UNITED STATES COURT OF APPEALS
For the Fifth Circuit
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No. 98-30266
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PAN AMERICAN LIFE INSURANCE COMPANY,
Plaintiff-Appellant,
VERSUS
UNITED STATES OF AMERICA,
Defendant-Appellee.
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Appeal from the United States District Court
for the Eastern District of Louisiana
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May 18, 1999
Before REYNALDO G. GARZA, POLITZ, and BARKSDALE, Circuit Judges.
PER CURIAM:
I. FACTUAL AND PROCEDURAL BACKGROUND
Pan American Life Insurance (“PALIC”) filed an action
against the United States of America (“USA”) seeking a refund for
federal income taxes, penalties, and interests assessed against
it in the approximate amount of $8,000,000 for tax years 1984,
1985, and 1986. The main issue in this case is whether PALIC is
a mutual life insurance company for purposes of section 809 of
the Internal Revenue Code (“IRC”). The second issue is whether
PALIC is liable for substantial understatement penalties pursuant
to 26 U.S.C. § 6661(a) (repealed 1989).
PALIC has operated as a mutual life insurance company since
1952 and has declared itself to be a mutual insurer with the
Louisiana Department of Insurance. It has also represented
itself to be a mutual life insurance company to rating agencies
and to auditors, as well as in its promotional materials. PALIC
is owned by participating policyholders and has no stockholders.
The participating policy holders have the right to elect the
board of directors in whom the powers of company management are
vested.
Section 809, which taxes mutual insurers under federal law,
was added to the IRC and was effective in the 1984 tax year.
In 1984, PALIC filled out Schedule F1 and submitted its
return as a “mutual” insurer under section 809. In 1985 and
1986, however, it left Schedule F blank and checked itself off as
a “stock” insurance company on Form 1120L.
An audit was then conducted and the Internal Revenue Service
(“IRS”) determined that PALIC was a mutual insurance company
under section 809. PALIC paid the additional taxes, interests
and penalties assessed by the IRS and subsequently petitioned the
IRS for a refund for tax years 1984, 1985 and 1986.2 The refund
1
Form 1120L, which is annually filed by life insurance
companies, includes a Schedule F for calculation of the section
809 tax owed by mutual insurers.
2
Although it had originally filed its 1984 return as a
“mutual” insurer, it later requested a refund from the IRS for
the section 809 tax paid in 1984.
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was denied and PALIC filed suit.
The parties filed cross motions for summary judgment on the
issue of whether PALIC is a mutual life insurance company within
the meaning of section 809 of the IRC and on the issue of
penalties under section 6661(a) (repealed 1989). The district
court granted both of the IRS’ motions for summary judgment and
denied both of PALIC’s motions for summary judgment.
This appeal followed.
II. DISCUSSION
PALIC argues on appeal that it is a “stock” life insurance
company for federal income tax purposes and that the IRS has
wrongfully taxed it under section 809. Therefore, PALIC appeals
the district court’s decision and petitions a refund for the
taxes and interest assessed against it under section 809 for tax
years 1984, 1985 and 1986.
After reviewing the district court’s opinion, the parties
briefs, the record and hearing oral argument, we AFFIRM the
district court’s decision holding PALIC as a mutual life
insurance company for purposes of section 809.
This Court now addresses the second issue on appeal; whether
PALIC is liable for substantial understatement penalties under
section 6661(a) (repealed 1989). We review the district court’s
decision regarding section 6661(a) for abuse of discretion.
3
Streber v. Commissioner, 138 F.3d 216, 222 (5th Cir. 1998);
Heasley v. Commissioner, 902 F.2d 380, 834 (5th Cir. 1990).
Section 6661(a) provides for a penalty tax equal to twenty-
five percent of the amount of any underpayment to the IRS.
Section 6661(b)(2)(B) states that a taxpayer shall have the
penalty reduced by the portion of the understatement which is
attributed to:
(i) the tax treatment of any item by the taxpayer if
there is or was substantial authority for such
treatment, or
(ii) any item with respect to which the relevant facts
affecting the item’s tax treatment are adequately
disclosed in the return or in a statement attached to
the return.
Under section 6661(b)(2)(B)(ii), an adequate disclosure on the
form “or” an attached statement to the return is sufficient to
merit a reduction in the penalty fee.
Relief can also be sought by a taxpayer under section
6661(c). This section authorizes the Secretary to waive all or
any part of the additional taxes provided by section 6661(a) on a
showing by the taxpayer that there was a reasonable cause for the
understatement and that the taxpayer acted in good faith.
Although this Court finds that PALIC lacked substantial
authority in support of its section 809 argument, the record,
briefs and oral argument reveal that PALIC did adequately and
sufficiently disclose the relevant facts affecting its tax
returns. 26 C.F.R. section 1.6661-4(a) states that a “disclosure
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is adequate with respect to the tax treatment of an item on a
return only if it is made on such return or in a statement
attached thereto.” (emphasis added).
The district court upheld the penalty imposed against PALIC,
stating that PALIC’s return was insufficient because it did not
alert the IRS to the “nature of the controversy.” The district
court held that PALIC should have disclosed in an attached
written statement the reasons explaining why it had checked
itself off as a “stock” insurer rather than a “mutual” insurer on
its 1985 and 1986 tax returns.
Similarly, the IRS maintains that PALIC should have attached
a written statement to its tax returns because the returns alone
were insufficient to alert the IRS of the potential problems
involved. In supporting the district court’s decision, the IRS
claims that PALIC did not provide the IRS with even a hint of
what it was doing on its 1985 and 1986 tax returns.
The evidence shows that PALIC is audited every year and that
it is closely monitored by the IRS.3 The inconsistency in the
1985 and 1986 tax returns arose when PALIC labeled itself as a
“stock” insurer on its returns and simultaneously labeled itself
a “mutual” insurer under Louisiana law on the attached annual
statements. The district court and the IRS assert that PALIC
3
PALIC has been audited in two to three year cycles since
1953.
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should have provided an explanation for the inconsistency. A
review of the record illustrates, however, that the inconsistency
had been acknowledged by both PALIC and the IRS and that a
written statement was not needed. Moreover, the record shows
that the Commissioner had been alerted to the nature of the
potential controversy and that both the IRS and PALIC were fully
aware that a problem might arise with PALIC’s tax returns.
We note, that in prior instances this Court has implemented
the use of section 6661(a) to punish taxpayers who have tried to
defraud the IRS. Sandvall v. Commissioner, 898 F.2d 455 (5th
Cir. 1990). This Court has waived the punishment, however, when
the taxpayer has been able to show that the understatement was
for good cause and in good faith. Heasley, 902 F.2d at 385;
Stanford v. Commissioner, 152 F.3d 450 (5th Cir. 1998). The
latter case is similar to the one at hand, therefore, we find
that the tax penalty was improperly imposed against PALIC.
CONCLUSION
We find that the evidence demonstrates that PALIC adequately
disclosed the relevant facts affecting its tax returns under
section (b)(2)(B)(ii). Thus, we conclude that the IRS was
properly alerted to the nature of the controversy on the tax
returns. Accordingly, we find that the district court abused its
discretion by upholding a section 6661(a) penalty charge.
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Therefore, we AFFIRM the district court’s judgment regarding the
first issue and REVERSE AND VACATE the tax penalty imposed
against PALIC.
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