Watkins v. Comm'r, T.C. Memo. 2014-197

• Court: United States Tax Court
• Writing for the Court: WHERRY, Judge
• Parties: GREGORY S. WATKINS AND LINDA WATKINS, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent DAREN J. BARONE AND COLLEEN R. BARONE, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent
• Docket Number: Docket No. 26041-11,Docket No. 26096-11,T.C. Memo. 2014-197
• Decision Date: 25 September 2014

GREGORY S. WATKINS AND LINDA WATKINS, Petitioners
v.
COMMISSIONER OF INTERNAL REVENUE, Respondent

DAREN J. BARONE AND COLLEEN R. BARONE, Petitioners
v.
COMMISSIONER OF INTERNAL REVENUE, Respondent

T.C. Memo. 2014-197
Docket No. 26041-11
Docket No. 26096-11

UNITED STATES TAX COURT

September 25, 2014

R determined income tax deficiencies and accuracy-related penalties for the 2004 and 2005 tax years under the theory that Ps had and exercised dominion and control over assets held by S corporations wholly owned by ESOPs. In an amended answer R further asserted an increased deficiency relating to an alleged taxable distribution from a qualified retirement plan, which R contends occurred when Ps acquired the S corporations' stock from the ESOPs. Ps filed motions to reconsider the order granting R leave to amend his answer on the grounds that R had knowledge of the complete transaction giving rise to the alleged distribution. Ps filed motions to dismiss for lack of jurisdiction asserting that the deficiencies were based on partnership items or affected items and that the notices of deficiency were invalid because they were issued before the Court's review of the partnership adjustments was complete. Ps also filed

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motions for summary judgment asserting that collateral and judicial estoppel preclude R from determining the deficiencies. Further, Ps filed motions for partial summary judgment asserting that the statute of limitations barred determination of the deficiencies for 2005.

Held: Ps' motions will be denied.

Steven R. Toscher, Lacey E. Strachan, and Richard Carpenter, for petitioners.¹

Monica D. Polo and Mistala M. Cullen, for respondent.

MEMORANDUM OPINION

WHERRY, Judge: These cases, which we have consolidated for purposes of this opinion only, are before the Court on petitioners' motions for summary judgment, motions for partial summary judgment, motions to dismiss for lack of jurisdiction, and motions to reconsider orders granting respondent's motions for leave to amend the answers.²

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Background

These cases and the related litigation have a rather tortuous background. At the heart of these cases is the ownership structure of an asbestos removal business set up by petitioners Gregory Watkins and Daren Barone. Much of the factual background underpinning that ownership structure and the reasons behind it can be found in our prior opinion, WB Acquisition, Inc. v. Commissioner, T.C. Memo. 2011-36 (WBA Cases), and much of this background information comes from those factual findings.

Messrs. Watkins and Barone owned an asbestos removal company called Watkins Contracting, Inc. (WCI), which they purchased from Mr. Watkins' father in the mid-1990s. They sold WCI shortly thereafter to REXX Environmental Corp. (REXX). Messrs. Watkins and Barone stayed on with WCI as employees.

REXX began to experience financial difficulties which in turn affected WCI's ability to bond projects. Because the executives of REXX were unwilling to sign personal guaranties for bonds for WCI, REXX asked Messrs. Watkins and Barone to personally guarantee bonds in exchange for a percentage of profits from the projects. Eventually, REXX asked Messrs. Watkins and Barone if they wanted

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to repurchase WCI. They were reluctant to do so without a structure in place that would limit their personal exposure. Ultimately they agreed upon a structure and repurchased WCI for approximately one-third of what they sold it for.

Under the new ownership structure, WCI would be owned by a newly formed C corporation, WB Acquisition, Inc. (WB Acquisition). In turn WB Partners, which was a partnership for Federal income tax purposes, owned WB Acquisition. Two S corporations, DJB Holding Corp. (DJB Holding) and GSW Holding Corp. (GSW Holding), were 50-50 partners in WB Partners. The sole shareholder of DJB Holding was an employee stock ownership plan, DJB Holding Corp. ESOP (DJB ESOP), in which Mr. Barone was the lone participant. Similarly, Mr. Watkins was the sole participant of GSW Holding Corp. ESOP (GSW ESOP), which was the sole shareholder of GSW Holding.

Previous Tax Court Cases

Respondent issued notices of final partnership administrative adjustments (FPAAs) to WB Partners for the 2003, 2004, and 2005 tax years, notices of deficiency to WB Acquisition for the 2002, 2003, 2004, and 2005 tax years, and notices of deficiency to petitioners for their 2002 through 2005 tax years. Timely petitions to this Court followed, and these cases, seven in all, were consolidated. Ultimately, the FPAAs for WB Partners and the notices of deficiency for WB

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Acquisition were the subject of the opinion in the WBA Cases, in which we entered a decision on November 28, 2011.

Of importance here are respondent's concessions in the WBA Cases, which led to the severance of petitioners' individual income tax cases.³ Respondent conceded that WB Partners, DJB Holding, GSW Holding, and the two ESOPs are not shams for Federal income tax purposes and that DJB Holding and GSW Holding were true partners of WB Partners. What necessarily follows from these concessions is that Messrs. Watkins and Barone are neither direct nor indirect partners in WB Partners.⁴

Once petitioners' cases were severed, respondent's concessions had several consequences. First, by order dated April 22, 2010, we dismissed the 2004 and

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2005 tax years for lack of jurisdiction. We found the proposed adjustments stemmed from partnership items, which were properly the subject of the partnership proceeding and that the notices of deficiency as to the 2004 and 2005 tax years were invalid. With respect to the 2003 tax years, however, we found that petitioners made a valid section 6223(e)(3)(B) election, which allowed us to treat partnership items as nonpartnership items for that year. Respondent conceded that Messrs. Watkins and Barone were not direct partners of WB Partners during 2003. Because they held their interests in WB Partners through ESOPs, which are not "pass-thru partners" within the meaning of section 6231(a)(9), we found that they were not indirect partners during 2003 either. Accordingly, because Messrs. Watkins and Barone were neither direct nor indirect partners of WB Partners, the section 6223(e)(3)(B) election became meaningless. On March 6, 2012, we granted summary judgment in favor of petitioners and decided that there were no deficiencies or underpayments of income tax for petitioners' 2003 tax year.

Respondent moved to vacate those decisions on the grounds that petitioners realized an accession to wealth through their dominion and control over the funds in the holding corporations. We denied these motions, but we noted that respondent's motion to vacate "sets forth an argument and related facts that likely would meet the standard required to overcome a motion for summary judgment.

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Unfortunately, respondent failed to make such an argument when [he] * * * had the chance." Respondent did not appeal our decisions as to the 2003 tax year, and they became final.

Current Tax Court Cases

In the current cases, respondent seeks to assert the dominion and control theory that he advanced too late for petitioners' 2003 tax years. In notices of deficiency dated August 11, 2011, respondent determined deficiencies and penalties as follows:

Couple	Year	Deficiency	Sec. 6662(a) Penalty
The Barones	2004	$1,388,735	$277,746.60
2005	693,202	138,189.00
The Watkinses	2004	1,395,722	279,143.00
2005	684,950	136,134.00

The deficiencies stem from other income of $3,946,342 and $1,952,026 that respondent alleges both couples received for the 2004 and 2005 tax years, respectively. These items of other income, as petitioners emphasize, bear a remarkable similarity to distributions made by WB Partners to DJB Holding and GSW Holding in those tax years, $3,946,342 to each partner for 2004 and

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$1,952,026 to each partner for 2005. By way of explanation, the notices of deficiency include the following cursory statements:

It has been determined that you failed to report gross income of $3,946,342.00 and $1,952,026.00 for the tax years ending December 31, 2004, and December 31, 2005, respectively. Gross income includes all accessions to wealth from actual receipt and/or constructive receipt of income. Income is constructively received when it is credited to your account, unconditionally set apart for you, or otherwise made available so that you could draw upon it at any time.

Petitioners timely petitioned...