First Nat. Bank of Omaha v. U.S.

• Decision Date: 11 November 1977
• Docket Number: No. 76-2111,76-2111
• Citation: 565 F.2d 507
• Parties: 77-2 USTC P 9728 FIRST NATIONAL BANK OF OMAHA and Katherine D. Clark, Trustees of the Margaret H. Doorly Family Trusts, Appellees, v. UNITED STATES of America, Appellant.
• Court: U.S. Court of Appeals — Eighth Circuit

Page 507

565 F.2d 507

77-2 USTC P 9728

FIRST NATIONAL BANK OF OMAHA and Katherine D. Clark Trustees of the Margaret H. Doorly Family Trusts, Appellees, v. UNITED STATES of America, Appellant.

No. 76-2111.

United States Court of Appeals Eighth Circuit.

Submitted Sept. 1, 1977.

Decided Nov. 11, 1977.

Myron C. Baum, Acting Asst. Atty. Gen., Gilbert E. Andrews, Leonard J. Henzke, Jr., Francis J. Gould (argued and made rebuttal), Attys., Tax Div., Dept. of Justice, Washington, D. C. and Daniel E. Wherry, U. S. Atty., Omaha, Neb., on appendix and briefs, for appellant.

Louis E. Lipp, White, Lipp, Simon & Powers (argued), and James R. Place, Omaha, Neb., on brief, for appellees.

Before GIBSON, Chief Judge, HEANEY, Circuit Judge and DEVITT, District Judge. ^*

GIBSON, Chief Judge.

This is a tax refund suit by trustees of a family trust as successors to the property of the late Margaret H. Doorly, for 1963 income taxes overpaid by Mrs. Doorly. In her 1963 return she recognized the receipt of $10,429,005 from the liquidation of the World Publishing Company (World), publishers of the Omaha World Herald, and paid a tax of $2,332,257.19. It is now conceded that over $1,000,000 should not have been recognized as constructively received for income tax purposes and that she overpaid her taxes for that year in the amount of $267,771.75. The statute of limitations would normally bar this refund suit. The District Court held that the bar is avoided by application of the mitigation provisions of I.R.C. §§ 1311-1314 ¹ and granted judgment for the entire $267,771.75 overpayment plus interest. The Government appeals and argues that the mitigation provisions do not apply and that if they do, the refund was improperly calculated. We affirm in part, reverse in part, and remand.

Factual background

Prior to January 1963, Margaret Doorly owned 23,973 shares of World stock outright and was the remainder beneficiary of the Gilbert M. Hitchcock Trust which owned 32,400 shares. The shareholders of World had, on October 31, 1962, adopted a plan of complete liquidation under § 337 of the Internal Revenue Code. ²

On December 28, 1962, World was sued for a substantial commission allegedly due a New York broker arising from efforts to sell the newspaper. In order to meet this potential liability and other contingencies, the Board of Directors resolved on January 3, 1963, to retain a fund of four million dollars amounting to $19 per share until all claims were settled. The Board also resolved to pay a liquidating distribution of $166 per share on January 7, 1963.

Under that distribution the Gilbert M. Hitchcock Trust received $5,378,400. In February 1963, the life income beneficiary of that trust died. The corpus of that trust, including 32,400 shares of World, was delivered in August 1963 to the remainderman, Margaret H. Doorly. She immediately transferred those assets by gift to the irrevocable "Margaret H. Doorly Family Trust" of which plaintiffs are trustees. Mrs. Doorly filed a gift tax return listing the value of the remaining proceeds from the 32,400 shares at $17 per share.

Also in the January 7, 1963, distribution, Margaret Doorly received $3,979,518 on the stock she owned in her own name. On her income tax return for the calendar year 1963, Margaret H. Doorly recognized the receipt of $185 per share ($166 actually received plus $19 retained to meet contingent liabilities) on 56,373 World shares held in her name during 1963 (32,400 from the Hitchcock trust and 23,973 in her own right). She reported a capital gain of $10,429,005 from the liquidation and paid a tax of $2,332,257.19, of which $267,771.75 represented the tax on the $19 per share retained by the Board of Directors to meet potential liabilities.

At that time both the taxpayer and the Government thought the retained $19 per share was required to be reported and taxed as constructively received in 1963. The Government continued to contend that the 1963 tax was proper until it filed its brief in this appeal, at which time it conceded that under Nebraska law the reserve should not have been taxed until actually distributed. ³

The consequences of this error were greatly complicated by the death of Margaret Doorly on May 24, 1964. Under her will, plaintiff Katherine D. Clark was named executrix and plaintiff First National Bank of Omaha was appointed administrator, with will annexed. ⁴ The right to the final liquidating dividend on the 23,973 shares of World, held in Margaret Doorly's name, was included in her estate for federal estate tax purposes. Eventually a date-of-death fair market value of $17 per share was agreed upon by the Government and the estate.

On August 24, 1965, after all potential liabilities of World were resolved, the final liquidating distribution was paid. It amounted to $18.5525 per share, $0.4475 less than the $19 earlier treated as constructively received. The Margaret H. Doorly Estate income tax return for the fiscal year ending November 30, 1965, claimed a loss of $10,727.92 (23,973 shares X $0.4475) on the liquidating distribution. This return was audited and on March 28, 1967, by written notice, the Government accepted it as filed. Then the audit was reopened on October 19, 1967, and eventually the Government determined that not only was the loss improper but in fact the estate had a capital gain of $37,281.08 (23,973 shares X $1.5525). ⁵ It assessed a deficiency of $9,489.98 which was paid by the estate. A refund claim was formally disallowed on September 21, 1972.

The income tax returns for the Margaret H. Doorly Family Trust and its subdivisions ⁶ for the fiscal year ending January 31, 1966, also reported a loss of $0.4475 per share on the final liquidation of the 32,400 shares of World stock owned by the Trust. The total loss claimed amounted to $14,499.00. Upon audit, this loss was disallowed by the Government. The Government took the position that under § 1015 of the Internal Revenue Code neither gain nor loss was reportable. ⁷ Deficiencies were assessed against the trust which aggregated $509.12. 2. This amount was paid and claims for refund were filed which were disallowed on September 21, 1972.

After a claim for refund of the $267,771.75 overpayment was disallowed on November 14, 1974, plaintiff-trustees instituted this suit for that amount as a refund of the 1963 overpayment. ⁸ Unquestionably this suit is barred unless the statute of limitations is avoided by either the mitigation provisions of I.R.C. §§ 1311-1315 or equitable estoppel as urged by the trustees.

Background of the mitigation provisions

In 1938, the Subcommittee on Internal Revenue Taxation of the House Committee on Ways and Means recommended "that there be prepared suitable provisions under which the statute of limitations should be so adjusted as to insure the taxation of income, and the allowance of deductions, in the year to which properly allocable." ⁹ The Senate Finance Committee responded to this recommendation by including in the 1938 Revenue Bill provisions which subsequently became §§ 1311-1315 of the Internal Revenue Code of 1954.

The Senate Finance Committee Report stated that legislation was needed "to supplement the equitable principles applied by the courts" and that the proposed legislation was based upon the following principles:

(1) to preserve unimpaired the essential function of the statute of limitations, corrective adjustments should (a) never modify the application of the statute except when the party or parties in whose favor it applies shall have justified such modification by active inconsistency, and (b) under no circumstances affect the tax save with respect to the influence of the particular items involved in the adjustment.

(2) Subject to the foregoing principles, disputes as to the year in which income or deductions belong, or as to the person who should have the tax burden of income or the tax benefit of deductions, should never result in a double tax or a double reduction of tax, or an inequitable avoidance of tax.

(3) Disputes as to the basis of property should not allow the taxpayer or the Commissioner to obtain an unfair tax advantage by taking one position at the time of the acquisition of property and an inconsistent position at the time of its disposition.

(4) Corrective adjustments should produce the effect of attributing income or deductions to the right year and the right taxpayer, and of establishing the proper basis. ¹⁰

In order to appreciate the mitigation provisions and to apply them in light of the above principles it is helpful to understand the state of the law before they were enacted, Long ago the courts recognized that the statute of limitations could result in severe inequities in the application of the income tax laws in individual cases. This is because the income tax is based on separate and distinct taxpayers paying tax on income in separate and distinct tax years. It is often difficult to decide which taxpayer is chargeable with an item of income or deduction in which tax year. As a result, correction of an error may be barred by the limitations period before the proper treatment is determined and thus either the taxpayer or the public revenues may lose.

The courts responded to the problem by resorting to the doctrines of recoupment and set-off. In a series of cases the Supreme Court approved these methods. Lewis v. Reynolds, 284 U.S. 281, 52 S.Ct. 145, 76 L.Ed. 293 (1932), involved trustees seeking a refund of taxes allegedly overpaid by a decedent's estate. The Collector denied the refund after re-auditing the tax year and determining that other deductions had been improperly allowed. The Supreme Court agreed with the court of appeals that the ultimate question in the refund suit was whether there had been an overpayment. The Court stated:

Although the statute of limitations may have barred the assessment and collection of any additional sum, it does not obliterate the right of the United States...