Huff v. COMMISSIONER OF INTERNAL REVENUE, 12942-09.

• Decision Date: 17 August 2010
• Docket Number: No. 12942-09.,12942-09.
• Citation: 135 T.C. No. 10,135 T.C. 222
• Parties: GEORGE C. HUFF, Petitioner,<BR>v.<BR>COMMISSIONER OF INTERNAL REVENUE, Respondent.
• Court: U.S. Tax Court

135 T.C. No. 10

GEORGE C. HUFF, Petitioner,
v.
COMMISSIONER OF INTERNAL REVENUE, Respondent.

No. 12942-09.

08-17-2010

[135 T.C. No. 2]

William M. Sharp, Lawrence R. Kemm, Joseph A. DiRuzzo, III, and Marjorie Rawls Roberts, for petitioner.

Daniel N. Price and Ladd Christman Brown, Jr., for respondent.

OPINION

JACOBS, Judge.

This case is before the Court on petitioner's motion to dismiss for lack of jurisdiction. The specific question to be decided is whether this Court has jurisdiction to redetermine Federal income tax deficiencies and penalties of a U.S. citizen who claims (1) to be a bona fide resident of the United States Virgin Islands at the close of each of the years at issue (i.e., 2002, 2003, and 2004), and (2) to be exempt from U.S. tax filing and payment requirements as a consequence of his satisfying all the requirements of section 932(c)(4).

All section references are to the Internal Revenue Code (Code) in effect for the years at issue unless otherwise indicated.

[135 T.C. No. 3]

Background

Petitioner is a U.S. citizen. He resided in Florida when he filed his petition in this Court on May 28, 2009. Claiming to be a bona fide resident of the United States Virgin Islands (Virgin Islands) at the close of 2002, 2003, and 2004, petitioner (1) filed territorial income tax returns with the Virgin Islands Bureau of Internal Revenue (BIR) for 2002, 2003, and 2004, and (2) claimed he was qualified for the section 932(c)(4) gross income exclusion and therefore did not have to file a Federal income tax return or pay Federal income tax for those years. Following an audit of petitioner's 2002, 2003, and 2004 Virgin Islands income tax returns, on February 27, 2009, respondent issued petitioner a notice of deficiency determining the following Federal income tax deficiencies and additions to tax:

 Additions to Tax
                 Year Tax Sec. 6651(a)(1) Sec. 6651(a)(2) Sec. 6654
                 2002 $252,687 $55,431.45 $61,590.50 -0-
                 2003 88,350 18,586.35 20,651.50 $2,129.22
                 2004 77,938 17,271.68 17,271.68 2,196.05
                

Attached to the notice of deficiency was a Form 4549-A, Income Tax Discrepancy Adjustments, which set forth the basis for the income tax deficiencies and additions to tax involved herein:

It is determined that during the taxable years 2002 through 2004 you were not a bona fide resident of the United States Virgin Islands (USVI). It is also determined that you participated in a tax avoidance scheme which involved improperly claiming to be a resident of the USVI and superficially recasting US-source income as USVI source income in order to inappropriately and invalidly claim a tax

[135 T.C. No. 4]

credit of 90% under the USVI Economic Development Program. It has also been determined that all transactions between NASCO Corporate Finance Consultants, LLC (NASCO) and American Benefits Institute, Inc. (ABI), Employers International, Inc. (EI), Professional Advisory Group, Inc. (PAG), and George C. Huff, including any entity controlled or owned in whole or in part by George C. Huff, are part of a series of step/sham transactions devoid of economic substance and will not be recognized for US federal income tax purposes. These step/sham transactions were part of a larger tax avoidance scheme and were entered into solely in an attempt to superficially recharacterize US-source income as USVI-source income in order to inappropriately and invalidly claim a tax credit of 90% under the USVI Economic Development Program. See IRS Notice 2004-45.

On May 28, 2009, petitioner filed a petition in this Court. On April 14, 2010, petitioner filed a complaint petition for redetermination of income taxes against the Commissioner of Internal Revenue in the U.S. District Court, District of the Virgin Islands, St. Thomas and St. John Division (District Court), case No. 1:10CV00026. On June 1, 2010, petitioner filed in this Court the motion in question.

Discussion

I. The Virgin Islands

The Virgin Islands are an insular area of the United States; they are a part of neither one of the 50 States nor the District of Columbia. They are generally treated as a foreign country for Federal income tax purposes. See sec. 7701(a)(9).

In 1921 Congress made a predecessor of the Code part of the internal law of the Virgin Islands. Act of July 12, 1921, ch. 44, sec. 1, 42 Stat. 123 (codified as amended at 48 U.S.C. sec. 1397 (2006)).

[135 T.C. No. 5]

This 1921 statute set up the "mirror tax" system that remains in use: "Virgin Islands" is in effect substituted for "United States" (and vice versa) in the Internal Revenue Code so that, to satisfy Virgin Islands tax obligations, an individual or corporation in the Virgin Islands pays taxes to the BIR equivalent to the taxes an individual or corporation under the same circumstances in the United States would pay to the Internal Revenue Service. * * *

Danbury, Inc. v. Olive, 820 F.2d 618, 620 (3d Cir. 1987). As the law developed under the mirror tax system, the provisions of the Code have been made applicable to the Virgin Islands so long as the specific section to be applied is "`not manifestly inapplicable or incompatible' with a separate territorial income tax". Chi. Bridge & Iron Co. v. Wheatley, 430 F.2d 973, 976 (3d Cir. 1970) (quoting Sayre & Co. v. Riddell, 395 F.2d 407, 410 (9th Cir. 1968)).

The Internal Revenue Service (IRS) implemented the mirror tax system in 1935. Under the mirror tax system as implemented, some taxpayers, both business entities and individuals, were required to file two returns.

For example, a corporation considered "domestic" in the United States but doing business in the Virgin Islands was required to submit a return to the BIR, paying tax on income from sources in the Virgin Islands, and to submit a return to the Internal Revenue Service, paying tax on worldwide income, with a foreign tax credit allowed for the tax paid to the Virgin Islands. The mirror system, with its two separate taxing jurisdictions, operated similarly for citizens of the United States who resided in the Virgin Islands. * * *

Danbury, Inc. v. Olive, supra at 621.

[135 T.C. No. 6]

The 1954 Revised Organic Act of the Virgin Islands (ROA), ch. 558, sec. 28, 68 Stat. 508 (1954), modified the administration of the mirror tax system. ROA sec. 28(a) provided that the "proceeds of any taxes levied by the Congress on the inhabitants of the Virgin Islands * * * shall be covered into the treasury of the Virgin Islands, and shall be available for expenditure as the Legislature of the Virgin Islands may provide". The section also provided:

That the term "inhabitants of the Virgin Islands" as used in this section shall include all persons whose permanent residence is in the Virgin Islands, and such persons shall satisfy their income tax obligations under applicable taxing statutes of the United States by paying their tax on income derived from all sources both within and outside the Virgin Islands into the treasury of the Virgin Islands * * *.

Id.

In 1986 the mirror tax system was again modified. Section 932(c)(4), enacted as part of the Tax Reform Act of 1986 (TRA 1986), Pub. L. 99-514, sec. 1274(a) 100 Stat. 2596, and amended in 1988, provides the current rules with respect to the taxation and filing requirements of individuals:

SEC. 932. COORDINATION OF UNITED STATES AND VIRGIN ISLANDS INCOME TAXES.

(c) Treatment of Virgin Islands Residents.—

(1)

...