* Pursuant to 5 TH C IR. R. 47.5, the court has determined that this opinion should not be published and is not precedent except under the limited circumstances set forth in 5 TH C IR

. R. 47.5.4.

### IN THE UNITED STATES COURT OF APPEALS

FOR THE FIFTH CIRCUIT

No. 06-20896

In The Matter Of: JAMES PAVLOSKY; DEBORAH THUMANN-PAVLOSKY
Debtors

JAMES PAVLOSKY; DEBORAH THUMANN-PAVLOSKY Appellants v. UNITED STATES OF AMERICA, INTERNAL REVENUE SERVICE Appellee

Appeal from the United States District Court for the Southern District of Texas, Houston

USDC No. 4:06-CV-2061

Before KING, BARKSDALE, and DENNIS, Circuit Judges. PER CURIAM: * Plaintiff s-appellants James Pavlosky and Deborah Thumann-Pavlosky filed a core adversary proceeding in their Chapter 13 bankruptcy seeking a tax abatement of$147,538 for taxable year 2000and a refund of$26,030for taxable United States Court of Appeals

Fifth Circuit 

### F I L E D December 4, 2007 Charles R. Fulbruge III ClerkNo. 06-20896

2 year 2001 from defendant-appellee, the United States Internal RevenueService. The bankruptcy court granted the Internal Revenue Service’s motion for summaryjudgment and dismissed with prejudice the Pavloskys’ complaint. The bankruptcy court determined that the Pavloskys’ 2001 capital loss from the sale ofcertain stock obtained through theexerciseofan incentivestock option did not give rise to a net operating loss f or purposes of the regular income tax or the alternative minimum tax net operating loss deduction. Consequently, the Pavloskys could not carry that capital loss back totaxableyear 2000tooffset the income realized in that year on the exercise ofthe stock option or use the capital loss to offset their ordinary income for taxable year 2001. The Pavloskys appeal the district court’s judgment affirming the bankruptcy court. We AFFIRM.

I. FACTUAL AND PROCEDURAL BACKGROUND The case arises from an adversary complaint filed by Chapter 13 debtors James Pavlosky and Deborah Thumann-Pavlosky (“Taxpayers”) against the Internal Revenue Service (the “IRS”). Taxpayers asked the bankruptcy court to determine federal income tax liability relative to their alternative minimum tax (“AMT”), resulting from the exercise of an incentive stock option (“ISO”). Taxpayers and the IRS stipulated to the relevant facts of this case. James Pavlosky (“Pavlosky”) was employed by Network Appliance, Inc., during tax years 1999, 2000, and 2001. Network Appliance granted Pavlosky ISOs that allowed him to acquire shares of Network Appliance stock as part of his compensation package. On December 20, 2000, Pavlo sky exercised an ISO that allowed him to acquire 30,000 shares of Network Appliance stock. Pavlosky paid $3.2040 per share, and each share had a fair market value (“FMV”) of $53.75 on the date of exercise. Thus, Pavlosky paid $96,120 for stock with a FMV of $1,612,500. Taxpayers chose not to sell the shares in 2000. Throughout 2001, but within twelve months ofthe exercise date ofDecember 20, 2000, Taxpayers sold 28,944No. 06-20896

3 of the 30,000 shares they had acquired for total sales proceeds of $200,345.95. The per share sales price in each ofthese sales ranged from $6.2806 to $9.8217, representing a lossfrom theAMT basis, as represented by the FMV oftheshares at the time of exercise. Taxpayers originally filed a joint tax return for taxable year 2000 that included, for AMT purposes, income stemming from the exercise of the ISO in that year. As discussed above, though, the incentive stock was sold at a substantial loss relative to its AMT basis throughout 2001. Consequently, in 2004, Taxpayers filed an amended 2001 tax return treating the loss realized on the sale ofthe stock as a net operating loss (“NOL”) deduction, which eliminated their tax liability for that year. Taxpayers also filed an amended 2000 return, in which they attempted to carry back to that year the remainder of their loss to reduce their AMT liability for 2000. The IRS disallowed the claims for refund contained in the amended returns. On January 24, 2005, Taxpayers filed a voluntary petition for Chapter 13 bankruptcy relief in the United States Bankruptcy Court for the Southern District ofTexas. On May 11, 2005, the Taxpayers filed an adversary proceeding in the bankruptcy court, wherein they requested a determination oftheir income taxes for the years 2000and 2001. After entering a joint stipulation, the parties filed cross-motions for summary judgment on the issue whether the Internal Revenue Code (the “Code”) permitted taxpayers to treat their 2001 losses on the sale of stock as a NOL for purposes of the AMT. On June 1, 2006, the bankruptcy court ruled for the IRS. The bankruptcy court rejected Taxpayers’ contention that Congress intended in all situations that gains and losses from the exercise of an ISO and subsequent sale of the acquired stock offset each other, concluding that the Code reserved this relieffor transac tions occurring within the same taxable year, not any consecutive 12 month period, thus rendering taxpayers ineligible for such relief.No. 06-20896

4 Taxpayers appealed to the United States District Court for the Southern District of Texas. The IRS again relied on the Code’s provisions dealing with capital loss limitations and the AMT, and Taxpayers focused on the alleged intent of Congress, as well as a number of policy and equitable considerations. On October 5, 2006, the district court issued its Memorandum and Order ruling for the IRS. It concluded that 26 U.S.C. (“I.R.C.”) §§ 56 and 1211 governed the matter, and, consequently, that the capital loss limitations applied for purposes of the AMT, as well as the regular tax. The district court also rejected the tax relief intent that taxpayers attempted to ascribe to Congress, determining that Taxpayers’ conjectures in this regard were unsupported by either the actual language of the Code or specific legislative history. Taxpayers filed a timely notice of appeal to our court. II. DISCUSSION Taxpayers’ argument that their loss in 2001 constitutesa regular tax NOL that may be used to offset their ordinary income in the year 2001 and an alternative tax net operating loss (“ATNOL”) that may be carried back to offset the income realized in 2000on Pavlosky’s exercise ofthe ISO is foreclosed by our recent opinion in Merlo v. Commissioner of Internal Revenue , 492 F.3d 618 (5th Cir. 2007). In rejecting the claim of the taxpayer in Merlo that he was entitled tocarry back the loss he incurred when his incentive stock subsequently became worthless, we explained that once the taxpayer exercised his ISO, he began holding the stock he acquired as a capital asset. 492 F.3d at 623. As such, the loss he incurred in the following year was a capital loss. I d. We consequently held that, under the applicable Code provisions, the capital loss incurred by the taxpayer in Merlo did not give rise to a NOL or ATNOL that could be carried back to offset the AMT he realized upon the initial exercise of his ISO. I d. at 623–24. Our holding in Merlo is dispositive ofTaxpayers’ similar attempt in theNo. 06-20896

1 Sections 56(b) and 56(b)(3) provide: (b) Adjustments applicable to individuals.—In determining the amount of the alternative minimum taxable income of any taxpayer (other than a corporation), thefollowing treatmentshall apply (in lieu of the treatment applicable for purposes of computing the regular tax):

. . . . (3) Treatment of incentive stock options.—Section 421 shall not apply to the transfer ofstock acquired pursuant to the exercise of an incentive stock option (as defined in section 422)

. Section 422(c)(2) shall apply in any case wherethedisposition and the inclusion for purposesofthis part are within the same taxable year and such section shal l not apply in any other case. T he adjusted basis of any stock so acquired shall be determined on the basis of the treatment prescribed by this paragraph. I.R.C. §§ 56(b), (b)(3) (emphasis added). 5 instant case to carry back the capital loss they incurred on the sale of their incentive stock in 2001. Additionally, Taxpayers’ assertion that their case is distinguishable from Merlo because, unlike the taxpayer there, they made a disqualifying disposition, within the meaning of I.R.C. §§ 421 and 422, of the stock they acquired upon Pavlosky’s exercise of the ISO is meritless. The exercise of an ISO is not a taxable event for regular tax purposes. I d. § 421. Section 421, however, does not apply for purposes of the AMT, and, thus, the exercise of an ISO is a taxable event for AMT purposes. 1 I.R.C. § 56(b)(3); Merlo, 492 F.3d at 621. If a taxpayer makes a disqualifying disposition under I.R.C. § 422 of his incentive stock because hefailstomeet the holding period requirements, hewill realize ordinary income, as opposed to a capital gain, f or regular tax purposes, in the year the disposition occurs. I.R.C. § 421(b). As indicated above, however, section 421 does not apply for purposes ofthe AMT, and the special rule ofI.R.C. § 422(c)(2), allowing for losses sustained from a disqualifying disposition of incentive stockNo. 06-20896

6 to offset the gross income includible from the exercise ofthe ISO, applies in the AMT context only where theexerciseo f the ISO and the disqualifying disposition

occur in the same taxable year “and such section shall not apply in any other case.” Id. § 56(b)(3); see supra n.1. In the instant case, Pavlosky exercised his ISO in 2000, and Taxpayers made their claimed disqualifying disposition of the incentive stock in 2001. It therefore follows that neither I.R.C. § 421 nor I.R.C. § 422 has any application in thiscasefor purposesofcomputing Taxpayers’ AMT. Accordingly, Taxpayers’ reference to these provisions provides no basis to distinguish our decision in Merlo that a capital loss realized with respect to stock acquired pursuant to the exercise of an ISO does not give rise to a NOL or AT NOL that can be carried back to offset the AMT realized on the exercise of the option. 492 F.3d at 623–24. III. CONCLUSION For the foregoing reasons, we AFFIRM the district court’s judgment.