United States v. Philatelic Leasing, Ltd.

• Decision Date: 13 February 1985
• Docket Number: No. 83 Civ. 4432 (WK).,83 Civ. 4432 (WK).
• Citation: 601 F. Supp. 1554
• Parties: UNITED STATES of America, Plaintiff, v. PHILATELIC LEASING, LTD., Melvin Hersch, Hambrose Stamps, Ltd. and Global International, Ltd., Defendants.
• Court: U.S. District Court — Southern District of New York

601 F. Supp. 1554

UNITED STATES of America, Plaintiff, v. PHILATELIC LEASING, LTD., Melvin Hersch, Hambrose Stamps, Ltd. and Global International, Ltd., Defendants.

No. 83 Civ. 4432 (WK).

United States District Court, S.D. New York.

February 13, 1985.

William J. Brennan, Asst. U.S. Atty., New York City (Rudolph Giuliani, U.S. Atty., S.D.N.Y. and Gerald Ford, Asst. U.S. Atty., New York City, of counsel), for plaintiff.

Jules Ritholz, New York City (Kostelanetz & Ritholz and Elliot Silverman, New York City; Doros & Blessey, P.C. and Robert L. Blessey, New York City, of counsel), for defendants Philatelic Leasing, Ltd. and Melvin Hersch.

Alan Levine, New York City (Kronish, Lieb, Shainswit, Weiner & Hellman and Joann B. Blasberg, New York City, of counsel), for defendant Hambrose Stamps Ltd.

Saltzman, Garbis & Schwait, New York City, for Global International, Ltd., amicus curiae.

MEMORANDUM & ORDER

WHITMAN KNAPP, District Judge.

INTRODUCTION

We are advised that this case represents the Government's first attempt — at least in this District — to use Sections 6700 and 7408 of the Internal Revenue Code to stamp out a peculiar type of tax fraud. Section 6700 defines an offense — entitled "Promoting Abusive Tax Shelters" — which may be enjoined pursuant to Section 7408. In this law suit we are concerned only with tax advantage investment programs ("shelters") which are created by the device of having the provider of the shelter lease supposedly productive assets — here, "stamp masters" — to taxpayers in circumstances where the lessor passes his investment tax credit ("ITC") on to the taxpayer so that the latter can use it in reducing his tax liability. The lessor's ITC (which is passed on to the taxpayer) is based on its own cost in acquiring the asset.

THE STATUTE

Section 6700 starts off with a rather complicated definition of the "persons" to whom it applies (§ 6700(a)(1)); and proceeds to make it unlawful for any such person to make certain fraudulent statements in the course of selling a tax shelter (§ 6700(a)(2)(A)), or to make a "gross valuation overstatement as to any material matter" in connection with such sale (§ 6700(a)(2)(B)). The Government has invoked only the second of those prohibitions and, so far as here relevant, a "gross valuation overstatement" is defined (in § 6700(b)(1)) as a statement fixing an asset's value at more than 200 percent of (i.e., more than twice) its actual value. Section 7408 authorizes a court — in appropriate circumstances — to issue an injunction against any person found to have violated Section 6700.

THE DEFENDANTS

The defendants named in the complaint are: Philatelic Leasing, Ltd. ("Philatelic"), which in 1982 offered "stamp masters" for lease to the public; Hambrose Stamps, Ltd. ("Hambrose"), which had supposedly sold them to Philatelic; Global International, Ltd. ("Global"), which had supposedly sold them to Hambrose, having manufactured them pursuant to a license obtained from Crailheath, Ltd. ("Crailheath"), a British concern not named as a defendant; and Melvin Hersch ("Hersch") who in 1982 was president of Philatelic, having previously served as president of Hambrose. A consent judgment was entered against defendant Global. It accordingly did not participate in the trial, but — as amicus curiae — has continued to show an active interest in the proceedings.

QUESTIONS PRESENTED

It is common ground that all defendants are "persons" within the meaning of Section 6700. The Government, proceeding under subdivision (a)(2)(B) of that Section, contends that the actual value of the "stamp masters" here involved was minimal, and that Philatelic's asserted cost in acquiring them from Hambrose (which asserted cost established the ITC passed on to its taxpayer-lessees) was a great deal more than twice such actual value. The Government claims that this contention has been established by proof that the series of purported transactions between Global, Hambrose and Philatelic constituted a sham specifically designed to conceal the fact that the stamp masters were actually without substantial value. The Government also claims that the same lack of value is established by expert testimony showing that there is no real market for the stamps created by the "masters." Defendants' basic contention, on the other hand, is that Philatelic's asserted cost in acquiring the stamp masters from Hambrose was the product of arms-length bargaining between those two entities; and that Hambrose's own cost was, in turn, established by arms-length bargaining between it and Global. The defendants also dispute the Government's contentions as to the effect of the expert testimony. Defendants further contend that regardless of the value of the stamp masters, injunctive relief would be inappropriate; and defendant Hambrose contends that no case has been established as to it.

INTRODUCTORY OBSERVATION

We find ourselves in a rather unusual position. The trial in this case consumed eight court days and generated a 1,468 page trial record. In addition, 122 exhibits and 602 pages of deposition testimony have been submitted for our consideration. Yet the testimony of just three witnesses — Clive Feigenbaum, the president and owner of Crailheath; Herman Finesod, the owner of Hambrose; and the defendant Melvin Hersch—has persuaded us that the entire "stamp master" scheme constituted a simple conspiracy by those men, and others mentioned in the evidence, to perpetrate a tax fraud; that the various corporate entities which are parties to this law suit and otherwise mentioned in the evidence were mere instruments in that conspiracy; and that the testimony of these three men was deliberately designed to conceal the existence of this conspiracy. For reasons which we shall elaborate, we further conclude that this conspiracy to conceal the truth — initiated in 1979 and continuing to the present day — justifies a finding that the "stamp masters" were indeed without substantial value.

THE BACKGROUND AGAINST WHICH THE TESTIMONY OF FEIGENBAUM, FINESOD AND HERSCH SHOULD BE CONSIDERED

By way of definition, a "stamp master" is a photographic color separation used for producing postage and similar stamps.

The allegedly abusive shelters with which we are here concerned were made available to the public through a program run in 1982 by defendant Philatelic, in which Philatelic leased to taxpayers certain stamp masters pursuant to contracts authorizing them to produce defined numbers of stamps over a seven-year period. Philatelic purported to have purchased these stamp masters from Hambrose which, in turn, purported to have purchased them from Global.

The stamps produced by the masters here in question are local carriage labels or stamps for the islands of Staffa, Bernera, Eynhallow and Grunay. Of these islands — all of which are located off the coast of Scotland — two are sparsely inhabited, while two are completely uninhabited but receive tourist trade. Staffa, in particular, is popular with tourists for its natural wonders, including Fingal's Cave which inspired — among other works of art — Mendelssohn's Hebrides Overture. The stamps here involved may be used for the carriage of mail (posted either by tourists or by inhabitants of the islands) between points on the islands, or to the British post office on the Isle of Mull, where additional British postage must be affixed if the mail is to travel further. The stamps bear images which can be categorized by "topic" — birds, flowers, sporting events, etc.

A right to issue stamps was originally granted by the British Crown to the Laird of the mentioned Islands. Prior to 1979 the Laird had assigned that right to various persons in no way concerned with any of the events here at issue. In that year he revoked all previous assignments and then, through a series of agreements, assigned the right to two related British corporations, one of which, Crailheath, authorized Global to issue stamps under terms and conditions which seem relevant to this law suit only to the extent that the Crailheath-Global contracts did not preclude Crailheath from granting similar licenses to competitors of Global (see Exhibits 241-244).

So far as the record indicates, stamps — as opposed to stamp masters — issued in the names of these Islands first appeared as collectors' items back in 1974 (prior to Crailheath's coming into the picture) when Staffa stamps printed on gold foil were offered to collectors both in the United States and abroad. These gold foil stamps seem to have been highly successful and to have achieved total retail sales of twenty-six and a half million dollars. Although each stamp contained only a few cents worth of gold, their prices tended to vary with the world price of gold, the highest price they achieved in the United States appearing to be about $20 a stamp.

The use of stamp masters as tax shelter instruments first surfaced in 1979.¹ In that year Herman Finesod (not a party to this lawsuit) organized defendant Hambrose which — we are told — purchased from defendant Global seventeen stamp masters, each of which entitled the purchaser to print 75,000 sets of stamps. Hambrose sold these stamp masters to a stamp company not a party to this lawsuit, which in turn sold them to seventeen different purchasers. The record does not disclose the prices at which these transactions occurred. In the following year Hambrose, acting through its then president, defendant Hersch, is said to have purchased from Global fourteen stamp masters and to have sold them directly to the public. In 1981 it sold to the public 253 stamp masters said to have been so purchased. These 1979, 1980 and 1981 transactions (referred to in the testimony as the 1979, 1980 and 1981 programs) are not here in issue, the statute under which the Government proceeds not having been enacted until September 3, 1982. The record, accordingly, does not disclose many details of these transactions, except that they...