Psaty v. United States

• Decision Date: 20 April 1971
• Docket Number: No. 18750.,18750.
• Citation: 442 F.2d 1154
• Parties: Milton R. PSATY, Appellant, and Martin M. Psaty v. UNITED STATES of America.
• Court: U.S. Court of Appeals — Third Circuit

442 F.2d 1154 (1971)

Milton R. PSATY, Appellant, and Martin M. Psaty v. UNITED STATES of America.

No. 18750.

United States Court of Appeals, Third Circuit.

Argued December 11, 1970.

Decided April 20, 1971.

COPYRIGHT MATERIAL OMITTED

Morris M. Schnitzer, Kasen, Schnitzer & Kraemer, Newark, N. J., for appellant.

Richard Halberstein, Dept. of Justice, Tax Div., Washington, D. C. (Fred B. Ugast, Acting Asst. Atty. Gen., Meyer Rothwacks, Bennet N. Hollander, Attys., Dept. of Justice, Tax Div., Washington, D. C., Frederick B. Lacey, U. S. Atty., of counsel, on the brief), for appellee.

Before ALDISERT, ADAMS and ROSENN, Circuit Judges.

OPINION OF THE COURT

ROSENN, Circuit Judge.

The primary issues raised on this appeal arise out of the instructions by the trial court in a civil proceeding as to the burden of proof on an officer of a corporation who resists the collection of penalties for willfully failing to pay over income and social security taxes withheld from corporate employees.

The Commissioner of Internal Revenue assessed 100% penalties pursuant to Section 6672 of the Internal Revenue Code of 1954,¹ against the appellant and his brother, Martin,² as the responsible officers of S. F. Berkeley, Inc. (Berkeley) for willfully failing to pay over income and social security taxes withheld from employees of Berkeley for the first two quarters of 1962. The appellant paid a small portion of the penalty assessed and instituted this suit for refund. The Government counter-claimed for the unpaid balance of $55,603.74.³ The jury returned a verdict against Milton Psaty, appellant, on the Government's counter-claim and the district court entered judgment for the United States.

Milton Psaty and several members of his family operated a water proofing firm with offices in New York City known as Psaty Bros., Inc. In late 1961, Jack Merrill, now deceased, approached the appellant for the purpose of interesting Psaty Bros., Inc. in some highly profitable subcontracting work. After discussion and checking of references, the appellant was convinced that at least one of Merrill's proposed ventures (a residential public housing project in Elizabeth, New Jersey under general contract to a contractor named Lucarelli) had possibilities. The contract price for the concrete work involved in the subcontract was stated to be $480,000.00.

In 1948, Psaty Bros., Inc. had secured a New Jersey corporate charter for Berkeley for a purpose that was immediately abandoned. This dormant corporation, however, was available as the vehicle for the Lucarelli project in Elizabeth. Since public work was involved, the sub-contractor, Berkeley, was required to deliver a payment and performance bond. The appellant agreed that his own credit and capital, as well as that of Psaty Bros., Inc., would be used to help finance the project and to obtain the necessary performance bonds.

Before it would write the performance bonds, the bonding company insisted that Merrill and Psaty Bros., Inc., deposit $25,000.00 each into a capital account, along with all payments from the general contractor. By formal joint control agreement executed and delivered to the Hudson County National Bank of Jersey City, all outgoing checks of Berkeley were to be signed by Psaty and Merrill, and then countersigned by an agent of the bonding company.⁴ It was agreed that all profits would be shared evenly between Merrill and Psaty Bros., Inc.

According to the understanding, Merrill ran the operation from an office in his New Jersey home, assisted at times by his wife and daughter. Supervision and running of the job were exclusively in Merrill's hands. He was also responsible for the handling of correspondence and, with the help of his daughter, the care of the books and other business records. Although Psaty stated initially that his only functions with this operation were to obtain financing and to countersign checks, there was testimony that some letters over his signature were mailed to suppliers and that he saw Merrill occasionally at his New York office.

Shortly, after the contract was signed and the project begun, Merrill told Psaty that he (Merrill) would have to withdraw his original $25,000.00 investment in order to repay the loan by which he had obtained the money.⁵ As the project proceeded, the general contractor, Lucarelli, failed to make certain progress payments that were needed in order to meet payroll and supply expenses. The appellant, knowing that he personally and Psaty Bros., Inc., were liable to secure the performance bond in the event of default, obtained several loans for Berkeley and contributed funds from Psaty Bros., Inc., to cover the immediate expenses. In addition to his $25,000.00 initial contribution, a sum in excess of $83,000.00 was added to the project in this manner.

Merrill withheld the income and social security taxes from the Berkeley employees for the first two quarters of 1962 and filed the required returns on form 941, but did not remit the funds to the Government. The appellant testified initially that he felt the loans obtained by him for Berkeley were for all expenses, and that he believed that the checks signed for payroll purposes were adequate to cover all withholding taxes. He claimed no knowledge of Berkeley's unpaid withholding taxes until he received a letter on May 29, 1962 from the general contractor indicating that the Government, seeking unpaid withholding taxes for the first quarter of 1962, had levied funds the general contractor owed to Berkeley. With the Government lien on the monies held by the contractor, appellant found it necessary to borrow additional funds on Psaty Bros., Inc.'s credit in order to meet the payroll, complete the contract, and avoid default by Berkeley.

Based on the Commissioner's determination that the appellant was a responsible officer who willfully failed to collect and pay over the social security and income taxes, the appellant was assessed $56,022.24 under the penalty provision of § 6672 Internal Revenue Code (supra). Psaty paid $418.50 of the assessment and then sued for a refund, alleging that he was not a responsible person who had willfully failed to collect and pay over Berkeley's withholding taxes. The United States answered and counter-claimed for the unpaid balance of the assessment. The jury returned a verdict in favor of the United States on the counter-claim and a judgment against Milton Psaty was entered in the amount of $55,603.74 on July 3, 1969. This judgment was later amended upon motion by the Government, dismissing Psaty's claim for a refund and adjusting (in appellant's favor) the amount of the judgment by subtracting that part of the assessment already paid. Psaty has appealed. Jurisdiction is conferred on this court by 28 U.S.C. Sections 1291, 1340, and 1346.

Since this proceeding involves an effort on the part of the Government to impose statutory civil penalties on a corporate officer under § 6672 of the Internal Revenue Code, before liability can be imposed it must establish that:

(1) the person assessed must have been under a legal duty to collect, account for and pay over the tax;

(2) the failure to collect and pay over the withholding taxes on wages paid must have been willful.

Appellant has challenged the finding of the Commissioner that he was a responsible person with the duty of withholding and paying over the taxes under 26 U.S.C. § 6672. The main thrust of his defense, however, contests the Commissioner's finding that his failure to pay was willful. Psaty asserts that Merrill was in sole charge of the project and that Merrill had, with armed confederates, excluded Psaty from the construction site; that his first knowledge that the taxes had not been paid came when the Commissioner levied monies owed by Lucarelli after the project was completed and the Berkeley treasury was empty. He also introduced evidence to prove that the amount assessed was erroneous, at least as to eight of the employees whose salaries were less than that reported or who were not on the payroll at all.

With the determination of the Commissioner in issue, the question of who had the burden of proof in the Government's counter-claim became crucial.

I. THE BURDEN OF PROOF

It has been the uniform rule that a taxpayer must pay the full amount of a tax assessment or penalty before he can challenge its validity in a civil action in the United States district court under 28 U.S.C. § 1346. Flora v. United States, 362 U.S. 145, 80 S.Ct. 630, 4 L.Ed.2d 623 (1960). When he institutes such suit in the district court for the recovery of an internal revenue tax or penalty claimed to have been wrongfully collected, he has the burden of proving the assessment was erroneous. Ehlers v. Vinal, 382 F.2d 58 (8th Cir. 1968), Gibson v. United States, 360 F.2d 457 (5th Cir. 1966), National Fruit Products Co. v. United States, 199 F.2d 754 (4th Cir. 1952), cert. denied, 345 U.S. 950, 73 S.Ct. 866, 97 L.Ed. 1373. Since the nature of the suit is an action for money had and received, the taxpayer has the burden of showing that the United States has money belonging to him.

In Steele v. United States, 280 F.2d 89 (8th Cir. 1960) however, the court held that the penalties imposed under §§ 6671 and 6672 of the 1954 Code constituted divisible assessments and were predicated "upon the separate taxes of the individual employees." It held that the assessment represented a cumulation of separable assessments for each employee from whom taxes were withheld. Therefore, corporate officers assessed with the penalties were legally entitled to pay the penalty applicable to the withheld taxes of any individual employee, to make claim for refund and to institute suit for recovery as a means of resolving the question pertaining to their personal liability.

Relying on Steele, supra, the appellant paid the penalties on a small number of employees, made claim for refund, and then instituted this tax refund suit. As he...