.

Dr. Durkin's evaluation was corroborated by the

affidavit of Dr. Rubin, who also concluded that Jeanette's

illness was related to the legal proceedings. JA11. He stated

that she attributed her husband's death to those proceedings and

feared dying herself as a result of them. He added that

testifying would be psychologically devastating to her. Like the

tax court, these physicians were certainly aware of the

possibility that Jeanette was feigning illness in order to avoid

testifying, and yet they opined to the contrary. The only doctor

who concluded that Jeanette was capable of testifying did so

before her first hospitalization.4

The tax court's other justifications for its findings

also do not demonstrate bad faith. The fact that taxpayers

eventually agreed to allow Jeanette to be deposed does not show

that their concern with her appearance at court proceedings was

not genuine. Taxpayers were faced with a choice of having

Jeanette submit to a mental and physical examination, having her

4
Dr. Sol B. Barenbaum, a psychologist chosen by the
Commissioner, examined Jeanette on November 2, 1990.
deposed, or facing a significant possibility of sanctions. Their

reluctant agreement to a deposition does not demonstrate a lack

of concern that such a deposition would affect Jeanette's health.

We have viewed the videotape deposition which we

describe infra at 32. Although Jeanette broke down and cried and

had to be soothed on several occasions, and seemed confused as to

questions at others, she basically gave a lucid deposition

without emotional breakdown, a factor that, as the tax court

noted, would seem to undermine the doctors' conclusions that

testifying would be emotionally devastating to her.5 But we are

not physicians. The deposition revealed Jeanette to be quite

emotionally upset, and we cannot say with assurance that the fact

that she was able to testify on one occasion automatically means

that she could always do so.

Dr. Durkin continued to believe after this deposition

(at the time of her second hospitalization) that Jeanette was

suffering from a major depressive order. And he reported that

upon hospitalization "she indicated that she became quite anxious

and quite upset when she discovered that the Internal Revenue

Service wished her to be deposed for another hour period of time.

She add[ed], `[t]hey have all that they can possibly get from me,

what else are they looking for.'" JA 232. Thus, Jeanette's fear

of the IRS may have escalated after the videotaped deposition.

5
On the other hand, if Jeanette gave a full and lucid
deposition, that undermines the IRS's position that it was
prejudiced by her failure to appear at trial. See infra at 32-
34.
Moreover, although the IRS offered to make the conditions during

Jeanette's trial testimony similar to those during her

deposition, the judge's presence at trial would have added an

intimidating factor not present during the earlier deposition.

Finally, defendants' failure to inform the tax court

of Jeanette's release from the hospital, while improper, does not

show that taxpayers were deliberately creating an excuse to avoid

having Jeanette testify. Jeanette was discharged against medical

advice, JA 225, and if taxpayers had really been attempting to

deceive the court, they would have had Jeanette stay in the

hospital until the conclusion of the trial.

Thus, in the face of contrary opinions by two experts

who had significant opportunity to examine Jeanette, the tax

court's explanation for its finding that Jeanette's "refusal to

testify was a manipulation, and not a bona fide response to

medical problems," JA 29, was extremely thin. Moreover, it seems

extremely unlikely that Jeanette was attempting to manipulate the

trial process given that she had very little to gain by doing so

-- there is little reason to believe that her testimony would

have substantially aided the Commissioner; rather, it might have

significantly hurt the Commissioner. For example, based on our

viewing of the deposition, we find Jeanette's testimony as to the

$380,000 cash hoard quite straightforward, and it seems to be

credible. Finally, we note that even if Jeanette initially went

to the hospital partly as an attempt to avoid testifying and

helping the Commissioner, after receiving medical advice, she had

every reason to worry about testifying.
 Similarly, Jeanette's co-defendants, the representative

of the Estate of Leon Spear and ultimately of Jeanette's

children, had every reason to worry about the effect that

testifying would have on her. Thus, it is highly unlikely that

taxpayers' refusal to allow Jeanette to testify was based solely

on an attempt to manipulate the trial process and did not reflect

significant concern for her health. Compounding the problem is

the fact that the tax court declined to hold a hearing on the

issue because such a hearing would allegedly have disrupted the

trial schedule. Yet taxpayers offered to produce Dr. Durkin at

the time when this would not disrupt the trial. Especially in

the absence of a hearing at which the tax court could ask Dr.

Durkin why he was sure that Jeanette was not making up her

illness or at least its severity, the tax court's finding of bad

faith is seriously problematic.

We acknowledge that taxpayer was not prevented from

complying with the court's order due to an external constraint.

Even if Jeanette truly feared becoming more sick if she

testified, she still was physically capable of testifying and

consciously chose not to do so. In this sense, her non-

compliance was willful. Moreover, it was a choice that she made

rather than a choice her attorney made. Nonetheless, we think

that Jeanette's level of culpability was not high, given that we

have found that her fears of testifying were legitimate.6

6
The tax court may also have based its decision to
sanction the defendants on the fact that Jeanette did not go
through with the second court ordered physical and mental
examination, in the fall of 1991. (T.C. Mem. Op. at 34-35). But
 We review the tax court's finding of bad faith and

wilfulness deferentially, i.e., for clear error. See

Commissioner v. Duberstein, 363 U.S. 278, 290-91 (1960); B.B,

Rider Corp. v. Commissioner, 725 F.2d 945, 948 (3d Cir. 1984);

DeCavalcante v. Commissioner, 620 F.2d 23, 26 (3d Cir. 1980). A

finding is clearly erroneous when although there is evidence to

support it, the reviewing court on the entire evidence is left

with the definite and firm conviction that a mistake has been

committed. United States v. U.S. Gypsum Co., 333 U.S. 364, 395

(1948). While we understand the tax court's annoyance with Mrs.

Spear, for the reasons we have elaborated on at such length, we

are left with such a firm conviction here. But even if the

problematic bad faith finding survives because of deferential

review (and if it did, it would be only by a small margin), the

result would be the same because, under the sliding scale, the

bad faith will have to be quite high to tip the balance in favor

of the IRS in view of the fact that the other factors in the

Insurance Corp. of Ireland-based test we apply strongly favor the

taxpayer, see infra at 32-35, and it is not.

3) The Need to Show Prejudice

the IRS only asked for this examination when Jeanette refused to
submit to a videotaped deposition. After Jeanette did submit,
the IRS withdrew its motion for sanctions. Thus, the Spears had
little reason to believe that she was still required to submit to
such an examination, and hence meaning her refusal to do so
cannot reasonably be deemed willful and in bad faith.
 In Insurance Corp. of Ireland, the Court held that "the

sanction must be specifically related to the particular `claim'

which was at issue in the order to provide discovery." 456 U.S.

at 707, 102 S. Ct. at 2107. It may be that this requirement does

not inherently bar sanctions where there is no prejudice.

Arguably a sanction may be considered to be "specifically related

to the particular `claim'" at issue in the discovery order even

when there is little indication that the discovery would have

produced useful information. A party should certainly not be

able to gain a strategic advantage at trial by refusing to

provide information it is required to provide and avoiding

sanctions because the other side cannot demonstrate the

importance of this information.

Nonetheless, the basic thrust of the Supreme Court

jurisprudence is that sanctions that effect the outcome of the

trial should only be imposed in order to compensate for

violations that may plausibly be thought likely to affect the

outcome of the trial. See Wilson v. Volkswagen of America,

Inc., 561 F.2d 494 (4th Cir. 1977) ("Even in those cases where it

may be found that failure to produce results in the discovering

party's case being jeopardized or prejudiced, it is the normal

rule that the sanction must be no more severe than is necessary

to prevent prejudice to the movant." (quotations omitted)).7 And

7
Cf. Betz v. Commissioner, 90 T.C. 816, 823 (1988) (where
government delay in filing a brief caused no prejudice, the court
would not deem certain facts true as a sanction); Meyers v.
Pennypack Woods Home Ownership Ass'n, 559 F.2d 894 (3d Cir. 1977)
(reversing the exclusion of the witnesses' testimony where the
failure to include the witnesses in the pretrial memoranda was
so we conclude that the imposition of any sanction that affects

the likely outcome of a trial requires that the party sanctioned

have gained some advantage from his or her disobedience of a

court order. In other words, the party that gains from the

sanction must have been at least arguably prejudiced by the

misconduct of the other side.

4) Was There Prejudice?

While the deposition was palpably an emotional

experience for Jeanette, and she broke down and cried several

times, her deposition was lucid and informative. As we viewed

the deposition, she possessed and was able to and did relate, in

response to questions, a great deal of information about the

affairs of the parking lot business. There were also many things

not a result of bad faith but of late discovery of the witnesses,
the plaintiff informed the defendant of the discovery of the
witnesses three weeks before trial thus minimizing prejudice, and
the possibility existed of postponing the trial for a few days,
conducting further discovery and taxing the costs to the
plaintiff); De Marines v. KLM Royal Dutch Airlines, 580 F.2d
1193, 1202 (3d Cir. 1978) (reversing the exclusion of a witness'
testimony where there was only a slight deviation from pre-trial
notice requirements, and admitting the witness was likely to
cause only slight prejudice to the defendants, who were already
aware of the basic substance of the witness' testimony); United
States v. Kincaid, 712 F.2d 1, 3 (1st Cir. 1983) ("Courts
consistently have refused to impose sanctions when the government
has destroyed evidence but the destruction did not prejudice the
defendants."); Faberge, Inc. v. Saxony Products, Inc., 605 F.2d
426, 429 (9th Cir. 1979) (declining to award sanctions under
Rule 56(g) which allows sanctions for affidavits submitted in bad
faith, because no court had relied on the affidavit submitted);
but cf. National Hockey League v. Metropolitan Hockey Club, Inc.,
427 U.S. 639, 643, 96 S. Ct. 2778, 2781 (1976) (dismissal must be
available "not merely to penalize those whose conduct may be
deemed to warrant such a sanction, but to deter those who might
be tempted to such conduct in the absence of such a deterrent. .
. .").
that she did not know or remember, but it seems unlikely that,

given that the events happened so many years ago, she would

recall additional details at trial. While Jeanette was quite

deliberate, and sometimes stated that she did not understand what

appeared to be simple questions (which were then repeated and

answered), she was direct and composed. She was apparently not

feeling well physically (as well as emotionally), but, given the

length of the deposition and the amount of detail covered, it is

difficult to see how anything more would be forthcoming at a

trial.

In our view, there was no prejudice to the IRS from

Jeanette's failure to testify. While the IRS stresses the need

to obtain the truth, the fact is that the court received Mrs.

Spear's 257-page (videotaped) deposition that we have described.

What more did it need? To repeat, having viewed the videotape,

we cannot conceive what more the IRS could have adduced at trial.

Moreover, Jeanette's testimony was favorable to the taxpayers

rather than the government; thus, the only thing the government

had a reasonable chance of gaining from her testimony was a hope

to trip her up à la Perry Mason and diminish the credibility of

taxpayers' evidence. That rarely happens in the real world, and

the Commissioner already had been presented with a chance to

question Jeanette in a five hour deposition that occurred two

months before trial during which defendants had very few

objections to the questions posed by the Commissioner's counsel.

The tax court thus had an excellent opportunity to judge

Jeanette's credibility even without her appearance at trial.
 Moreover, when the IRS requested the videotaped

deposition, it did so in part because it was aware that Jeanette

might not be available for trial and it marked the transcript for

use at trial. Thus, during the deposition, the IRS had every

incentive to ask all the questions it wanted to ask at trial.

The IRS did not explain what additional questions it had for

Jeanette that she had not already answered during the deposition.

The IRS argues that there was prejudice because

Jeanette was a "key witness in this case." While Jeanette was a

key witness, this does not explain why the IRS needed her live

testimony. Although live testimony is generally preferable to

videotaped testimony, the absence of such testimony, even from a

key witness, is only minimally prejudicial when that witness is

adverse and when there is a videotaped deposition that can be

introduced in lieu of live testimony. That videotaped deposition

testimony is a staple of modern case management in federal courts

is too well established to require citation. And yet, as

taxpayers contend, "[e]ssentially, the IRS claims that it was

crucial to have Jeanette testify for a second time so that she

would not be believed." (Appellant's Reply at 19). But that, we

have noted, is no basis for a conclusion of prejudice.

5) The Balancing Exercise. In view of the

foregoing discussion, the balancing exercise is not difficult.

We have concluded that the IRS incurred no prejudice, in view of

the availability of the videotaped deposition. On the subject of

whether lesser sanctions would have been effective, this does not
seem to be a factor here. Although a finding of bad faith may

not be strictly necessary to support sanctions, see Ins. Corp. of

Ireland, 456 U.S. at 707, 102 S. Ct. at 2107; Hammond Parking Co.

v. Arkansas, 212 U.S. 322, 350-51, 29 S. Ct. 370, 380 (1908);

Meyers v. Pennypack Woods Home Ownership Ass'n, 559 F.2d 894, 905

(3d Cir. 1977), the imposition of sanctions in the absence of bad

faith generally requires a strong showing of prejudice. But

whatever rationale the tax court judge might have had, there

certainly were lesser sanctions than were employed here that

could have "sent the message." Finally, we have concluded that

the tax court's finding that Jeanette's failure to appear for

trial was in bad faith is clearly erroneous, but that, even if

not, it was sufficiently marginal that it would have been

outweighed by the other factors which strongly militated in favor

of the taxpayers' position. Hence, on the sliding scale the

result is the same. Accordingly, the sanction constituted an

abuse of discretion and must be set aside.

III. CONCLUSION

We have concluded that the sanction imposed by the tax

court, of deeming admitted the facts that furnished the predicate

for use of the net worth method, and shifting the burden of proof

on both net worth and fraud from the IRS to the taxpayer,

constituted an abuse of discretion and must be set aside. We

will therefore vacate the decision of the tax court and remand

the case for further proceedings consistent with this opinion.

The court may, of course, elect to retry the case. In that
event, it might be well advised to rely upon Jeanette's

videotaped deposition in lieu of her testimony, although perhaps

her emotional state is now better. On the other hand, the court

may simply prefer to decide the case on the basis of the existing

record, but absent the "deeming" and its consequences which we

have declared invalid.8

8
. At all events, the tax court will have to address a
number of interesting and difficult questions pertaining to the
net worth method and its application to this case, which we have
not had to reach in view of our disposition.