U.S. v. Russell

• Decision Date: 18 November 1986
• Docket Number: 86-3014 and 86-3015,Nos. 86-3013,s. 86-3013
• Citation: 804 F.2d 571
• Parties: -6227, 86-2 USTC P 9801 UNITED STATES of America, Plaintiff-Appellant, v. James C. RUSSELL, Earhl R. Schooff, and Lawrence M. Richey, Defendants-Appellees.
• Court: U.S. Court of Appeals — Ninth Circuit

Page 571

804 F.2d 571

58 A.F.T.R.2d 86-6227, 86-2 USTC P 9801

UNITED STATES of America, Plaintiff-Appellant, v. James C. RUSSELL, Earhl R. Schooff, and Lawrence M. Richey,

Defendants-Appellees.

Nos. 86-3013, 86-3014 and 86-3015.

United States Court of Appeals, Ninth Circuit.

Argued and Submitted Sept. 2, 1986.

Decided Nov. 18, 1986.

Donald W. Searles, Atty., Roger M. Olsen, Michael L. Paup, Robert E. Lindsay, Deborah W. Dawson, U.S. Dept. of Justice, Washington, D.C., for plaintiff-appellant.

Thomas Bothwell, Bothwell & Lorello, Christopher S. Tait, Yakima, Wash., Joseph Nappi, Jr., Brian T. Butler, Spokane, Wash., for defendants-appellees.

Appeal from the United States District Court for the Eastern District of Washington.

Before FLETCHER, FERGUSON, and REINHARDT, Circuit Judges.

FLETCHER, Circuit Judge:

Plaintiff United States appeals the district court's dismissal of 12 counts of a 28-count indictment. The district court held that the defendants lacked fair notice of the illegality of the tax avoidance schemes they developed and promoted, and that they accordingly could not have willfully violated the statute. We reverse and remand for trial.

BACKGROUND

Frank Forrester developed tax shelter programs designed to reduce taxpayers' income tax liabilities. Under Forrester's primary program, the "personal services contract," taxpayers would "sell" their life services to Professional and Technical Services (PTS), an entity created by him, for one dollar per year. When the taxpayers received paychecks from their employers, they would endorse the checks and send them to PTS, which transferred the checks to International Dynamics, Inc. (IDI), another Forrester organization. IDI in turn transferred the funds to IDI Credit Union (IDICU), which would send the taxpayers "gift" checks equal to 90 to 92 percent of the taxpayers' original paychecks. Some of these entities purported to be foreign trusts or corporations.

Forrester's other tax scheme at issue here was the "9:1 tax shelter" under which taxpayers purchased "consulting services" from IDI. Taxpayers paid an allegedly deductible consulting fee to IDI, and IDI immediately sent the taxpayers an alleged tax-free reimbursement check less a ten percent fee. No consulting services were ever performed.

Defendants James Russell, Earhl Schooff, and Lawrence Richey were involved in the promotion and sale of these schemes. These three, along with Forrester, who is now deceased, were charged in a 28-count indictment with a variety of tax On motion by the defendants, the district court dismissed twelve counts of the indictment, finding that under the reasoning of United States v. Dahlstrom, 713 F.2d 1423 (9th Cir.1983), cert. denied, 466 U.S. 980, 104 S.Ct. 2363, 80 L.Ed.2d 835 (1984), the defendants lacked fair notice of the illegality of the tax schemes until July 29, 1982 when the Eighth Circuit held, in a civil proceeding, that a "personal services contract", similar to those involved in this case, was an illegal tax avoidance scheme. United States v. Landsberger, 692 F.2d 501 (8th Cir.1982). ¹

fraud, mail fraud, and tax evasion violations.

The government appealed the dismissal of the twelve counts. The district court continued trial on the remaining counts, ruling that the time accruing during the pendency of the appeal would be deemed excludable delay under the Speedy Trial Act.

DISCUSSION

1. Appealability

The district court dismissed 12 of the 28 counts in the indictment, and continued trial on the remaining counts pending this appeal. To prosecute its appeal, the government "must show that it has the right to appeal and that the order appealed from comes within the terms of a statutory grant of appellate jurisdiction." United States v. Dior, 671 F.2d 351, 354 (9th Cir.1982). To satisfy the first prong, the government must be authorized to bring the appeal under 18 U.S.C. Sec. 3731. To satisfy the second prong, the decision being appealed generally must constitute a "final judgment" under 28 U.S.C. Sec. 1291. United States v. Martinez, 763 F.2d 1297, 1307 (11th Cir.1985). Despite the general application of Sec. 1291's finality requirement, "[s]ection 3731 can, and does, make it lawful for the government to take certain appeals even though there is no final judgment." Id. at 1308 n. 10. According to the Eleventh Circuit in Martinez, this "right to take an interlocutory appeal [must be] expressly provided in section 3731." Id.

Title 18 U.S.C. Sec. 3731 provides in relevant part: "In a criminal case an appeal by the United States shall lie to a court of appeals from a decision, judgment, or order of a district court dismissing an indictment ... as to any one or more counts." Because the district court dismissed 12 of the 28 counts, the government is authorized to appeal under Sec. 3731, thus satisfying the first prong. As to the second prong, the district court order is not a final judgment except as to Schooff because it does not dispose of the remaining 16 counts. ² However, we have interpreted the quoted portion of Sec. 3731 as expressly providing the right to take an interlocutory appeal in this situation. See United States v. Marubeni America Corp., 611 F.2d 763, 764-65 (9th Cir.1980) (court held that Sec. 3731 supplied appellate jurisdiction where district court had dismissed portion of one count and had suspended pre-trial proceedings on remaining counts pending appeal; no discussion of Sec. 1291's finality requirement). Following Marubeni, we conclude that we have jurisdiction to hear the interlocutory appeal in the case at bar. ³

2. Standard of Review

The district court "assumed the truth of each material fact set forth in the indictment and, applying Dahlstrom, ruled that regardless of the evidence, the government would be unable to sustain its burden with respect to those counts which were dismissed." The district court thus ruled as a matter of law, and we review this holding de novo.

3. Dahlstrom

The tax avoidance scheme at issue in Dahlstrom is described at 713 F.2d 1425-26, and also in Zmuda v. Commissioner, 731 F.2d 1417, 1419 (9th Cir.1984). Zmuda was an appeal from a Tax Court judgment disallowing deductions and assessing civil penalties for use of a tax scheme virtually identical to the one at issue in the Dahlstrom criminal prosecution. At the heart of the scheme were three foreign trusts to be established individually by each taxpayer participant. Property or income was transferred to and among these trusts, and eventually transferred back to the taxpayer as a "gift." Some of the transactions, including the "gift" to the taxpayer, were allegedly tax-free in part because of the foreign status of the trusts.

The Dahlstrom defendants were tried by a jury and convicted of conspiracy to defraud the United States and of aiding and abetting the preparation and presentation of fraudulent income tax returns. On appeal, the court noted that to convict a person for aiding and abetting the preparation and presentation of fraudulent income tax returns under 26 U.S.C. Sec. 7206(2), the government must prove the defendant acted willfully. 713 F.2d at 1426-27. Under the statute, a "willful" act consists of "a 'voluntary intentional violation of a known legal duty.' " Id. at 1427 (quoting United States v. Pomponio, 429 U.S. 10, 12, 97 S.Ct. 22, 23, 50 L.Ed.2d 12 (1976)). The court held that because "the legality of the tax shelter program advocated by the appellants in this case was completely unsettled by any clearly relevant precedent on the dates alleged in the indictment," the defendants lacked fair notice of the illegality of their acts and thus lacked the requisite intent to violate the law. 713 F.2d at 1428. The court accordingly reversed the judgments. Id. at 1429.

4. Frank Forrester's Tax Shelter Schemes

The heart of the primary Forrester tax shelter scheme was the personal services contract under which taxpayers sold their life services to PTS, one of the entities created by Forrester, for one dollar per year. The taxpayers were allegedly thereby obligated to transfer all paychecks to PTS. According to the indictment, the defendants assured the participants that the income was no longer taxable to them as individuals because PTS owned their paychecks.

As this court has recognized, "[t]he guiding principle in assignment of income cases is that income is taxed to the person or entity, which in fact controls the earning of income." Johnson v. United States, 698 F.2d 372, 374 (9th Cir.1982). The Supreme Court first announced this rule in 1930 in Lucas v. Earl, 281 U.S. 111, 114-15, 50 S.Ct. 241, 74 L.Ed. 731 (1930), and has often repeated it. See, e.g., United States v. Basye, 410 U.S. 441, 450, 93 S.Ct. 1080, 1086, 35 L.Ed.2d 412 (1973) ("The principle of Lucas v. Earl, that he who earns income may not avoid taxation through anticipatory arrangements no matter how clever or subtle, ... stands today as a cornerstone of our graduated income tax system."); Commissioner v. Culbertson, 337 U.S. 733, 739-40, 69 S.Ct. 1210, 1212, 93 L.Ed. 1659 (1949) (court cites "the first principle of income taxation: that income must be taxed to him who earns it").

The acts alleged in the indictment constitute violations of the statute because they contradict this "first principle" of tax law. Such anticipatory assignments of income have been recognized as ineffective to shift income for tax purposes for over fifty years. The defendants in this case had fair notice of the illegality of their scheme from its inception.

According to the district court,

The twist in the instant scheme is that the accused not only took cognizance of the controlling nature of Lucas and progeny, but cited that decision in their promotional literature for the proposition that while preassignment of the fruit may be unlawful, there is no prohibition against assigning the tree. Ergo, if the assignee-trust owns the tree, it also owns the fruit, and the assignor-taxpayer is...