Feshbach v. Dep't of Treasury Internal Revenue Serv. (In re Feshbach), No. 19-10060

• Decision Date: 09 September 2020
• Docket Number: No. 19-10060
• Citation: 974 F.3d 1320
• Parties: IN RE: Kathleen Marie FESHBACH, Matthew L. Feshbach, Debtor. Kathleen Marie Feshbach, Matthew L. Feshbach, Plaintiffs-Appellants, v. Department of Treasury Internal Revenue Service, Defendant-Appellee.
• Court: U.S. Court of Appeals — Eleventh Circuit

974 F.3d 1320

IN RE: Kathleen Marie FESHBACH, Matthew L. Feshbach, Debtor.Kathleen Marie Feshbach, Matthew L. Feshbach, Plaintiffs-Appellants,

v.Department of Treasury Internal Revenue Service, Defendant-Appellee.

No. 19-10060

United States Court of Appeals, Eleventh Circuit.

September 9, 2020

Andrew S. Ittleman, Christopher J. Rajotte, Fuerst Ittleman David & Joseph, PL, Miami, FL, for Plaintiffs-Appellants

Paul Andrew Allulis, Bruce R. Ellisen, U.S. Department of Justice, Chief Appellate Section Tax Division, Washington, DC, Michael W. May, Robert L. Welsh, U.S. Department of Justice, Tax Division, Washington, DC, U.S. Attorney Service - Middle District of Florida, U.S. Attorney's Office, Tampa, FL, for Defendant-Appellee

Before JORDAN and TJOFLAT, Circuit Judges, and BEAVERSTOCK,^* District Judge.

JORDAN, Circuit Judge:

This appeal arises out of the Chapter 7 bankruptcy of Matthew and Kathleen Feshbach. Following a bench trial, the bankruptcy court concluded that the Feshbachs’ 2001 tax liability was not dischargeable under 11 U.S.C. § 523(a)(1)(C) because the Feshbachs "willfully attempted ... to evade or defeat" that liability. The district court affirmed, and the Feshbachs appealed. With the benefit of oral argument, we too affirm.

I

Mr. Feshbach is an investment professional and former hedge-fund manager. Beginning in the 1980s, he employed a strategy called "selling short against the box" that allowed him to delay the recognition of his taxable income from investments. The strategy worked well for Mr. and Mrs. Feshbach for several years. Without having to pay taxes on their "boxed-in" capital gains, they were able to build a $14 million home in Monte Sereno, California, in the 1990s. Mr. Feshbach believed that he would never have to pay taxes on those capital gains and that he could pass them on to his heirs untaxed.

Events in the late 1990s, however, forced Mr. Feshbach to close out his investment positions and incur a tax liability of $1,950,827 in 1999. Although the Feshbachs made some payments and received other credits during the 1999 tax year, they did not submit a payment with their tax return.

A

In June of 2001, the Feshbachs submitted an "offer-in-compromise" to the IRS to settle the outstanding tax debt from 1999 for $1 million, about half of what they owed. They proposed an immediate payment of $200,000, a payment of $300,000 upon the sale of their home in Bellaire, Florida (where they lived by that point), and payment of the balance over the next five years. The Feshbachs made a $200,000 payment toward their 1999 tax liability, consistent with their offer.

The IRS evaluates an offer-in-compromise based on a number of factors, including its collection potential, which is a function of the taxpayer's assets and anticipated future income minus "allowable expenses." See generally 26 C.F.R. § 301.7122-1(b) – (c). Testimony at trial established that allowable expenses reflect the taxpayer's standard of living, using national averages for household spending. Although the term seems to imply otherwise, an allowable expense is not a directive that a taxpayer limit his spending on particular goods or services. Allowable expenses instead help the IRS gauge an offer-in-compromise based on the taxpayer's income and lifestyle compared to that of the average American.

Considering the Feshbachs’ income and allowable expenses, the IRS believed the offer was a "nonstarter." The Feshbachs submitted documents showing that the collection potential was not only greater than their offer, but also greater than the entire debt. According to the IRS, the Feshbachs were living "way over their allowable expenses" and their income was "high."¹

The Feshbachs withdrew their offer before the IRS could reject it. They opted instead for a temporary agreement in which they would make monthly payments of $1,000 while the IRS suspended its collection efforts. This arrangement was intended to give the Feshbachs breathing room to sell their Florida home and adjust their standard of living to free up cash for debt payments.

The Feshbachs had, however, dug a deeper hole. To make the $200,000 payment with their first offer, they liquidated some securities. Those transactions in turn yielded capital gains that contributed to a $3,247,839 tax liability for the 2001 tax year. By the time they filed their tax return for that year, the Feshbachs owed the IRS a total of $5,198,156.

That debt did not appear to be insurmountable for the Feshbachs. In 2001, Mr. Feshbach founded a hedge fund for "ultra-high net worth" investors, and that venture turned out to be highly profitable. Over the next nine years, the Feshbachs would earn over $13 million. Unfortunately for the IRS, the Feshbachs would also spend about $8.5 million on personal expenses and charitable contributions in that same period, leaving a balance of more than $3.8 million on their tax debt.

Back in 2002, though, the Feshbachs were optimistic about their hedge fund. They had a network of millionaire and institutional investors, and they continued to live in luxury while expanding their investment business. In 2002, for example, they had $764,498.78 in expenses, including a domestic payroll of $58,832.90 and household and personal expenses of $383,587.85.

B

The Feshbachs approached the IRS in 2002 with a second offer-in-compromise. This offer was higher in dollar value than the first but much lower as a percentage of their total liability. The Feshbachs by that point owed more than $6 million on their 1999 and 2001 taxes combined, including interest and penalties, and proposed to settle with the IRS for $1.25 million.

After reviewing their financial disclosures, an IRS officer determined that the Feshbachs were earning much more income than they had reported and noted that there "appear[ed] [to be] much more on [the] horizon." The Feshbachs had represented on a Form 433-A financial disclosure document that they were earning about $15,000 per month, or $180,000 annually. Yet they reported an income of $611,413 on their 2002 tax return. The following year, 2003, they reported an income of $738,608 on their tax return. And the IRS officer was right—there was indeed much more income on the horizon. For the next three tax years after they submitted their second offer-in-compromise, the Feshbachs reported more than $10 million in income.

As for the extant temporary agreement with the IRS, the Feshbachs had not yet sold their principal Florida residence as they had represented. They would stay in that home until 2008. Nor had they reduced their standard of living. They were paying only $1,000 per month toward their tax debt, while continuing to incur expenses that were "excessive" and "egregious" in the opinion of the IRS.

While the Feshbachs were paying $1,000 monthly to the IRS in 2002 and 2003, their total personal expenditures were over $1.5 million. That included the expenses listed above in 2002, and then, in 2003, another $106,150.42 on clothing and care, $16,283.58 on entertainment, $40,080.94 on groceries, and $56,497.01 on personal travel. The IRS officer who took over the case in 2003 believed that the second offer-in-compromise was evidence of a delay tactic. The IRS ended up rejecting that second offer, concluding that "there was no basis to compromise because the [Feshbachs] had the ability to fully pay the tax liability."

C

With their second offer-in-compromise declined, the Feshbachs approached the IRS in 2005 about an installment plan. The IRS explained that it would approve such an arrangement, if at all, only on the 2001 debt, and only after the Feshbachs paid the 1999 tax debt in full. The Feshbachs made two $50,000 payments in April and May of 2005 and obtained a loan to pay the balance of the 1999 tax debt. The IRS then approved a permanent installment plan in which the Feshbachs would pay $120,000 per quarter until the 2001 debt was fully satisfied.

From October of 2005 through January of 2008 the Feshbachs stayed on pace with the installment plan, paying $1.2 million over ten quarters. But in 2008 the financial crisis hit and Mr. Feshbach's health declined. The investment fund faltered and the Feshbachs began missing payments.

In September of 2008, the Feshbachs made a third offer-in-compromise of $120,000 on a $3.6 million balance for the 2001 tax debt. They proposed monthly payments of $2,500 over 48 months. Along with this offer they submitted another Form 433-A in which they claimed a monthly income of $833, or $9,996 annually. At that time, they were incurring monthly household expenses of over $12,000. An IRS officer testified at trial that he "knew either income was understated or expenses overstated or a combination of the both." In their next tax return, for the tax year 2008, the Feshbachs claimed an income of $193,205 (19 times more than what they stated on the Form 433-A).

While their third offer was pending from September 2008 to August 2009, the Feshbachs spent between $1,400 and $1,500 per month on entertainment, more than $4,000 per month for groceries, $4,000 per month for domestic help, and $4,500 per month on rent, in addition to other expenses. In 2009 and 2010, the Feshbachs spent a total of about $90,000 on household employee wages and $143,000 in charitable contributions. Mr. Feshbach made about $40,000 of those charitable contributions through his business in his son's name.

After a lengthy review process, the IRS concluded in December of 2010 that the Feshbachs had the means to pay $15,000 per month. The Feshbachs made four $15,000 payments toward a new installment plan but ceased payments altogether in May of 2011.

II

The Feshbachs filed for Chapter 7 bankruptcy in 2011, soon after they defaulted on their installment payments to the IRS. They initiated an adversary proceeding in the bankruptcy court seeking a determination that their 2001 tax liability was dischargeable. The government opposed discharge, arguing that the Feshbachs willfully attempted to...