NATHAN DIRECTOR v. Commissioner, Docket No. 15877-84

CourtU.S. Tax Court
Writing for the CourtWRIGHT
Citation1988 TC Memo 256,55 TCM (CCH) 1059
PartiesNathan Director v. Commissioner. Nathan Director and Anne Director v. Commissioner.
Docket NumberDocket No. 15877-84,15878-84.
Decision Date13 June 1988

55 T.C.M. (CCH) 1059 (1988)

T.C. Memo. 1988-256.

Nathan Director

Nathan Director and Anne Director

Docket Nos. 15877-84, 15878-84.

United States Tax Court.

Filed June 13, 1988.

Robert Katz, 66 North Village Ave., Rockville Centre, N.Y., and Edwin A. Bernstein, for the petitioners. Lewis R. Mandel and Rose E. Gole, for the respondent.

Memorandum Opinion

WRIGHT, Judge:

These consolidated cases are before the Court on petitioners' motions to suppress evidence and for summary judgment, filed pursuant to Rule 121.1 Respondent has submitted written notices of objection to these motions.

By separate notices of deficiency dated March 6, 1984, respondent determined the following deficiencies and additions to tax in petitioners' Federal income tax:2

 Additions to Tax
                 Year Ending Deficiency Sec. 6653(b)
                 December 31, 1976 $234,864.70 $117,432.35
                 December 31, 1977 254,495.30 127,247.65

The principal issues for our decision are (1) whether a letter sent by the New York State Special Prosecutor's office to respondent contained information disclosing "evidence or other matters attending a grand jury proceeding" in violation of New York law mandating secrecy of

55 TCM (CCH) 1060
grand jury proceedings; and (2) assuming such information was improperly disclosed, whether the evidence derived by respondent pursuant to his investigation after receipt of this letter should be suppressed. For purposes of our ruling, the parties have submitted numerous affidavits and legal memoranda in support of their respective positions

In the late 1970's, Charles J. Hynes, Special Deputy Attorney General of the State of New York convened and impaneled New York State Grand Juries in New York City and Long Island to investigate the alleged commission of indictable offenses with respect to health related facilities in the State of New York. One of these grand juries, designated as the September 1978 Grand Jury Number 3 (the grand jury) commenced an investigation of Brunswick Hospital Center, Inc., Amityville, New York (the Hospital).3 Terrence P. Buckley (Mr. Buckley), Special Assistant Attorney General, was assigned to conduct the Hospital investigation.

Petitioner Nathan Director, the sole shareholder of Direct Plumbing Corp., doing business as Nat's Plumbing and Heating, had provided services to the Hospital over an extended period of time. During the course of the grand jury proceeding, various subpoenas duces tecum were issued to petitioner and his accountants for the production of the records and financial ledgers of both Direct Plumbing and Nat's Plumbing. On November 9, 1978, Direct Plumbing's books and records were delivered to the New York State Special Prosecutor's (Special Prosecutor's) office.4 According to petitioner, the Hospital's books and records were also subpoenaed and subsequently delivered to the Special Prosecutor's office on January 5, 1979. However, there is no evidence in this record that the Hospital provided records under subpoena on that date or at any other time while the grand jury was convened.5

On January 15, 1979, petitioner was subpoenaed to testify before the grand jury. Petitioner claims that when he appeared with counsel, Mr. Buckley informed him that unless he was prepared to testify he "would be turned over to the Internal Revenue Service for prosecution."6 Thereafter, petitioner's counsel engaged in lengthy applications and procedural matters on petitioner's behalf. After he was given the option of being jailed or fined for contempt, petitioner subsequently appeared and gave testimony before the grand jury. The grand jury

55 TCM (CCH) 1061
concluded its investigation in June 1979 without returning indictments against either petitioner or the Hospital. On August 16, 1979, petitioner's books and records were returned to him

On March 16, 1979, a letter addressed to Mr. William DePugh, Chief of the Criminal Investigations Unit, was received by the Internal Revenue Service (IRS) Intelligence Division, Manhattan District. This letter, dated March 14, 1979, was written on the letterhead of the Special Prosecutor for Nursing Homes, Health and Social Services with a special designation, "Medicaid Fraud Control Unit." The name of Deputy Attorney General Charles J. Hynes was set forth in the upper-left hand corner. The letter was signed by John J. Farrell, Senior Special Auditor/Investigator. The text of this letter (hereinafter referred to as the letter) is set forth below:

During the course of our examination of the financial books and records of Brunswick Hospital Center, 366 Broadway, Amityville, New York, certain discrepancies were noted. In particular it was observed that repairs and maintenance costs were abnormally high in comparison to other hospital complexes. Further investigation revealed that a primary cause of these high costs was the result of billings from Direct Plumbing Corp., A/K/A Nats Plumbing and Heating, 8 Laurel Avenue, Hicksville, New York.
An examination of the cancelled checks issued by Brunswick Hospital to Nats/Direct disclosed that numerous checks were drawn each month in satisfaction of relatively few invoices. All checks drawn to Nats for the period January 1, 1971 through May 31, 1975 were cashed. It should be noted that this amount is in excess of $1,000,000.
Certified copies of New York State Franchise Tax and Income Tax returns were obtained for the calendar years 1973, 1975 and 1976. A recalculation of these returns (using only amounts received from Brunswick Hospital as gross receipts) has disclosed an understatement of net income in excess of $100,000 for each of the years mentioned.
It is suggested that the Internal Revenue Service undertake an audit of the corporate tax returns of Direct Plumbing Corp. as well as the personal tax returns of Mr. Nathan Director, 10 Jerome Avenue, Hicksville, New York.

Two weeks later Special Agent Thomas J. Doddy (Special Agent Doddy)7 initiated his investigation of the income tax liabilities of petitioner, Direct Plumbing Corp., and Nat's Plumbing and Heating for the taxable years 1976 and 1977. Subsequently, on September 28, 1979, Special Agent Doddy spoke with Frank Cecera (Mr. Cecera), New York State Special Prosecutor for Nursing Homes, Health and Social Services, who informed him that all records had been returned to third parties. Special Agent Doddy then obtained original records from Dr. Benjamin Stein (president and administrator of the Hospital) on November 6, 1980, which consisted of invoices and cancelled checks and invoices paid by the Hospital to petitioner. On or about that same date, Special Agent Doddy concluded his involvement with the investigation of petitioner, Direct Plumbing and Nat's Plumbing.

On November 5, 1980, Special Agent Edward Krayewski (Special Agent Krayewski) was assigned to investigate the income tax liabilities of petitioner and those of his businesses. Special Agent Krayewski spoke with Mr. Cecera on January 14, 1981, to inquire into obtaining a court order for the release of state grand jury records. Mr. Cecera referred Special Agent Krayewski to Mr. Buckley. The next day, Special Agent Krayewski spoke with Mr. Buckley who stated that he would be willing to obtain a court order if the District Counsel offered no objection. Special Agent Krayewski contacted Mr. Robert Droge (Mr. Droge) of the District Counsel's office on two occasions, January 15, 1981 and January 21, 1981. However, Special Agent Krayewski did not receive any further communications from Mr. Droge, nor did he make any additional inquiries. Special Agent Krayewski subsequently obtained all relevant exhibits through third party contacts and summons enforcement proceedings.

Prior to March 16, 1979, neither petitioner nor his companies were or had been under investigation by the Internal Revenue Service, either civilly or criminally. No criminal tax proceedings were ever initiated against petitioner as a result of the Special Agents' investigation. At some point, the Special Agents terminated their investigation and submitted their findings to the Examination Division (formerly the Audit Division).8

On March 6, 1984, respondent issued statutory notices of deficiency to petitioner.9 In the

55 TCM (CCH) 1062
notices of deficiency, respondent determined that petitioner had unreported gross receipts earned in the name of Nat's Plumbing and Heating, a small business corporation, from plumbing and heating services provided to the Hospital. Petitioner timely filed his respective petitions wherein he alleged that the deficiencies were founded upon information obtained through violations of the secret proceedings of a grand jury, as well as violations of his rights under the common law, the law of New York, the Federal Rules of Criminal Procedure and the Fourth and Fifth Amendments to the Constitution

On January 21, 1985, respondent's counsel in this case, Mr. Lewis Mandel (Mr. Mandel), provided Mr. Robert Katz and Mr. Edwin A. Bernstein, petitioner's counsel, with a copy of the letter and advised them that no state or Federal grand jury material was received or used by the IRS in this case.10 Respondent's affirmation was again made to Mr. Michael N. Balsamo (Mr. Balsamo), petitioner's other counsel, on January 13, 1986. On that date, Mr. Mandel advised Mr. Balsamo that, at petitioner's request, Special Agents Doddy and Krayewski had reviewed the files in these cases and had reaffirmed that no Federal or state grand jury material had been received or used by them during the course of their respective investigations. Mr. Mandel acknowledged that Special Agent Krayewski had received subsequent telephone calls from the Special Prosecutor's office concerning the status of the investigation, but emphasized that Special Agent Krayewski had declined to respond because of the prohibitions contained in section 6103 (relating to "Confidentiality and Disclosure of Returns and Return Information")...

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