634 F.3d 249 (4th Cir. 2011), 09-2353, Home Concrete & Supply, LLC v. United States

Docket Nº:09-2353.
Citation:634 F.3d 249
Opinion Judge:WYNN, Circuit Judge:
Party Name:HOME CONCRETE & SUPPLY, LLC; Robert L. Pierce; Stephen R. Chandler; Rebecca R. Chandler; Home Oil and Coal Company, Incorporated; Susanne D. Pierce, Plaintiffs-Appellants, v. UNITED STATES of America, Defendant-Appellee. Bausch & Lomb, Inc., Amicus Supporting Appellants.
Attorney:Richard Rice, Charles Mark Wiley, Womble Carlyle Sandridge & Rice, PLLC, Winston-Salem, North Carolina, for Appellants. Joan Iris Oppenheimer, United States Department of Justice, Washington, D.C., for Appellee. Robert T. Numbers, II, Womble Carlyle Sandridge & Rice, PLLC, Winston-Salem, North Ca...
Judge Panel:Before WILKINSON, GREGORY, and WYNN, Circuit Judges. Reversed by published opinion. Judge WYNN wrote the opinion, in which Judge WILKINSON and Judge GREGORY joined. Judge WILKINSON wrote a separate concurring opinion. WILKINSON, Circuit Judge, concurring:
Case Date:February 07, 2011
Court:United States Courts of Appeals, Court of Appeals for the Fourth Circuit

Page 249

634 F.3d 249 (4th Cir. 2011)

HOME CONCRETE & SUPPLY, LLC; Robert L. Pierce; Stephen R. Chandler; Rebecca R. Chandler; Home Oil and Coal Company, Incorporated; Susanne D. Pierce, Plaintiffs-Appellants,

v.

UNITED STATES of America, Defendant-Appellee.

Bausch & Lomb, Inc., Amicus Supporting Appellants.

No. 09-2353.

United States Court of Appeals, Fourth Circuit.

February 7, 2011

Argued: Oct. 27, 2010.

Page 250

ARGUED:

Richard Rice, Charles Mark Wiley, Womble Carlyle Sandridge & Rice, PLLC, Winston-Salem, North Carolina, for Appellants.

Joan Iris Oppenheimer, United States Department of Justice, Washington, D.C., for Appellee.

ON BRIEF:

Robert T. Numbers, II, Womble Carlyle Sandridge & Rice, PLLC, Winston-Salem, North Carolina, for Appellants.

John A. DiCicco, Acting Assistant Attorney General, Gilbert S. Rothenberg, Acting Deputy Assistant Attorney General, Michael J. Haungs, Tax Division, United States Department of Justice, Washington, D.C.; George E.B. Holding, United States Attorney, Raleigh, North Carolina, for Appellee.

Roger J. Jones,

Page 251

Andrew R. Roberson, Latham & Watkins LLP, Chicago, Illinois; Kim Marie Boylan, Latham & Watkins, LLP, Washington, D.C., for Amicus Supporting Appellants.

Before WILKINSON, GREGORY, and WYNN, Circuit Judges.

Reversed by published opinion. Judge WYNN wrote the opinion, in which Judge WILKINSON and Judge GREGORY joined. Judge WILKINSON wrote a separate concurring opinion.

OPINION

WYNN, Circuit Judge:

In Colony, Inc. v. Commissioner of Internal Revenue, the United States Supreme Court held that an overstatement of basis in assets resulting in an understatement of reported gross income does not constitute an " omission" from gross income for purposes of extending the general three-year statute of limitations for tax assessments. 357 U.S. 28, 78 S.Ct. 1033, 2 L.Ed.2d 1119 (1958). Because Colony squarely applies to this case, and because we will not defer to Treasury Regulation § 301.6501(e)-1(e), which was promulgated during this litigation and, by its own terms, does not apply to the tax year at issue, we reverse and hold that the tax assessments at issue here were untimely.

I.

In 1999, plaintiffs Stephen R. Chandler and Robert L. Pierce were the sole shareholders of plaintiff Home Oil and Coal Company, Incorporated (" Home Oil" ). Mr. Pierce contemplated selling his interest in Home Oil and sought professional financial planning advice in anticipation of the transaction. This financial advice, rendered by several financial planning firms, included proposals to minimize the tax liability generated by Mr. Pierce's sale of his interest in Home Oil. The ensuing transactions form the grounds of this dispute.

Plaintiff Home Concrete & Supply, LLC (" Home Concrete" ), a pass-through entity for tax purposes, was formed on April 15, 1999. Its partners were Mr. Chandler, Mr. Pierce, Home Oil, and two trusts established for the benefit of Mr. Pierce's children (collectively " the taxpayers" ).

On May 13, 1999, each of the taxpayers initiated short sales 1 of United States Treasury Bonds. In the aggregate, the taxpayers received $7,472,405 in short sale proceeds. Four days later, the taxpayers transferred the short sale proceeds and margin cash to Home Concrete as capital contributions. By transferring the short sale proceeds to Home Concrete as capital contributions, the taxpayers created " outside basis" equal to the amount of the proceeds contributed.2 The next day, May 18, 1999, Home Concrete closed the short sales by purchasing and returning essentially identical Treasury Bonds on the open market at an aggregate purchase price of $7,359,043.

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On June 11, 1999, Home Oil transferred substantially all of its business assets to Home Concrete as a capital contribution. Three days later, the taxpayers (except Home Oil) transferred percentages of their respective partnership interests in Home Concrete to Home Oil as capital contributions to Home Oil. On August 31, 1999, Home Concrete sold substantially all of its assets to a third-party purchaser for $10,623,348.

In April 2000, Home Concrete and the taxpayers timely filed their tax returns for the 1999 tax year. Home Concrete elected to adjust, or " step-up," its inside basis under 26 U.S. C. (" I.R.C." ) § 754 to equal the taxpayers' outside bases. See I.R.C. § 743(b)(1). Home Concrete then adjusted its inside basis to $10,527,350.53, including the amount of short sale proceeds earlier contributed by the taxpayers. As a result, Home Concrete reported a modest $69,125.08 gain from the sale of its assets.

Home Concrete's 1999 tax return reported the basic components of the transactions. Its § 754 election form gave, for each partnership asset, an itemized accounting of the partnership's inside basis, the amount of the basis adjustment, and the post-election basis. The sum of the post-election bases is indicated at the end of the form. On its face, Home Concrete's return also showed a " Sale of U.S. Treasury Bonds" acquired on May 18, 1999 at a cost of $7,359,043, and a sale of those Bonds on May 19, 1999 for $7,472,405. The return also reported the resulting gain of $113,362. Similarly, the taxpayers' individual returns showed that " during the year the proceeds of a short sale not closed by the taxpayer in this tax year were received."

Notwithstanding these disclosures, the Internal Revenue Service (" IRS" ) did not investigate the taxpayers' transactions until June 2003. The IRS issued a summons to Jenkins & Gilchrist, P.C., the law firm that assisted the taxpayers with the transactions, on June 19, 2003. The parties agree that substantial compliance with the IRS summons did not occur until at least May 17, 2004.

As a result of the investigation, on September 7, 2006 the IRS issued a Final Partnership Administrative Adjustment (" FPAA" ), decreasing to zero the taxpayers' reported outside bases in Home Concrete and thereby substantially increasing the taxpayers' taxable income. Specifically, the IRS reasoned that

the purported partnership was formed and availed of solely for purposes of tax avoidance by artificially overstating basis in the partnership interests of its purported partners.... [T]he acquisition of any interest in the purported partnership by the purported partner, short sales of Treasury Notes, the transfer of proceeds from short sales of Treasury Notes or other assets to a partnership in return for a partnership interest, the purchase or disposition of assets by the partnership, and the distribution of those assets or proceeds from the disposition of those assets to the purported partners, and the subsequent sale of those assets to generate a loss, all within a period of 8 months, had no business purpose other than tax avoidance, lacked economic substance, and, in fact and substance, constitutes an economic sham for federal income tax purposes. Accordingly, the partnership and the transactions described above shall be disregarded in full and (1) any purported losses resulting from these transactions are not allowable as deductions; and (2) increases in basis of assets are not allowed to eliminate gain for federal income tax purposes.

Accordingly, Home Concrete deposited $1,392,118 with the IRS and sued in the

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District Court for the Eastern District of North Carolina to recover that amount, alleging that the FPAA was barred by the general three-year limitations period in I.R.C. § 6501(a).

In response, the IRS contended that the FPAA was timely under the six-year limitations period in § 6501(e)(1)(A). The IRS invoked the extended statute of limitations arguing that Home Concrete " omit[ted] from gross income an amount properly includable therein" and which exceeded 25% of the amount of gross income stated in Home Concrete's 1999 tax return. Home Concrete & Supply, LLC v. United States, 599 F.Supp.2d 678, 683 (E.D.N.C.2008). There was no dispute that if an amount had been omitted from Home Concrete's return, that amount exceeded the 25% threshold. Likewise, there was no dispute that the FPAA would have been timely under the six-year statute of limitations, which would have been tolled beginning six months after the date the summons issued to the date of compliance. Id. at 681 n. 5; see also I.R.C. § 7609(e)(2). By the district court's calculation, " the limitations period for the 1999 tax returns was suspended from December 20, 2003, until May 17, 2004.... Thus, a six-year statute, tolled, would not have run even under this most restrictive interpretation of the record until" September 14, 2006. Home Concrete & Supply, 599 F.Supp.2d at 681 n. 5.

On the other hand, the taxpayers argued that the six-year statute of limitations was inapplicable because Home Concrete's allegedly overstated basis did not constitute an omission from gross income. And even if it had been an omission, the taxpayers argued, their tax returns collectively made adequate disclosure of the transactions such that they were entitled to the safe harbor of the three-year statute of limitations under § 6501(e)(1)(B)(ii) (hereafter " safe harbor provision" ). Id. at 683.

Thereafter, the district court granted partial summary judgment in the IRS's favor, ruling that " where a taxpayer overstates basis and, as a result, leaves an amount out of gross income, the taxpayer ‘ omits from gross income an amount properly includible therein’ for purposes of § 6501(e)(1)(A)." Id. at 687. The court ordered further briefing on, among other issues, whether the taxpayers adequately disclosed any omitted amount such that the safe harbor provision applied. After considering the supplemental briefs,3 the district court ruled that the taxpayers failed to make adequate disclosure and therefore could not invoke the safe harbor provision. Accordingly, the district court concluded that the FPAA was timely under the six-year statute of limitations in §...

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