An appropriate order will be issued.
P, as an employee of a subch. S bank, received a bonus that was repayable in part if he quit or was fired for cause. P reported the full amount of the bonus but now argues that part was a nontaxable loan. P, as a shareholder, reported his share of the company's earnings from its regulatory financial filings and not from the Schedule K-1 which the bank prepared for him. P did not notify R of this inconsistent reporting; and only after the issuance of the notice of deficiency did R assess the income tax resulting from this inconsistent treatment.
R contends: (1) The entire bonus was taxable income in the year received, (2) P should have reported his shareholder income consistently with the bank's Schedule K-1, and (3) P failed to include some dividend, interest, and gambling income on his return. R issued a notice of deficiency determining a deficiency and imposing an accuracy-related penalty under
P has conceded R's adjustments relating to dividend, gambling, and interest income. P and R agree that this Court has jurisdiction to decide all issues. However, the Court raises the question of whether
Held: R's failure to assess the amount of the deficiency attributable to the amount reported inconsistently with the Schedule K-1 before issuing the notice of deficiency does not exclude this amount of tax from the deficiency as defined in
*239 GOEKE, Judge: Michael Winter owned stock in the subchapter S bank where he worked. The bank paid him a large bonus in 2002 but then fired him and demanded part of the bonus back in 2003. On his 2002 Federal income tax return Winter reported the full amount of his bonus and his share of the bank's income and deductions—not as those items were reported by the bank but from his own estimates of what *30 they were.
The parties have argued mostly about the consequences of Winter's failure to report his income from the bank in a manner consistent with the bank's reporting on its return and about the taxability of his bonus in the year he received it. We ourselves question whether we have jurisdiction over these issues because the Internal Revenue Code provides that adjustments arising from inconsistencies between the return of a taxpayer and that of an S corporation in which the taxpayer has an ownership interest should be treated as math errors. The parties tell us that this has no effect on our jurisdiction. This Court agrees with the parties.
BackgroundBuilders Bank (Builders), a corporation wholly owned by Builders Financial Corp. (BFC), hired Winter in 2001 to be its chairman and CEO and granted him a large number of stock options. Winter exercised these options, and by 2002 he owned over 26 percent of BFC. Builders also paid Winter a $5 million bonus that was repayable in part if he quit or were fired for cause. BFC was an S corporation.
Within a year Builders grew dissatisfied with Winter. It fired him on December 26, 2002, and claimed the firing was a termination for cause. In early *31 2003 it demanded repayment of the unearned portion of the bonus, which by that time was a bit more than $4 million. Winter refused to pay, and he and Builders took their dispute to State court, where Winter argued that Builders had no cause to fire him. The case seems to have been settled, because it was dismissed in January 2004 without opinion.
But before then, in 2003, Winter needed to figure out how much income he had and how to report it on his 2002 income *240 tax return. S corporations 1 are required to send their shareholders Schedules K-1, Shareholder's Share of Income, Credits, Deductions, etc., listing the amounts of passthrough income or loss they should report on their individual income tax returns.
On its 2002 tax return 2 BFC deducted about *32 $1 million of Winter's bonus payment as a salary expense. BFC split the remaining $4 million—reporting $2 million as prepaid compensation and reducing retained earnings by the same amount, neither of which it deducted against income for 2002. BFC included a copy of each shareholder's Schedule K-1 in the 2002 return that it filed, including one for Winter that showed $820,031 in ordinary passthrough income and $5,062 as his share of BFC's charitable contributions. The Internal Revenue Service (IRS) later audited BFC's return but ended up accepting it as filed.
S corporation shareholders usually report their shares of the corporation's items the same way those items are reported on the Schedules K-1, if only because they know S corporations send the information to the IRS. But Winter broke this pattern. Instead of using the information on the Schedule K-1, he *33 looked up BFC's regulatory financial statements on the FDIC Web site, took the net loss reported there, and multiplied it by his percentage ownership at the end of 2001. (Winter owned 26.82 percent of BFC at the end of 2001 and claims he was unaware of an equity distribution that left him with only 26.32 percent at the end of 2002.) This calculation would probably work if BFC treated each item identically for both tax and regulatory reporting purposes. But BFC's 2002 regulatory statements showed a charge against earnings for the entire bonus paid to Winter, in contrast to its 2002 tax return on which it claimed a deduction for just one-fifth. Winter's calculations—based on the regulatory report—therefore showed a total 2002 passthrough loss of *241 about $1.2 million and not the passthrough income of about $820,000 that BFC had reported on Winter's Schedule K-1. Winter also failed to claim his share of BFC's charitable contributions reported on its tax return.
Winter's excuse for this deviation from normal reporting procedures was that he never received a Schedule K-1. The record shows, however, that Builders sent an overnight package via FedEx to Winter on March 13, 2003. Builders claims *34 that the package held a cover letter and Winter's 2002 Schedule K-1. Winter claims that he never got the package. We find that Builders used the correct name, street address, State, and ZIP Code but listed the wrong Chicago suburb (Highland Park instead of Deerfield) on the mailing label. There was another Michael Winter who lived in Highland Park, but his house number, street name, and ZIP Code were all different. The parties offer no evidence that this other Michael Winter received the package; and though FedEx did not obtain a signature, Builders did receive confirmation of delivery on March 14, 2003. Winter also never asked Builders or the IRS for another copy of the Schedule K-1.
On February 24, 2006, respondent issued Winter a notice of deficiency, including respondent's determination that Winter should have reported BFC income consistent with the income shown on the Schedule K-1. After the issuance of the notice of deficiency, respondent summarily assessed the amount of tax based upon the reporting inconsistent with the Schedule K-1.
Winter was a resident of Illinois when he timely filed his petition, and he petitioned the Schedule K-1 disputed amount as well as other issues. *35 Trial was set to begin in Chicago when the parties agreed to submit the case for decision under
The issue is whether this Court has jurisdiction over the adjustment to Winter's distributive share of S corporation income or whether respondent must assess the tax related to *242 the adjustment as a math error under
The concern regarding our jurisdiction arises because Winter failed to comply with
(3) Effect of failure to notify. * * *
* * * *
any adjustment required to make the treatment of the items by such shareholder consistent with the treatment of the items on the corporate return shall be treated as arising out of mathematical or clerical errors and assessed according to
(1) Assessments arising out of mathematical or clerical errors.—If the taxpayer is notified that, on account of a mathematical or clerical error appearing on the return, an amount of tax in excess of that shown on the return is due * * * such notice shall not be considered as a notice of deficiency * * * and the taxpayer shall have no right to file a petition with the Tax Court based on such notice, nor shall such assessment or collection be prohibited * * *
Reading the two sections together, our colleague suggests that when a deficiency arises from an inconsistency *37 between a shareholder's return and his S corporation's return and the shareholder fails to report it, the IRS must issue a math-error notice and use summary-assessment procedures.That is not what happened here in the first instance. Instead of summarily assessing the tax arising from the inconsistent reporting and issuing a notice of deficiency for the rest, respondent originally issued a single notice of deficiency *243 for both the increase in tax due to inconsistent reporting and the much smaller increase in tax due to Winter's failure to report income listed on some Forms 1099. Winter's petition disputes the entire amount of the deficiency, and respondent summarily assessed the tax caused by the inconsistent reporting only after the jurisdiction issue was raised in this docketed case. This raises the question whether the failure of the IRS to summarily assess before the issuance of the notice of deficiency precludes our jurisdiction on the issue of the correct income from the S corporation.
The parties agree with each other that we have jurisdiction over all issues and make four points. First, they say that
The more direct answer to this jurisdiction issue is found in the definition of "deficiency".
There can be no question that when the taxpayer petitioned the Tax Court to redetermine the asserted deficiency, the Tax Court acquired jurisdiction to decide the entire gamut of possible *41 issues that controlled the determination of the amount of tax liability for the year in question. A party cannot, in such a case, by failing to raise an issue, or by asking the court not to consider it, escape the Res judicata effect of the decision. This is hornbook law.
*245 Our colleague emphasizes that
As noted previously, respondent assessed the tax arising from the inconsistent reporting of the S corporation income after the Court raised this issue and respondent suspended collecting the assessment pending resolution of the jurisdiction issue. If there is any question whether respondent must summarily assess to raise the inconsistency issue, it is not before us, and we leave that question for future cases.
In conclusion, we have jurisdiction over all *44 of the issues in this case.
An appropriate order will be issued.
Reviewed by the Court.
COLVIN, WELLS, GALE, THORNTON, MARVEL, WHERRY, KROUPA, GUSTAFSON, PARIS, and MORRISON, JJ., agree with this majority opinion.
HALPERN, J., concurring in the result only:
I. The MajorityAlthough I agree with the result the majority reaches, I find its analysis confusing because of the reservation in the penultimate paragraph. The majority states: "If there is any question whether respondent must summarily assess to raise the inconsistency issue, it is not before us, and we leave that question for future cases." Majority op. p. 14.
The majority concludes that we have jurisdiction to consider petitioner's claim that his income from BFC was less than the amount reported on the Schedule K-1 he received from Builders. The majority so concludes principally on two alternative grounds. The first is that petitioner assigned error to the entire deficiency that respondent determined, and the alleged unreported income was one of respondent's adjustments contributing to that deficiency. Majority op. p. 10. The second is that, pursuant to our overpayment jurisdiction (which petitioner has invoked), we have "authority *45 to decide all the issues necessary to determine the correct amount of income tax for the taxable year in issue." Majority op. p. 11. The majority points out that the correct amount of the *247 year's tax even includes amounts that cannot be assessed because the period of limitations on assessment and collection has expired. Majority op. p. 11.
What is confusing about the reservation in the penultimate paragraph is that assessment plays no role in either of the majority's principal grounds.
II. The DissentI do not agree with Judge Holmes, whose argument, I believe, rests on a doubtful premise. As Judge Holmes points out, following the repeal of the two-tier TEFRA audit provisions applicable to S corporations, Congress enacted
What if an S corporation shareholder's only inconsistent reporting (which he does not identify for the Secretary) were his failure to claim a $100 deduction (like the charitable contribution deduction in this case)? The Commissioner would not (indeed, could not) because of that inconsistency assess any additional tax. Now assume that the Commissioner for the same year determines a $35 deficiency in the shareholder's income tax on the ground that he failed to report a $100 taxable dividend from a source other than the S corporation. The shareholder petitions this Court and assigns error to the Commissioner's determination solely on the ground that there is no deficiency because the omitted $100 dividend (which he concedes) is exactly offset by the omitted $100 deduction (which, for the first time, he now claims) and his income tax liability is no greater than the liability shown *248 *47 on his return. 1 The Commissioner thinks the deduction involves an unresolved question of fact and will not concede any offset. Judge Holmes, I suppose, would refuse to hear the shareholder's offset claim and would send him off with a $35 deficiency and, perhaps, the advice to pay it and sue for a refund. The shareholder's refund claim would not, however, in Judge Holmes' terms, dissenting op. p. 44, "fit snugly" within
The Internal Revenue Code is extraordinarily complex, *48 and its parts do not always fit together well. The arguments and evidence that Judge Holmes assembles are insufficient to convince me that his reading is correct. Although a taxpayer who receives notification of inconsistent treatment cannot, in response to that notification, petition the Tax Court, a taxpayer who receives a statutory notice of deficiency is explicitly so empowered. While undoubtedly there will be difficulties in harmonizing
GOEKE and GUSTAFSON, JJ., agree with part II of this concurring opinion.
HOLMES, J., dissenting: No one disputes that Winter reported inconsistently with his S corporation's return and that this forced the Commissioner to make adjustments.
*249 The majority doesn't really wrestle with the meaning of this section, but instead pokes around in other corners of the Code to find support for its holding that we have jurisdiction to review the Commissioner's adjustments to Winter's return. But
I disagree.
I.Inconsistent reporting results when a taxpayer *50 reports an item on his tax return differently than another entity or taxpayer reports the same item. Before 1982, inconsistent reporting between partners and their partnership, and between S corporation shareholders and their corporation, was a particularly difficult problem for the IRS. The Code doesn't tax partnerships and S corporations at the entity level, and inconsistent reporting forced the IRS to fight partnership or corporate issues with each individual partner or shareholder. This was burdensome, repetitive, and easily led to inconsistent results among similarly situated taxpayers.
In 1982 Congress armed the IRS with a powerful weapon against inconsistency, the Tax Equity and Fiscal Responsibility Act of 1982 (TEFRA),
Most S corporations were at first subject to these TEFRA procedures. But in 1996, Congress repealed the laws that created the S-corporation procedures and decreed that S corporations would no longer have to follow TEFRA. Small Business Job Protection Act of 1996 (SBJPA),
One of these "other rules" is
(3) Effect of failure to notify. * * *
* * * *
any adjustment required to make the treatment of the items by such shareholder consistent with the treatment of the items on the corporate return shall be treated as arising out of mathematical or clerical errors and assessed according to
Everyone else involved in this case agrees that the Tax Court has jurisdiction over all the issues Winter raises. They do not agree on exactly why that should be so. The parties argue that
The majority adopts some of these, but skips over the language of
I begin with the language of
The second question is the meaning of
The final question is: what does
If "shall" means "shall", this means that consistency adjustments have to be assessed under
I would therefore hold that we lack jurisdiction in a deficiency case to decide the amount of Winter's passthrough income or loss from BFC. The Commissioner had no power to issue a notice of deficiency with respect to this item—and even though he issued one anyway, that doesn't give our Court *58 power to review the adjustments it makes. Congress could of course have written the Code to give the Commissioner more than one way to assess, and sometimes it has. Consider the procedure for correcting tentative carryback adjustments. This, too, is an exception to the restrictions on assessment in
The method * * * to recover any amount applied, credited, or refunded in respect of an application for a tentative carryback adjustment which should not have been so applied, credited or refunded is not an exclusive method. Two other methods are available to recover such amount: (a) By way of a deficiency notice under section 6212; or (b) by a suit to recover an erroneous refund under section 7405. * * * [Emphasis added.]
although actual mathematical or clerical errors that are summarily assessed may become subject to the normal deficiency procedures after abatement,
These examples stand in stark contrast to
The majority implicitly disagrees with my view that this case forces us into a close reading of
This would be a very tough chore. For, if the majority is right that the consistency adjustment in this case is a deficiency by definition, simply because the Commissioner determined it was, majority op. p. 10, then
Yet, despite the plain meaning of the word "shall" and our repeated recognition of that word's mandatory nature, see, e.g,
The majority correctly notes that when we have jurisdiction over part of a taxpayer's tax liability for a particular year, we generally have jurisdiction to decide all the issues necessary to determine the correct tax for that year. Majority op. p. 10.
There can be no question that when the taxpayer petitioned the Tax Court to redetermine the asserted deficiency, the Tax Court acquired jurisdiction to decide the entire *65 gamut of possible issues that controlled the determination of the amount of tax liability for the year in question. A party cannot, in such a case, by failing to raise an issue, or by asking the court not to consider it, escape the Res judicata effect of the decision. This is hornbook law.
Majority op. p. 12.*257 Denying that there can be a question about our jurisdiction sort of assumes the answer about whether we have jurisdiction. The quoted passage is, nevertheless, an excellent starting point. The very next sentence in Russell, however, says: "We have held that there is an exception to the foregoing well established rule."
The majority doesn't ask the seemingly inevitable next question of whether
In
Hinck recognized that the Code gave Tax Court jurisdiction in some circumstances, but argued that its silence about the jurisdiction of other courts should not be read as making our jurisdiction exclusive. He urged the Supreme Court to follow the Fifth Circuit's opinion in
The Supreme Court disagreed. In holding that we had exclusive jurisdiction, the Court said it was governed by "the well-established principle that, in most contexts, "'a precisely drawn, detailed statute pre-empts more general remedies,'"
Similar reasoning should guide us here. TEFRA originally supplied the Commissioner with procedures to enforce consistent reporting among S-corporation shareholders, including corporate-level remedies for those taxpayers. But after several years, Congress found those *69 remedies to be a problem for entities with a small number of affected shareholders. To fix this, it exempted S corporations from TEFRA, and enacted
Following Hinck, I think we must reject the argument that silence overrides a limitation on a taxpayer's remedy. Even if the Code's general provisions would give us jurisdiction, where a specific section says otherwise we can't justifiably argue that the general trumps the specific. Hinck points us in exactly the opposite direction—that
The majority does argue that even if Congress meant what it said *70 when it said the Commissioner "shall" assess according to
The problems harken back to the definition of deficiency. Recall that if the consistency adjustment is part of the deficiency, then the Commissioner cannot assess or collect it until our decision becomes final; but if it isn't then the Commissioner shall make an immediate assessment and demand payment. See
*260 The majority seems to avoid this problem by quoting the definition of "deficiency" as "the amount by which the correct tax imposed by the Code exceeds the amount of tax shown on the return plus the amount of tax previously assessed less any rebates." Majority op. pp. 9-10. This is almost right—
We have never directly interpreted in our precedential caselaw what it means for something to be assessed "as a deficiency." 6 In
A related difficulty is that
Reading "previously assessed" to mean "assessed before we enter a final decision" may look uncontroversial. But it may lead to some strange results if we're not careful in analyzing whether the Commissioner's summary assessment is an "[amount] previously assessed * * * as a deficiency." The majority opinion is deeply ambiguous on this point. But consider the two alternatives. The first is that the summary assessment makes the consistency adjustments in this case "an amount of tax previously assessed as a deficiency." But that would mean—because the Code excludes such amounts from
The second alternative is that an amount that is summarily assessed is not "an amount of tax previously assessed as a deficiency." This would solve the jurisdictional problem from the majority's perspective—our decision would allow the Commissioner to assess the full deficiency we redetermine, as the majority puts it in note 4. But then what effect would a summary assessment have?
Look at a simplified example. Recall the definition of deficiency. In algebraic form, d = t-(s + a), where deficiency (d) equals the actual tax imposed by the Code (t) less the total tax *75 shown on the return (s) plus prior assessments as a deficiency (a). 8 See
Thinking through the implications of the majority's assertion that a summary assessment is an "amount previously assessed" if it's made before the date *76 of our decision—and if a summary assessment is considered an "amount previously assessed * * * as a deficiency," Spring's deficiency would be $50. Her true tax ($1,000) minus the sum of her self-reported tax ($400) plus any amount previously assessed as a deficiency ($550) is $50. In pure numbers: $1,000 - ($400 + $550) = $50. Not coincidentally, this is the same amount of tax due to her unreported dividend income which has not already been assessed. It also quite clearly does not include the $550 amount summarily assessed. So if summary assessments are considered amounts previously assessed as a deficiency, then they are not part of the current deficiency and we don't have jurisdiction to redetermine them. (And this dissent would be a concurrence.)
If this is not true—if a summary assessment is not considered an "amount previously assessed * * * as a deficiency"—Spring's deficiency would be $600. Her true tax ($1,000) minus the sum of her self-reported tax ($400) plus any amount previously assessed as a deficiency ($0) is $600. Again, in numbers: $1,000 - ($400 + $0) = $600. This suggests that both the consistency adjustment and the unreported dividend income are part of the deficiency *77 and we have jurisdiction to redetermine both. (The majority's holding, after all, is that we do have jurisdiction to redetermine the Commissioner's summarily assessed consistency adjustments to Winter's tax bill.)
The problem here is that the majority says the effect of its holding is to allow the Commissioner to assess Spring's newly determined deficiency of $600. This potentially leaves Spring with quite a tax bill. She has reported $400, which was undoubtedly assessed as required under
One may also suggest that we have the authority under
Turning now to some arguments that the parties alone made, I first address the Commissioner's argument that if summary assessment is his exclusive avenue under
I disagree.
The Code has a somewhat similar rule in
The Commissioner finally argues that it would be more efficient to consolidate in one proceeding all the issues that Winter is raising. I don't necessarily disagree, 10*84 but sometimes cracking one tax year into two cases is just what the Code requires. Our opinion in
We do sometimes depart from a literal reading of a statute when the related legislative history shows clear but contrary legislative intent. See
The majority contends that because Congress removed S corporations from TEFRA, it would be inconsistent with legislative history to "assume that Congress intended to eliminate S corporation items from the deficiency jurisdiction of this Court * * * because there is no provision for a separate judicial *85 determination of the inconsistently reported item." Majority op. pp. 13-14. The majority misreads my point—I don't suggest that we reinstitute a corporate-level proceeding in Tax Court for S corporations. Instead,
The majority also implies that
We've been through this before. In
This just doesn't work out well for us. See
And in other cases we have found statutes not using the magic word "jurisdiction" to still limit ours. For example, in
To summarize,
If we were to respect Congress's choice of the word "shall", we would have to determine which items on Winter's return were *89 required to be summarily assessed. Although we've been discussing Winter's passthrough income from BFC, the statute actually imposes a consistent reporting duty for any "subchapter S item."
• Winter's passthrough income from BFC;
• proper timing for BFC's deduction of Winter's bonus;
• characterization and timing of Winter's bonus;
• Winter's share of BFC's charitable contributions; and
• any related penalties.
I'll address them in order.*269 Winter's Passthrough IncomeThe relevant regulation tells us that subchapter S items include "[t]he S corporation aggregate and each shareholder's share of * * * [i]tems of income, gain, loss, deduction, or credit of the corporation."
Whether BFC should have deducted Winter's bonus in full on its 2002 return is an item of deduction of the corporation, and therefore it, too, is a subchapter S item. See id. If Winter was right and BFC was wrong, Winter's remedy was to report it correctly on his return and file a Form 8082, alerting the Commissioner to BFC's error and the inconsistency created by his correction. Winter didn't do this, so I would leave this question to a refund forum as well.
Characterization and Timing of Winter's BonusWinter was not only a shareholder of BFC but also an employee. When he filed his 2002 return, he reported his entire prepaid bonus as taxable employee income, which was consistent with the W-2 Builders sent to him. But now Winter claims only a portion of the bonus should be taxable in 2002 either because it was really a loan and not income (the characterization issue); or, *91 if it was income, because he did not have unrestricted access to it and so should not be taxed on it until some later year (the timing issue).
This item isn't in the notice of deficiency, but that doesn't matter. This is an instance where Winter argues that he overpaid his 2002 taxes, and
The first step is to decide whether the character of the bonus (as compensation or a loan) is a subchapter S item. I look again to the regulation, which says that subchapter S items include:
(5) Items relating to the following transactions, to the extent that a determination of such items can be made from determinations that the corporation is required to make with respect to an amount, [or] the character of an amount, * * * for purposes of the corporation's books and records or for purposes *92 of furnishing information to a shareholder.
* * * *
(c) Illustrations—(1) In general. This paragraph (c) illustrates the provisions of paragraph (a)(5) of this section. * * * The critical element is that the corporation is required to make a determination with respect to a matter for the purposes stated * * *.
* * * *
(3) Distributions. For purposes of its books and records, or for purposes of furnishing information to a shareholder, the S corporation must determine:
(i) The character of the amount transferred to a shareholder (for example, whether it is a dividend, compensation, loan, or repayment of a loan) * * *
But he did his duty. Winter and BFC each reported the bonus as compensation and not a loan. Although BFC didn't claim a current deduction for the entire amount of the bonus, it treated the payment as a corporation should treat a partially *271 prepaid bonus (or so the IRS thought when it accepted BFC's return as filed): by claiming the earned portion of the bonus as a deduction in 2002, reporting the rest as either prepaid wages or a decrease in retained earnings, and by reflecting the entire amount on Winter's W-2. Winter likewise reported the income as a cash-basis taxpayer should report a prepaid bonus—with the entire amount taxed in the year received, as reported on his W-2. Therefore, even though he now argues that he treated it incorrectly, Winter reported consistently with the way BFC did and did not lose his access to Tax Court.
If we find Winter's bonus payment was income, we also must decide whether Winter reported the income in the appropriate year. And so again we must analyze whether Winter's *94 timing is a subchapter S item. Our trusty regulation tells us that even factors that affect the determination of subchapter S items are subchapter S items. It says: "The term 'subchapter S item' includes * * * the legal and factual determinations that underlie the determination of the existence, amount, timing, and characterization of items of income, credit, gain, loss, deduction, etc."
But again Winter's reporting was consistent with BFC's return. Though Winter now contests it, both he (on his tax return) and BFC (in the W-2) originally reported the income as an unrestricted payment, taxable to him entirely in 2002. Therefore, Winter has met his consistent-reporting duty, and I would hold that we have jurisdiction over this issue.
*272 Winter's Share of Charitable ContributionsAn S corporation can make charitable contributions, but it doesn't deduct them when calculating its income. See
On the K-1 that it sent to Winter, BFC listed $5,062 as his share of its charitable contributions. Winter did not claim this deduction on his return, and the Commissioner *96 questioned in his pretrial brief whether Winter should now be able to.
The regulation tells us that each shareholder's share of "expenditures by the corporation not deductible in computing its taxable income (for example, charitable contributions)" is a subchapter S item.
The last issue we would need to resolve is whether Winter owes a penalty. The jurisdictional problem here makes this issue particularly murky. No one contests that we have jurisdiction over the interest, dividend, and gambling income that Winter left off his return and therefore we have jurisdiction over any related penalty as well,
If we didn't find jurisdiction over Winter's inconsistent reporting, however, we would still have to decide whether we have jurisdiction over the related *97 penalties (whether for negligence or substantial understatement). Looking first to the Code,
*273 Except as otherwise provided in this title—
(1) [T]he additions to the tax, additional amounts, and penalties provided by this chapter 14 shall be paid upon notice and demand and shall be assessed, collected, and paid in the same manner as taxes * * *.
We have interpreted this section to mean that, absent some exceptions to the general rule, an addition to tax measured by a tax deficiency is subject to deficiency procedures. SeeThus, the Code logically provides that where the penalty is measured by a tax deficiency it is subject to the same procedure as the deficiency, for if the deficiency is revised by the Tax Court the penalty will be revised along with it. * * * If self-returned taxes are collected *98 without the issuance of * * * [notices of deficiency], it follows simpliciter that none are required for delinquency penalties measured thereon.
We have usually addressed this issue in the context of penalties measured by a deficiency determined by the Commissioner (which are subject to deficiency procedures) versus penalties measured by self-reported taxes (which are summarily assessed). But Winter's case is subtly different—what do we do with penalties measured by an asserted deficiency made by the Commissioner that is not subject to deficiency procedures?
In Estate of DiRezza, the taxpayer agreed to the Commissioner's adjustment but not an addition to tax 16 measured by that adjustment.
And it isn't surprising that *100 we didn't discuss it—the Code sections that deny taxpayers access to deficiency procedures for such adjustments were enacted more than fourteen years after we decided Estate of DiRezza. See Taxpayer Relief Act of 1997, Pub. L. 105-34, sec. 1222(a), 111 Stat. 1008 (enacting
We also said in
Therefore, unless the Code says otherwise, I would hold that the jurisdiction for the penalty follows the jurisdiction for the related tax. This makes sense. For us to find negligence or substantial understatements where we had no jurisdiction over the underlying issue would require us to improperly conclude that there was an understatement in the first place. And if we sustained a negligence penalty and Winter later pursued his case in a refund forum, our opinion *102 would be merely advisory. Further, a substantial understatement penalty is purely computational and based on the amount of the total understatement, which in my view we have no jurisdiction to determine. See
My conclusion in this case might involve more work than the majority's rolling of all issues into a single deficiency case, but I prefer to respect the plain language of the statute. Some may also find my reading harsh—it would require S corporation shareholders who fail to notify the Commissioner that they are taking a position inconsistent with their corporations to prepay their taxes before disputing them.
But we live in a textualist world, and the text requires this result. A general grant *103 of jurisdiction need not be specifically repealed, a limitation on jurisdiction need not be specially noted in legislative history, we need not have to discern some good policy reason or purpose in the words of the Code that—even inadvertently—limit our power in a particular case or over a particular issue or (as here) over any "adjustment required to make the treatment of the items by *276 such shareholder consistent with the treatment of the items on the corporate return."
I respectfully dissent.
Footnotes
1. If a business meets the requirements of
sec. 1361 , it may elect to become an "S corporation" and pay no corporate tax. An S corporation's income and losses, like a partnership's, flow through to its shareholders, who then pay income tax.All section references in this Opinion are to the Internal Revenue Code in effect for the year at issue unless otherwise indicated. All Rule references are to the Tax Court Rules of Practice and Procedure.↩
2. Builders and BFC filed consolidated Federal and State income tax returns and consolidated regulatory and financial statements. Under
sec. 1361(b)(3)↩ in certain circumstances an S corporation that wholly owns another company may elect to combine assets, liabilities, income, deductions, and credits for Federal income tax purposes.3. Neither party raises any question about the validity of the notice of deficiency.↩
4.
Sec. 6211(a) defines "deficiency" without tying it to the date of the notice of deficiency or any other particular date. Consequently, when the Tax Court pursuant tosec. 6214(a) redetermines the "correct amount of the deficiency", we applysec. 6211(a)↩ as of the date of our decision and compute the deficiency taking into account any amount assessed "previously"; i.e., before the decision. After all, the effect of our decision is to allow the IRS to assess the deficiency.5. H. Conf. Rept. 104-737, at 223 (1996),
3 C.B. 741">1996-3 C.B. 741 , 963, states:Present law
* * * *
In addition, the audit procedures adopted by the Tax Equity and Fiscal Responsibility Act of 1982 ("TEFRA") with respect to partnerships also apply to S corporations. Thus, the tax treatment of items is determined at the corporate, rather than individual level.
House bill
* * * *
In addition, the House bill repeals the TEFRA audit provisions applicable to S corporations and would provide other rules to require consistency between the returns of the S corporation and its shareholders.↩
1. A deficiency is defined in part as the excess of "the tax imposed by subtitle A" (i.e., the taxpayer's income tax liability) over "the amount shown as the tax by the taxpayer upon his return".
Sec. 6211(a)↩ . The taxpayer in the example in the text is arguing no deficiency on the ground that, taking into account the two adjustments (dividend and unclaimed deduction), the tax imposed by subtit. A is exactly equal to the tax shown on his return.1. There is an analogous exception for partnerships with a small number of partners.
Sec. 6231(a)(1)(B)↩ .2. Similar language has since become popular with legislative draftsmen. See Jobs and Growth Tax Relief Reconciliation Act of 2003, Pub. L. 108-27, 117 Stat. 753 (enacting
sec. 6429 ); Economic Growth & Tax Relief Recognition Act of 2001, Pub. L. 107-16, sec. 101 (b) 115 Stat. 42 (enactingsec. 6428 , originally with regard to an acceleration of the 10-percent income tax rate bracket); Taxpayer Relief Act of 1997, Pub. L. 105-34, sec. 1222(a), 111 Stat. 1008 (enactingsecs. 6246(c) and6241(b) ); id. sec. 1027(a), 111 Stat. 925 (enactingsec. 6034A(c)↩ ). Our decision today will likely subvert these other Congressional commands to the Commissioner to summarily assess.3. The majority cites paragraphs 5d and 5e of the amended petition to show that Winter is claiming an overpayment. Majority op. p. 11. But those paragraphs do not allege an overpayment of tax; they allege only an overreporting of income. In his amended petition Winter merely requests that this Court determine there is no deficiency and that the amount shown on his return should be reduced. A review of Winter's tax records submitted by the Commissioner after this case was referred to conference shows that Winter substantially underpaid the taxes he reported on his return. No payment accompanied his return, and his withholding credit was so small as to trigger nearly $50,000 in underwithholding penalties. I do not think the record fairly read supports either an allegation or a finding of actual overpayment jurisdiction in this case.
4. And while we have held that "it is not the existence of a deficiency but the Commissioner's determination of a deficiency that provides a predicate for Tax Court jurisdiction,"
Hannan v. Commissioner, 52 T.C. 787">52 T.C. 787 , 791 (1969), the issue here is whether the Commissioner had the power to determine a deficiency that included adjustments to make Winter's return consistent with BFC's. "While a deficiency notice is a necessary requisite to the commencement of a case in this Court, this simply is a procedural precondition and in no way operates to confer jurisdiction upon us over substantive issues."Bradley v. Commissioner, 100 T.C. 367">100 T.C. 367 , 371↩ (1993).5. As Code sections go,
section 6037 is still fairly new and neither it nor any of the even newer sections with identical or similar language, see supra note 2, have before now produced any caselaw that the majority, the parties, or I have found analyzing whether our jurisdiction extends to items that Congress directs the Commissioner to summarily assess but which he instead includes in a notice of deficiency.6. In
Lawless v. Commissioner, T.C. Summary Opinion 2001-178">T.C. Summary Opinion 2001-178↩ , we determined that an assessment not made in accordance with the deficiency procedures was not previously assessed "as a deficiency." But because this was a summary opinion, we do not rely on it.7. Things get even stranger if one imagines a case like Winter's, except that the only contested items are consistency adjustments. The majority would presumably hold that we have jurisdiction once a petition is filed challenging consistency adjustments determined in a notice of deficiency. But would we then lose jurisdiction as soon as the Commissioner summarily assesses the precise amount at issue? Or would we be forced to enter a decision of no deficiency because a summary assessment would become—at any time before entry of decision—"an amount of tax previously assessed as a deficiency?"↩
8. Winter's case doesn't involve any rebates or collections made without assessments, so I exclude them.↩
9. There are also situations where Tax Court can become a refund court.
Section 6512(a) requires a taxpayer who has a potential refund claim and who has received a notice of deficiency and who wants to contest that notice in Tax Court to file a case here that both contests the alleged deficiency and makes the case for a refund. But that's not Winter's case—he paid nothing after the summary assessment, and doesn't allege that he overpaid before.Judge Halpern's hypothetical consistency adjustment in a taxpayer's favor—an overlooked flowthrough charitable deduction offsetting an uncontested increase in unreported and unrelated dividend income—hardly undermines this analysis. A consistency adjustment (or a net consistency adjustment of several items) in a taxpayer's favor would not trigger an assessment, it would trigger a refund.
Sec. 601.105(a) , Proced. & Admin. Regs. (Math errors in taxpayer's favor trigger refunds.) The prohibition on a taxpayer's use of deficiency procedures to contest such an assessment would not apply—section 6037(c)(3)↩ 's last sentence refers only to "assessments," not all possible deemed math errors.10. Although the Commissioner argues that splitting the claim would not be efficient, in the past the IRS has noted how much more expensive it is for the Commissioner to maintain a deficiency case than to summarily assess. S. Rept. 94-938, at 375 (1976). In a deficiency case, for example, the taxpayer may get two prepayment bites at the apple—one following the notice of deficiency to establish the liability and another following a notice of determination after the Commissioner tries to collect. If the Commissioner summarily assesses, the taxpayer has to prepay to contest the liability, thus bypassing the collection trial, or alternatively will only be able to contest the collections without paying, thus bypassing the liability trial. So it's not even clear that the benefits from a consolidated trial would outweigh the efficiency of summary assessment— especially in cases like this one where the items not subject to summary assessment were small and conceded.
11. Winter might be able to petition our Court and contest his tax liability in one narrow circumstance: In
Perkins v. Commissioner, 129 T.C. 58">129 T.C. 58 (2007), a taxpayer who received a math-error notice didn't use the abatement procedures available to him. We held that he could challenge the underlying tax liability at his later collection due process appeal to our Court because he had had no prior opportunity to contest it.Id. at 64-67 . We need not now decide Perkins's↩ effect on Winter's case.12.
Section 6037(c)(4) was previously codified assection 6245↩ , but this related temporary regulation was not renumbered.13. It may seem anomalous that the timing of an employee's income recognition is a subchapter S item and thus considered more appropriately determined at the corporate level. The regulation is quite broad, however, and the proper timing for Winter's receipt of the money hinges on its characterization. Its characterization could in turn affect BFC's treatment of the payment, which is a determination in turn to be made at the corporate level.
I also note that if Winter's timing issue is not a subchapter S item, then he didn't have a duty to report consistently and we would have jurisdiction anyway.↩
14.
Section 6665 is in chapter 68, which includes the Commissioner's assertedsection 6662↩ penalties.15. Though the Third Circuit was construing the Internal Revenue Code of 1939, Congress wrote
section 6659 in 1954 to "conform to the rules under existing law."Estate of DiRezza, 78 T.C. at 28 (reviewing relevant legislative history).Section 6659 later becamesection 6665↩ .16.
Section 6665(a) treats additions to tax and penalties identically so we compare the additions to tax in Estate of DiRezza to the penalties here. Estate of DiRezza later relies onsection 6659(b) (nowsection 6665(b)↩ ), but this section by its terms relates only to additions to tax and so we won't discuss it here.17.
Section 6201(a)(3) , allowing the Commissioner to summarily assess overstated withholdings and denying abatement procedures, was in place when we decided Estate of DiRezza. A few years before, however, we had decided that overstated withholdings aren't deficiencies undersection 6211 , and so are not subject to deficiency procedures.Bregin v. Commissioner, 74 T.C. 1097">74 T.C. 1097 , 1105↩ (1980).