U.S. v. Schmidt

Citation935 F.2d 1440
Decision Date15 July 1991
Docket NumberNos. 90-5902,s. 90-5902
Parties-5005, 93-1 USTC P 50,074 UNITED STATES of America, Plaintiff-Appellee, v. Lonnie Glen SCHMIDT, Defendant-Appellant. UNITED STATES of America, Plaintiff-Appellee, v. Thomas Calvin DUNLAP, Sr., Defendant-Appellant. UNITED STATES of America, Plaintiff-Appellee, v. James Eugene LEWIS, Defendant-Appellant. to 90-5904.
CourtUnited States Courts of Appeals. United States Court of Appeals (4th Circuit)

Kenneth Andresen, Charlotte, N.C., for defendant-appellant Lewis.

James F. Wyatt, III, Charlotte, N.C., for defendant-appellant Dunlap.

George V. Laughrun, II, Charlotte, N.C., for defendant-appellant Schmidt.

Brett Mary Dignam, Tax Div., U.S. Dept. of Justice, Washington, D.C., argued (Shirley D. Peterson, Asst. Atty. Gen., Robert E. Lindsay, Alan Hechtkopf, Tax Div., U.S. Dept. of Justice, Washington, D.C., Thomas J. Ashcraft, U.S. Atty., Charlotte, N.C., on brief), for plaintiff-appellee.

Before HALL and MURNAGHAN, Circuit Judges, and KISER, United States District Judge for the Western District of Virginia, sitting by designation.

MURNAGHAN, Circuit Judge:

Appellants Lonnie Schmidt (Schmidt), Thomas Dunlap, Sr. (Dunlap), and James Lewis (Lewis) were convicted in the United States District Court for the Western District of North Carolina on sixteen conspiracy and substantive counts of various federal tax violations stemming from a scheme to sell trusts known as Unincorporated Business Organizations (UBOs). Participants in the UBOs could assign income and assets to the trusts and take otherwise unavailable deductions for purely personal expenses and could further avoid the payment of taxes on income by effecting "distributions" of their income to a financial institution in the Marshall Islands. Schmidt, Dunlap, and Lewis have appealed, raising various points of error.

I.

In early 1986, appellant Schmidt devised and promoted a plan to sell putative trusts known as UBOs and sold them, for commissions, to others. Schmidt described the UBO to potential customers as

a domestic trust wherein the trustee or the individual for whose benefit truly [it] is set up for, has total control, whether it's real estate, real property, personal property, he can buy and sell as fast as he can control it normally as an individual.

He's got total control. He still has the ability to defray all the taxes down to an absolute zero * * *.

Working in conjunction with Schmidt, appellants Lewis and Dunlap sold UBOs to at least 20 investors at a cost of between $3500 and $5000 apiece, assuring such investors that purchasing a UBO would permit them to pay whatever taxes they wanted to pay.

In a typical UBO scheme, an investor would name himself trustee of his own UBO. Appellants advised the trustee that he could transfer to a UBO all earnings (including income normally reported on a W-2 or 1099 form as individual income) and assets (including real property, automobiles and personal wardrobe). While ownership of such earnings and assets was apparently transferred to the UBO, their control remained in the hands of the investor as "trustee." Appellants instructed UBO owners to take an inventory of personal property and to keep minutes documenting all UBO expenses, including purely personal expenses for household items, car repairs, groceries, clothing, and entertainment, assuring the investors that all such expenses constituted proper UBO business deductions which could legitimately be used to reduce taxable income earned by the UBO. Appellants also encouraged UBO purchasers to take the original cost of UBOs as a deduction on their individual returns.

In an effort further to legitimize the separate and distinct character of the UBOs, appellants instructed investors to establish non-interest-bearing checking accounts in the names of their organizations. They also recommended that investors, as trustees, apply to the Internal Revenue Service (IRS) for employer identification numbers to assign to the accounts so as to avoid using trustees' individual social security numbers.

Schmidt promoted First Surety Bank, Ltd. (FSBL), an "offshore entity" (Marshall Islands) that was not subject to U.S. tax jurisdiction and that would refuse any inquiries that came from the IRS, as a principal distinctive feature of his trust package. UBO investors subsequently named FSBL as the beneficiary of their UBOs and received signature cards for numbered accounts there. Appellants then encouraged investors to make "income distributions" to FSBL at the end of each year. The so-called "distributions" were used by investors in further reducing taxable income remaining in UBOs after payment of the investors' personal expenses. Investors were told that, by sending the money to FSBL, they could eliminate the paper trail but retain control over "a hundred percent" of their funds. FSBL would make mortgage or other payments on behalf of an investor/trustee, sell the investor a certificate of deposit at a 23% interest rate or, upon request, return the money within several weeks to a domestic UBO checking account under the investor's control.

Most problematic was the advice appellants gave UBO investors regarding compliance with the federal income tax laws. Based upon such advice, UBO investors who filed individual income tax returns (Forms 1040) omitted substantial amounts of income, including W-2 income, that appellants instructed investors to consider as UBO income. Although the income reported generated tax, that tax was typically less than the amount withheld, and refunds were claimed. UBO investors also submitted federal fiduciary returns (Forms 1041) listing income that, in fact, did not belong beneficially to the UBOs and then claimed deductions which eliminated or drastically reduced the taxes due. The purported deductions included expenses for home improvements, groceries, clothing, entertainment, and other purely personal living expenses, as well as deductions for income distributions where the investor continued to control the putatively distributed funds.

On August 10, 1989, appellants were charged in a seventeen-count indictment. Count 1 charged all appellants with willfully conspiring to defraud the United States by impeding, impairing, obstructing, and defeating the lawful functions of the IRS in violation of 18 U.S.C. Sec. 371. Counts 2 through 6 charged appellant Lewis with willfully aiding and assisting the preparation of false tax returns in violation of 26 U.S.C. Sec. 7206(2). Counts 7 through 10 charged Lewis with willfully failing to file income tax returns for taxable years 1983, 1984, 1985, and 1986, in violation of 26 U.S.C. Sec. 7203. Count 11 charged all appellants with conspiring to commit witness tampering in violation of 18 U.S.C. Sec. 371, 1512(b), and 2. Counts 12 through 14 charged Lewis and Schmidt, and Counts 15 through 17 charged Dunlap and Schmidt, with attempting corruptly to influence grand jury witnesses, in violation of 18 U.S.C. Sec. 371, 1512(b), and 2.

On February 1, 1990, appellants moved to dismiss the indictment on the grounds that it was based on alleged tax law violations which were vague and highly debatable, and that, as a latter of law, the indictment was defective. On February 6, 1990, appellants filed an additional motion to dismiss the indictment on the ground that alleged prosecutorial misconduct during the grand jury process had deprived them of their constitutional right to due process. On February 13, 1990, the district court entered an order denying the motion to dismiss the indictment on the basis of prosecutorial misconduct. The court issued its opinion denying the motion to dismiss the indictment on the basis of vagueness and fatal defect on February 14, 1990. United States v. Lewis, 730 F.Supp. 691 (W.D.N.C.1990).

The jury returned guilty verdicts on Counts 1 through 16 and acquitted Dunlap and Schmidt on Count 17.

On April 12, 1990, the District Court sentenced Schmidt to serve one hundred and eight (108) months, to be followed by a three year term of supervised release, and to pay a $30,000 fine and a $350 special assessment. Lewis was sentenced to serve fiftyseven (57) months on Counts 1, 3, 4, 6, 11, 12, 13, and 14 (the Guideline counts) and a consecutive three-year term on Counts 2, 5, 7, 8, 9, and 10 (the non-Guideline counts), to be followed by a three-year term of supervised release, and to pay a $20,000 fine and a special assessment of $700. Dunlap was sentenced to serve eighty-four (84) months, to be followed by a three-year term of supervised release, and to pay a $30,000 fine and a special assessment of $200. Each appellant filed a timely notice of appeal.

The points of error raised on appeal are that 1) the district court erred by denying the motion to dismiss the indictment for alleged prosecutorial misconduct, 2) Counts 1 through 6 of the indictment were fatally defective because they were labelled as sham organizations though they possessed some defensible purposes, 3) the district court erred in refusing to give appellants' requested instruction concerning the definition of a sham, 4) Counts 1 through 6 of the indictment were based on law that was vague or highly debatable, 5) the district court erred by refusing to give appellants' proposed jury instruction concerning reliance on experts, 6) the district court erred by refusing to instruct the jury on selective prosecution, 7) the district court misapplied section 2T1.3 of the Sentencing Guidelines in determining the base offense level for the appellants' conspiracy convictions and in determining a two point enhancement for Dunlap, and 8) there was insufficient evidence to support the verdicts on Counts 11 through 16.

II.

Throughout a number of the claimed errors there runs a common thread. Two cases involving civil aspects where existence, "sham or no," is a question of fact which the appellants seek to build on, ignoring that a criminal...

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