American Biomaterials Corp., Matter of

• Decision Date: 23 January 1992
• Docket Number: No. 90-5721,90-5721
• Parties: -611, 60 USLW 2477, 92-1 USTC P 50,194 In the Matter of AMERICAN BIOMATERIALS CORPORATION, a Virginia Corporation, Debtor. In the Matter of HELITREX CORPORATION, a New Jersey Corporation, Debtor. In the Matter of CREATIVE CARE SYSTEMS, INC., a New Jersey Corporation, Debtor, United States of America, Appellant.
• Court: U.S. Court of Appeals — Third Circuit

Page 919

954 F.2d 919

69 A.F.T.R.2d 92-611, 60 USLW 2477,

92-1 USTC P 50,194

In the Matter of AMERICAN BIOMATERIALS CORPORATION, a

Virginia Corporation, Debtor.

In the Matter of HELITREX CORPORATION, a New Jersey

Corporation, Debtor.

In the Matter of CREATIVE CARE SYSTEMS, INC., a New Jersey

Corporation, Debtor,

United States of America, Appellant.

No. 90-5721.

United States Court of Appeals, Third Circuit.

Argued Jan. 23, 1991.

Decided Jan. 23, 1992.

Shirley D. Peterson, Asst. Atty. Gen., Gary R. Allen, Kenneth L. Greene, David A. Hubbert (argued), Tax Div., Dept. of Justice, Washington, D.C. (Michael Chertoff, U.S. Atty., D.N.J., of counsel), for appellant.

Alan L. Augulis (argued), Nola R. Bencze, Jamieson, Moore, Peskin & Spicer, Princeton, N.J., for appellee.

Before BECKER and HUTCHINSON, Circuit Judges, and SMITH, District Judge. ^*

OPINION OF THE COURT

D. BROOKS SMITH, District Judge.

The government appeals an order of the United States District Court for the District of New Jersey affirming a bankruptcy court order denying the government statutory penalties for appellee American Biomaterials Corporation's (American's) failure to file timely tax returns and pay federal taxes duly owed. The bankruptcy court had jurisdiction of this matter under 28 U.S.C. § 157(b); the district court had jurisdiction of the appeal from the bankruptcy court under 28 U.S.C. § 158(a); this Court has jurisdiction from the final order of the district court under 28 U.S.C. § 158(d). We affirm.

I.

American Biomaterials Corporation (American) filed a petition under Chapter 11 of the Bankruptcy Code, 11 U.S.C. § 1101 et seq., on December 2, 1987, in the Bankruptcy Court for the District of New Jersey. The Internal Revenue Service (IRS) filed a proof of claim on January 15, 1988 for unpaid income and social security taxes for the fourth quarter of 1986 in the amount of $143,055.08; for the first quarter of 1987 in the amount of $147,740.46; for the second quarter of 1987 in the amount of $113,359.02. The proof of claim also assessed American $2,965.92 in unemployment taxes for calendar year 1986. American does not dispute its liability for these amounts.

Sections 3102(a) and 3402(a) of the Internal Revenue Code, 26 U.S.C. §§ 3102(a), 3402(a), require an employer to deduct and withhold social security and income taxes from the wages paid to its employees. Federal unemployment taxes are deducted under authority of state laws approved by the Secretary of Labor. 26 U.S.C. § 3304. The taxes withheld must be held by the employer as a special trust fund for the benefit of the United States. 26 U.S.C. § 7501(a). An employer is required to deposit the social security and income taxes withheld from employees' wages in an approved bank at various intervals during a calendar quarter depending on how much is withheld. 26 U.S.C. § 6302; 26 C.F.R. 31.6302(c)-1(a)(1). The employer is required to report the amount of withheld social security and income taxes on its payroll tax return, Form 941; the employer is required to report the amount of withheld unemployment taxes on its unemployment tax return, Form 940. The payroll tax return and a payment of employment taxes are due every calendar quarter. 26 U.S.C. *921s 6011(a); 26 C.F.R. §§ 31.6011(a)-1; 31.6011(a)-4; 31.6071(a)-1(a)(1), (4). The federal unemployment tax return is due annually. 26 C.F.R. §§ 31.6011(a)-3); 31.6071(a)-1(c). Failure to comply with these statutory duties subjects an employer to interest and penalties, and the IRS in its proof of claim requested additions to the taxes due for each of the periods for which returns had not been filed and taxes had not been paid.

American filed a motion in the bankruptcy court to reduce the IRS' proof of claim by the amount of the penalties assessed. The bankruptcy court entered an order on April 20, 1989, disallowing the penalties sought by the IRS because of American's failure to file timely employment tax returns, ¹ its failure to deposit employment taxes withheld from employees, ² and for its failure to pay employment taxes to the IRS. ³ The penalties assessed by the IRS and disallowed by the bankruptcy court totaled $120,985.64.

On appeal by the IRS, the district court found that American's failure to file timely returns, make deposits and pay taxes was due to statutorily excused reasonable cause and not willful neglect. Underlying the decisions of both the bankruptcy and the district courts was the finding by the bankruptcy court that American's failure to comply with the tax laws was the result of embezzlement by American's CEO and Chairman of the Board of Directors, William MacKay, and its CFO and treasurer, Muncie Russell. Their actions, according to the district court, "incapacitated the corporation" and rendered American unable to comply with the Internal Revenue Code. The required returns were filed by American on or about July 29, 1987. The delinquent tax liabilities have not yet been paid.

II.

Our review of the district court's conclusion of law that American's failures to file returns and to deposit and pay taxes were due to reasonable cause is plenary. United States v. Boyle, 469 U.S. 241, 249 n. 8, 105 S.Ct. 687, 692 n. 8, 83 L.Ed.2d 622 (1985); Brown v. Pennsylvania State Employees Credit Union, 851 F.2d 81, 85 (3d Cir.1988). Our review of the district court's factual basis for its conclusion is for clear error. United States v. Boyle, 469 U.S. at 249 n. 8, 105 S.Ct. at 692 n. 8; Universal Minerals Inc. v. C.A. Hughes & Co., 669 F.2d 98, 103 (3d Cir.1981). See Roberts v. Commissioner, 860 F.2d 1235, 1241-42 (5th Cir.1988).

III.

A.

Initially we address the government's argument that the record does not contain sufficient evidence to support the findings of fact on which the district court based its conclusion of reasonable cause because no competent evidence was introduced in the bankruptcy and district courts that MacKay and Russell were guilty of embezzling, and that this malfeasance prevented American from fulfilling its tax obligations.

The district court had before it the record of the proceeding in the bankruptcy court which included a document captioned "Certification in Lieu of Oath or Affidavit of Gerald N. Mauder." Mauder became the president, CEO, and chairman of the board of directors of American after MacKay and Russell resigned in July, 1987. Mauder averred that Russell was responsible as CFO and treasurer for American's finances, including filing tax returns and paying all taxes prior to July, 1987, and that MacKay and Russell were the only officers of American with the responsibility to file tax returns and ensure payment. At the time Russell resigned, Mauder averred, Russell informed American that he had not filed returns or paid the taxes on which the IRS seeks the assessment of penalties. Mauder averred that American is currently up to date in its filings and tax payments, and that the late tax returns were filed on July 29, 1987. Mauder stated that American had suffered operating losses for the fiscal year ending October 31, 1984, in the amount of $1,751,233.00; for the fiscal year ending October 31, 1985, in the amount of $3,333,803.00; for the fiscal year ending October 31, 1986, in the amount of $7,374,226.00; and for fiscal year 1987 through July 31, 1987, in the amount of $5,849,742.00. Mauder also asserted that American could not in 1987 have paid its tax liability without selling its sole significant corporate asset, its collagen technology, at distress sale prices.

At the time this matter was before the lower courts MacKay and Russell were only alleged embezzlers, but since that time they have entered pleas of guilty to charges of embezzling from American. The normal rule that this court considers only the factual record before the district court, Fed.R.App.P. 10; Fassett v. Delta Kappa Epsilon, 807 F.2d 1150, 1165 (3d Cir.1986), cert. denied, 481 U.S. 1070, 107 S.Ct. 2463, 95 L.Ed.2d 872 (1987), "is subject to the right of an appellate court in a proper case to take judicial notice of new developments not considered by the lower court." United States v. Lowell, 649 F.2d 950, 966 n. 26 (3d Cir.1981), quoting Landy v. Federal Deposit Insurance Corp., 486 F.2d 139, 151 (3d Cir.1973), cert. denied, 416 U.S. 960, 94 S.Ct. 1979, 40 L.Ed.2d 312 (1974). We take judicial notice of their guilty pleas in affirming the district court's finding that MacKay and Russell were embezzling from American. See Fed.R.App.P. 10(e); In re: Capital Cities/ABC, Inc.'s Application for Access to Sealed Transcripts, 913 F.2d 89, 97 (3d Cir.1990); Castle v. Cohen, 840 F.2d 173, 180 n. 12 (3d Cir.1988).

B.

The district court inferred from the Mauder affidavit that the embezzlements of MacKay and Russell incapacitated American and rendered it unable to file its tax returns and pay taxes due. This factual inference, given the absence of evidence to the contrary from the government, is not clearly erroneous. MacKay and Russell were the only two corporate officers with responsibility for American's tax filings, and according to Mauder's uncontradicted affidavit, there was only one accountant other than Russell employed by American, who was employed only between March and July, 1987.

IV.

A.

American's inability to timely file returns and make deposits and payments of taxes due only begins the analysis necessary to decide whether American is liable for the penalties provided in the Code. "To escape the penalty, the taxpayer bears the heavy burden of proving both (1) that the failure did not result from 'willful neglect' and (2) that the failure was due to 'reasonable cause.' " United States v. Boyle, 469 U.S. 241, 245, 105 S.Ct. 687, 689-90, 83 L.Ed.2d 622 (1985). See 26 U.S.C. §§ 6651(a)(1), (2), 6656; See also 26 C.F.R. §§ 301.6651-1(c)(1)(1984), 301.6656-1.

The government relies on United States v. Boyle (misplaced reliance by the executor of an estate on the estate's attorney to file the estate tax return...