George v. Commissioner of IRS

United States Court of Appeals
For the First Circuit

No. 15-2305

DANIEL H. GEORGE, JR.,

Petitioner, Appellant,

v.

COMMISSIONER OF INTERNAL REVENUE,

Respondent, Appellee.

APPEAL FROM THE DECISION OF THE
UNITED STATES TAX COURT

Before

Torruella, Lynch, and Barron,
Circuit Judges.

John J.E. Markham, II, with whom Markham & Read was on brief,
for appellant.
Anthony T. Sheehan, Attorney, Tax Division, Department of
Justice, with whom Caroline D. Ciraolo, Acting Assistant Attorney
General, and Teresa E. McLaughlin, Attorney, Tax Division, were on
brief, for appellee.

September 13, 2016
 TORRUELLA, Circuit Judge. Daniel H. George, Jr.,

appeals a tax court decision affirming a determination by the

Commissioner of the Internal Revenue Service ("IRS") that he owed

$3.790 million in income taxes and penalties on $5.65 million in

bank deposits he made and interest earned from 1995 to 2002.

George argues that these deposits were not his taxable personal

income but the program income of Biogenesis Foundation, Inc.

("Biogenesis"), a social welfare organization that had tax-exempt

status pursuant to section 501(c)(4) of the Internal Revenue Code,

26 U.S.C. § 501(c)(4). We agree with the tax court's

determination that an organization distinct from George did not

exist during the applicable tax years and affirm.

I.

Between 1995 and 2002, George, a self-taught chemist,

created his own health supplements. The proceeds from the sale

of these supplements formed the basis of the bank deposits at issue

in this appeal.

George conducted experiments and created mineral,

herbal, and chemical supplements in his home in Rockport,

Massachusetts. George also worked with health supplement

companies that provided him with raw materials, equipment, and

feedback. In turn, these companies purchased George's supplements,

which they incorporated into their own products. The supplement

-2-
companies dealt with George directly, viewing him as a vendor, and

paid him either in cash or by check.

In addition to his dealings with the supplement

companies, George sold his supplements directly to individuals who

came to his Rockport house. Some of these individuals formed a

"core group," members of which promoted George's supplements

through word of mouth and at meetings where they sold George's

supplements to other people.

The core group members also assisted George in holding

retreats where he discussed health and spirituality and provided

his supplements to attendees. Between 8 and 24 people

participated in any given retreat and paid $300 to $1000 each to

attend. The core group members provided services, such as cooking

and organizing transportation, in lieu of paying fees. Part of

the fees paid by nongroup attendees went towards reimbursing core

group members for the costs of the retreats. George also received

a portion of the fees as payment for the supplements he

administered.

George did not issue receipts or otherwise document the

payments he received from the supplement companies or individuals.

The only record of George's transactions was his deposit of these

funds into fourteen different personal bank accounts he

maintained. George did not spend any of the money he received

-3-
from his activities. Rather, George covered his personal expenses

using Social Security disability payments he received.

In 2002, the IRS began investigating George. During an

interview with an IRS agent, George admitted he had not paid any

taxes since the 1970s.1 George explained that he was hoping to

accrue $10 million to set up a foundation and non-profit research

laboratory. George was subsequently charged with and convicted

of tax evasion in violation of 26 U.S.C. § 7201 based on his

failure to pay taxes in the tax years 1996, 1997, 1998, and 1999.

The United States District Court for the District of Massachusetts

sentenced George to thirty months' imprisonment. We upheld

George's conviction in United States v. George ("George I"), 448

F.3d 96 (1st Cir. 2006).

II.

In May 2003, six weeks after his tax evasion indictment,

George incorporated Biogenesis. That July, George applied for

tax-exempt status for Biogenesis as a charitable organization

under section 501(c)(3) of the Internal Revenue Code, 26 U.S.C.

§ 501(c)(3). In the application, George certified that he was

filing for tax-exempt status "within 15 months from the end of the

1 George subsequently filed a tax return claiming he earned
twenty-eight dollars in gross income and owed zero dollars in taxes
for the 2002 tax year.

-4-
month in which [Biogenesis] was created or formed." The

application also described Biogenesis's mission, which was,

according to George, to expand upon his research to create

supplements for treatments based on cellular regeneration

technology and provide health products to those in need. George

claimed that Biogenesis would achieve this goal by renting

laboratory space and eventually opening its own headquarters. The

IRS granted Biogenesis's application in December 2003.

On October 26, 2011, Biogenesis retroactively filed tax

forms claiming that it was a section 501(c)(4) organization for

the tax years 1996 through 2002. For each of these tax years,

Biogenesis reported revenue equal to the deposits plus interest

earned in George's personal bank accounts (excluding the bank

account in which George's Social Security payments were

deposited).

The IRS subsequently issued a Notice of Deficiency to

George stating that he owed taxes, plus penalties, on income earned

for the tax years 1995 through 2002. George subsequently filed a

petition for review with the tax court, claiming that the deposits

and interest earned for those tax years were not his income but

Biogenesis's. The tax court rejected George's arguments, finding

that no "organization" separate from George existed prior to

Biogenesis's incorporation in 2003 and that George's activities

-5-
during this period were commercial and did not further social

welfare. As a result, the tax court found George liable for the

full amount of the alleged deficiency. 2 This timely appeal

followed.

III.

"We review decisions of the tax court 'in the same manner

and to the same extent as decisions of the district courts in civil

actions tried without a jury.'" Interex, Inc. v. Comm'r, 321 F.3d

55, 58 (1st Cir. 2003) (quoting 26 U.S.C. § 7482(a)(1)). Thus,

its legal conclusions are reviewed de novo and its factual findings

for clear error. Id.

On appeal, George renews his claim that Biogenesis

existed as a section 501(c)(4) tax-exempt organization prior to

its formal incorporation in 2003, such that the bank deposits and

interest were not taxable as his personal income. Section

501(c)(4) of the internal revenue code exempts from taxation

[c]ivic leagues or organizations not organized for
profit but operated exclusively for the promotion of
social welfare, or local associations of employees,
the membership of which is limited to the employees

2 The Commissioner also assessed penalties against George, which
the tax court upheld. For tax years 1995 to 2001, the tax court
imposed penalties for fraudulent failure to file a tax return
pursuant to 26 U.S.C. § 6651(f). For tax year 2002, the tax court
imposed a penalty for fraudulent underpayment of taxes pursuant to
26 U.S.C. § 6663. George does not appeal these penalties beyond
challenging his underlying tax deficiencies. Thus, the merits of
the penalties depend on our assessment of the deficiency claims.

-6-
 of a designated person or persons in a particular
municipality, and the net earnings of which are
devoted exclusively to charitable, educational, or
recreational purposes.

26 U.S.C. § 501(c)(4)(A). George argues that Biogenesis met these

requirements in two ways. First, he contends that the tax court

should have treated the IRS's 2003 approval of Biogenesis's section

501(c)(3) application as dispositive. Second, George argues that,

regardless of its section 501(c)(3) status, the tax court's

conclusion that Biogenesis failed to meet section 501(c)(4)'s

requirements in the contested tax years was clearly erroneous. As

explained below, George was required to prove Biogenesis met all

of section 501(c)(4)'s elements and he failed to do so.3

A. Effect of Biogenesis's Section 501(c)(3) Status

As a threshold matter, George claims that because

Biogenesis qualified as a section 501(c)(3) organization upon the

filing of its application, it must have previously fulfilled

section 501(c)(4)'s requirements.4 In support of his argument,

3 We also reject George's contention that the tax court analyzed
whether Biogenesis qualified as a "civic organization" under
section 501(c)(4) rather than a social welfare organization. As
explained below, the tax court's decision relied primarily on its
finding that no organization separate from George existed and we
see no error in this analysis. Any distinction between civic and
social welfare organizations does not affect this conclusion.
4 "Generally speaking, the primary differences between Section
501(c)(3) organizations and Section 501(c)(4) organizations are
that contributions to the former are tax deductible while those to
the latter are not, and the latter can engage in some political

-7-
George cites Treasury Regulation § 1.501(c)(4)-1(a)(2)(i), which

states that "[a] social welfare organization will qualify for

exemption as a charitable organization if it falls within the

definition of charitable set forth in paragraph (d)(2) of

§ 1.501(c)(3)-1." 26 C.F.R. § 1.501(c)(4)-1(a)(2)(i). George

interprets this regulation as meaning that an organization may

qualify as tax exempt under section 501(c)(4) "if its activities

would qualify for approval . . . under section 501(c)(3)."

This argument is easily disposed of by our decision in

George I. George argued in his tax evasion case that the district

court should have sua sponte instructed the jury on section

501(c)(4) organizations. We rejected this contention and stated

that Biogenesis's section 501(c)(3) status was of "no consequence"

because the IRS approves applications based on "an applicant's

unverified representations." George I, 448 F.3d at 101 n.6

(citing Zimmerman v. Cambridge Credit Counseling Corp., 409 F.3d

473, 476-77 (1st Cir. 2005)). Once an issue actually went to

trial, we noted, courts could determine whether the applicant's

representations matched the evidence. See id.; see also 26 U.S.C.

activities while the former cannot." George I, 448 F.3d at 99
n.4. The Commissioner does not dispute George's claim that,
unlike a section 501(c)(3) organization, a section 501(c)(4)
organization need not file a formal application with the IRS to
claim tax-exempt status. We assume for the sake of this appeal,
without deciding the issue, that George is right."

-8-
§ 6110(k)(3) ("[A] written determination [by the IRS] may not be

used or cited as precedent.").

This principle is equally applicable to George's current

tax delinquency case. Biogenesis's section 501(c)(3) application

contained only George's unverified representations. These

representations did not show how Biogenesis actually operated (if

at all) from tax years 1995 to 2002. Thus, the tax court correctly

looked at whether the evidence presented at George's trial showed

that a tax-exempt organization existed within the meaning of

section 501(c)(4).

B. Organization Requirement

Alternatively, George claims that the tax court erred in

determining that Biogenesis did not independently fulfill

section 501(c)(4)'s requirements. "To qualify for a § 501(c)(4)

exemption, there must be (1) an organization, that (2) is not

operated for profit, and that is (3) operated exclusively for the

promotion of social welfare." George I, 448 F.3d at 100 (citing

26 U.S.C. § 501(c)(4); 26 C.F.R. § 1.501(c)(4)-1). The party

claiming the exemption bears the burden of demonstrating that it

satisfies all of the prerequisites by a preponderance of the

evidence. See IHC Health Plans, Inc. v. Comm'r, 325 F.3d 1188,

1193 (10th Cir. 2003); Fed'n Pharmacy Servs., Inc. v. Comm'r, 625

F.2d 804, 806 (8th Cir. 1980).

-9-
 We agree with the tax court that George failed to prove

that an organization distinct from himself existed prior to 2003.

In reaching this conclusion, the tax court properly took into

account the absence of organizational formalities and the lack of

"separation between [George] and his activities."5

On appeal, George argues the tax court erred by relying

too heavily on formal organizational structures such as his and

the core group's failure to "maintain[] financial records, ke[ep]

minutes, draft[] organizing documents or bylaws, [or] request[] an

employer identification number" as well as the absence of certain

required filings. George's argument fails for two reasons.

First, it was proper for the tax court to look for objective

indicia of organizational form such as filings and records.6 We

5 The Commissioner's brief urges us to apply the doctrine of
collateral estoppel and give the findings in George I preclusive
effect for the tax years 1996, 1997, 1998, and 1999. In order for
collateral estoppel to apply, the parties "must have actually
litigated the facts in question, and those facts must have been
essential to a valid and final judgment in a prior action." Morón-
Barradas v. Dep't of Educ., 488 F.3d 472, 479 (1st Cir. 2007).
Although George argued that the jury should have been instructed
on section 501(c)(4) organizations on appeal, the issue whether an
organization existed was not litigated in George I. As we noted,
George's theory of defense in his criminal case was that the monies
he deposited in his bank accounts "were gifts and donations from
George's patrons" rather than income of a section 501(c)(4)
organization. George I, 448 F.3d at 100. Thus, the issue whether
George's core group formed an organization was never presented to
the jury in George I.
6 We also believe that the fact that Biogenesis did not
incorporate until 2003, although not dispositive, serves as a

-10-
approved the use of such indicia in George I, noting that George

was not entitled to an instruction on section 501(c)(4)

organizations in part because he "did not operate an

'organization,' given that he failed to engage in any traditional

business behavior, such as maintaining records, hiring employees,

or maintaining a formal office." 448 F.3d at 101. Other courts

have used objective indicia to determine whether an organization

had a primarily charitable, rather than commercial, purpose in tax

exemption cases. See, e.g., Presbyterian & Reformed Publ'g Co.

v. Comm'r, 743 F.2d 148, 155 (3d Cir. 1984). We see no error in

the tax court's taking this evidence into account in determining

whether an organization existed.

Second, the tax court did not view the lack of

organizational formalities as dispositive. Rather, the tax court

considered the evidence in the record and, after weighing all these

factors, concluded that George and the core group did not operate

like an organization in the relevant tax years. As noted by the

tax court, one of the core group members did not view herself as

a member of an organization. She testified at George's trial that

"[Biogenesis] wasn't really an entity at that point that I knew

strong objective indicator that an organization distinct from
George did not exist during the applicable tax years. Notably,
George certified in his application that he was filing for tax-
exempt status within 15 months of Biogenesis's creation.

-11-
of. . . . [W]e were just a group of us trying to heal ourselves."7

The tax court also noted that George was "the sole researcher,

analyst, producer, service provider, and scientist," such that

"[n]o one in the core group besides [George] could have made an

ongoing concern of the alleged organization's reported primary

exempt purpose -- research in cell regeneration -- during the years

in issue." Finally, the tax court factored into its analysis the

fact that George "was the only 'member' of his group with control

over the alleged organization's funds in his personal bank

accounts."

Based on this evidence, the tax court could reasonably

conclude that the core group consisted of individuals who were

interested in George's supplements and advice, not members of an

organization. It is not clear how the core group members would

have continued Biogenesis's alleged mission of building upon

George's research in his absence when none of the core group

members participated in the research and creation of the

7 George argues the tax court should have given this witness's
testimony less weight because "her function in the organization
[preparing food for the retreats] had nothing to do with its legal
status." In other words, George argues that the tax court gave
improper weight to the testimony of a witness he views as less
persuasive than other core group members who testified.
"[W]eighing the evidence . . . is uniquely the province of the
[trial] court." Fed. Refinance Co. v. Klock, 352 F.3d 16, 29 (1st
Cir. 2003). We thus find no error in the tax court's consideration
of this testimony.

-12-
supplements or had access to funding.8 George argues that the tax

court should have considered other evidence in its organizational

calculus, such as the core group members' assistance with running

the retreats and promoting George's supplements. That George's

supplements had an ardent following, however, does not change the

crux of the tax court's analysis that the creation of the

supplements and the control over the group's funding were not

distinct from George. George also claims that there would be no

organization without the core group and retreat participants

because he received from them critical feedback to improve his

supplements. We fail to see how this argument would prevent any

sole proprietor's customers from being viewed as an organization.

Requiring evidence showing that Biogenesis could exist

separate from George comports with general principles of tax law.

Even if George intended to form an organization eventually, the

tax code generally does not allow anticipatory assignments of

income. See United States v. Basye, 410 U.S. 441, 447 (1973)

("[I]ncome is taxed to the party who earns it and that liability

may not be avoided through an anticipatory assignment of that

8 We also note that the supplement companies George dealt with
viewed him as a vendor and were unaware of his affiliation with a
charitable organization. These companies made their checks out
to George and were unaware of an organization called Biogenesis.
This further supports the tax court's finding that no organization
separate from Biogenesis existed.

-13-
income."). Thus, the income from the supplements and the interest

earned could not be attributed to an organization (rather than

George) until that plan to create an organization actually came to

fruition. George has shown neither any sufficient evidence

showing that he or the core group behaved as members of an

organization nor any other objective indicia of an organization.

We therefore conclude the tax court was not clearly erroneous in

finding no organization existed during the relevant tax years.

IV.

We need not go further. Because we find no

organization, we need not address the parties' arguments about

whether George's activities operated for profit or exclusively for

the promotion of social welfare. The decision of the tax court

is affirmed.

Affirmed.

-14-