Solid Waste Servs., Inc. v. United States

• Decision Date: 12 January 2016
• Docket Number: MISC. ACTION No.: 15-mc-264
• Parties: SOLID WASTE SERVICES, INC., et al., Petitioners, v. UNITED STATES OF AMERICA, Respondent.
• Court: U.S. District Court — Eastern District of Pennsylvania

SOLID WASTE SERVICES, INC., et al., Petitioners, v. UNITED STATES OF AMERICA, Respondent.

MISC. ACTION No.: 15-mc-264

UNITED STATES DISTRICT COURT FOR THE EASTERN DISTRICT OF PENNSYLVANIA

January 12, 2016

REPORT AND RECOMMENDATION

LYNNE A. SITARSKI UNITED STATES MAGISTRATE JUDGE

Presently before the Court are Solid Waste Services, Inc., FR&S, Inc., MRAC, Inc., and WPAC, Inc. ("Petitioners") Petition to Quash four summonses issued by the Internal Revenue Service ("IRS"), (Pet'rs' Pet. and Mem. of Law, ECF No. 1), and the United States of America's ("Respondent" or "the United States") motion to deny the petition to quash and summarily enforce the summonses, (Resp., ECF No. 4). The instant matter was referred to me for a Report and Recommendation by the Honorable C. Darnell Jones II. (Order, ECF No. 5). For the following reasons, I respectfully recommend that the petition to quash be DENIED and the motion to summarily enforce the summonses be GRANTED.

I. BACKGROUND

Petitioners in this matter are affiliated Pennsylvania corporations whose tax returns are presently under review by the IRS. (Pet. ¶¶ 6-7). In September 2010, IRS Revenue Agent Gerald Arnett ("Agent Arnett") commenced an examination of Petitioners' tax returns from 2007 through 2010 ("the First Examination"). (Id. ¶ 7); (Decl. of Revenue Agent Gerald Arnett ¶ 14, ECF No. 4) (hereinafter, "Arnett Decl."). In the First Examination, Agent Arnett identified that Petitioners were engaged in a tax strategy "whereby various related entities loaned money to affiliated entities, who would then, on the same day or shortly thereafter, loan or contribute money back to the original lender." (Arnett Decl. ¶ 6). Petitioners took the position that these loans allowed the Petitioners to receive tax-free distributions from the entities.¹ (Id. ¶ 7). Agent Arnett gave these loans particular scrutiny because they did not conform to arms-length negotiating standards; ultimately, he determined that a number of distributions characterized as tax-free by Petitioners were, in fact, taxable income. (Id. ¶¶ 8-9).

Petitioners appealed Agent Arnett's determination to the IRS Appeals Office.² (Id. ¶¶ 10-11). The night before Agent Arnett's presentation to the IRS Appeals, Petitioners alerted him to a previously undisclosed 2008 royalty and land swap agreement (the "Pagoda Deal"). (Id. ¶ 12). According to Petitioners, the Pagoda Deal would allow MB Investments of Pennsylvania, an entity with few of its own assets, to repay millions of dollars of related-party loans. (Id. ¶¶ 12-13).

Agent Arnett investigated the Pagoda Deal because he believed it would be relevant to his examination of Petitioners' tax returns for years 2011 through 2014 ("the Second Examination"). (Id. ¶ 14). His investigation revealed that the "legitimacy and factual existence" of the PagodaDeal was in question. (Id. ¶ 15). Further, Agent Arnett learned that Petitioners had a lending agreement with Citizens Bank of Pennsylvania ("Citizens Bank" or "the Bank") which, in relevant part, required Petitioners to disclose all related-party transactions not conducted at arms-length, which would include the Pagoda Deal.³ (Id.).

Accordingly, on November 13, 2015, Agent Arnett served four third-party summonses on Citizens Bank requesting production of the following documents by December 16, 2015:⁴

1. All documents constituting, consisting of, reflecting or relating to the agreement that the Borrowers submitted to a secure the loan/facility with the Bank

2. Pursuant to section 6.20 (Transactions with Affiliates) of the agreement

All disclosures (and supporting documentation provided with the disclosure) by/for the borrowers on any transaction it entered into or conducted with any Affiliate pursuant to section 6.20 of the agreement

3. Pursuant to sections 8 (Accounting Records, Reports and Financial Statements), 8.1 (Annual Statements of Borrowers) and 8.4 (Audit Reports)

I. Borrower 3 reviewed financial statements in accordance with GAAP for their fiscal year ended September 30, 2014.⁵

II. In the event there was non-compliance by the borrowers, all disclosures and/or documents provided to the bank by the borrowers associated with not complying with providing financialstatements in accordance with GAAP within two hundred and ten (210) days after the end of each of the borrowers [sic] fiscal years.

III. Any management letters and "comment" letters, in connection with the annual, interim or special audit report, submitted to the borrowers by independent accountants and/or submitted by the borrowers to the independent accountants.

(Pet. ¶¶ 8-9; Arnett Decl. ¶ 19). Citizens Bank requested an extension of time to respond, and, to date, has not provided any responsive documents. (Arnett Decl. ¶¶ 22-23).

On November 13, 2015, Agent Arnett sent notice of the summonses through certified mail to Petitioners' counsel. (Id. ¶ 22). On December 3, 2015, Petitioners filed the pending motion to quash the four summonses executed on Citizens Bank. (Pet., ECF No. 1). In response, the United States moves for summary denial and dismissal of Petitioners' motion to quash and for summary enforcement of the summonses. (Resp., ECF No. 4). The matter is fully briefed and ripe for determination.⁶

II. LEGAL STANDARD

"Congress has 'authorized and required' the IRS 'to make the inquiries, determinations, and assessments of all taxes' the Internal Revenue Code imposes." United States v. Clarke, — U.S. —, 134 S. Ct. 2361, 2365 (2014) (quoting 26 U.S.C. § 6201(a)). In support of that authority, section 7602 of the Internal Revenue Code permits the IRS broad latitude to issue summonses "[f]or the purpose of ascertaining the correctness of any return, making a return where none has been made, determining the liability of any person for any internal revenue tax . . ., orcollecting any such liability." 26 U.S.C. § 7602(a). The IRS may summon either the person liable for the tax or "any officer or employee of such person," any person having custody of relevant "books of account," and "any other person the [IRS] may deem proper," § 7602(a)(2), to produce "books, papers, records, or other data . . . relevant or material to [a tax] inquiry," § 7602(a)(1).

If a taxpayer wishes to prevent a third party from complying with IRS summons, the taxpayer must begin a proceeding to quash the summons. 26 U.S.C. § 7609(b); see also Nelson v. I.R.S., No. 10-184, 2011 WL 39060, at *1 (E.D. Pa. Jan. 5, 2011) (citing Gaunt v. Internal Revenue Serv., 1996 WL 376341, at *1 (M.D. Pa. May 1, 1996)). Once the legality of a summons is questioned, it is the burden of the IRS to demonstrate the following: (a) the summons was issued for a legitimate purpose; (b) the summons sought information that may be relevant to that purpose; (c) the information sought was not already within the possession of the IRS; and (d) all administrative requirements were met. United States v. Powell, 379 U.S. 48, 57-58 (1964); see also United States v. Rockwell Int'l, 897 F.2d 1255, 1261 (3d Cir. 1990). The IRS's initial burden is only slight or minimal, and can be satisfied by a declaration from the investigating agent that the requirements of Powell have been met. See Clarke, 134 S. Ct. at 2365 (to make the Powell showing, "the IRS usually files an affidavit from the responsible investigating agent.") (internal citation omitted); Pilchesky v. United States, No. 3:08-MC-0103, 2008 WL 4452672, at *3 (M.D. Pa. Sept. 29, 2008) (internal citations omitted).

Once the government satisfies its prima facie burden, the burden then shifts to the taxpayer to "challenge the summons on any appropriate ground." Rockwell Int'l, 897 F.2d at 1262 (citing Powell, 379 U.S. at 58); see also Clarke, 134 S. Ct. at 2365. An "appropriate ground" is established "when the taxpayer disproves one of the four elements of the government's Powellshowing, or otherwise demonstrates that enforcement of the summons will result in an abuse of the court's process." Rockwell Int'l, 897 F.2d at 1262. "This standard is described as a 'heavy burden,' one that is only satisfied under the most 'exceptional circumstances.'" Bodensee Fund, LLC v. U.S. Dep't of Treasury-I.R.S., No. 07-0111, 2008 WL 1930967, at *2 (E.D. Pa. May 2, 2008) (citing Pickel v. United States, 746 F.2d 176, 183-85 (3d Cir. 1984) and United States v. Smith, No. 99-3953, 2000 WL 1175543, at *1 (6th Cir. Aug. 11, 2000)).

III. DISCUSSION

A. Respondent Has Made Its Prima Facie Case

In support of its prima facie case, Respondent has provided the declaration of Agent Arnett, a duly commissioned Revenue Agent employed by the IRS in the Large Business and International Division. (Arnett Decl. ¶ 2). As noted, Agent Arnett is presently engaged a multi-year review of Petitioner's tax returns. (Id. ¶ 4). In furtherance of that examination, Agent Arnett served summonses on Citizens Bank on November 13, 2015. (Id. ¶ 16). A notice of the summonses was also sent to Petitioners' counsel on that date. (Id. ¶ 23).

Agent Arnett asserts that he issued the summonses for the legitimate purposes of determining the correctness of Petitioners' tax returns and/or determining Petitioners' tax liability, and the information and documents sought by the third-party summonses is relevant to that legitimate purpose. (Id. ¶ 25). Declarant further asserts that, although certain loan documents related to the lending agreement with Citizens Bank have produced by Petitioners, the information and documents summonsed are not already in possession of the IRS. (Id. ¶¶ 28-32). Specifically, Agent Arnett avers that the IRS does not have copies of the disclosures made by Petitioners to obtain the loan and the 2014 reviewed financial statements, which, by the terms ofthe agreement, should have already been produced. (Id. ¶¶ 29, 31). Agent Arnett also explains that he seeks to compare the versions of documents produced by Petitioners with the versions maintained by Citizens Bank. (Id. ¶ 30, 32). Finally, Agent Arnett avers that no Justice...