McDonnell v. Comm'r of Internal Revenue

• Decision Date: 12 March 1987
• Docket Number: 6352-81,Docket Nos. 6351-81
• Citation: 88 T.C. No. 30,88 T.C. 583
• Parties: ROBERT E. McDONNELL and ELAINE C. McDONNELL, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent
• Court: U.S. Tax Court

88 T.C. 583

88 T.C. No. 30

ROBERT E. McDONNELL and ELAINE C. McDONNELL, Petitioners

v.COMMISSIONER OF INTERNAL REVENUE, Respondent

Docket Nos. 6351-81

6352-81

United States Tax Court

Filed March 12, 1987

In DeMartino v. Commissioner, T.C. Memo. 1986-283, the Court held that sec. 6621(d), as enacted, did not apply to the underpayments determined against petitioners. Sec. 6621(d) was subsequently amended by sec. 1535 of the Tax Reform Act of 1986, Pub. L. 99-514, 100 Stat. 2750. HELD, as a final court decision has not been entered in DeMartino, sec. 6621(d), as amended, may be applied to petitioners. James C. Sherwood, for the petitioners.

Kendall C. Jones and Lawrence M. Mill, for the respondent.

SUPPLEMENTAL OPINION

KORNER, JUDGE:

In the earlier opinion in this matter, DeMartino v. Commissioner, T.C. Memo. 1986-263 (July 30, 1986), we held that the increased interest rate authorized by section 6621(d) ¹ did not apply to the underpayments determined against petitioners. Section 6621(d) was thereafter amended by section 1535 of the Tax Reform Act of 1986, Pub. L. 99-514, 100 Stat. 2750 (hereinafter sometimes referred to as the Act). The issue we must now decide is whether this amendment is applicable to petitioners. ²

Section 6621(d)³ originally provided for an increased interest rate to be applied to certain underpayments attributable to ‘tax motivated transactions‘. ⁴ The term ‘tax motivated transactions‘ was defined to include, inter alia, ‘any straddle (as defined in section 1092(c) without regard to subsections (d) and (e) of section 1092).‘ Section 1092(c) states that the term ‘straddle‘ means ‘offsetting positions with respect to personal property.‘⁵ The latter phrase is defined to occur ‘if there is a substantial diminution of the taxpayer's risk of loss from holding any position with respect to personal property by reason of his holding 1 or more other positions with respect to personal property (whether or not of the same kind).‘

In DeMartino v. Commissioner, supra, we held that the substantial diminution in petitioners' risk of holding the Crude Oil Straddle did not result BY REASON OF HOLDING offsetting positions in personal property, but rather, that the risk was eliminated because the Crude Oil Market was rigged and manipulated. Thus, the Crude Oil Straddle simply did not fall within the definition of ‘straddle‘ established by section 6621(d).

Shortly after our opinion was filed in DeMartino, section 1535 of the Tax Reform Act of 1986 was enacted to amend section 6621(d). ⁶ Section 1535 provides:

(a) Clarification of Treatment of Sham or Fraudulent Transactions.—Subparagraph (A) of section 6621(c)(3) (as so redesignated) is amended by striking out ‘and‘ at the end of clause (iii), by striking out the period at the end of clause (iv) and inserting in lieu thereof ‘, and‘, and by adding at the end thereof the following new clause:

‘(v) any sham or fraudulent transaction.‘

(b) Effective Date.—The amendment made by subsection (a) shall apply to interest accruing after December 31, 1984; except that such amendment shall not apply in the case of any underpayment with respect to which there was a final court decision before the date of the enactment of this Act.

The Conference Committee Report ⁷ pertaining to this section states in pertinent part that:

The Tax Court has recently held (DeMartino v. Commissioner, T.C. Memo. 1986-263 (June 30, 1986); Forseth v. Commissioner, T.C. Memo. 1985-279 (June 11, 1985)) that sham transactions that would be subject to this special interest rate were they not shams are not subject to this special interest rate because they are shams. The conferees view it as anomalous that a genuine transaction (lacking the proper profit motive) would be subject to a higher interest rate, while a sham transaction, which is significantly more abusive, would escape the higher interest rate simply because it is a sham. Accordingly, the conference agreement, consistent with the legislative intent in originally enacting section 6621(d) in 1984, explicitly adds sham or fraudulent transactions to the list of transactions subject to this higher interest rate. The intent of the conferees is to reverse the holding of these Tax Court cases on this issue.

This clarification of present law applies to interest accruing after December 31, 1984, which is the date this higher interest rate took effect. This clarification does not apply, however, to any underpayment with respect to which there was a final court decision (either through exhausting all appeals rights or the lapsing of the time period within which an appeal must be pursued) before the date of enactment of this Act. [H. Rept. 99-841 (Conf.) (1986).]

With this background in mind we must now decide whether the above amendment should be retroactively ⁸ applied to petitioners.

It is clear that the amendment, on its face, would apply to petitioners' conduct if it had been in effect at the time our original opinion was filed. The trades involved in DeMartino were the result of rigged and manipulative trading practices and thus were ‘shams‘ for Federal tax purposes. Moreover, as the Conference Committee Report indicates, it was the intent of Congress to ‘reverse the holding‘ of the original DeMartino decision. It is also clear that the effective date of the amendment encompasses petitioners. Section 1535 of the Act provides that the amendment shall apply to interest accruing after December 31, 1984, except in the situation involving an underpayment where a final court decision has been entered. As a DECISION has not yet been entered in DeMartino—much less a FINAL DECISION—it would appear that the statutory requirements have now been met to apply the increased interest rate to petitioners. ⁹

Petitioners, nevertheless, argue that it is constitutionally impermissible to retroactively apply the amendment to them under these circumstances. We disagree. It is well settled that Federal income tax provisions may be applied retroactively without infringing upon constitutional rights. Brushaber v. Union Pacific R. Co., 240 U.S. 1, 20 (1916); Cooper v. United States, 280 U.S. 409, 411 (1930); Wilgard Realty Co. v. Commissioner, 127 F.2d 514, 517 (2d Cir. 1942); Niagara Searchlight Co., Inc. v. Commissioner, 20 T.C. 745, 746 (1953). The reasoning behind this principle is that taxation is neither a penalty imposed on the taxpayer nor a liability which he assumes by contract, but instead, it is a way of apportioning the cost of government among those who enjoy its benefits and who must bear the resulting burdens. Since no citizen enjoys immunity from those burdens, retroactive application of the tax laws does not necessarily infringe on due process. See Welch v. Henry, 305 U.S. 134, 146-147 (1938). ¹⁰

The Supreme Court has also given little weight to the fact that the right affected by the retroactive legislation was asserted in litigation pending at the time of the enactment. In Chase Securities Corp. v. Donaldson, 325 U.S. 304 (1945), a suit was brought to recover the purchase price of securities sold in violation of the Minnesota Blue Sky Law. The defendant had pleaded the statute of limitations, which if it had run apparently would have barred the suit, but the trial court found that the statute had been tolled and held for the plaintiff. On appeal, the state supreme court reversed on this issue and remanded for further proceedings ‘on issues other than that of the tolling of the statute of limitations.‘ Donaldson v. Chase Securities Corp., 209 Minn. 165, 165, 296 N.W. 518, 518 (1941). While proceedings were pending in the lower court the legislature enacted a statute which as applied to the case extended the limitations period and thereby revived the plaintiff's claim. The Supreme Court held that this new statutory provision could constitutionally be applied to the case since there had been no final disposition of the litigation. ¹¹ 325 U.S. at 316. ¹²

Application of the section 6621(d) amendment to petitioners is clearly constitutional based on the holding in Chase Securities Corp. Here, as in that case, legislation was enacted after the original lower court opinion was rendered. In Chase Securities Corp., the court held that as there had been no final disposition of the case, it was proper to apply the amendment retroactively. Similarly, as a final decision has not been reached in DeMartino, it is constitutionally proper to apply the amended provision to petitioners herein. ¹³

It is also significant that applying the amendment to petitioners is not ‘so harsh and oppressive as to transgress the constitutional limitation.‘ Welch v. Henry, 305 U.S. 134, 147 (1938). Petitioners did not have a vested right in our opinion in DeMartino. As we indicated supra, although an OPINION was filed in DeMartino the opinion did not ripen into a DECISION of the Court or a final judgment. Thus, it cannot be argued that a right was created in petitioners, nor have petitioners demonstrated that they relied on the opinion to their detriment. Petitioners were also given a full and fair opportunity to litigate the underlying underpayment at the trial in this case. For these reasons, we hold that section 1535 of the Act does apply to petitioners and that the increased interest rate will therefore be applied to their underpayments beginning after December 31, 1984. ¹⁴ In reaching this result it is clear that we have complied with the congressional intent of section 1535 and that our conclusion is ;consistent with the legislative intent in originally enacting section 6621(d) * * *.‘ See Conf. Rept. No. 99- 841, supra. ¹⁵

In view of the foregoing, we modify our earlier opinion, DeMartino v. Commissioner, T.C. Memo. 1986-263.

Decisions will be entered under Rule 155.

1 All statutory references are to the Internal Revenue Code 1954, as in effect in the year in issue, and al Rule references are to the Tax Court Rules of Practice and Procedure, except as...