Craven v. U.S., Civil No. 2:98-CV-01-WCO.
| Decision Date | 23 June 1999 |
| Docket Number | Civil No. 2:98-CV-01-WCO. |
| Citation | 70 F.Supp.2d 1323 |
| Parties | Linda Karen Brownlow CRAVEN, Plaintiff, v. UNITED STATES of America, Defendant. |
| Court | U.S. District Court — Northern District of Georgia |
O'KELLEY, Senior District Judge.
This case is before the court for consideration of defendant's motion for summary judgment [14-1] and plaintiff's motion for summary judgment [17-1]. After careful consideration and review, the court grants in part and denies in part the motions for the reasons stated herein.
Plaintiff brought this suit against the United States for recovery of income taxes. Plaintiff married Billy Joe Craven on December 17, 1966 and later formed a corporation called Craven Pottery, Inc. (the "Corporation") with her husband on or about June 12, 1975. Plaintiff owned 47 percent of the outstanding shares of the Corporation, and Billy Joe Craven owned 51 percent of the shares. Plaintiff claims that Mr. Craven dominated all aspects of the business and expected his wife to acquiesce in his decisions. After plaintiff quit working at the Corporation in April of 1987, plaintiff asserts that Mr. Craven committed several questionable acts, including converting plaintiff's paychecks, electing officers and directors for the Corporation without notice to the plaintiff as shareholder, increasing his own salary, and paying personal expenses with company funds.
Plaintiff filed suit in the Superior Court of Hall County, Georgia on March 31, 1989. See Linda Karen Brownlow Craven v. Billy Joe Craven and Craven Pottery, Inc., Civ. No. 89-CV-8395-C (Sup.Ct. of Hall County). In this suit, plaintiff sought a divorce from Billy Joe Craven and sought the equitable distribution of marital property. In separate counts against the Corporation and Billy Joe Craven, plaintiff alleged the illegal appropriation of plaintiff's salary. Plaintiff was obligated under Georgia law to name the Corporation for the conversion of these funds. Plaintiff also requested the appointment of a receiver for the Corporation and sought in her prayer for relief that the corporate assets be sold and divided between the parties. The case was settled in a three-way settlement among plaintiff, Mr. Craven, and the Corporation in 1991. As part of the Settlement Agreement, plaintiff, Mr. Craven, and the Corporation agreed to the redemption of plaintiff's shares in the Corporation. Plaintiff was at all times represented by attorneys. The parties dispute whether Mr. Craven had a contractual obligation to buy plaintiff's shares in the Corporation.
A Final Judgment and Decree granting plaintiff and Mr. Craven a divorce was entered on January 11, 1991. The Final Judgment and Decree incorporated a Settlement Agreement dated January 11, 1991, which settled all matters, questions, and controversies as to alimony, division of property, attorney's fees, support and maintenance, and all other marital claims and rights the couple had against each other. The Settlement Agreement also settled all matters, questions, and controversies raised in the civil action between the plaintiff and the Corporation. Each party to the Settlement Agreement acknowledged that he or she was represented by an independent attorney of his or her own selection in negotiation and preparation of the Settlement Agreement. The Settlement Agreement was fully explained to each party by their respective attorneys. Each party was aware of its contents and legal effect, had a clear understanding of and complete accord with the terms of the Settlement Agreement, and viewed it as "fair, just, and equitable under all the circumstances."
At issue in this case is the portion of the Settlement Agreement in which Plaintiff agreed to transfer all of her shares of stock in the Corporation to the Corporation through redemption. Plaintiff asserts that her sole reason for the redemption was the divorce. The Corporation agreed to pay to the plaintiff a redemption price of $4,800,000 for plaintiff's 47 percent in the Corporation. This payment was not due for another ten to twenty years. Plaintiff asserts that the present value of the redemption price was no more than $1.7 million. In addition the Settlement Agreement provided: "The settlement and division of assets and properties and liabilities between the parties detailed above with an express desire that it be equitable ... Each party shall pay and be responsible for any and all income or transfer taxes arising from the ultimate sale or disposition of the property referred to hereinabove."2
Pursuant to the Stock Redemption Agreement ("Redemption Agreement") incorporated into the Settlement Agreement, the parties agreed that the Corporation would issue a Promissory Note ("Note") to plaintiff and make payments as follows:
a. 120 equal payments of $15,000, payable ... each month for 120 consecutive months, commencing July 10, 2000.
b. A lump sum payment of $1,000,000.00, due on June 10, 2000.
c. A lump sum payment of $1,000,000.00, due on June 10, 2005.
d. A lump sum payment of $1,000,000.00 due on June 10, 2010.
The face amount of the Note was $4,800,000. According to calculations by the Corporation's attorneys, the present value of the Note at the date of its issuance, using an interest rate of 7.5% was $1,435,580.22. The Redemption Agreement expressly provided:
The parties agree that the above payments are without stated interest. Corporation agrees to timely prepare and deliver to Seller for each calendar year an IRS Form 1099-INT () to report to Seller the appropriate interest portion of the payments made under the Note to the Seller (determined in accordance with the applicable regulations promulgated pursuant to Internal Revenue Code Section 1274) during such calendar year, from which Seller shall prepare her income tax returns for such calendar year.
The Redemption Agreement also provided that the Corporation could prepay the Note. In the case of prepayment, the Corporation could prepay the present value of the promissory note by applying a 7.5 percent annual interest rate as the appropriate discount rate.3 The prepayments would apply first to the amounts due in the year 2010, then to the amounts due in the year 2005, and then to the amounts due in the year 2000. Pursuant to the Redemption Agreement and resolutions in the Consent, the Corporation issued the plaintiff a Note in the amount of $4,800,000, dated June 27, 1990. Mr. Craven guaranteed the Note by a Contract of Guaranty ("Guaranty"). In the Guaranty, Mr. Craven expressly acknowledged that the terms of the Note were of "direct interest, benefit and advantage" to him as the sole remaining shareholder of the Corporation. When the Settlement Agreement was read into the record before Judge Clyde Henley, the record reflected Mr. Craven was personally responsible for making any payments not paid by the Corporation by the tenth of each month. In addition, the record reflected that Mr. Craven personally guaranteed all payments.
The Settlement Agreement also provided for the equitable division of the 48.72 acres of property located in Commerce, Georgia that was contiguous to the Corporation's retail and wholesale operations. Settlement Agreement ¶ 5. Plaintiff was required to quitclaim any interest she had in the acreage, and in return Mr. Craven executed a Deed to Secure Debt for the property to secure the Note. The Settlement Agreement allowed either Mr. Craven or the Corporation to pay plaintiff $10,000 per acre for a release of acreage from the security deed. These payments constituted prepayments to plaintiff under the Stock Redemption Agreement. The Settlement Agreement also contained similar provisions for other pieces of property.
Plaintiff has received four prepayments. Mr. Craven personally paid the first prepayment, and the Corporation paid the rest. Either Mr. Craven or Cravens Property, L.P. is the new owner and grantee for each property.
Relying on the terms of the Redemption Agreement, the Corporation sent to plaintiff IRS Forms 1099-INT for the years 1992, 1993, and 1994 reflecting imputed interest on the Note. The interest reported on the Forms 1099 were $128,566.28 for 1992, $134,139.06 for 1993, and $108,923.00 for 1994.
Plaintiff filed federal income tax returns for the years 1992, 1993, and 1994 which did not report as taxable income the imputed interest on the Note, nor did the returns report as income capital gains from the redemption of plaintiff's stock in the Corporation. Plaintiff filed disclosure statements which stated that the interest reflected on the Forms 1099-INT was not taxable (a) because Mrs. Craven is a cash basis taxpayer; (b) the interest was not paid; and (c) any interest imputed was nontaxable under Internal Revenue Code Section 1041 as a transfer of property pursuant to a divorce. Plaintiff stated therein:
The Internal Revenue Service ("IRS") examined the plaintiff's returns and determined that plaintiff had capital gains from the sale of the Corporation's stock based on the principal of the Corporation's prepayments on the Note in 1992 and 1993, in the amounts of $187,922 and $285,709, respectively. The IRS also determined that plaintiff had interest income from the Note of $128,566.28 for 1992, $134,139.06 for 1993, and $108,923.00 for 1994. Finally, the IRS made adjustments to itemized deductions and exemptions based on the increase of adjusted gross income.4
On June 11, 1996, the IRS issued a Notice of Deficiency to plaintiff. This notice stated that plainti...
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