Clark v. Iowa Dept. of Revenue and Finance

• Decision Date: 08 May 2002
• Docket Number: No. 00-1969.,00-1969.
• Citation: 644 N.W.2d 310
• Parties: Robert G. CLARK and Kathleen Clark, Appellants, v. IOWA DEPARTMENT OF REVENUE AND FINANCE, Appellee.
• Court: Iowa Supreme Court

644 N.W.2d 310

Robert G. CLARK and Kathleen Clark, Appellants, v. IOWA DEPARTMENT OF REVENUE AND FINANCE, Appellee.

No. 00-1969.

Supreme Court of Iowa.

May 8, 2002.

Ronald L. Mountsier of Smith, Schneider, Stiles & Serangeli, P.C., Des Moines, for appellants.

Thomas J. Miller, Attorney General, Harry M. Griger, Special Assistant Attorney General, and Valencia Voyd McCown, Assistant Attorney General, for appellee. CADY, Justice.

The Iowa Department of Revenue and Finance assessed taxes and penalties against Robert and Kathleen Clark for failing to report embezzled income as taxable income in their joint tax returns for the years 1983 through 1993. The district court upheld the Department's assessments. We affirm the decision of the district court.

I. Background Facts and Proceedings.

This appeal stems from the embezzlement of approximately $1 million by Robert Clark from Iowa Methodist Medical Center (IMMC) over a period of eleven years. At the time of the embezzlement, Robert was the director of IMMC's pharmacy. He received his pharmacy degree from the University of Iowa, and completed post-graduate work at Drake University. Robert's wife, Kathleen, was also a college graduate, and worked as a substitute elementary school teacher during 1986 and 1987.

Early in 1994, IMMC terminated Robert's employment for reasons unrelated to these proceedings. Following his discharge, IMMC noticed financial discrepancies in its accounts, and an extensive internal investigation subsequently concluded Robert had diverted approximately $900,000 from an account established to operate the Iowa Poison Information Center (IPIC), in addition to approximately $100,000 in cash from the pharmacy's cash registers. Robert had signatory authority under the IPIC account. The account was established to fund a hotline for answering questions concerning the ingestion of poisonous substances. Before the embezzlement began in 1983, the IPIC account contained $38.92. Over the next ten years, the IPIC account experienced an overwhelming influx of deposits and withdrawals made by Robert.

There were three means utilized by Robert to accomplish his embezzlement through the IPIC account. First, Robert deposited drug rebates from pharmaceutical companies into the IPIC account instead of into IMMC's bank accounts. Likewise, Robert deposited payments made by hospital patients and employees for prescription drug purchases from the out-patient and main hospital pharmacies into the IPIC account. Additionally, Robert misappropriated "loan and borrow" repayments. The IMMC pharmacy often "loaned" medicine to other pharmacies that had run out of certain prescription drugs. The "borrowing" pharmacy would either compensate IMMC by replacing the borrowed medicine or paying the cost of the drug. Robert often deposited the latter repayments into the IPIC account.

Robert used the embezzled money to make mortgage payments on his home, pay personal credit card bills, and pay other personal expenses. Sometimes, Robert drew checks directly from the IPIC account to make these payments. Other times, Robert would write a check to Kathleen, who would then deposit the check into her own account. Kathleen would then write a check to Robert who would, in turn, deposit the check into his own account. Although both Robert and Kathleen had separate banking accounts, they both had authority to write checks from the other's account, and frequently exercised this authority. This evidence led IMMC to conclude Kathleen knew of her husband's embezzlement and, in fact, aided him in laundering money.

Additionally, IMMC relied on Kathleen's standard of living as further evidence of her knowledge of Robert's embezzlement. Kathleen and Robert's expenditures and standard of living greatly exceeded their reported income as reported on their joint tax returns. For example, in the 1989 taxable year, they purchased art and incurred travel expenses exceeding twenty percent of their combined taxable income. In 1989 alone, they took at least three vacations, all of which involved round-trip air travel and lodging at luxurious hotels. During the eleven years of the embezzlement scheme, Kathleen and Robert never reported annual taxable income in excess of $37,000.

A review of the other taxable years also indicated a high standard of living enjoyed by both Robert and Kathleen compared to their reported income. They purchased $9,349.36 of clothing at an exclusive women's clothing store over a two-year period. A check was drawn from the IPIC account to pay $11,816.16 in charge account purchases at Von Maur, a clothing department store. Furthermore, the Clarks purchased $37,845 in jewelry from a local jewelry store. Their home was extensively refurbished. Records showed they paid $52,735.67 in interior decorator services and $16,710.41 for art gallery purchases. Furthermore, their American Express credit card totaled $34,226 during the years 1988 to 1993, which largely included travel and lodging expenses throughout the United States.

Ultimately, IMMC's investigation was turned over to the county attorney, who filed a trial information against both Robert and Kathleen Clark on November 2, 1994. Robert was charged with thirteen counts of first-degree theft, while Kathleen was charged with seven counts. Robert subsequently pled guilty to ten counts of first-degree theft, in exchange for the dismissal of the remaining three counts against him and the seven counts against Kathleen. The district court accepted the plea, and sentenced Robert to incarceration.

Following an audit by the Internal Revenue Service, the Iowa Department of Revenue and Finance investigated the Clarks' tax returns for the years 1983 through 1993. The Clarks had filed joint returns for those years, and did not report the income Robert embezzled from IMMC as taxable income in any of the years. On May 23, 1997, the Department notified the Clarks it was assessing tax penalties for their failure to include the embezzled income in their tax returns. The Clarks protested the assessments.

In the spring of 1998, Kathleen and Robert filed amended Iowa individual income tax returns for the years 1983 through 1993. The separate amended returns showed the filing status of "Married filing separate returns." The amended returns by Kathleen showed no tax liability due for any tax year. The Department did not accept the amended returns.

A contested case hearing on the assessments was held on June 23, 1998. Several witnesses testified. James Rasmussen, director of internal audit at IMMC, described his investigation of Robert's embezzlement scheme. Ray Presti, private investigator for IMMC, supported Rasmussen's testimony and detailed the evidence he discovered in investigating the Clarks' case. Paul Jackson, the Department revenue examiner who recommended against accepting the Clarks' amended tax returns, also testified. He believed the returns were inadequate and incomplete because they contained estimated interest income and did not include the tax penalties. Moreover, he believed Iowa's tax code did not permit such amendments.

Both Robert and Kathleen provided limited testimony. Robert testified he did not know he was required to report embezzled income as taxable income. Kathleen testified she was unaware of her husband's embezzlement scheme. The administrative law judge later deemed their testimony was not credible. The judge upheld the Department's tax assessments in a written ruling. The Clarks petitioned for judicial review.

The district court denied the Clarks' petition for judicial review. It agreed with the agency's conclusion that Kathleen could not amend her filing status to avoid joint liability. The district court further found substantial evidence of fraud to support the Department's assessments for willfully filing false returns. Lastly, the district court found the administrative law judge's findings were based on admissible evidence.

The Clarks appeal. They first contend the assessments were not permissible because joint liability did not exist for married taxpayers filing jointly in Iowa prior to 1994. Alternatively, they contend Kathleen cannot be liable for the assessments because she filed amended tax returns changing her filing status from married filing joint to married filing separate. Additionally, they claim the district court applied erroneous legal standards in finding there was substantial evidence of fraud. The Clarks further argue the agency relied on inadmissible evidence in upholding the Department's findings.

II. Standard of Review.

We review the final decision of an agency concerning the imposition of tax assessments by the Department for errors. Iannone v. Iowa Dep't of Revenue & Fin., 641 N.W.2d 735, 738 (Iowa 2002). We will uphold the agency's findings if they are supported by substantial evidence in the record. Id. Moreover, we accord deference to the agency's decision on witness credibility. Peoples Mem'l Hosp. v. Iowa Civil Rights Comm'n, 322 N.W.2d 87, 92 (Iowa 1982). Likewise, we respect the expertise of the agency on matters involving its informed discretion, particularly on technical issues. See Al-Khattat v. Eng'g & Land Surveying Examining Bd., 644 N.W.2d 18, 23 (Iowa 2002)

; Greenwood Manor v. Iowa Dep't of Pub. Health, 641 N.W.2d 823, 839 (Iowa 2002); Peoples Mem'l Hosp.,

322 N.W.2d at 92. Furthermore, the taxpayer challenging the tax assessment has the burden of proving the Department's decision was erroneous. Iannone, 641 N.W.2d at 738-39.

III. Joint Liability Based on Joint Tax Return.

Iowa Code section 422.21 (1993) prescribes the form of and time frame for filing tax returns. Our legislature amended the section in 1994 to add the following provision:

If married taxpayers file a joint return... both spouses are jointly and severally liable for the total tax due on the return, except when one spouse is considered to be an innocent spouse under criteria established

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