T.C. Memo. 2012-273
UNITED STATES TAX COURT
BLAK INVESTMENTS, KYLE W. MANROE TRUST, ROBERT MANROE
AND LORI MANROE, TRUSTEES, TAX MATTERS PARTNER, Petitioner v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 1283-07. Filed September 25, 2012.
Ernest Scribner Ryder, Richard V. Vermazen, and Lauren A. Rinsky, for
petitioner.
Donna F. Herbert, Jonathan H. Sloat, and Eugene Kim, for respondent.
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[*2] MEMORANDUM OPINION
VASQUEZ, Judge: This case is before the Court on petitioner’s motion for
summary judgment, filed pursuant to Rule 121,1 to which respondent objects. We
previously held in BLAK Invs. v. Commissioner, 133 T.C. 431 (2009) (prior
Opinion), that the period of limitations for assessment of tax resulting from the
adjustment of partnership items with respect to the transaction at issue is open for
the year 2001 under section 6501(c)(10). Subsequently, petitioner stipulated that
“BLAK Investments was a sham, lacked economic substance, and was formed
and/or availed of to claim deductions of artificial losses solely for tax purposes” and
conceded that a 20% accuracy-related penalty under section 6662(a) applies to the
entire underpayment of tax resulting from the transaction. The sole issue remaining
for decision is whether petitioner is liable for the higher 40% penalty rate for a gross
valuation misstatement under section 6662(h).
Background
The facts are set forth in our prior Opinion and are incorporated herein by
this reference. For convenience, we summarize the relevant facts.
1
All section references are to the Internal Revenue Code in effect for the
year at issue, and all Rule references are to the Tax Court Rules of Practice and
Procedure. Amounts are rounded to the nearest dollar.
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[*3] I. The Transaction at Issue
BLAK Investments is a California general partnership created by Robert
Manroe and Lori Manroe (Manroes). On December 12, 2001, the Manroes, as
trustees of the Manroe Family Trust, borrowed Treasury notes with a maturity value
of $6,815,000 and sold the notes short on the open market for $5,481,713. That
same day, they contributed the short sale proceeds, $825,000 from the Manroe
Family Trust account, and the obligation to cover the short sale to BLAK
Investments in exchange for approximately 95% of the partnership interests.2 The
Manroes took the position that the obligation to cover the short sale was not a
liability for purposes of section 752(b), and they claimed a total basis in their
partnership interests equal to the contribution of the short sale proceeds and
$825,000 cash.
On December 28, 2001, BLAK Investments redeemed Ms. Manroe’s
interest in the partnership for $457,185 in cash and Mr. Manroe’s interest in the
partnership for $330,988 in cash and the U.S. dollar equivalent of $50,000 in
foreign currency. The Manroes claimed a short-term capital loss of $2,982,840 on
the redemption of Ms. Manroe’s interest and an ordinary loss of $2,539,769 on the
2
Two trusts the Manroes created for the benefit of their children owned
approximately 5% of the partnership interests.
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[*4] subsequent conversion of the foreign currency into U.S. dollars. On October
13, 2006, respondent issued BLAK Investments a final partnership administrative
adjustment (FPAA) disallowing both losses.
II. Procedural History
Petitioner, the tax matters partner of BLAK Investments, timely petitioned
the Court for review of the FPAA, arguing that respondent erred in determining
that BLAK Investments was a sham and lacked economic substance, erred in
making the adjustments set forth in the FPAA, and erred in asserting penalties.
Petitioner further argued that, in any event, the FPAA was not timely because the
period of limitations for assessment of tax for 2001 had expired. Both parties filed
motions for partial summary judgment as to the statute of limitations issue. In our
prior Opinion, we granted respondent’s motion and denied petitioner’s cross-
motion. We found that the transaction at issue is a listed transaction that is
substantially similar to the transaction described in Notice 2000-44, 2000-2 C.B.
255,3 and that petitioner failed to disclose its participation in the transaction as
3
This notice describes the tax shelter called Son-of-BOSS and its many
varieties. They generally revolve around a common theme of artificially inflating
basis in a partnership through the contribution of funds (commonly generated using
options, short sales, futures, derivatives, or similar means) and an associated,
offsetting liability that is typically not completely fixed at the time of transfer. See
Kligfeld Holdings v. Commissioner, 128 T.C. 192, 194 (2007).
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[*5] required under section 1.6011-4, Income Tax Regs. We held that section
1.6011-4, Income Tax Regs., and section 6501(c)(10) are valid and effective as to
the transaction, and hence the period of limitations for assessment of tax is open for
2001.
Petitioner subsequently conceded that BLAK Investments is a sham and lacks
economic substance. Petitioner further conceded that BLAK Investments is to be
disregarded for Federal income tax purposes and the capital contributions to BLAK
Investments are to be reduced from the $6,346,713 reported to zero. Finally,
petitioner conceded that it is liable for a 20% accuracy-related penalty under section
6662(a). The only issue left in dispute is whether the appropriate penalty is the 20%
penalty that petitioner conceded or the higher 40% penalty for a gross valuation
misstatement.
Discussion
I. Summary Judgment
Rule 121(a) provides that either party may move for summary judgment
upon all or any part of the legal issues in controversy. Full or partial summary
judgment may be granted only if it is demonstrated that no genuine dispute exists
as to any material fact and that the legal issues presented by the motion may be
decided as a matter of law. See Rule 121(b); Sundstrand Corp. v. Commissioner,
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[*6] 98 T.C. 518, 520 (1992), aff’d, 17 F.3d 965 (7th Cir. 1994). We conclude that
there is no genuine dispute as to any material fact and that a decision may be
rendered as a matter of law.
II. Gross Valuation Misstatement Penalty
Under section 6662(h), a taxpayer may be liable for a 40% penalty on any
portion of an underpayment of tax attributable to a gross valuation misstatement. A
gross valuation misstatement exists if the value or adjusted basis of any property
claimed on a tax return is 400% or more of the amount determined to be the correct
amount of such value or adjusted basis. Sec. 6662(h)(2)(A). Whether there is a
gross valuation misstatement in the partnership context is determined at the
partnership level. Sec. 1.6662-5(h)(1), Income Tax Regs.
We have held that when the Commissioner asserts a ground unrelated to value
or basis of property for totally disallowing a deduction or credit and a taxpayer
concedes the deduction or credit on that unrelated ground, any underpayment
resulting from the concession is not attributable to a gross valuation misstatement.
See McCrary v. Commissioner, 92 T.C. 827, 851-856 (1989). Petitioner conceded
the deductions on the grounds that BLAK Investments is a sham and lacks economic
substance--grounds unrelated to the value or basis of the Treasury notes, foreign
currency, or any other property in the transaction.
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[*7] Nonetheless, it has long been the Court’s view that the gross valuation
misstatement penalty does apply when the Court determines that an underpayment
stems from deductions or credits that are disallowed because a transaction lacks
economic substance or a participant is a sham. See Petaluma FX Partners, LLC v.
Commissioner, 131 T.C. 84, 104-105 (2008), aff’d in pertinent part, rev’d in part and
remanded, 591 F.3d 649 (D.C. Cir. 2010); Merino v. Commissioner, T.C. Memo.
1997-385, aff’d, 196 F.3d 147 (3d Cir. 1999); Zfass v. Commissioner, T.C. Memo.
1996-167, aff’d, 118 F.3d 184 (4th Cir. 1997); Illes v. Commissioner, T.C. Memo.
1991-449, aff’d, 982 F.2d 163 (6th Cir. 1992); Gilman v. Commissioner, T.C.
Memo. 1989-684, aff’d, 933 F.2d 143 (2d Cir. 1991); Massengill v. Commissioner,
T.C. Memo. 1988-427, aff’d, 876 F.2d 616 (8th Cir. 1989).
The Courts of Appeals are split on this issue. The Courts of Appeals for
the First, Second, Third, Fourth, Sixth, and Eighth Circuits have affirmed the
imposition of the valuation overstatement or misstatement penalty where the
underpayment results from a sham transaction lacking economic substance. Fid. Int’l
Currency Advisor A Fund v. United States, 661 F.3d 667, 674 (1st Cir. 2011);
Merino v. Commissioner, 196 F.3d at 158-159; Zfass v. Commissioner, 118 F.3d at
191; Illes v. Commissioner, 982 F.2d at 167; Gilman v. Commissioner, 933 F.2d at
151; Massengill v. Commissioner, 876 F.2d at 619-620. On the contrary, the
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[*8] Courts of Appeals for the Fifth and Ninth Circuits hold that when a deduction
or credit is disallowed in full, the resulting underpayment is not attributable to a
valuation overstatement. Keller v. Commissioner, 556 F.3d 1056, 1060-1061 (9th
Cir. 2009), aff’g in part, rev’g in part T.C. Memo. 2006-131; Heasley v.
Commissioner, 902 F.2d 380, 383 (5th Cir. 1990), rev’g T.C. Memo. 1988-408.
Both parties agree that an appeal of this case would lie in the Ninth Circuit.
In Bergmann v. Commissioner, 137 T.C. 136 (2011), we recently decided a
case that is indistinguishable from the present case. The taxpayers there engaged in
a son-of-BOSS transaction using offsetting option contracts that was substantially
similar to the transaction described in Notice 2000-44, supra, and in the present
case. Id. at 137-138. They conceded that they were not entitled to the loss
deductions stemming from the transaction and would be liable for the 20%
accuracy-related penalty if they failed to file a qualified amended return under
section 1.6664-2(c)(3), Income Tax Regs. (which we held they failed to do). Id. at
136-137, 139 n.3. We then decided whether the taxpayers were liable for the
higher 40% penalty for a gross valuation misstatement. Id. at 145. We noted that
the Court of Appeals for the Ninth Circuit, “recognizing that in many Federal
circuits the gross valuation penalty applies ‘when overvaluation is intertwined with
a tax avoidance scheme that lacks economic substance’, held that it was
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[*9] constrained under its own precedent from applying the gross valuation penalty
in that situation.” Id. at 146 (quoting Keller v. Commissioner, 556 F.3d at 1061).
We held, under Golsen v. Commissioner, 54 T.C. 742 (1970), aff’d, 445 F.2d 985
(10th Cir. 1971), that we would follow the Ninth Circuit decision in Keller as it was
squarely on point. Bergmann v. Commissioner, 137 T.C. at 146-147.
Petitioner argues that Keller likewise controls here.4 Respondent makes no
attempt to distinguish Keller or Bergmann from the present case. Fully aware that
these cases are binding precedent, he instead argues that we should decline to follow
the Ninth Circuit opinion in Keller and “disregard” our previous Opinion in
Bergmann.5 Before addressing the merits of their arguments, we briefly review the
doctrine of stare decisis and the reason we do not just disregard precedent.
A. Stare Decisis
In Vasquez v. Hillery, 474 U.S. 254, 265-266 (1986), the Supreme Court
stated:
[T]he important doctrine of stare decisis [is] the means by which
we ensure that the law will not merely change erratically, but will
4
Bergmann v. Commissioner, 137 T.C. 136 (2011), had not yet been
decided at the time petitioner filed its motion for summary judgment.
5
Respondent filed his response to petitioner’s motion for summary judgment
before Bergmann was decided, but he later supplemented his response to address
our holding in Bergmann.
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[*10] develop in a principled and intelligible fashion. * * * While stare
decisis is not an inexorable command, the careful observer will discern
that any detours from the straight path of stare decisis in our past have
occurred for articulable reasons, and only when the Court has felt
obliged “to bring its opinions into agreement with experience and with
facts newly ascertained.” Burnet v. Coronado Oil & Gas Co., 285 U.S.
393, 412, 52 S.Ct. 443, 449, 76 L.Ed. 815 (1932) (Brandeis, J.,
dissenting).
Our history does not impose any rigid formula to constrain the
Court in the disposition of cases. Rather, its lesson is that every
successful proponent of overruling precedent has borne the heavy
burden of persuading the Court that changes in society or in the law
dictate that the values served by stare decisis yield in favor of a greater
objective. * * *
We have similarly stated that stare decisis “generally requires that we follow the
holding of a previously decided case, absent special justification. This doctrine is of
particular importance when the antecedent case involves statutory construction”.
State Sec. Bank v. Commissioner, 111 T.C. 210, 213-214 (1998), aff’d, 214 F.3d
1254 (10th Cir. 2000); see also Hesselink v. Commissioner, 97 T.C. 94, 99-100
(1991). Therefore, respondent bears the heavy burden of persuading us that we
should overrule our established precedent.
Respondent has advanced only one argument that merits further discussion.
He argues that because the Court of Appeals for the Ninth Circuit did not
consider section 1.6662-5(g), Income Tax Regs., in Keller, that decision has been
superseded by the intervening opinion of the Supreme Court in Mayo Found. for
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[*11] Med. Educ. & Research v. United States, 562 U.S. ___, 131 S. Ct. 704
(2011), which emphatically reminded lower courts that they must defer to regulations
that satisfy the two-step Chevron standard. Chevron, U.S.A., Inc. v. Natural Res.
Def. Council, Inc., 467 U.S. 837, 842-843 (1984). He further argues that we should
“disregard Bergmann because it fails to address the deference argument”. We
disagree.
B. The Regulation
Section 1.6662-5(g), Income Tax Regs., states: “The value or adjusted basis
claimed on a [tax] return of any property with a correct value or adjusted basis of
zero is considered to be 400 percent or more of the correct amount. There is a gross
valuation misstatement with respect to such property, therefore, and the applicable
penalty rate is 40 percent.” It is essential to consider this regulation in the context of
the statute, which imposes a penalty on an underpayment of tax “attributable to” a
substantial valuation misstatement. Sec. 6662(a), (b)(3). The statute defines a gross
valuation misstatement by reference to a substantial valuation misstatement,
substituting 400% for 200% each place it appears. Sec. 6662(h)(2)(A). Therefore, if
an underpayment of tax is not attributable to a substantial valuation misstatement,
there can be no gross valuation misstatement and the regulation would have no
application.
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[*12] Contrary to respondent’s assertions that we must give deference to this
regulation because Keller did not address it and is inconsistent with it, we believe
that the regulation would not apply under the Court of Appeals for the Ninth Circuit
decisions in Keller and Gainer v. Commissioner, 893 F.2d 225 (9th Cir. 1990), aff’g
T.C. Memo. 1988-416, upon which Keller relies. The Court of Appeals was well
aware of the regulation when it decided Keller.6 We believe the Court of Appeals
saw no need to address the regulation as the taxpayer there did not contest the
amount of the overvaluation; he instead argued that section 6662(h) is not
“applicable in the first instance” because “his tax underpayment is not ‘attributable
to’ the valuation overstatement”. Keller v. Commissioner, 556 F.3d at 1059.
The Court of Appeals agreed with the taxpayer and held that “When a
depreciation deduction is disallowed in total, any overvaluation is subsumed in that
disallowance, and an associated tax underpayment is ‘attributable to’ the invalid
deduction, not the overvaluation of the asset.” Id. at 1061. Because the Court of
Appeals found that section 6662(h) was inapplicable, the regulation interpreting
section 6662(h) would have been equally inapplicable. Moreover, the Court of
6
Sec. 1.6662-5(g), Income Tax Regs., was cited in Keller v. Commissioner,
T.C. Memo. 2006-131, aff’d in part, rev’d in part, 556 F.3d 1056 (9th Cir. 2009),
which the Court of Appeals reversed and remanded on this issue.
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[*13] Appeals for the Fifth Circuit (which shares both the Court of Appeals for the
Ninth Circuit’s reasoning and holding on this issue) has addressed section 1.6662-
5(g), Income Tax Regs., in a recent case and found it inapplicable. See Bemont
Invs., L.L.C. ex rel. Tax Matters Partner v. United States, 679 F.3d 339, 348 n.5 (5th
Cir. 2012) (finding that the regulation “does not purport to negate the holdings in the
cases discussed above--that the valuation misstatement penalty does not apply when
the IRS completely disallows a deduction on other grounds. It only helps determine
whether a valuation misstatement is a gross misstatement. In particular it specifies
how to characterize a valuation misstatement when the true basis is determined to be
zero”). Accordingly, we hold under the Golsen rule that we are bound to follow the
Ninth Circuit decision in Keller, which is squarely on point. Petitioner’s motion for
summary judgment will be granted.
We have considered all arguments made in reaching our decision and, to the
extent not mentioned, we conclude that they are moot, irrelevant, or without merit.
To reflect the foregoing,
An appropriate order will be
issued, and decision will be entered
under Rule 155.