Free Response - District Court of Federal Claims - federal

Case 1:05-cv-00296-FMA

Document 72

Filed 01/12/2007

Page 1 of 23

IN THE UNITED STATES COURT OF FEDERAL CLAIMS GRAPEVINE IMPORTS, LTD., a Texas Limited Partnership, and T-TECH, INC., a Texas Corporation as Tax Matters Partner, Plaintiffs, v. United States of America, Defendant. § § § § § § § § § §

Case No. 05-296T Judge Francis M. Allegra

PLAINTIFFS' RESPONSE TO UNITED STATES' BRIEF IN SUPPORT OF THE APPLICATION OF THE SIX-YEAR STATUTE OF LIMITATIONS

MEADOWS, OWENS, COLLIER, REED COUSINS & BLAU, L.L.P. 901 Main Street, Suite 3700 Dallas, TX 75202 (214) 744-3700 Telephone (214) 747-3732 Facsimile

PLAINTIFFS' RESPONSE TO UNITED STATES' BRIEF IN SUPPORT OF THE APPLICATION OF THE SIX-YEAR STATUTE OF LIMITATIONS
347398

i

Case 1:05-cv-00296-FMA

Document 72

Filed 01/12/2007

Page 2 of 23

TABLE OF CONTENTS

I. The Court's Evaluation of All Related Returns Under Section 6501(e) Is Unaffected by the 1997 Amendments to Section 6501(a)............................................................................................ 4 A. Background of 1997 Amendments to Section 6501(a)....................................................... 4 B. The Government's Reading of Section 6501(a) Conflicts With the Unambiguous Language of a Statute and Legislative Regulation of Long Standing, IRC § 702(c) and Treas. Reg. 1.702-1(c)(2)....................................................................................................................... 6 C. The Government's Reading of Section 6501(a) Requires the Court to Exceed the Jurisdictional Limitations of this TEFRA Proceeding.............................................................. 12 II. Even If the Court Considers Only the Form 1040, This Case Still Falls Within Colony v. Commissioner, and the Six-Year Statute Does Not Otherwise Apply.......................................... 16 III. Conclusion ........................................................................................................................ 17

TABLE OF AUTHORITIES Cases United States Supreme Court Bingler v. Johnson, 394 U.S. 741 (1969).........................................................................................8 Branch v. Smith, 538 U.S. 254 (2003).............................................................................................9 Bufferd v. Commissioner, 506 U.S. 523 (1993).........................................................................4, 17 Colony, Inc. v. Commissioner, 357 U.S. 28 (1958)...................................................................3, 16 Commissioner v. South Tex. Lumber Co., 333 U.S. 496 (1948)......................................................8 Fawcus Mach. Co. v. United States, 282 U.S. 375 (1931)..............................................................8 Fulman v. United States, 434 U.S. 528 (1978)................................................................................8 Morton v. Mancari, 417 U.S. 535 (1974)........................................................................................9 National Muffler Dealers Assoc. v. United States, 440 U.S. 472 (1979).........................................8 Posadas v. National City Bank, 296 U.S. 497 (1936)......................................................................9
PLAINTIFFS' RESPONSE TO UNITED STATES' BRIEF IN SUPPORT OF THE APPLICATION OF THE SIX-YEAR STATUTE OF LIMITATIONS
347398

ii

Case 1:05-cv-00296-FMA

Document 72

Filed 01/12/2007

Page 3 of 23

Radzanower v. Touche Ross & Co., 426 U.S. 148 (1976)...............................................................9 Rowan Cos. v. United States, 452 U.S. 247 (1981).........................................................................8 United States v. Correll, 389 U.S. 299 (1967).................................................................................8 United States v. Vogel Fertilizer Co., 455 U.S. 16 (1982)..............................................................8 Circuit Courts Alexander v. United States, 44 F.3d 328 (5th Cir. 1995)...............................................................12 Foreman v. United States, 60 F.3d 1559 (Fed. Cir. 1995)...............................................................9 Gallenstein v. United States, 975 F.2d 286 (6th Cir. 1992).............................................................8 Green v. Commissioner, 963 F.2d 783 (5th Cir. 1992)...................................................................5 Kelley v. Commissioner, 877 F.2d 756 (9th Cir. 1989)...................................................................5 LaVallee Northside Civic Ass'n v. Virgin Islands Coastal Zone Mgmt. Comm'n, 866 F.2d 616 (3d Cir. 1989).............................................10 Patten v. United States, 116 F.3d 1029 (4th Cir. 1997)...................................................................9 Prochorenko v. United States, 243 F.3d 1359 (Fed. Cir. 2001)....................................................14 Robbins v. Bentsen, 41 F.3d 1195 (7th Cir. 1994).........................................................................10 United States v. Monti, 223 F.3d 76 (2d Cir. 2000).......................................................................14 Weiner v. United States, 389 F.3d 152, 156-58 (5th Cir. 2004)....................................................15 District Courts Slovacek v. United States, 36 Fed. Cl. 250 (1996).........................................................................12 Tax Court Crop Assoc. v. Comm'r, 113 T.C. 198 (1999).........................................................................13, 14 Estate of Quick v. Commissioner, 110 T.C. 172 (1998)................................................................15 GAF Corp. v. Comm'r, 114 T.C. 519 (2000).................................................................................12 iii

PLAINTIFFS' RESPONSE TO UNITED STATES' BRIEF IN SUPPORT OF THE APPLICATION OF THE SIX-YEAR STATUTE OF LIMITATIONS
347398

Case 1:05-cv-00296-FMA

Document 72

Filed 01/12/2007

Page 4 of 23

Hambrose Leasing v. Commissioner, 99 T.C. 298 (1992).............................................................14 Harlan v. Commissioner, 116 T.C. 31 (2001)...............................................................................10 Hoffman v. Comm'r, 119 T.C. 140 (2002).....................................................................................10 Maxwell v. Comm'r, 87 T.C. 783 (1986).......................................................................................14 Quick Trust v. Comm'r, 54 T.C. 1336 (1970)................................................................................10 Rose v. Comm'r, 24 T.C. 755 (1955).............................................................................................10 Walker v. Comm'r, 46 T.C. 630 (1966).........................................................................................10

Statutes 26 U.S.C. § 702.......................................................................................................................passim 26 U.S.C. § 6221............................................................................................................................13 26 U.S.C. § 6226............................................................................................................................13 26 U.S.C. § 6229........................................................................................................................5, 15 26 U.S.C. § 6231............................................................................................................................13 26 U.S.C. § 6501.....................................................................................................................passim

Treasury Regulations Treas. Reg. § 1.702-1..............................................................................................................passim Treas. Reg. § 301.6231(a)(3)-1................................................................................................14, 16

Other Sources Historical IRC provisions 26 U.S.C. § 702 (1954)................................................................................................................7, 8
PLAINTIFFS' RESPONSE TO UNITED STATES' BRIEF IN SUPPORT OF THE APPLICATION OF THE SIX-YEAR STATUTE OF LIMITATIONS
347398

iv

Case 1:05-cv-00296-FMA

Document 72

Filed 01/12/2007

Page 5 of 23

Public Laws Taxpayer Relief Act of 1997, Pub. L. No. 105-34, 11 Stat. 788 (1997).........................................5 Federal Register Internal Revenue, 1954, 25 Fed. Reg. 11402 (Nov. 26, 1960)........................................................7 Legislative History 143 Cong. Rec. S8415 (1997)..........................................................................................................5 143 Cong. Rec. H6623 (1997)........................................................................................................5 House Conference Report on Taxpayer Relief Act of 1997, H.R. Conf. Rep. 105-220 (1997) as reprinted in 1997 U.S.C.C.A.N. 1129.......................5 House Conference Report on TEFRA, H.R. Conf. Rep. No. 97-760, 97th Cong., 2d Sess. at 600 (1982-2 Cum. Bull. at 662)...................................................12 IRS Publications IRS Field Service Advisory, 1998 WL 1984312 (Mar. 5, 1998)...................................................11 IRS Action on Decision 2002-03, 2002 WL 358632 (Feb. 19, 2002)...........................................11

PLAINTIFFS' RESPONSE TO UNITED STATES' BRIEF IN SUPPORT OF THE APPLICATION OF THE SIX-YEAR STATUTE OF LIMITATIONS
347398

v

Case 1:05-cv-00296-FMA

Document 72

Filed 01/12/2007

Page 6 of 23

IN THE UNITED STATES COURT OF FEDERAL CLAIMS GRAPEVINE IMPORTS, LTD., a Texas Limited Partnership, and T-TECH, INC., a Texas Corporation as Tax Matters Partner, Plaintiffs, v. United States of America, Defendant. § § § § § § § § § §

Case No. 05-296T Judge Francis M. Allegra

PLAINTIFFS' RESPONSE TO UNITED STATES' BRIEF IN SUPPORT OF THE APPLICATION OF THE SIX-YEAR STATUTE OF LIMITATIONS Plaintiffs Grapevine Imports, Ltd. ("Grapevine") and T-Tech, Inc. ("T-Tech") (collectively "Plaintiffs") submit this Response to the United States' Brief In Support of the Application of the Six-Year Statute of Limitations to aid the Court in its review of the legal issues involved in the upcoming hearing on Internal Revenue Code ("IRC") § 6501(e)(1)(A). The Government's pre-hearing brief, and in particular its new argument regarding Section 6501(a), demonstrates the legal morass facing the Court at this juncture. The Court's mission in this TEFRA proceeding is to review the Final Partnership Administrative Adjustment issued to Plaintiffs and either to uphold or invalidate the IRS's adjustments to the partnership return. But the Government now proposes that the only return relevant to determination of the statute of limitations for the partnership is the individual's tax return Form 1040. The

Government argues that a technical amendment to Section 6501(a) in 1997 on an unrelated issue not only overturns forty-plus years of established case law on Section 6501(e) but also invalidates a statute and regulation of forty-plus years' standing, IRC § 702(c) and Treasury 2

PLAINTIFFS' RESPONSE TO UNITED STATES' BRIEF IN SUPPORT OF THE APPLICATION OF THE SIX-YEAR STATUTE OF LIMITATIONS
347398

Case 1:05-cv-00296-FMA

Document 72

Filed 01/12/2007

Page 7 of 23

Regulation 1.702-1(c)(2). The Government urges that this drastic statutory change has occurred although Congress demonstrated no intent to promulgate anything but a narrow, technical amendment to Section 6501(a) in 1997. And the Government's reading of Section 6501(a), requiring factual determinations for the entire partnership based solely upon an individual's tax return, runs afoul of the Court's jurisdictional limitations in this TEFRA proceeding. But this legal quagmire can be avoided. If the Court considers the plain language of Section 6501(e)(1)(A)(ii) and the binding Supreme Court precedent of Colony, Inc. v. Commissioner, 357 U.S. 28 (1958), it is apparent that Plaintiffs have adequately disclosed the "nature and amount" of the item at issue under any standard. Considering all of the relevant returns together, the transactions at issue are fully and adequately reported according to IRS requirements. Even if the Court considers only the Tigues' Form 1040, as the Government suggests, this case falls squarely within the Colony and the plain language of Section 6501(e)(1)(A)(ii). The nature and amount of the item are adequately disclosed on that return at Schedule D, Part II. The nature of the item is the basis in the partnership interests that were sold. The amount of basis is clearly listed in Schedule D. The transactions at issue are also reported elsewhere on the Form 1040, as Plaintiffs discussed in their pre-trial brief. The Court's consideration of Section 6501 in this TEFRA proceeding raises thorny legal issues about the Court's jurisdiction and Congressional intent. The Court should rely upon established case law precedent and the language of Section 6501(e)(1)(A), and should conclude that the six-year statute of limitations does not apply to this case. The Court should read the 1997 amendments to Section 6501(a) narrowly as they were intended, and should disregard the Government's argument that this amendment has any bearing on the six-year statute of limitations.
PLAINTIFFS' RESPONSE TO UNITED STATES' BRIEF IN SUPPORT OF THE APPLICATION OF THE SIX-YEAR STATUTE OF LIMITATIONS
347398

3

Case 1:05-cv-00296-FMA

Document 72

Filed 01/12/2007

Page 8 of 23

I. The Court's Evaluation of All Related Returns Under Section 6501(e) Is Unaffected by the 1997 Amendments to Section 6501(a). In its pre-hearing memorandum, the Government raises the novel argument that statutory amendments in 1997 to Section 6501(a) overturn not only a well-established body of case law on Section 6501(e) but also a well-established legislative regulation, Treasury Regulation 1.7021(c)(2). By implication, the Government's reading also would overturn IRC § 702(c). The Government cites no authority for this argument other than that the Court should be guided by the statutory language. But the Government cannot demonstrate that these statutory amendments were intended to make such a sweeping change. Instead, the Government's reading of these statutory amendments to require this Court to evaluate only a partner's individual Form 1040 conflicts with long-standing statutory, regulatory, and case law authority and the jurisdictional limitations of this TEFRA proceeding. Accordingly, the Court should read the amendments to Section 6501(a) in light of their purpose and hold that the established law regarding Section 6501(e) has not been disturbed by this statutory change. Consistent with this established

precedent, the Court should evaluate all related returns in determining the applicability of Section 6501(e)(1)(A) to this dispute. A. Background of 1997 Amendments to Section 6501(a) A brief history of the amendment to Section 6501(a) demonstrates that this change was not intended to disturb existing law related to Section 6501(e). In 1993, in a case involving an SCorporation, the United States Supreme Court considered the question of whether the trigger for the three-year statute of limitations under Section 6501(a) was the filing date of the shareholder's return or the S-Corporation's return. Bufferd v. Commissioner, 506 U.S. 523, 525 (1993). Section 6501 is the only relevant statute of limitations for S-Corporations; these entities have no
PLAINTIFFS' RESPONSE TO UNITED STATES' BRIEF IN SUPPORT OF THE APPLICATION OF THE SIX-YEAR STATUTE OF LIMITATIONS
347398

4

Case 1:05-cv-00296-FMA

Document 72

Filed 01/12/2007

Page 9 of 23

statute analogous to IRC § 6229 and no deficiency process analogous to a TEFRA proceeding. Section 6501(a) at that time provided only that the three-year statute of limitations ran from the date the "return" was filed: no reference was made to the "taxpayer" in this subsection. IRC § 6501(a) (1986). Because of this ambiguity, a conflict had arisen in the circuit courts regarding whether the start date of the limitations period ran from the filing of the shareholder's or the corporation's return. Compare Kelley v. Commissioner, 877 F.2d 756 (9th Cir. 1989) (holding that corporate return triggers the statute) with Green v. Commissioner, 963 F.2d 783 (5th Cir. 1992) (holding that the individual return controls). In Bufferd, the Supreme Court resolved this conflict and held that the shareholder's return was the appropriate return to trigger the three-year statute of limitations. 506 U.S. at 533. Following Bufferd, as part of a global reform of the Internal Revenue Code, Congress amended Section 6501(a) in the Taxpayer Relief Act of 1997. Pub. L. No. 105-34, 11 Stat. 788 (1997). There was no debate of the change, and the amendment underwent no revision in the legislative process. 143 Cong. Rec. S8415, S8415-S8461 (1997) (Senate debates); 143 Cong. Rec. H6623, H6623-H6662 (1997) (House debates); H.R. Conf. Rep. 105-220 (1997) as reprinted in 1997 U.S.C.C.A.N. 1129. The House Conference Report on the bill makes clear that the amendment was intended to align Section 6501(a) explicitly with the Supreme Court's holding in Bufferd: Some believe that, prior to 1993, it may have been unclear as to whether the statute of limitations for adjustments that arise from distributions from passthrough entities should be applied at the entity or individual level (i.e., whether the 3-year statute of limitations for assessments runs from the time that the entity files its information return or from the time that a shareholder timely files his or her income tax return). In 1993, the Supreme Court held that the limitations period for assessing the income tax liability of an S corporation shareholder runs from the date the shareholder's return is filed (Bufferd v. Comm., 113 S. Ct. 927 (1993)).
PLAINTIFFS' RESPONSE TO UNITED STATES' BRIEF IN SUPPORT OF THE APPLICATION OF THE SIX-YEAR STATUTE OF LIMITATIONS
347398

5

Case 1:05-cv-00296-FMA

Document 72

Filed 01/12/2007

Page 10 of 23

H.R. Conf. Rep. 105-220 (1997) as reprinted in 1997 U.S.C.C.A.N. 1129. This was essentially the only explanation given for the amendment to Section 6501(a). Thus, this background establishes that the 1997 amendment to Section 6501(a) was considered to be a minor, technical amendment meant only to clarify the statute in keeping with a recent Supreme Court opinion. Congress demonstrated no intent that this amendment would overturn existing statutes, regulations and case law. The amendment went entirely undebated, and no legislative history mentions the possibility of broad changes. There is no indication that the change to Section 6501(a)'s trigger date for the limitations period in any way affects the Court's detailed evaluation of adequate disclosure and the six-year statute under Section 6501(e)(1)(A). Even putting this background aside, the Government's reading of the 1997 amendments to Section 6501(a) wreaks havoc on the existing partnership regime under the Internal Revenue Code and should be disregarded, for the reasons discussed below. B. The Government's Reading of Section 6501(a) Conflicts With the Unambiguous Language of a Statute and Legislative Regulation of Long Standing, IRC § 702(c) and Treas. Reg. 1.702-1(c)(2) The Government admits that its reading of the 1997 amendment to Section 6501(a) conflicts with Treasury Regulation 1.702-1(c)(2), but, with little discussion, argues that the statutory amendment overrules the contrary language in the regulation. (Rec. Doc. No. 66 at 28). The Government is simply incorrect. This assertion contradicts an entire body of Supreme Court case law which holds that Treasury Regulations are not to be overruled lightly and by implication. Also, the Government ignores the other consequence of its reading of Section 6

PLAINTIFFS' RESPONSE TO UNITED STATES' BRIEF IN SUPPORT OF THE APPLICATION OF THE SIX-YEAR STATUTE OF LIMITATIONS
347398

Case 1:05-cv-00296-FMA

Document 72

Filed 01/12/2007

Page 11 of 23

6501(a), the implied repeal of IRC § 702(c). There is no justification for such a broad reading of what Congress considered to be a narrow amendment to Section 6501(a). Section 702(c) of the Internal Revenue Code provides that "[i]n any case where it is necessary to determine the gross income of a partner for purposes of this title, such amount shall include his distributive share of the gross income of the partnership." Under this statute, the partnership return is relevant to the determination of a partner's gross income for whatever purpose under the Internal Revenue Code, including the six-year statute of limitations under Section 6501(e). Section 702(c) has been a part of the Code since 1954. IRC § 702(c) (1954). In addition, Treasury Regulation 1.702-1(c)(2) reads in relevant part: In determining the applicability of the 6-year period of limitation on assessment and collection provided in section 6501(e) (relating to omission of more than 25 percent of gross income), a partner's gross income includes his distributive share of partnership gross income (as described in section 6501(e)(1)(A)(i)). In this respect, the amount of partnership gross income from which was derived the partner's distributive share of any item of partnership income, gain, loss, deduction, or credit (as included or disclosed in the partner's return) is considered as an amount of gross income stated in the partner's return for the purposes of section 6501(e). In other words, the regulation expressly provides that the partnership's return is relevant and should be considered for purposes of the six-year statute of limitations under Section 6501(e)(1)(A). The regulation was first enacted in 1960, and the language has remained

unchanged for the last forty-six years.1 In addition, Treasury Regulation 1.702-1 is a legislative regulation. Current Internal Revenue Code Section 702(a)(7) provides that the Secretary is to prescribe regulations relating to a partner's distributive share of partnership income. This language has been in the Code since at
Internal Revenue, 1954, 25 Fed. Reg. 11402, 11867 (Nov. 26, 1960). From the introductory language in the 1960 Federal Register, it appears that the regulation was in effect prior to 1960 under the 1954 Internal Revenue Code. See id. at 11402. PLAINTIFFS' RESPONSE TO UNITED STATES' BRIEF IN SUPPORT OF THE APPLICATION OF THE SIX-YEAR STATUTE OF LIMITATIONS
347398
1

7

Case 1:05-cv-00296-FMA

Document 72

Filed 01/12/2007

Page 12 of 23

least 1954. IRC § 702(a)(8) (1954). Because the regulation was promulgated under a specific grant of authority, the regulation is legislative. See United States v. Vogel Fertilizer Co., 455 U.S. 16, 24 (1982) (citing Rowan Cos. v. United States, 452 U.S. 247 (1981)). As a legislative regulation, Treasury Regulation 1.702-1 is entitled to substantial deference. See Vogel, 455 U.S. at 24. In general, Treasury Regulations are entitled to a high degree of deference: [Treasury Regulations] are valid unless unreasonable or inconsistent with the statute. They constitute contemporaneous construction by those charged with the administration of the act, are for that reason entitled to respectful consideration, and will not be overruled, except for weighty reasons. Fawcus Mach. Co. v. United States, 282 U.S. 375, 378 (1931) (internal citations omitted). See also National Muffler Dealers Assoc. v. United States, 440 U.S. 472, 477 (1979) (applying rule from Fawcus); Fulman v. United States, 434 U.S. 528, 533 (1978) (same); Bingler v. Johnson, 394 U.S. 741, 749-50 (1969) (same); United States v. Correll, 389 U.S. 299, 307 (1967) (same); Commissioner v. South Tex. Lumber Co., 333 U.S. 496, 501 (1948) (same). The Government's reading of Section 6501(a) creates an unavoidable conflict with IRC § 702. The Government's solution is simply to disregard authority contrary to its reading, and to argue that the 1997 amendments have created a new interpretative regime under Section 6501(e)(1)(A). But this would require a repeal of IRC § 702(c). There is no evidence of any Congressional intent to repeal this statute, either expressly or impliedly. An express repeal "requires that Congress overtly state with specificity that the subsequent statute repeals a portion of the earlier statute." Gallenstein v. United States, 975 F.2d 286, 290 (6th Cir. 1992) (internal citation omitted) (regarding the alleged conflict in effective dates of subsections of IRC § 2040).

PLAINTIFFS' RESPONSE TO UNITED STATES' BRIEF IN SUPPORT OF THE APPLICATION OF THE SIX-YEAR STATUTE OF LIMITATIONS
347398

8

Case 1:05-cv-00296-FMA

Document 72

Filed 01/12/2007

Page 13 of 23

As discussed earlier, Congress displayed no express intent to overrule Section 702(c) in enacting Section 6501(a). Express appeal would not apply here. The Government could be urging that the Court find an implied repeal of Section 702(c). Implied repeals of statutes by subsequent legislation are "highly disfavored[.]" Foreman v. United States, 60 F.3d 1559, 1563 (Fed. Cir. 1995). See also Branch v. Smith, 538 U.S. 254, 273 (2003) ("repeals by implication are not favored") (internal citation omitted); Posadas v. National City Bank, 296 U.S. 497, 503 (1936) (holding that implied repeal is "not favored"); Patten v. United States, 116 F.3d 1029, 1034 (4th Cir. 1997) ("there is a strong presumption against finding [an implied] repeal") (internal quotation and citation omitted). The Supreme Court has recognized two circumstances in which an implied appeal may be found. Radzanower v. Touche Ross & Co., 426 U.S. 148, 154 (1976). First, where provisions in the two statutes are "in irreconcilable conflict," the later statute repeals the prior one to the extent of the conflict. Id. (quoting Posadas, 296 U.S. at 503). Second, if a later statute "covers the whole subject of the earlier one and is clearly intended as a substitute," the later statute will prevail. Id. "But, in either case, the intention of the legislature to repeal must be clear and manifest." Id. (emphasis added). Also, the Court is obligated to attempt to harmonize allegedly conflicting statutes: "[w]hen two statutes are capable of co-existence, it is the duty of the courts, absent a clearly expressed congressional intention to the contrary, to regard each as effective." Mancari, 417 U.S. 535, 551 (1974). Under these precedents, there is no implied repeal of Section 702(c) by Section 6501(a)'s amendment. There was no Congressional intent to overturn Section 702(c). Moreover, the statutes easily may be reconciled if Section 6501(a) is read narrowly in light of its purpose, to provide guidance on what tax return triggers the statute of limitations. And as shown by the
PLAINTIFFS' RESPONSE TO UNITED STATES' BRIEF IN SUPPORT OF THE APPLICATION OF THE SIX-YEAR STATUTE OF LIMITATIONS
347398

Morton v.

9

Case 1:05-cv-00296-FMA

Document 72

Filed 01/12/2007

Page 14 of 23

legislative history, Section 6501(a) hardly is intended as a "substitute" for Section 702(c) and does not occupy the same subject matter as Section 702(c). Because the two statutes are capable of coexistence, and because there is no evidence of an implied repeal of Section 702(c), the Government's broad reading of Section 6501(a) should be rejected. Much like a court's duty regarding seemingly conflicting statutes, the Court is obligated to "attempt reconciliation of seemingly discordant statutes and regulations." LaVallee Northside Civic Ass'n v. Virgin Islands Coastal Zone Mgmt. Comm'n, 866 F.2d 616, 623 (3d Cir. 1989) (interpreting agency procedural regulations which appeared to conflict with Virgin Islands statutes). "Only where that outcome is not possible do we disregard the regulations." Id. Of course, "[r]egulations cannot trump the plain language of statutes," but a court must "not read the two to conflict where such a reading is unnecessary." Robbins v. Bentsen, 41 F.3d 1195, 1198 (7th Cir. 1994). In this case, the Government's broad reading of Section 6501(a) creates a conflict between Section 6501 and Treasury Regulation 1.702-1(c)(2) where a conflict is unnecessary. Treasury Regulation 1.702-1(c)(2) has been in effect for at least forty-six years, and Congress showed no intent to disturb it in enacting Section 6501(a). The regulation and statutory

amendment can be reconciled by reading Section 6501(a) narrowly to apply only to what return starts the statute of limitations, Congress' stated purpose for the amendment. There is no reason to read the statute more broadly, especially when doing so creates a conflict among Section 6501(a) and a long-established statute and regulation, and the existing body of case law interpreting Section 6501(e)(1)(A) to include all relevant returns.2 The Court should follow its
See Hoffman v. Comm'r, 119 T.C. 140, 147 (2002); Harlan v. Commissioner, 116 T.C. 31 (2001); Quick Trust v. Comm'r, 54 T.C. 1336, 1346 (1970); Walker v. Comm'r, 46 T.C. 630, 637-38 (1966); Rose v. Comm'r, 24 T.C. 755, 769 (1955), and Plaintiffs' Memorandum of Law (Rec. Doc. No. 64) at Section IV.B.3. PLAINTIFFS' RESPONSE TO UNITED STATES' BRIEF IN SUPPORT OF THE APPLICATION OF THE SIX-YEAR STATUTE OF LIMITATIONS
347398
2

10

Case 1:05-cv-00296-FMA

Document 72

Filed 01/12/2007

Page 15 of 23

obligation to reconcile the regulation and the statute, and should read Section 6501(a) in light of its purpose. It is important to note that no one has treated Treasury Regulation 1.702-1(c)(2) as overruled by the 1997 amendment to Section 6501(a). The IRS has continued to cite the regulation with approval, indicating that the Service believes the regulation to still be valid. See IRS Field Service Advisory, 1998 WL 1984312 (Mar. 5, 1998) (citing Treas. Reg. 1.702-1(c)(2) as good law). In 2002, the IRS cited the regulation as valid when discussing which returns are relevant to the six-year statute of limitations under Section 6501(e). IRS Action on Decision 2002-03, 2002 WL 358632 (Feb. 19, 2002). As shown by this case law precedent and legislative background, the Government's argument that the 1997 amendment to Section 6501(a) relates to the six-year statute of Section 6501(e) lacks merit. There is no inconsistency in the statutory language if the amendment is read in light of its purpose, that is, to establish the trigger date for the statute of limitations. Also, in order to sustain the Government's reading, the Court must find that a long-established statute, IRC § 702(c), and legislative regulation, Treasury Regulation 1.702-1(c)(2), have been invalidated by subsequent legislation. But the Supreme Court has repeatedly indicated that implied repeal of statutes is disfavored, and that regulations like 1.702-1 are not to be overruled except with "weighty reasons." There are no substantial reasons for finding the sweeping legislative change that the Government proposes. For all these reasons, the Court should reject the Government's reading of Section 6501(a) and follow the established case law and regulations which hold that all related returns are relevant for Section 6501(e)(1)(A) purposes.

PLAINTIFFS' RESPONSE TO UNITED STATES' BRIEF IN SUPPORT OF THE APPLICATION OF THE SIX-YEAR STATUTE OF LIMITATIONS
347398

11

Case 1:05-cv-00296-FMA

Document 72

Filed 01/12/2007

Page 16 of 23

C. The Government's Reading of Section 6501(a) Requires the Court to Exceed the Jurisdictional Limitations of this TEFRA Proceeding There is an additional problem with the Government's reading of Section 6501(a). If

one assumes that the Government is correct that the 1997 amendment to Section 6501(a) invalidated Treasury Regulation 1.702-1(c)(2) (an assumption with which Plaintiffs obviously do not agree), the elimination of that regulation also eliminates any jurisdictional support for consideration of an individual Form 1040 as a "partnership item" in a TEFRA proceeding. Under the Government's reading, this TEFRA Court lacks jurisdiction to consider the Tigues' individual Form 1040. Treasury Regulation 1.702-1(c)(2) provides the only jurisdictional tether between this partnership proceeding and Section 6501(e). In its absence, nothing ties this Section 6501(e) inquiry to the definition of a "partnership item." The statutory scheme and case law actually prohibit a TEFRA court from making individualized determinations about partners in a partnership when the determinations are not partnership items. Congress enacted TEFRA in 1982 to enable federal courts to decide partnership-wide tax issues in a "unified partnership proceeding rather than in separate proceedings with the partners."3 The goal was to promote consistency in treatment among partners and to provide a single forum where partnership-wide issues could be resolved. TEFRA creates a significant, jurisdictional distinction between partnership items and non-partnership or affected items. See Alexander v. United States, 44 F.3d 328, 331 (5th Cir. 1995) (holding that in an ordinary tax refund action the consideration of partnership items exceeds the court's subject matter jurisdiction); Slovacek v. United States, 36 Fed. Cl. 250, 254-55 (1996) (discussing the purposes
3

H.R. Conf. Rep. No. 97-760, 97th Cong., 2d Sess. at 600 (1982-2 Cum. Bull. at 662). See also GAF Corp. v. Comm'r, 114 T.C. 519 (2000) (discussing history and purposes of TEFRA proceeding).

PLAINTIFFS' RESPONSE TO UNITED STATES' BRIEF IN SUPPORT OF THE APPLICATION OF THE SIX-YEAR STATUTE OF LIMITATIONS
347398

12

Case 1:05-cv-00296-FMA

Document 72

Filed 01/12/2007

Page 17 of 23

of TEFRA and the distinction between partnership and non-partnership items); Crop Assoc. v. Comm'r, 113 T.C. 198, 202 (1999) ("Our role in that unified [TEFRA] proceeding is limited by section 6226(f) to the determination (and allocation) of partnership items. We have no authority under section 6226(f) to determine anything else, not any affected item, and not the tax liability of any partner"). The partnership taxation statutes reflect this distinction. Section 6221 of the Internal Revenue Code provides in relevant part that "[e]xcept as otherwise provided in this subchapter, the tax treatment of any partnership item . . . shall be determined at the partnership level." Section 6226(f), titled "Scope of Judicial Review[,]" further provides the jurisdictional limits of a TEFRA court and refers only to partnership items: A court with which a petition is filed in accordance with this section shall have jurisdiction to determine all partnership items of the partnership for the partnership taxable year to which the [FPAA] relates, the proper allocation of such items among the partners, and the applicability of any penalty, addition to tax, or additional amount which relates to an adjustment to a partnership item. No language in this statute confers jurisdiction on a TEFRA court to make factual determinations about individual partners which do not affect the partnership as a whole. See also 26 U.S.C. § 6226(e) (referring to "jurisdictional requirement[s]" for TEFRA proceedings and mentioning only "partnership items"). Section 6231 defines partnership, non-partnership, and affected items. A partnership

item is "any item required to be taken into account for the partnership's taxable year under any provision of subtitle A to the extent regulations prescribed by the Secretary provide that, for purposes of this subtitle, such item is more appropriately determined at the partnership level than at the partner level." 26 U.S.C. § 6231(a)(3). Affected items are those items which are affected by partnership items, and all other items are non-partnership items. 26 U.S.C. § 6231(a)(4-5).
PLAINTIFFS' RESPONSE TO UNITED STATES' BRIEF IN SUPPORT OF THE APPLICATION OF THE SIX-YEAR STATUTE OF LIMITATIONS
347398

13

Case 1:05-cv-00296-FMA

Document 72

Filed 01/12/2007

Page 18 of 23

26 CFR § 301.6231(a)(3)-1 further defines partnership items. No mention is made of Section 6501 or any determination of partner-level statute of limitations issues. Given the distinction between partnership and non-partnership or affected items, the court hearing a TEFRA proceeding has no jurisdiction to make partner-specific factual determinations, and can only make determinations that affect the partnership as a whole. See Crop Assoc., 113 T.C. at 202; Maxwell v. Comm'r, 87 T.C. 783, 788-91 (1986). In deciding whether a partner's right to consistent settlement terms was a partnership item, the Federal Circuit articulated the standard to distinguish partnership items and from non-partnership or affected items as follows: [T]he question posed requires consideration of the relationship between one partner's situation and another's and the individual's, rather than the partnership's, communications with the IRS. The facts needed to determine [the issue raised] are facts about the partner, not facts about the partnership. Prochorenko v. United States, 243 F.3d 1359, 1363 (Fed. Cir. 2001) (emphasis added). The court also noted that partnership items do not include "claims that depend upon the unique circumstances of an individual partner, and that only affect that partner[.]" Id. This jurisdictional distinction of the court's determination of facts about the partnership, not facts about the partner, has been recognized in a number of other TEFRA cases. For example, in United States v. Monti, 223 F.3d 76, 82-83 (2d Cir. 2000), the Second Circuit decided that a partner's right to consistent settlement terms was not a partnership item to be determined in a TEFRA proceeding. The court held thusly because resolution of the issue was "entirely dependent upon facts peculiar to a single partner." Id. at 83. In another case,

Hambrose Leasing v. Commissioner, 99 T.C. 298, 308 (1992), the Tax Court found that partnership items are items that "produc[e] a uniform effect on the partners" and items which can be resolved without evaluating "the circumstances of the individual partners." If judicial 14

PLAINTIFFS' RESPONSE TO UNITED STATES' BRIEF IN SUPPORT OF THE APPLICATION OF THE SIX-YEAR STATUTE OF LIMITATIONS
347398

Case 1:05-cv-00296-FMA

Document 72

Filed 01/12/2007

Page 19 of 23

consideration of an item requires "additional information . . . not available at the partnership level[,]" it is not a partnership item. Id. at 311 (internal citations and quotations omitted). The issue was whether the determination of whether individual partners were at risk under Section 465 was a partnership item; the Tax Court held that it was not. Id. at 312. In addition, in Estate of Quick v. Commissioner, 110 T.C. 172, 187 (1998), the Tax Court found that the Section 469 passive loss rule was not a partnership item, and in so doing held that it "has no effect on any item that would affect all of the partners' respective returns, nor does it have any effect on any item on the Partnership's return or on the Partnership's books and records." The Fifth Circuit has also recently embraced this distinction. In Weiner v. United States, 389 F.3d 152, 156-58 (5th Cir. 2004), the Fifth Circuit held that the timeliness of an FPAA was a partnership item because the facts needed to determine the issue were partnership-specific and affected all partners alike. In so doing, the Fifth Circuit spoke only to the question of whether Section 6229's statute of limitations period standing alone would be a partnership item, and did not consider the reading of this Court that Section 6229 incorporates the Section 6501 limitations period.4 Id. at 156-58. The Government's assertion that the only relevant return for Section 6501(e) purposes is the individual partner's Form 1040 creates a jurisdictional problem for this Court in this TEFRA proceeding. Evaluation of only a partner's individual Form 1040 to determine an issue like the six-year statute of limitations that affects the entire partnership is exactly the type of partnerspecific, individualized determination that a TEFRA court is barred from making. Section 702(c) and Treasury Regulation 1.702-1(c)(2) establish the only argument that that review of an
The Fifth Circuit implicitly understood Section 6229 as being a self-contained statute of limitations period when it held that the key feature of a partnership item was that it "affects all partners alike." Id. at 158. However, pursuant to this Court's reading of Section 6229, the running of the limitations period is measured from the date of filing of each individual partner's tax return under Section 6501 and consequently does not affect all partners alike. PLAINTIFFS' RESPONSE TO UNITED STATES' BRIEF IN SUPPORT OF THE APPLICATION OF THE SIX-YEAR STATUTE OF LIMITATIONS
347398
4

15

Case 1:05-cv-00296-FMA

Document 72

Filed 01/12/2007

Page 20 of 23

individual partner's distributive share of partnership income is a partnership item, when read in connection with Treasury Regulation 301.6231(a)(3)-1. Without Section 702(c) and Treasury Regulation 1.702-1(c)(2), there is little to no justification for review of individual tax returns to decide partnership-wide issues like the running of the six-year statute of limitations. A TEFRA court's review of only one partner's Form 1040 to determine a partnership-wide issue exceeds the court's jurisdiction. Accordingly, the Court should hold that the Government's reading of the amended Section 6501(a) as limiting consideration to the Form 1040 alone is incorrect. II. Even If the Court Considers Only the Form 1040, This Case Still Falls Within Colony v. Commissioner, and the Six-Year Statute Does Not Otherwise Apply. In the event that the Court finds that consideration of only the Tigues' Form 1040 is appropriate, this case still does not fall within the six-year statute of limitations. As discussed at length in prior briefs, the taxpayers' reporting of the transactions at issue on their returns fully discloses the "nature and amount" of the disputed item of income, the partners' basis in the partnership. The Form 1040 shows this allegedly overstated basis in Schedule D, Part II. The schedule shows the year purchased, year sold, alleged basis, and purchase price. As shown in Plaintiffs demonstrative Exhibit 75 (Rec. Doc. No. 64-14), this reporting meets and exceeds the reporting done by the taxpayer in Colony, Inc. v. Commissioner, 357 U.S. 28 (1958), and the income item at issue is adequately disclosed under that Supreme Court precedent. The

disclosure is also adequate under Section 6501(e)(1)(A)(ii), if the Court finds that a standard somehow different than the standard in Colony applies. As applied to the facts of this case, there is no justification or reason to find that the standard in Colony and Section 6501(e)(1)(A)(ii) differ because Colony and this case are factually identical in all material respects.

PLAINTIFFS' RESPONSE TO UNITED STATES' BRIEF IN SUPPORT OF THE APPLICATION OF THE SIX-YEAR STATUTE OF LIMITATIONS
347398

16

Case 1:05-cv-00296-FMA

Document 72

Filed 01/12/2007

Page 21 of 23

But the Form 1040 does not stop there. The Form 1040 contains additional information about the transactions at issue. Schedule D, Part II and the relevant attachment show the sale of T-Tech's 1% partnership interest, T-Tech's basis and capital gain on the sale of the interest, and list the partnership by name. Schedule D, Part I shows a short-term capital loss of $81,774 which includes the loss on short sales of the U.S. Treasury Notes, and the attachment to Schedule D, Part I lists the partnership by name and employer identification number. Also, Schedule B reflects the interest and dividends earned by the partners on the short sales, and these numbers match the figures reported to the IRS on the relevant Forms 1099 for the short sales. The Court should not limit its review to only the Tigues' Form 1040 under Section 6501(e)(1)(A), as such a limitation would be inconsistent with long-standing authority and would exceed the Court's jurisdiction. But if the Court elects to perform such a review, the Form 1040 in this case reveals that the six-year statute does not apply. The return adequately discloses the transactions at issue, and lists the "nature and amount" of the disputed item in a manner sufficient to apprise the IRS. In summary, the six-year statute of limitations does not apply to this case. III. Conclusion The 1997 amendment to Section 6501(a) has no relevance to the present dispute, and the Government's broad reading of this amendment should be rejected. As the legislative history and background demonstrate, this amendment was intended to be a narrow, technical fix to ensure that the start date of the statute of limitations in Section 6501 complied with the Supreme Court's holding in Bufferd v. Commissioner, 506 U.S. 523 (1993). Congress displayed no intent to change the existing law in enacting the amendment. On the other hand, as the Government acknowledges, the Government's reading directly conflicts with IRC § 702(c) and Treasury
PLAINTIFFS' RESPONSE TO UNITED STATES' BRIEF IN SUPPORT OF THE APPLICATION OF THE SIX-YEAR STATUTE OF LIMITATIONS
347398

17

Case 1:05-cv-00296-FMA

Document 72

Filed 01/12/2007

Page 22 of 23

Regulation 1.702-1(c)(2), a legislative regulation of long standing. The amendment to Section 6501(a) did not invalidate this statute and regulation. Moreover, the Government's assertion that the regulation is invalid creates a jurisdictional problem for the Court, as it removes the Court's authority to consider an individual tax return as a partnership item in a TEFRA proceeding. The Government's reading of Section 6501(a) cannot stand. The amendment should be read narrowly in keeping with its purpose, and should not be read to affect Section 6501(e)(1)(A) or the body of case law and regulations interpreting it. All related returns should be considered in evaluating the applicability of Section 6501(e)(1)(A) to this dispute. Even if the Court only considers the individual Form 1040 for this purpose, Plaintiffs' reporting still avoids application of the six-year statute, as the reporting is fully adequate under the statute and is on all fours with Colony. For all these reasons, the Court should find that the six-year statute of limitations does not apply to this dispute. Respectfully submitted on January 12, 2007, By: /s/ M. Todd Welty________ M. Todd Welty Texas State Bar No. 00788642

MEADOWS, OWENS, COLLIER, REED COUSINS & BLAU, L.L.P. 901 Main Street, Suite 3700 Dallas, TX 75202 (214) 744-3700 Telephone (214) 747-3732 Facsimile [email protected] ATTORNEY-IN-CHARGE FOR PLAINTIFFS

PLAINTIFFS' RESPONSE TO UNITED STATES' BRIEF IN SUPPORT OF THE APPLICATION OF THE SIX-YEAR STATUTE OF LIMITATIONS
347398

18

Case 1:05-cv-00296-FMA

Document 72

Filed 01/12/2007

Page 23 of 23

CERTIFICATE OF SERVICE I hereby certify that on January 12, 2007, I electronically filed the foregoing pleading with the Clerk of the Court using the ECF system which will send notification of such filing to the following: Grover Hartt, Esq. U.S. Department of Justice--Tax Division 717 N. Harwood, Suite 400 Dallas, Texas 75201 /s/ M. Todd Welty M. Todd Welty

PLAINTIFFS' RESPONSE TO UNITED STATES' BRIEF IN SUPPORT OF THE APPLICATION OF THE SIX-YEAR STATUTE OF LIMITATIONS
347398

19