Free Affidavit - District Court of Federal Claims - federal

Case 1:05-cv-00231-EJD

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Court of Federal Claims

In The United States

JZ Buckingham Investments, LLC
as Tax Matters Partner of
JBJZ Partners, a South Carolina General Partnership,

Plaintiff
v.

United States of America,
Defendant
Case No. 05-231T
-----

David W. LaRue, Ph.D.
Mcintire School of Commerce
University of Virginia

Expert Report of

June 1, 2007

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b) December 22, 1999:

Additional Contributions to the Capital of the Partnership

(The "Cisco Stock")

(1) JZ (Zucker)

110. On December 22, the Partnership received 4,500 shares of stock in Cisco
Systems, Inc. ("Cisco Stock") as "a contribution to its capital from JZ
Buckingham Investments, LLC. ,,180

· However, these shares where actually transferred from JBJZ's Alex Brown Account 222-10156-19, not from JZ's Alex Brown Account 222-

10153-12
· JBJZ had received these shares on December 7, presumably directly

from Mr. Zucker.

· There is no indication on either the November 1999 or the December
1999 Alex Brown Client Statements that JZ ever received or held any
Cisco Stock.181

· A December 21 Fax from J&G to Ray Knight at E&Y refers to the "misplacement of the Cisco stock.,,182
o Attached to this fax is a letter signed by Mr. Zucker conveying the

Cisco Stock from JBJZ to the Partnership.183

o One of the four pages referred to on the fax coversheet appears to
be missing from the documents I have reviewed. The third page of
this fax, however, states that the contribution of the 500 shares of

Cisco Stock transferred from Mr. Boyd to JBJZ on December 8 had
been made in error. Presumably, the missing fourth page similarly

180
181

Bates: 0297 & 00000131. See Table 2, Columns C & D, Rows 6 & 7.

Bates: 2089 through 2093 (November) and 2094 through 2099 (December).
Bates: 00000132. Bates: 00000132.

182 183

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stated that the 4,500 shares of Cisco Stock transferred from Mr.
Zucker to JBJZ on December 7 had been made in error.184
111. It is my understanding that the Cisco Stock contributed by JZ (Zucker) had

been purchased by Mr. Zucker in 1996 for $57,000 and that this basis

would have carried over to become the Partnership's tax basis in that
Stock.185

o Note, however, that in computing the tax bases that JZ (Zucker) claimed

to have had in its/his Partnership interest (and that JBJZ subsequently
claimed to have had in the Cisco Stock and the Canadian Currency it
received from the Partnership upon the Partnership's termination and

liquidation), the $476,775 fair market value of that stock, not JZ
(Zucker)'s $57,000 tax basis, was used.186

112. The Cisco Stock contributed by JZ (Zucker) on December 22 was

ultimately distributed (back) to JBJZ and then sold by JBJZ on December
31 for $476,756. JBJZ recognized and reported a $18,177,695 long-term
capital

loss on this sale.187

(2) JGB (Boyd) 113. On December 22, the Partnership received 500 shares of stock in Cisco

Stock as "a contribution to its capital from JGB Bohicket Investments,
LLC.,,188

· However, these shares where actually transferred from JBJZ's Alex
Brown Account 222-10156-19, not from JGB's Alex Brown Account 222-

10154-11.
184

Bates: 00000132 & 00000134.

185

I.R.C. Section 723. As noted at 1f157,et seq., the Partnership's 1999 Form 1065
(including the accompanying forms, schedules, statements, and attachments) did not disclose any information regarding the Cisco Stock received from JZ (Zucker). See the spreadsheet prepared by Amy Keating of E& Y dated March 8, 2000. Bates: 0288. See also Table 2, Columns C & D, Rows 6 & 7, and the "Proof/Reconciliation" in Rows 24 through 27 (which incorporate the fair market value amount on Column D, Row 6).
Bates: 1074.

186

187
188

Bates: 0297 & 00000131. See Table 2, Columns E & F, Rows 6 & 7.

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· JBJZ had received these shares on December 8, presumably directly
from Boyd.

· There is no indication on either the November 1999 or the December
1999 Alex Brown Client Statements that JGB ever received or held any
Cisco Stock.189

· A December 21 Fax from J&G to Ray Knight at E&Y refers to the "misplacement of the Cisco stock.,,19o
o Attached to this fax is a letter signed by Mr. Zucker conveying the

Cisco Stock from JBJZ to the Partnership.191
o The third page of this fax states that the contribution of the 500
shares of Cisco Stock transferred from Mr. Boyd to JBJZ on
December 8 had been made in error, and requests that these shares

be transferred from JBJZ to the Partnership "as a contribution to
capital from (JGB).,,192

114. It is my understanding that the Cisco Stock contributed by JGB (Boyd) had
been purchased by Mr. Boyd on August 26, 1999 for $34,905, and that this

basis would have carried over to become the Partnership's tax basis in that
stock.

193

o Note, however, that in computing the tax bases that JGB (Boyd)

claimed to have had in its/his Partnership interest (and that JBJZ subsequently claimed to have had in the Cisco Stock and the Canadian
Currency it received from the Partnership upon the Partnership's

189
190
191

192 193

Bates: 2614 through 2618 (November) and 2619 through 2623 (December). Bates: 00000132. Bates: 00000132. Bates: 00000132 & 00000134.

I.R.G. Section 723. As noted at 1l157,et seq., the Partnership's 1999 Form 1065
(including the accompanying forms, schedules, statements, and attachments) did not disclose any information regarding the Cisco Stock received from JGB (Boyd).

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termination and liquidation), the $52,975 fair market value of that stock,
not JGB (Boyd)'s $34,905 tax basis, was used.194

115. The Cisco Stock contributed by JGB (Boyd) on December 22 was
ultimately distributed (back) to JBJZ and then sold by JBJZ on December

31 for $52,973. JBJZ recognized and reported a $2,019,744 short-term
capital

loss on this sale.195

c) December 22 & 23, 1999:
Partnership's Purchase of Canadian Dollars ("Canadian Currency")

116. On or about December 22 and 23, the Partnership purchased Canadian
Dollars ("Canadian Currency") for $772,500.196

117. The Canadian Currency was ultimately distributed to JBJZ and then sold
by JBJZ on December 29 for $778,407. JBJZ recognized and reported a

$29,446,675 ordinary loss on this sale.197
5. Step 5: December 27,1999:

Termination and Liquidation of the Partnership

Transfer of Partnership Interests to JBJZ and the

118. On or about December 27, the JZ (Zucker) and JGB (Boyd) contributed
their respective Partnership interests to JBJZ in exchange for all of JBJZ's
issued and outstanding stock.198

a) JZ (Zucker)

119. JZ (Zucker) transferred its/his Partnership interest to JBJZ in exchange for
90 shares (90%) of JBJZ's stock.199

194

See the spreadsheet prepared by Amy Keating of E& Y dated March 8, 2000. Bates: 0288. See also Table 2, Columns E & F, Rows 6 & 7, and the "Proof/Reconciliation" in Rows 24 through 27 (which incorporate the fair market value amount on Column F, Row 6).
Bates: 1074.

195 196

Bates: 0298. These purchases were posted on December 23 and 27, respectively. See Table 2, Column I, Row 16.
Bates: 1075. Bates: 1081.

197 198

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b) JGB (Boyd)

121. JGB (Boyd) transferred its/his the Partnership interest to JBJZ in exchange
for 10 shares (10%) of JBJZ's stock.206

122. JBJZ claimed a carryover tax basis in this Partnership interest of
$5,430,773.207 This amount included:208

· The inflated basis amount of $4,750,000 (Table 1, Column I, Row 3),
· Approximately $18,070 of unrealized appreciation in

the value of the

Cisco Stock209 that Mr. Boyd had contributed to the Partnership
(through, erroneously, JBJZ210).

· Mr. Boyd's $75,000 share of the E&Y Fee (an amount which was

incurred and paid individually by Boyd211 and which was also claimed by
him as a miscellaneous itemized deduction on his 1999 Form 1040212)

(1130).

.
206

Mr. Boyd's $140,000 share of the J&G Fee (11136).
As previously observed, the stock certificate issued to Mr. Boyd was dated November 16, 1999. Bates: 0681 & 0682. The $5,430,773 tax basis that JBJZ actually claimed to have in this Partnership interest was $140,000 more than the $5,290,773 amount shown on the Regulation
This difference is the amount of Mr. Boyd's share of the J&G Fee, which was, in fact, retroactively added to (i.e., capitalized to) the tax basis of JGB (Boyd)'s Partnership interest upon the payment of this fee by JBJZ on December 1999. See Table 2, Column F. $18,070 = $52,975 (approximate fair market value) less $34,905 (Mr. Boyd's cost basis). This gain was not recognized by Mr. Boyd upon the transfer of his Cisco Stock to the Partnership. Bates: 2203 through 1365. I.R.C. Section 721 (a). Instead of increasing his tax basis in the Partnership interest by $34,905 under I.R.C. Section 722, his basis was increased by the stock's $52,973 fair market
value. See 1f114.

207

Section 1.351-3(b) Statement that it filed with its 1999 Form 1120S. Bates: 1081.

208 209

210
211

See 1f113.

since (1) he was personally invoiced for this fee, (2) he deducted it on his 1999
Form 1040, (3) this amount does not appear on the Schedule Ks (or on his Schedule K-1s) of either the Partnership or JBJZ, and (4) there is no record of any payment to E&Y (or of any such amount) on the Partnership's Alex Brown Client Statements or on JBJZ's Alex Brown Client Statements. Bates: 2208 & 2637.

i was unable to locate documentation supporting this payment by Mr. Boyd. However, I concluded that Mr. Boyd must have made this payment individually

212

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c) The Partnership

123. On or about December 27, immediately following the contributions of the
Partnership Interests to JBJZ, the Partnership terminated and liquidated.

The Cisco Stock and the Canadian Currency (together with cash of

$3,355,475) was distributed to JBJZ as a distribution in liquidation of the Partnership.213

d) JBJZ

124. On December 28, the Cisco Stock and the Canadian Currency (together
with cash of $3,355,475) were received by JBJZ as proceeds from the

termination and liquidation of the Partnership.
125. The tax bases that JBJZ assigned to the Cisco Stock and to the Canadian
Currency was not a carryover of the Partnership's tax bases in those

assets as of the date of its termination, liquidation, and distribution

($91,905214 and $772,500,215 respectively).

126. The aggregate tax basis that JBJZ assigned to the Cisco Stock and the
Canadian Currency was instead the aggregate carryover tax basis that the

partners claimed to have had in their respective Partnership interests
(increased by the $1,400,000 J&G Fee reduced by the $3,355,475 cash
distributed by the Partnership to JBJZ).

· The aggregate tax basis that JBJZ assigned to the Cisco Stock and the
Canadian Currency was $50,952,250,216 an amount that included:217

o The inflated basis amounts totaling $47,500,000 (Table 1, Column I,
Row 4),
213 214

Sates: 0291 through 0303.

claimed a Partnership interest tax basis that included an amount equal to the of the contribution of that stock to the Partnership ($529,729). Table 2, Column 0 & F, Row 6. See
approximate fair market value of the Cisco Stock as of the date

Table 2, Column C & E, Row 7. As previously noted, the partners incorrectly

215 216

1f111 and 1f114.

217

See also Table 2, Column I, Row 16. See Table 2, Column G, Row 23. See Table 2, Column G.

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o Approximately $437,845 of unrealized appreciation in the value of

the Cisco Stock218 that Mr. Zucker and Mr. Boyd had contributed to
the Partnership (erroneously through JBJZ219).

o The $750,000 E& Y Fee (which was incurred and paid individually by
Mr. Zucker and Mr. Boyd and which was also claimed by them as

miscellaneous itemized deductions on their respective 1999 Form
1040s. (11130, et seq.)).

o The $1,400,000 J&G Fee (11136, et seq.)).

· The difference between the total of these amounts ($50,087,845) and
the JBJZ Losses ($49,644,114) is the amount of the actual economic

gain (computed using the cost of these assets) realized by JBJZ on the
sale of the Cisco Stock and the Canadian Currency ($443,73122° ).

6. Step 6: December 29 and 31, 1999:

JBJZ

Sale of the Canadian Currency and the Cisco Stock by

127. JBJZ sold the Canadian Currency on December 29 for $778,407.221

· JBJZ reported an ordinary loss of $29,446,675 (the "JBJZ Ordinary Loss") from this sale on the Form 4797 and on the Schedule K of its
1999 Form 1120S.

· The actual economic gain or loss resulting from the purchase and sale
of the Canadian Currency (computed using the Partnership's original
cost of this currency) was a gain of $5,907.222

218 219
220

$437,845 = $419,775 (1f111) + $18,070 (1114).
See 1f11 0 et seq.

221

$443,731 gain = $18,068 gain (500 shares of Cisco Stock from Mr. Boyd) + $419,756 gain (4,500 shares of Cisco Stock from Mr. Zucker) + $5,907 gain (Canadian Currency).
Bates: 1075.

222

$5,907 = $778,407 (gross sales price) less $772,500 (the Partnership's cost).

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· Thus, the amount of the long-term capital loss claimed by JBJZ was

-43 times the amount of the actual economic gain realized on the
investment in these 4,500 shares of Cisco Stock.229

D. Transaction-Related Fees
1. Ernst & Young ("E&Y")

130. Sometime in mid-November 1999, Mr. Zucker and Mr. Boyd engaged Ernst
& Young ("E& Y")
. . . to provide tax advice . . . concernin~ the

implementation of the COBRA strategy. . . .23
131. Sometime subsequent to the date they engaged E& Y, Mr. Zucker and Mr.
Boyd individually paid E& Y fees totaling $750,000 ("E& Y Fees"):231

Mr. Zucker: $675,000.232

Mr. Boyd: $ 75,000.233

132. From a federal income tax standpoint, the treatment of the E& Y Fees

resulted in a duplication of potential tax benefits.

· First, Mr. Zucker and Mr. Boyd deducted these fees on their individual
1999 Form 1040s as miscellaneous itemized deductions.

o The 1999 Form 1040s of Mr. Zucker and Mr. Boyd respectively
disclosed their payments to E& Y, without further elaboration, as

"Ernst & Young, LLP,,234 and "Accounting Fees.,,235

· Second, although the E&Y. Fees were incurred, paid, and deducted individually by Mr. Zucker and Mr. Boyd, the tax bases in their
)

229

-43 = -$18,177,695 divided by $419,756.
Bates: 3192 through 3198 ("E&Y Engagement Letter(s)"). See Table 2, Columns D, F, andG, Row 18.
Supra., footnote 204. Supra., footnote 211.

230
231

232
233 234

Bates: 1335.

235

Bates: 2208. See also Bates: 2637.

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respective Partnership interests (and, ultimately, the amount of the
JBJZ Losses allocated to and deducted by them) were increased by
their respective amounts of the E& Y Fees.236

133. The Partnership's 1999 Form 1065 (including the accompanying forms,
schedules, statements, and attachments) did not disclose any information
pertaining to the E& Y Fees -- there was no general or specific description

of these fees, there was no disclosure of the identity of the payee, the
amounts of these fees were not separately stated or otherwise disclosed,

and the fact that these fees were added to the tax bases of the Partnership
Interests was not disclosed.237

134. The duplicated E& Y Fees that increased the tax bases in the Partnership
Interests were ultimately buried in the JBJZ Losses (i.e., as an unidentified
component of the $49,644,114 of ordinary and capital losses that JBJZ
recognized and reported on its 1999 Form 1120S from the sale of the

Canadian Currency and the Cisco Stock, and that it then allocated to and
between Mr. Zucker and Mr. Boyd).

135. A December 23, 1999 e-mail from Robert B. Coplan (E& Y National Tax) (to
over forty E& Y personnel ("Subject: Deductibility of COBRA Fees")
confirms E& V's policy of capitalizing the fees paid. to it by its clients in
connection with the COBRA transaction:

we have concluded that there is a return filing po'sition that can be taken for capitalizing the E& Y fees into the basis of the partnership, thereby enabling a capital or

After several discussions internally and with counsel,

ordinary loss to be claimed for this amount. We
to the individual partners or the LLCs in order to support the premise that the fees were paid as an

recommended previously that the E& Y invoice be sent

expense of settng up the partnership and advising on its activities. Because the fees will be significant, the clients would likely need to have substantial authority to
236

See Table 2, Columns C, E, and G, Rows 18 through 27.

237

Bates: 0172 through 0187.

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avoid having to disclose the position as a protection

authority exists for this positions.

against a section 6662 penalty. We believe substantial

If you have yet to send one out, the E& Y invoice may

read, "For professional services rendered to

_(individual or LLC)_ during 1999 in connection with the formation and operation of the _ partnership
and the purchase of foreign currency options.,,238

· I have seen no documentation in this case that identifies or otherwise
discusses the "substantial authority" referred to above and on the basis of which the E&Y Fees were capitalized to the tax bases in the

Partnership Interests.
· Neither the J&G Opinion nor the B&W Opinion identified or in any way
addressed this issue.239

2. Jenkens & Gilchrist ("J&G")
136. On December 29, JBJZ paid fees to J&G ("J&G Fee") of $1,400,000240 in
payment of an invoice dated December 6.241

· Under the terms of the engagement letters between J&G and Mr.
Zucker and Mr. Boyd (both dated December 1) (the "J&G

Engagement Letters"), J&G would provide
238

Bates: 2003EY000878. See also a November 11, 1999 e-mail from Brian Upchurch of E& Y, in which he states: "The (E& Yj fee may be a flag that we do not want on the return this year. What flexibility do we have and what do you recommend." (Emphasis supplied.) Bates: 2003EY010640. See also the E& Y COBRA Presentation which would have treated the E& Y Fees . and the J&G Fee as miscellaneous itemized deductions ("Deduction for fees only

available after application of 2% floor.") Bates: 2003EY001582 & 2003EY001583.

239
)

Bates: 0419 through 0531 (J&G) and 0532 through 0609 (B&W).
Bates: 1189.

240
241

Bates: 1886. J&G subsequently invoiced JBJZ for an additional $40,000 (Bates:
00000565). i have been unable to determine whether or not thís additional $40,000 amount was ever paid. Scheef & Stone, LLP invoiced J&G $240,000 on 12/28/99 for "12/22/99, GPD For legal services rendered, including, without limitation, consultation regarding design, structure and implementation of transaction" regarding "JBJZ Investors,

Inc." (Bates: 00000564).

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increased tax basis between and among the cash, the Cisco Stock and the
Canadian Currency.249

141. Consequently, the J&G Fee, like the E&Y Fees, was ultimately buried in
the JBJZ Losses (i.e., as an unidentified component of the $49,644,114
losses that JBJZ reported on its 1999 Form 1120S from the sale of the Canadian Currency and the Cisco Stock).
ordinary and capital

142. A March 13,2000 e-mail from Robert B. Coplan (E&Y National Tax) to over
twenty E& Y tax professionals ("Subject: Further (and close to final)
Update on COBRA Returns") confirms E&Y's policy of capitalizing the fees

paid to J&G by its clients in connection with the COBRA transaction:

J&G Fee Capitalized. This is to further advise you that the
the Jenkens & Gilchrist legal fees into the basis of the partnership interest, which in turn gets included in the basis
of the S corporation out of which the payments are

returns reflect a decision made late last week to capitalize

support for taking this position, in that the key services J&G

ultimately made. We concluded that there was reasonable

document preparation and the formation of the entities. The legal opinion was not the main reason for the payment of
the fee, since a separate tax opinion was being obtained

rendered were the structuring of the partnership, the

The final S corp returns and K-1 s reflect this position. The
miscellaneous itemized deduction, which could be a flag on
the 1040.250 (Emphasis supplied.)

from Brown & Wood. Therefore, the J&G fees wil produce an additional K-1 loss in the same manner as the E& Y fees.

individuals to show the large payment to J&G as a

significance of this is that the returns wil not force the

· An earlier e-mail from Mr. Coplan (December 23, 1999, e-mail from
Coplan to over forty E&Y personnel ("Subject: Deductibility of COBRA
Fees")), had expressed reservations about the propriety of capitalizing

the J&G Fees:
249

See excerpt from the March 13, 2000 Coplan e-mail, below, which describes how

250

capitalized to the S corporations' tax bases in the assets received in liquidation of the partnerships. See Table 2, Columns C, E, and G, Rows 19 through 27. Bates: 2003EY011725 & 2003EY011726.

(and why) the J&G Fees paid in connection with the COBRA Strategy were to be

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fees for the law firms with respect to their opinion letters.
The greatest part of the Jenkens fee is for the opinion letter,
which is to be provided to assist the S corporation in

We believe there is less support for similarly capitalizing the

preparing K-1 s for its shareholders. . . .

As you know, we did not believe there was adequate
opinion letters, etc. These fees will be treated as section
212 expenses on the individuals' returns.251

corporation level for fees paid by the S corporation for the

support for claiming a section 162 deduction at the S

· I have seen no documentation in this case that identifies or otherwise
discusses the "reasonable support" referred to in the March 13, 2000 email, above, and on the basis of which the J&G Fee was capitalized to
the Partnership Interests and t_hen to the Cisco Stock and Canadian

Currency.
· Neither the J&G Opinion nor the B&W Opinion identified or in any way
addressed this issue.252

143. None of the 1999 Form 1040s of the Taxpayers (including the
accompanying forms, schedules, statements, and attachments) disclosed

any information pertaining to the J&G Fee.
3. Brown & Wood ("B&W"J

144. On or about March 3, 2000, Mr. Zucker and Mr. Boyd each retained the law

firm of Brown & Wood ("B&W") as
. . . special U.S. Fedêral income tax counsel to you in connection with certain investment transactions in which

you have engaged (Transactions'). In that capacity, you
251

B&W Feel as section 162 expenses, but are exploring the potential for capitalizing them into the basis of the S corp assets, which would increase the size of the loss on the sale of the assets." Bates: 2003EY000868. See also Bates: 2003EY010648 (language repeated in e-mail dated 12/22/99). See also the E& Y COBRA Presentation which would have treated the E& Y Fees and the J&G Fee as miscellaneous itemized deductions ("Deduction for fees only

the "Quickstrike Team": "We are not comfortable treating the (J&G Fee and the

Bates: 2003EY000878. See also a December 9, 1999 e-mail sent from Coplan to

available after application of 2% floor.") Bates: 2003EY001582 & 2003EY001583.
252

Bates: 0419 through 0531 (J&G) and 0532 through 0609 (B&W).

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reasonably ascertainable from the information presented on or with those 1999 Returns, individually or collectively.266
154. In "Table 2: Derivation of Tax Bases Claimed by JBJZ in the Cisco Stock

and the Canadian Currency," I took the tax bases that JBJZ assigned to:

(1) The 4,500 shares of Cisco Stock originally contributed by Mr. Zucker
($18,654,451),267

(2) The 500 shares of the Cisco Stock originally contributed by Mr. Boyd
($2,072,717),268 and

(3) The Canadian Currency purchased by the Partnership four days
before its termination and liquidation ($30,225,082),269

And worked backwards to determine how these amounts must have been
derived.27o

155. Essential information that was not disclosed on or ascertainable (or

reasonably ascertainable) from the 1999 Returns (and that, therefore, had
to first be identified as relevant, and then located or derived from other
documents) includes:

· The fact that the tax bases that JBJZ claimed that the partners had in
their Partnership interests had been determined, in part, by increasing
266

See Table 2, Columns A & B.
Bates: 1074. Bates: 1074. Bates: 1075.

267
268

269
270

See also the spreadsheet prepared by Amy Keating of E& Y dated March 8, 2000.

date on this spreadsheet).

JBJZ's 1999 Form 1120S in computing the JBJZ Losses, $50,952,250. The $2,150,000 difference between these amounts is the amount of the E& Y Fees ($750,000) and the J&G Fee ($1,400,000) (the Coplan e-mail communicating the decision to capitalize the J&G Fee was dated March 13, 2000, five days after the

Canadian Currency of $48,802,250, as compared with the actual amount used on

to have used in making her calculations (these amounts differ from the actual selling prices of the Cisco Stock by less than $25). Ms. Keating calculated a total tax basis allocable to the Cisco Stock and the

Bates: 0288. As previously noted, i used the Cisco Stock values that she appears

See also the description and sequencing of the various "steps" that were outlined in the E& Y COBRA Presentation, supra., footnote 1.

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those bases by the amount of the premium "charged" for the Long Options and without regard to the premiums "credited" for the Short

Options (and, therefore, without regard to the actual net cost of the

Options);
· The fact that Transaction-related fees to E& Y that had been incurred,
paid, and deducted by Mr. Zucker and Mr. Boyd, individually, had also
been capitalized as unidentified components of the tax bases of the

Partnership Interests (and, ultimately, as unidentified components of the

JBJZ Losses).

· The fact that JBJZ had paid a Transaction-related fee to J&G, and that
this fee had also been capitalized as an unidentified component of the

tax bases of the Partnership Interests (and, ultimately, as an
unidentified component of the JBJZ Losses).

156. Table 2 is organized as follows:

· Column A identifies the items of information that were and that were not
disclosed on the 1999 Returns.

· Column B (Rows 1 through 23) evaluates whether or not the effect of
those items on the tax bases the partners claimed to have had in their
respective Partnership interests was disclosed on any of the 1999

Returns or was otherwise ascertainable, or reasonably ascertainable, from the information provided on or with any of those Returns.

· Working backwards from the $50,952,250 aggregate tax basis that JBJZ
assigned to the two lots of Cisco Stock and the Canadian Currency
(Table 2, Column G, Row 24), Column G ,identifies the items and the amounts that appear to have been taken into consideration in

computing the partners' aggregate tax basis in the Partnership

Interests.
o In Columns C though F (Rows 1 through 20), the totals shown in
Column G are broken out between JZ (Zucker) and JGB (Boyd).

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David W. LaRue, Ph.D.

· Columns C and E identify the items and amounts that were
excluded from the determination of the tax bases.

· Columns 0 and F identify the items and amounts that were
included in the determination of the tax bases.

· Columns H and I respectively show the effect of the item on the
Partnership's income or loss, and on its cash flows.

· In Column G, Rows 20 through 23, the total tax basis in the Partnership Interests is first increased by the J&G Fee and then reduced by the
amount allocated to the cash distributed by the Partnership to JBJZ in order to determine the residual amount that JBJZ allocated to the two
lots of Cisco Stock and the Canadian Currency.

· Rows 24 through 27 allocate this residual tax basis amount between the two lots of Cisco Stock and the Canadian Currency, and compare the
amounts so derived with the amounts actually show on JBJZ's 1999

Form 1120S. The amounts shown in Column G, Rows 24 through 26 match the amounts reported on the Form 11205 to the dollar.

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Table 2

90.0%

JZJB Partners
100%

Date

Description

(or on J9JZ". Tn Ba.. In Re~"abv ~Inabl) the Cli-Stock ilnd the

w.. thls-- Olacfci In tf Parlhlp Inlts
On of Aslii.ble (or

on the PiIi-' Tax BâH

w.. th Effct of this Itm
Calculation of Tax Basis In Partnership Interest

Calculaton of Tax Basis In

P.rt..hlp In_

Fr.OJllau.. al1 any Conlan Curnc OlJloøOn or fl..Sòll ASI,.b.. f'ro Any of

"'..,""_.
No No

Aggregate Tax Basis in

Income
&

Amounts
Not

th.199~tuna?

Included

Amounts Included

Amounts
Not

Partership
Amounts Included
Interests

Loss

Cash Flows

Included

12/07/1999 Cash Contribution ("vo 11124/99") O..ieacqu"edby LLC partn"rB 11123/1999 Dalø lransrered tile to Par1nership 12107(1999 ("NO11124199"j Total Casli Cost of th Options Options Total Long Opllon Prmium ~Ch.rged. Total Short Option Premium .CredltedM Sale of Optons Contrbution of Cisco Stock Fair Mai1et Value . roidmate

No No No

S100.0DO SO

$0

ii. Am..
¡P_hlp"-'Ol51
AmOlnta OlKio.

Amou Dliçlo,

$S.lll.OIO

$50,000,000
$0

OeacAnblg-lus
1f..'" F.. 10651

No

SO

12122(99 12122199 12/10199 12110/99 12114/99 12/23/99 12117/99 12/17199 12117/99 12/27/99 12122.23199 12/28/99

Y..
IPartlllp For 10651 No No

Y.. lPllrshlpFcmn1085)
No No

$8250

TuBasls
Bank of NY Co.

Pun;hase of Short Term Investments First UnIon Corp. JBJZ Partners

b,

Bank of Amerca Corp GatewayFunc: Bank of NY Co.

¡pa_Ip Fom 10651

Y..

Y..
IP-lrahfp FOl10lS5)

Sale of Short. Term Investments First Union Corp.

JBJZPartnerl

b,

Y..
(PilrtJp For 1D65J

Y..
IParrship For 1OS5)

($1,104) ($1,112) $51

/511.0421

$312,849 $307,937 5400,506 ($772.500t $610

Bank of Amerca Corp Gateway Fund

($11.16)
5506

Purclas. of Canadian Dollars Tu Eiiempt Income (from ~Taii Ellempt Money Marlet")

No

No

SO S67

$0

SO 5670

Y..
(parthip Far 1065J No

Y..
(Parf$hlp Fon 1085) No

$670

Y..
(JBJZ For 1120S)
No

No DIsclosure of How This

Amount Was DelerMd.
No

No No

No No

Amount1 OIsclose (JGJZ For 1120S)

No Disclosur of How This Amount Was De1ennlned.

Allocation of Aggregate Tax Basis Between the Cisco Stock and the Canadian Currency
4,500 Shares of Cisco Stock (Zucker):

Amount Used to Make Allocation

Percentage of Total To Be

Allocated

Total Tax Basis To Be

Allocated

Proof/Reconciliation

36.61-;. 4.07% 59.32'1.

$50,952.250 $50,952.250 $50.952,250

518,654,451 52,072,717 $30,225,082

~acttv Matchll Asounl Repoed On JBJZ's t999Fom 11205 E~aatv Matches Asounl Rflporfld on JBJZ'sl999Form 1120S ~adly Matchs Asou Repoed 00 JBJls 1999 For t, 205

500 Shares of Cisco Stock (Boyd): Canadian Currency:

Totals:

100,00%

550.952.250

$50,952.250

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o The $29,446,675 ordinary loss (shown in Column G) was computed
by subtracting the "(F) COST OR OTHER BASIS PLUS IMPROV
AND SALE EXPENSE" of $30,225,082 from "(D) GROSS SALES
PRICE" of $778,407.

187. A "SHAREHOLDER SUMMARY" was attached to JBJZ's 1999 Form

1120S.328 This Shareholder Summary listed both of JBJZ's individual
stockholders ("Jim Boyd" and "Jerry Zucker") and their respective

"Beginning Shares" and "Ownership Percentagers)." No other information
was provided on this Shareholder Summary.

188. A Schedule K-1 for each of JBJZ's two individual stockholders
accompanied JBJZ's Form 1120S for 1999. These Schedule K-1 s disclosed:329

· The stockholder's name, address, erroneous tax identification number,
percentage of stock ownership in JBJZ, and the IRS Service Center

where JBJZ's tax return was filed (Atlanta, GA).

o Mr. Zucker's Schedule K-1 misstated his "Shareholder's identifying

number." It showed "2
331

..330 rather than the correct "

o Mr. Boyd's Schedule K-1 misstated his "Shareholder's identifying

number." It showed "4

,,332 rather than the correct

· The stockholders' proportionate shares of the $29,446,675 ordinary loss.

328
329 330
331

Bates: 1076.

Bates: 1077 through 1080.
Bates: 1079.

E.g., Bates: 1288 (the Zuckers' 1999 Form 1040).
Bates: 1077.

332

333

E.g., Bates: 2229 (the Boyds' 1999 Form 1040).

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· The entire amount of JBJZ's $2,019,744 short-term capital

loss was

allocated to Mr. Boyd (Schedule K-1 (Boyd), Line 4(d)334), and none of

that amount was allocated to Mr. Zucker (Schedule K-1 (Zucker), Line
4( d)335).
o It is my understanding that such special allocations by an S
corporation are not permissible.
· The entire amount of JBJZ's $18,177,695 long-term capital

loss was allocated to Mr. Zucker (Schedule K-1 (Zucker), Line 4(e)(2))336), and
none of that amount was allocated to Mr. Boyd (Schedule K-1 (Boyd),

Line 4(e )(2)337).
o It is my understanding that such special allocations by an S
corporation are not permissible.

189. Also regarding the Zucker and Boyd Schedule K-1 s filed with JBJZ's 1999

Form 1120S:

· The $1,400,000 J&G Fee that JBJZ paid to J&G on December 29 was
not identified, described, or otherwise disclosed or separately deducted
on either of the stockholders' Schedule K-1 s.

· Line 23 ("Supplemental information required to be reported separately
to each partner") was left blank on each of the Schedule K-1s. Line 23
is used, among other things, to provide adequate disclosure of the

relevant facts relating to the tax treatment of any item that may cause
an understatement of income tax.338

334

Bates: 1077. Bates: 1079. Bates: 1079. Bates: 1077.

335
336

337 338

See 1999 Instructions for Form 1120S (p. 22-23), and 1999 Instructions for Schedule K-1 (Form 1120S) (p. 8).

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· Did not provide any description, explanation, or calculation showing or
indicating how Mr. Zucker's and Mr. Boyd's tax bases in the Partnership
Interests had been determined.

· Did not provide any description, explanation, or calculation showing
how JBJZ determined its tax bases in the Cisco Stock or the Canadian

Currency.

· In my opinion, it would be reasonable to conclude that the risk of
detection and audit by the IRS would have increased significantly if this
information had been disclosed on JBJZ's 1999 Form 1120S.

192. JBJZ's 1999 Form 1120S (including all accompanying forms, schedules,
statements, and attachments) did not contain any references to the tax

identification number of the Partnership, or to the name or tax identification
number of either of the single-member LLCs (JGB and JZ) that the
Partnership had identified as its partners on the Schedule K-1 s it filed with

its 1999 Form 1065.
2. Opinion

193. In my opinion, the information and disclosures made on the JBJZ 1999
Form 1120S (including all accompanying forms, schedules, statements,

and attachments), individually and collectively, failed to provide any
reasonably discernable indication:

· That the Cisco Stock, prior to its contribution to the Partnership and its
distribution by the Partnership to JBJZ on or about December 27, had
been owned by JBJZ's stockholders, Mr. Zucker and Mr. Boyd (or that

the Cisco Stock had previously been transferred toJBJZ on December
7 (albeit "erroneously") and held by JBJZ from that date through
December 22, when that stock was transferred by JBJZ to the
Partnership );345

345

See 11110 & 11113.

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· That the tax bases claimed by JZ (Zucker) and by JGB (Boyd) in their respective Partnership interests (and then by JBJZ in those Partnership
Interests, and then by JBJZ in the Cisco Stock and the Canadian

Currency that it received upon the termination and liquidation of the
Partnership) resulted from:

o The acquisition of the Options by the LLC-partners, the subsequent
contribution of those Options by those partners to the Partnership,

and the claimed increase in the tax bases of the Partnership
Interests by the amount of the premiums "charged" for the Long

Options (and without regard to either the amount of the premiums

"credited" for the offsetting Short Options or the actual net cash
costs of the Options), and from

o A "step-up" to fair market value of the tax bases in the Cisco Stock
contributed by Mr. Zucker and Mr. Boyd, and from

o The capitalization of the $750,000 E&Y Fees incurred, paid, and
deducted by Mr. Zucker and Mr. Boyd, individually, and from

o The capitalization of the $1,400,000 J&G Fee that was subsequently
paid by JBJZ.
· That in addition to the $750,000 fee paid by Mr. Zucker and Mr. Boyd to

E& Y for "tax advice. . . concerning the implementation of the COBRA
strategy," legal fees of $1,400,000 had been assumed and paid by JBJZ

to J&G in connection with the interrelated series of transactions that
ultimately generated the JB..lZ Losses recognized and reported by JBJZ

on its Schedule K and on the Schedule K-1 s of its stockholders (and on

the Taxpayers' respective 1999 Form 1040s).

· In my opinion, it would be reasonable to conclude that the risk of
detection and audit by the IRS would have increased significantly if
JBJZ's 1999 Form 1120S had disclosed this information.

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e the sale of the Cisco Stock (and therefore the detailed descriptions,
explanations, and calculations of the JBJZ STCL and the JBJZ L TCL)

from the Taxpayers' respective 1999 Form 1040s in order to reduce the

possibility of detection and audit by the IRS.
c. Individual Form 1040s of JBJZ Stockholders (Zucker348 . and Boyd349)

(The "1999 Form 10405")
1. Tax Return Preparation
198. The Zuckers' 1999 Form 1040 was signed by Barry A. Emerson, CPA, LLC
as preparer.350

199. The Boyds' 1999 Form 1040 was signed by Shelia Pace of Thiem, Jackson
& Pace, CPA's (sic), p.A.351

2. E&Y Fees
200. Mr. Zucker disclosed and deducted the $675,000 he paid to E&Y on Line
22 of Schedule A (other miscellaneous expenses). 352

· Line 22 referred to "Statement 9," which disclosed a fee paid to "ERNST
& YOUNG, LLP" in the amount of $675,000.353

· The fact that this fee had been incurred and paid for tax advice,
generally, or, more specifically, for "tax advice. . . concerning the
implementation of the COBRA strategy," was not disclosed or otherwise

alluded to on the Zuckers' 1999 Form 1040.
201. Mr. Boyd disclosed and deducted the $75,000 he paid to E&Y on Line 22 of
Schedule A (other miscellaneous expenses).354

348 349 350
351

Bates: 1288 through 1370.

Bates: 2229 through 2274.
Bates: 1295.

Bates: 2237.
Bates: 1296. Bates: 1335.

352 353
354

Bates: 2238.

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· Line 22 referred to "Stmt 7," and Statement 7 disclosed "ACCOUNTING
FEES" totaling $78,015 (together with (apparently unrelated) "LEGAL
FEES (TAX PLANNING)" of $1,898).355

· The fact that this fee had been incurred and paid for tax advice,
generally, or, more specifically, for "tax advice. . . concerning the
implementation of the COBRA strategy," was not disclosed or otherwise
alluded to on the Boyd's 1999 Form 1040.

202. As noted above, these respective amounts incurred and paid to E& Y by Mr.
Zucker and Mr. Boyd were also deducted a second time on their respective
1999 Form 1040s as unidentified components of the JBJZ Ordinary Loss

and the JBJZ Capital Losses allocated to and between them by JBJZ.
3. Legal Fees paid by JBJZ to J&G

203. None of the $1,400,000 J&G Fee that was paid by JBJZ and allocable to
and between its stockholders was identified or otherwise separately
disclosed by either Mr. Zucker or Mr. Boyd on their respective Schedule As

("Itemized Deductions") of their individual 1999 Form 1040s.
204. None of the $1,400,000 J&G Fee that was paid by JBJZ and allocable to
and between its stockholders was described or separately identified
anywhere on their respective 1999 Form 1040s, or on any of the
accompanying forms, schedules, statements, or attachments.

205. As noted above, Mr. Zucker and Mr. Boyd deducted their respective shares
of the J&G Fee on their respective 1999 Form 1040s as unidentified

components of the JBJZ Ordinary Loss and the JBJZ Capital Losses
allocated to and between them by JBJZ.
4. Ordinary Income from the Partnership

206. On their respective 1999 Form 1040s, Mr. Zucker and Mr. Boyd, as owners
of the Partnership's single-member LLC-partners, reported their distributive
355

Bates: 2667.

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