T.C. Memo. 1997-510

UNITED STATES TAX COURT

BERNHARD F. AND CYNTHIA G. MANKO, Petitioners v

. COMMISSIONER OF INTERNAL REVENUE, Respondent

Docket No. 26025-93. Filed November 12, 1997.

Irwin S. Meyer and Herbert Stoller , for petitioners.

Lawrence L. Davidow

, Roland Barral

, Kevin M. Curran , and

Louis A. Ramunno , for respondent.

MEMORANDUM OPINION

JACOBS, Judge : This case is presently before this Court on

petitioners' motion for partial summary judgment.

This case involves deficiencies, additions to tax, and

additional interest w ith regard to petitioners' Federal income- 2 -

taxes for 1979 through 1983. Respondent's principal basis for the

deficiencies is the disallowance of claimed deductions for losses

and interest expense on straddles and Government security

repurchase ag reements entered into by Bernhard F. Manko

(petitioner) both directly and through Arbitrage Management

Investment Co. (Arbitrage Management) and related entities.

I. Background

In Manko v. Commissioner

, T.C . Memo. 1995-10 (Manko I), we

held that: (1) Respondent made a blanket settlement offer to all

Arbitrage Management investors; (2) petitioners accepted the offer;

and (3) respondent and petit ioners reached a binding settlement

agreement no later than January 21, 1988. In re aching this

conclusion, we foun d that pursuant to this settlement agreement,

the Internal Revenue Service (IRS) would: (1) Allow the deduction

of 20 percent of the challenged losses (or, at the taxpayer's

option, out-of-pocket cost plus 15 percent); (2) eliminate capital

gains in an amount commensurate with the disallowed losses; and (3)

forgo the assertion of penalties. Manko I involved tax year 1978.

II. The Parties' Pleadings

Petitioners filed the petition herei n on December 10, 1993,

and, except for further pleadings, the case was held in abeyance

pending the Court's decision in Manko I. On February 22, 1996,

petitioners filed a motion for partial summary judgment requesting

the Court to determine that there was a bin ding settlement- 3 -

agreement between respondent and petitioners, and that the

settlement terms (1) allowed them to deduct 20 percent of the

Arbitrage Management losses and expenses and to exclude 80 percent

of the Arbitrage Manageme nt gains they reported on their 1979-83

returns, and (2) precluded respondent from imposing any additions

to tax (including fraud), other than additional interest.

On April 25, 1996, respondent filed a notice of objection

contending that this Court's findings in Manko I related only to

petitioners' 1978 tax year and not to the years involved herein,

which were not docketed at the time of the settlement. Respondent

also contended that Manko I did not affect the applicability of the

fraud additions to tax herein because respondent had not determined

fraud for 1978 (and the Court in Manko I could not have intended to

eliminate the fraud additions for 1982 and 1983). On brief,

respondent further argued that: (1) Res pondent did not authorize

his representatives to settle non docketed years; and (2)

petitioners are bound by the finding of the U.S. District Court for

the Southern District of New York in a 1991 criminal case involving

petitioner, which stated that there was no settlement between

petitioners and respondent for petitioners' 1982 or 1983 tax years.

On May 1, 1996, petitioners filed a reply to respondent's notice of

objection.

T he Court held a hearing on September 9 and 10, 1996, with

regard to petitioners' motion for partial summary judgment.- 4 -

1 The notice of deficiency also made adjustments for

items unrelated to petitioner's interest in the partnerships,

including an adjustment for unreported interest income for 1980.

These unrelated issues have not been resolved. III. The Case Herein (Manko II)

Respondent determined deficiencies in petitioners' Federal

income taxes, additions to tax, and additional interest as follows:

Additions to Tax and Additional Interest

Sec. Sec. Sec. Sec. Sec. Sec. Sec.

Year Deficiency 6653(a) 6653(a)(1) 6653(a)(2) 6653(b)(1) 6653(b)(2) 6661 6621(c)

1979 $2,676,752 $133,838 --- --- --- ---

--- 2

1980 1,926,696 96,335 ---

--- --- --- --- 2

1981 2,284,248 --- $114,212 1

--- --- --- 2

1982 1,794,143 --- 89,707 1 $897,072 1 $448,536 2

1983 1,649,568

--- 82,478 1 824,784 1 412,392 2

1 50 percent of the interest due on the deficiency.

2 120 percent of the interest due on the entire deficiency. Pursuant to the

Tax Reform Act of 1986, Pub. L. 99-514, sec. 1511(c)(1), 100 Stat. 2744, former

sec. 6621(d) was redesignated as sec. 6621(c).

For 1982 and 1983, the negligence additions to tax were imposed

with respect to the liability of Cynthia G. Manko, and the fraud

additions to tax were imposed with respect to the liability of

petitioner. 1

All section references are to the Internal Reven ue Code in

effect for the years under consideration, unless otherwise

indicated. All Rule references are to the Tax Court Rules of

Practice and Procedure.

The primary issue for decision is whether the settlement

agreement applicable to petitioner's Arbitrage Management gains and

losses in 1978 (Manko I) is likewise applicable to his Arbitrage

Management gains and losses for the years in issue, 1979 through- 5 -

1983. In other words, we must determine whether the blanket

settlement offer that petitioners accepted was an offer to settle

an issue (i.e., the deductibility of Arbitrage Management losses)

or a specific taxable year.

Some of the facts have been stipulated and are found

accordingly. The stipulation of facts and the attached exhibits

are incorporated herein by this reference. We also incorporate

herein the facts enumerated in Manko I. For a better understanding

of this case, we repeat a portion of those facts.

Petitioners resided in Lighthouse Point, Florida, at the time

they filed their petition. They timely filed joint Federal income

tax returns for 1979 through 1983.

A. Arbitrage Management

Arbitrage Management began operations in the mid-to-late

1970's. From 1978 through 1981, Arbitrage Management dealt

primarily in the acquisition of straddle positions in U.S. Treasury

bill options. Beginning in 1982, Arbitrage Management dealt

primarily in the acquisition of U.S. Government securities financed

by repurchase agreements.

Petitioner served as a principal of Arbitrage Management and

a general partn er of limited partnerships that invested in

Government securities acquired through Arbitrage Management

(Arbitrage Management partnerships). On their 1978 through 1983

tax returns, petitioners deducted petitioner's distributive shares- 6 -

of losses from Arbitrage Ma nagement partnerships. The deductions

regarding 1978 through 1983 played a role in the settlement

negotiations.

B. Arbitrage Management Negotiators

Theodore Kletnick, an attorney in respondent's North Atlantic

Re gional Counsel Office, served as respondent's lead counsel in

Arbitrage Management se ttlement negotiations. Howard Berman, an

attorney in respondent's New York City District Counsel Office,

assisted Mr. Kletnick in Arbitrage Management settlement

negotiations from 1987 through 1990.

On January 15, 1987, this Court held a pretrial conference

with respect to Arbitrage Management case s. At that conference,

the Court designated John S. Nolan, Barbara T. Kaplan, and Hugh

Janow to serve as lead counsel for Arbitrage Management partners in

subsequent Arbitrage Management settlement negotiations.

C. Arbitrage Management Negotiations

The Court assigned the negotiators the task of either

negotiating a settlement for Arbitrage Management cases or

selecting one or more Arbitrage Management test cases for

litigation. Negotiations began in the spring of 1987.

D. Settlement Agreement

On January 6 , 1988, the negotiators informed the Court that

they had reached a "tentative settlement agreem ent". The

negotiators advised the Court that a few of the individual partners- 7 -

would litigate their cases. A letter from Mr. Kletnick to Mr.

Nolan dated January 12, 1988, states:

On De cember 22, 1987 we met and reached an

agreement as to a method of resolving the cases

involved in this project. This settlement

methodology is operative so long as there is no

material deviation from our understanding that

we are splitting the tax stakes on an 80-20

basis (or cash plus 15 percent). Your letter

dated December 29, 1987 accurately reflects the

settlement meth odology, except for the basis

adjustment and limit.

Pursuant to this agreement, the IRS would: (1) Allow the deduction

of 20 percent of the challenged losses (or, at the taxpayer's

option, out-of-pocket cost plus 15 percent); (2) eliminate capital

gains in an amount commensurate with the disallowed losses; and (3)

forgo the assertion of penalties.

On January 15, 1988, Mr. Kaplan hand-delivered to Mr. Kletnick

a letter that states:

The following named Tax Court petitioners have

agreed to accept the settlement offered by the

Internal Revenue Service to partners in

A rbitrage Management Project partnerships and

as des cribed in letters to you from John S.

Nolan, Esq. of Miller & Chevalier, dated

December 29, 1987 and January 7, 1988,

respectively (copies attached).

The letter lists approximately 135 Arbitrage Management partners,

including petitioner, by name and docket number. The docket number

listed for petitioner covers tax year 1978 only. The letter

further states: "we understand that a petitioner's acce ptance of

this settlement offer also consti tutes an acceptance of the s ame- 8 -

settlement terms for any Arbitrage Management partnership in which

the petitioner invested for all partnership yea r s ." (Emphasis

added.) The January 15, 1988, letter essentially covered taxpayers

who had only do cketed cases as well as taxpayers who had both

docketed and nondocketed cases. Ms. Kaplan included with this

letter a copy of a letter from Mr. Nolan to Mr. Kletnick, dated

December 29, 1987, that describes the blanket settlement offer that

the partners accepted.

On January 21, 1988, Mr. Kletnick sent the Court a letter that

states: " Enclosed herewith are copies of listings of cases

forwarded to this office ref lecting acceptance of the Service's

settlement offer." Petitioner's name and 1978 docket number are

included on that list. The January 21, 1988, letter was signed by

Mr. Kletnick on behalf of Agatha L. Vorsanger, Regional Counsel.

On February 25, 1988, Messrs. Kletnick and Nolan and Ms.

Kaplan attended another pretrial conference before the Court. At

that conference, Mr. Nolan stated that "we were able to reach a

basis of settl ement with Mr. Kletnick, and we have communicated

that to all of the partners in the Arbitrage Management

partnerships." The parties advised the Court that they had settled

all or virtually all of the Arbitrage Management partnership cases,

and that they believed it unlikely that they would require a trial.

Messrs. Nolan and Janow and Ms. Kaplan understood that their jobs

were done and asked to be relieved of their responsibilities as- 9 -

lead counsel. The Court t hen discharged them from their

responsibilities as lead counsel.

A letter from Mr. Berman to Ms. Kaplan dated April 21, 1988,

states:

Enclose d please find a copy of an Internal

Revenue Service Me morandum, dated April 1,

1988, concerning the Arbit rage Management

("AMIC") settlement position. Mr. Kletnick has

agreed that you or any taxpayer who invested

through AMIC may use this memo when attempting

to have an Arbitrage Management s tatutory

notice rescinded.

The attached Internal Revenue Memorandum, dated April 1, 1988, sent

to all IRS offices from Regional Counsel, North Atlantic Region (Ms.

Vorsanger), states in pertinent part:

We have received authorization to disseminate settlement

guidelin es with respect to Arbitrage Management

Investment Company cases. The basic agreement is that

the taxpayers are entitled t o 20 percent of the tax

stake, or c ash + 15 percent if greater. The Service is

entitled to 80 percent. A proper allocation by year is

required. Within this basic agreement, we have devised

the m ethodology, outlined below, which is different for

individual investor and partnership case.

* * * * * * *

Pena lties described in I.R.C. Sections 6653, 6659 will

not be imposed.

E. Implementation of the Settlements

Although the parties had settled the issue of the deductibility

of the Arbitrage Management losses, the settlements still needed to

be implemented. Under the settlements, most taxpa yers had

deficienc ies in earlier years and overpayments in later years.- 10 -

Arbitrage Management partners emphasized that they wanted respondent

to establish a procedure whereb y the IRS could process the

deficiency and overpayment years at the same time, so that the

taxpayers could pay a net amount.

After the February 25, 1988, pretrial conference, Mr. Kletnick

sent the Court quarterly status reports of the Arbitrage Management

cases. The reports described the progress of the IRS in developing

settlement implementation procedures regarding all tax years

individuals invested in Arbitra ge Management. For instance, an

October 24, 1988, status report sent t o the Court states in

pertinent part:

The settlement implementation procedures,

with respect to individuals who were partners

in TEFRA partne rships, are currently being

considered by the Office of Chief Counsel in

Washington, D.C. As you well know, the parties

had agreed to resolve all of the years which

were in disput e as a result of an individuals

[sic] "investment" in AMIC. In many cases this

involves settling a taxpayer's 1978 through

1987 years. It has been estimated by the

Examination Divisio n of the Internal Revenue

Service that this settlement will affect over

800 partnerships and 9,000 individual tax

returns. [Emphasis added.]

Moreover, i n a January 30, 1989, status report, the Court was

notified that: "the settlement implementation procedures, with

respect to individuals who were partners in TEFRA partnerships, have

been approved and issued by the Office of Chief Counsel in

Washington, D.C." The status reports did not suggest that the IRS- 11 -

was continuing to contemplate the preliminary question of whether

to permit deductions for Arbitrage Management losses.

Respondent's counsel and Arbitrage Management partners' counsel

eventually agreed upon a form of closing agreement to settle the

cases. A December 21, 1989, letter from Mr. Nolan to Mr. Kletnick

states:

I am writing to you on behalf of two

groups of partners that retained Miller &

Chevalier and Saltzman & Holloran to negotiate

a settlement for their Tax Court cases. At

long la st, it is my pleasure to enclose with

this letter a copy of the standard language

for Form 906 closing agreements that we

anticipate the Internal Revenue Service will

offer to all of the partners in the following

Arbitrage Management partnerships

* * * * * * *

It is our understanding that the attached

language will be used to resolve the Arbitrage

Management issues for all partners (whether or

not they belong to one of the two groups we

represent) and for all years ( whethe r or not

they are docketed in the Tax Court ).

* * * * * * *

As you know, a Form 906 closing agreement

is a final determination covering specific

matters, and has no effect on matters that are

not discussed in the language of the

agreement. This is particularly important in

this case because the settlement we reached

for Arbitrage partners resolves the amount of

taxable income, deductions, gains and losses

from the Arbitrage partnerships for all

taxable years (past, present and future).

[Emphasis added.]- 12 -

Attached to the December 21, 1989, letter is a Sample Language for

Closing Agreement (Form 906) which states in relevant part:

WHEREAS, the taxpayer(s) and the

Commissioner wish to determine with finality

all of the federal income tax consequences of

the taxpayer's(s') interest in the

partnership(s) for all taxable years;

NOW IT IS HEREBY DETERMINED AND AGREED

for Federal income tax purposes that:

* * * * * * *

10. * * * no additions to the tax or

penalties shall be imposed with respect to the

taxpayers' interest in the partnership(s),

including the additions and penalties

described in I.R.C. sections 6653, 6659, and

6661.

A "nettin g" provision was also included in the sample closing

agreement.

On December 22, 1989, Mr. Kletnick replied to Mr. Nolan's

letter, stating: "With respect to your letter dated December 21,

1989, as we discussed, our office has forwarded the proposed revised

closing agreement to the National Office and, subject to

administrative approval, we expect its issuance in the next few

days."

Respondent entered into closing agreements with many Arbitrage

Management partners. Respondent, however, refused to enter into a

closing agreement with petitioner with regard to any relevant year

(i.e., 1978, 1979, 1980, 1981, 1982, or 1983).- 13 -

F. Petitioner's Criminal Proceedings

In 1986, approximately 2 years before Mr. Kletnick drafted the

letter confirming the settlement, a criminal investigation int o

petitioner's Arbitrage Management activities was in progress. Mr.

Kletnick is unsure of when he learned of the criminal investigation,

but believes it to be early 1987. Petitioners' negotiators knew of

the possibility of a cr iminal investigation as of December 1987.

The criminal charges against petitioner re lated to the repurchase

(repo) transactions entered into by certain Arbitrage Management

partnerships during 1982 and 1983. The primary issue in the criminal

trial was whether the repo transactions were fraudulent.

During the criminal trial in the U.S. Dis trict Court for the

Southern District of New York, petitioner sought to in troduce

evidence that respondent had settled the civil tax claims against

peti tioner and that these claims were based on the same facts and

theory as the criminal charges. Petitioner asserted that the

settlement constituted an admission by the Government that

petitioner was at least partially justified in deducting the losses

that were claimed to be fraudulent in petitioner's criminal trial.

The Government objected to the admission of evidence of the

s ettlement on the grounds that: (1) Respondent had not in fact

settled his c ivil tax claims against petitioner; and (2) even if

respondent had entered into such a settlement, evidence of the- 14 -

settlement was inadmissible under rule 408 of the Federal Rules of

Evidence.

Following argument on the relevance and admissibility of

evidence of the alleged settlement, the District Court, relying on

Eck lund v. United States , 159 F.2d 81 (6th Cir. 1947), held that

ev en if the evidence showed that the Government had settled its

civil claims with petitioner, proof of the settlement was

inadmissible under rule 408 of the Federal Rules of Evidence.

Never theless, the District Court held a hearing on December 20,

1990, in the absence of the jury for the purpose of determining

whether the civil tax case of petitioner had been settled with

respondent. Mr. Nolan and Ms. Kaplan testified at the criminal

hearing on behalf of petitioner, and Mr. Kletnick testified on

behalf of the Government, offering contradicting testimony. The

record in the criminal hearing included Mr. Nolan's letters of

December 29, 1987, and Januar y 7, 1988, Ms. Kaplan's letter of

January 15, 1988, and a transcr ipt of the Tax Court pretrial

conference of February 25, 1988. At the conclusion of the hearing,

the District Court, crediting Mr. Kletnick's testimony, found that

no settlement had occurred between respondent and petitioner for

1982 or 1983. In sum, the District Court precluded petitioner from

presenting to the jury evidence that respondent had agreed that

petitioner could deduct 20 percent of his partnership losses both- 15 -

as a matter of fact (the settlement did not exist) and as a matter

of law (if it did, rule 408 barred its admission).

On February 4, 1991, petitioner was convicted on multiple

counts of Federal income tax offenses for years 1982 and 1983 in

violation of section 7206(1) and (2), and conspiracy to defraud the

United States in violation of 18 U.S.C. section 371. Petitioner's

conviction and sentence were affirmed by the U.S. Court of Appeals

for the Second Circuit. U nited States v. Manko , 979 F.2d 900 (2d

Cir. 1992). The Supreme Court denied certiorari. 509 U.S. 903

(1993).

In August 1995, petitioner filed a petition to the District

Court to vacate his conviction, presenting newly discovered evidence

of the settlement; namely, the January 21, 1988, letter. According

to petitioner, this evidence was relevant to prove that the

Government had allowed the deduction of a substantial portion of the

losses that were the subject of the criminal proceeding.

The District Court denied petitioner's motion without a hearing

and affirmed its earlier conclusion that any evidence of the

purported civil set tlements was inadmissible. M anko v. United

States

, 95 Civ. 1611 (S.D.N.Y., Aug. 18, 1995). Petitioner appealed

the District Court's decision. The U.S. Court of Appeals for the

Second Circuit vacated the District Court's denial of petitioner's

motion, and stated:- 16 -

In the present case, we conclude that the

district court abused its discretion insofar

as it based its decision to exclude the IRS

settlement upon its conclusion that Rule 408

barred the evidence of the IRS settlement from

Manko's criminal trial. Despite Manko's

assertions to the contrary, however, we cannot

conclusively determine on this record that a

new trial is warranted. On remand, the

district court must first determine whether,

but for its misinterpretation of Rule 408, it

would have admitted the relevant evidence of

the settlement. In this regard, the district

court should consider whether it would have

admitted or excluded the evidence under Rule

4 03 of the Federal Rules of Evidence, taki n g

into accoun t any need by the government to

explain how a settleme nt for less than the

full amount of the claimmight be consistent

with its view that the defendant was

criminally responsible for the amount of the

fraud alleged in the criminal prosecution.

Thus, if the district court determines that

the government knew, or should have known, of

Kletnick's January 21, 1988 letter that

indicated the falsity of his testimony, the

suppression of the letter by the government

was constitutional error if there is a

"reasonable probability" that, had the letter

b een disclosed to the defense, the result of

the proceedings would have been different.

Kyles v. Whitley

,

___ U.S.

___, ___, 115 S.Ct.

1555, 1566, 131 L.Ed.2d 490 (1995); see

Wallach

, 935 F.2 d at 456. To this end, the

district court must ask whether "the

Government's evidentiary suppression

'undermines confidence in the outcome of the

trial.'" Kyles , ___ U.S. at ___, 115 S.Ct. at

1566 (quoting United St ates v. Bagley , 473

U.S. 667, 678, 10 5 S.Ct. 3375, 3381, 87

L.Ed.2d 481 (1985)). If, on the other hand,

the district court concludes that the

prosecution was unaware of the letter and its

failure to disclose it was inadvertent, a new- 17 -

trial is required only if "'t h e court [is

left] with a f irm belief that but for [the

erroneous exclusion], the defendant would most

likely not have been convicted.'" W allach

, 935 F.2d at 456 (quoting Sanders v. Sullivan

, 863 F.2d 218, 226 (2d Cir. 1988)). We leave

this, and any other remaining issues as to the

effect of nondisclosure, to the judgment of

the district court.

Manko v. United States

, 8 7 F.3d 50, 55 (2d Cir. 1996). As of the

release date of the opinion in this case, the District Court has not

rendered its decision.

G. Respondent's Suspension Letter

On June 22, 1988, Mr. Kletnick sent petition er a letter

(suspension letter) stating that, at the request of the U.S.

Attorney 's Office, the IRS was "suspending consideration of the

settlement" of petitioner's case unti l September 30, 1988.

Petitioner's counsel understood this letter only to mean that the

implementation of the settlement was deferred. Mr. Kletnick never

received a response to the suspension letter.

Prior to the issuance of the suspension letter, the IRS had

never treated the settlement of petitioner's case any differen tly

than the settlement of cases of the other Arbitrage Management

partners. Nor did the IRS ever advise petitioner that respondent

would treat petitioner's distributive share of Arbitrage Management

partnership losses as a nonpartnership item. At no time during the

settlement negotiations that preceded Ms. Kaplan's January 15, 1988,- 18 -

acceptance letter did any IRS representative inform Mr. Nolan, Mr.

Janow, or Ms. Kaplan that respondent's settlement offer to the

Arbitrage Management partners excluded petitioner.

IV. Discussion

The main issue we must herein determine is whether the

se ttlement terms were intended to apply to Arbitrage Management

transactions for petitioners' 1979 through 1983 tax years.

Rule 121 provides for summary judgment on legal issues in

contr oversies where there is no genuine issue of material fact.

Commercial Union Ins. Co. v. McKinnon

, 10 F.3d 1352, 1354 (8th Cir.

1993); S undstrand Corp. & Consol. Subs. v. Commissioner

, 98 T.C

.

518, 520 (1992), affd. 17 F.3d 965 (7th Cir. 1994); N aftel v.

Commissioner

, 85 T.C. 527, 528-529 (1985); Jacklin v. Commissioner

,

79 T.C. 340, 344 (1982). A fact is material if it "'tends to

resolve any of the issues that have been properly raised by the

parties.'" B oyd Gaming Corp. v. Commissioner , 106 T.C. 343, 347

(1996) (quoting 10A Wright et al., Federal Practice and Procedure:

Civil, sec. 2725, at 93 (2d ed. 1983)). Partial summary judgment

that does not dispose of all issues m ay be sought and granted.

Elkins v. Commissioner

, 81 T.C. 669, 674 (1983). The burden is on

the moving party to show that it is entitled to summary judgment and

that the matter may be decided on the basis of the evidence before

this Court. E spinoza v. Commissioner

, 7 8 T.C. 412, 416 (1982);- 19 -

Gulfstream Land & Dev. Corp. & Subs. v. Commissioner

, 71 T.C. 587,

596 (1979). Summary judgment is intended to expedite litigation and

avoid unnecessary and expensive trials. F lorida Peach Corp. v

.

Commissioner , 90 T.C. 678, 681 (1988).

We discussed in Man ko I the nature of, and requirements for,

bi n ding settlement agreements. Essentially, the compromise and

settlement of tax cases is governed by general prin ciples of

c ontract law. D orchester Indus., Inc. v. Commissioner

, 108 T.C.

320, 330 (1997).

A. Scope of the Settlement Agreement

The evidence clearly estab lishes that there was one blanket

settlement between respondent and petitioners (that respondent

offered to all Arbitrage Management investors in De cember 1987)

encompassing all years (both do cketed and nondocketed) in which

petitioners claimed Arbitrage Management partnership loss

deductions. It was a package settlement. The settlement resolved

an i ssue (i.e, the deductibility of Arbitrage Management lo sses)

rather than a specific taxable year. Moreover, the offer was

available to petitioners, who were members of a class to whom the

offer was extended, on the same terms that were available to all

other Arbitrage M anagement investors. Petitioners accepted the

blanket settl ement offer referred to in Ms. Kaplan's January 15,

1988, acceptance letter. That letter clearly stated that the- 20 -

2 We note that even respondent's counsel conceded that

(continued...) acceptances were based on the understan ding that the settlement

offer was applicable as a package to all years in which taxpayers

had Arbitrage Management investments. Settlement offers made and

accepted by letters have been enforced as binding agreements. See,

e.g., Haiduk v. Commis sioner , T.C. Memo. 1990-506. Petitioners

reached the settlement agreement, which we conclude under the

circumstances of this case is a binding contract, no later than

January 21, 1988. See, e.g., R obbins Tire & Rubber Co. v.

Commissioner , 52 T.C. 420, 435-436 (1969).

The joint status reports to the Court after the January 1988

settlement confirmed the parties' understanding that the settlement

offer applied to both docketed and nondocketed years. In addition

to the documentary evidence, Mr. Nolan, Ms. Kaplan, and Mr. Janow

also testified that the Arbitrage Management sett lement was

intended to apply to all years in which there were Arbitrage

Management investments, both docketed and nondocketed. Messrs.

Kletnick and Berman also testified to this effect ("we agreed to

structure the settlement to encompass all years." "The basis for

settlement acceded to Mr. Nolan's request that it cover all years.

* * * What the nego tiators wanted was a general framework that

e ncompassed all years and we agreed to that."). 2 Assuming Mr.- 21 -

2 (...continued)

the Arbitrage Management settlements were intended to apply to

all years in which there were Arbitrage Management investments.

William L. Blagg, one of respondent's counsel in Manko v.

Commissioner , T.C. Memo. 1995-10, made the following comments

during that trial:

MR. BLAGG: All that we wish to clarify is

that the hearing only covered the years 1982

and 1983 and the letter that is -- the

January 21st letter only deals with the

docketed cases, which did not include the

years 1982 and 1983.

* * * * * * *

THE COURT: But the settlement, as I

understand it, relates to all the years,

docketed and nondocketed, for everybody else.

Is that not correct?

MR. BLAGG: But the settlement is negotiated

on -- the testimony has been that the

settlement was negotiated on that basis;

that's correct.

THE COURT: Right. And you have reason to

believe it wasn't?

MR. BLAGG: No, I do not.

3 Mr. Kletnick testified that he was unaware that the

list enclosed with his Jan. 21, 1988, letter to the Court

(continued...) Kletnick did not believe th at petitioners were covered under the

settlement agreement for all years in which they claimed Arbitrage

Management partnership loss deductions, this is nowhere reflected

in the terms of the agreement. In sum, the blanket settlement

offer that petitioners accepted 3 was an offer to settle a ll years- 22 -

3 (...continued)

included all of the Arbitrage Management investors referred to in

Ms. Kaplan's Jan. 15, 1988, acceptance letter. He testified that

he mistakenly believed that the list included only Arbitrage

Management investors who had accepted guideline settlement offers

sent to them individually. We are not persuaded. There is no

suggestion that Mr. Kletnick was misled in any way, and a

unilateral error of counsel, in the absence of misrepresentation

by the adverse party, is not a sufficient ground to vacate a

settlement agreement. See Stamm Intl. Corp. v. Commissioner , 90

T.C. 315 (1988). in which petitioner had Arbitrage Management investments, whether

o r not those years were docketed. (We note that if the offer

applied only to the docketed years, the parties could have simply

filed a decision document. They did not do so.)

Moreover, all essential settlement terms were agreed upon no

later than January 1988 (i.e., deduction of 20 percent of the

chall enged losses allowed; capital gains eliminated in amounts

commensurate with disallo wed losses; and no assertion of

penal ties). The concept of "netting" was also agreed to by the

parties. Respondent, however, contends that the settlement

negotiations vis-a-vis petitioners were suspended before agreement

was reached on the netting issue, an essential term. Respondent

argues that the suspension letter was sent to petitioners in June

1988 and final agreement on language of a netting provision to be

included in a closing agreement was not reached until December

1989.- 23 -

4 The reports Mr. Kletnick sent to the Court after the

Feb. 25, 1988, pretrial conference confirmed his understanding

that settlements had been reached. And Mr. Nolan's letters to

Mr. Kletnick reflected the same understanding. For example, one

letter stated: "Thank you for meeting with us yesterday to

discuss the procedural difficulties that are delaying

implementation of the settlement agreement that we reached in

January and announced to Judge Jacobs in February." We disagree. The parties intended to and did in fact reach

agree ment on all essential terms for multiple years when

petitioners accepted respondent's blanket settlement offer in

January 1988. The settlement terms were clear. Cf. Nelson Bros.,

Inc. v. Commissioner

, T.C. Memo. 1991-52. The offer included an

understanding that netting would be allowed, whereby taxpayers who

accepted the offer would be allowed to make one payment of the net

amount owed instead of being required to pay earlier year

deficiencies and wait for later year refunds. Although the manner

in which the netting would be accomplished was not finally reduced

to writing until December 1989 (as we held in Manko I), that was

only a matter of implementing the settlement that had been reached

when the blanket settlement offer was accepted in January 1988. 4

In sum, we hold that all of the evidence before us indicates

that: (1) The settlement covered all years in which petitioner had

Arbitrage Management investments, docketed and nondocketed,

including the years in issue; and (2) all essential settlement

terms, including the agreement to apply overpayments against- 24 -

deficiencies (netting), were agreed upon no later t han January

1988. Accordingly, the parties are bound by the settlement

agreement.

B. Absence of Closing Agreement Inconsequential

Respondent contends that a closing agreement is necessary for

settling nondocketed years. Accordingly, respondent continues, the

absence of a properly executed closing agreement herein indicates

that a settlement of petitioners' 1979-83 tax years (which were not

docketed at the time the settlement was made) did not occur.

We disagree. Sections 7121 and 7122 do not require a closing

agreement form to settle a case pending before this Court. See,

e.g., Lamborn v. Commissioner

, T.C. Memo. 1994-515; Haiduk v.

Commissioner

, T.C. Memo. 1990-506. Petitioners' 1978 tax year was

docketed at the time of settlement. Although petitioners' 1979-83

tax years were not docketed at the time of settlement, the

deficiencies for those years related to the same investment to

which the deficiency for 1978 related. Moreover, section 301.7121-

1(d)(1), Proced. & Admin. Regs., provides that a request for a

closing agreement m ay be made at any time "before a case with

respect to the tax liability involved is docketed in the Tax Court

of the United States." However, a closing agreement is not a

prerequisite for a va lid settlement. Although we believe the

settlement for the years involved in this case should have been- 25 -

5 Sec. 7851(b)(3); Treas. Dept. Order No. 150-32, 1953

CCH par. 3592, 1953 P-H par. 76,756; Treas. Dept. Order No. 150-

36, 1954-2 C.B. 733. implemented by a closing agreement, respondent refused.

Nevertheless, a binding settlemen t existed because the parties

intended such an agreement.

C. Settlement Offer That Petitioners Accepted in January 1988

Was Properly Authorized

Respondent argues that the settlement with petitioners is not

binding because Mr. Kletnick was not authorized to settle

nondocketed years. Under section 7121 a taxpayer may enter into an

agreement with the Secretary relating to the taxpayer's liability

f or any internal revenue tax for any period, and such a cl osing

agreement will be final and conclusive in the absence of fraud,

malfeasance, or misrepresentation of a material fact . The

Secretary has delegated to the Commissioner the authority to enter

into such closing agreements. 5 Paragraph 2 of Delegation Order No.

97 (Rev. 27), effective October 31, 1987, Handbook of Delegation

Orders, Internal Revenue Manual, amended and supplem ented by

Delegation Order No. 225 (Rev. 1), 52 Fed. R eg. 13008 (Apr. 20,

1987), authorizes Associ ate Chief Counsels to enter into and

approve agreements "with any person * * * for a taxable period or

periods ended prior to the date of agreement". That authority is

not limited to docketed years. Paragraph 4 of the Delegation Order- 26 -

6 The following colloquy took place between the Court and

Mr. Berman during the trial of the case herein:

THE COURT: And how did that breakthrough

come about? Did the national office,

specifically Mr. Keightley, in any way

influence the breakthrough?

THE WITNESS (Berman): My recollection, your

(continued...) authorizes Regional Counsels in nondock eted cases to enter into

agreements with tax payers. Paragraph 5 of the Delegation Order

authorizes Regional Counsels in docketed cases under their

jurisdiction "to enter into and approve written agreements with any

person relating to the Internal Revenue tax liability of such

person * * * in respect to related specific items affecting other

taxable periods ." (Emphasis added.)

It is clear from both the documentary evidence and the

testimony of Messrs. Kl etnick and Berman that the settlement

agreement and terms thereof were autho rized by respondent's

National Office. The decision to make a blanket settlement offer

was made by James J. Keightley, responden t's Associate Chief

Counsel (Litigation), who instructed that it be made. His

instruction was "flown through" Agatha Vorsanger, respondent's

North Atlan tic Regional Counsel, and Mr. Kletnick confirmed the

s ettlement to this Court in the name and on beha lf of Ms.

Vorsanger. 6 Pursuant to Delegation Order No. 97, both Ms.- 27 -

6 (...continued)

Honor, is that neither Mr. Kletnick nor I

were particularly fond of settling the socalled repo years, but that the decision was

made in Washington, I believe by Mr.

Keightley, that it would be in the

government's interest, for whatever reason,

to enter into that settlement and we were --

would enter into a settlement with respect to

those years, that we were instructed,

accordingly, to do so.

THE COURT: And you were instructed by your

supervisors?

THE WITNESS: We were instructed by the

national office, again, I believe by Mr.

Keightley, and that would have then flown

through the regional office to Mr. Kletnick

and then down to myself. Vorsanger and Mr. Keightley were authorized to settle with all

Arbitrage Management investors, including petitioners.

Mr. Kletnick's role w as to advise the Arbitrage Management

taxpayers' lead counsel of the blanket set tlement offer and its

terms. Similarly, Mr. Kletnick's January 21, 1988, letter to this

Court confirming acceptance of the blanket settlement offer did not

purport to be on his ow n authority. The letter expressly stated

that it was on authority of " Agatha L. Vorsanger, Regional

Counsel".

The testimony before us supports our conclusion that the

settlement offer was properly authorized. Mr. Kletnick testified- 28 -

th at "the basis for settlement was ultimately approved by the

National Office", and Mr. Berma n testified that "I believe

authority was received [from the National Office] sometime in

December of 1987." Mr. Kletnick also testified that he was

instructed by Mr. Keightley to make the settlement offer.

In sum, the blanket settlement offer was properly authorized

by officials of the IRS who we note also had authority to enter

into closing agreements. It was made on instructions of Associate

Chief Counsel Keightley. Petitioners' acceptance was confirmed to

this Court by Regional Counsel Vorsanger.

D. Settlement Agreement Terms Included Respondent's Agreement

To Forgo Fraud Additions to Tax

Responde nt argues that he may assert the fraud additions to

tax against petitioner because the imposition of these additions is

simply an "outgrowth" of petit i oner's criminal conviction. We

disagree. Respondent agreed as part of the settlement to forgo the

assertion of penalties and additions to tax. The settlement terms

cl early included an agreement that respondent would not assert

additions to tax under "IRC section 6653"; that is the only section

under which the fraud additions could be imposed for the years in

issue. We give full effect to this specific settlement term.

We further believe that at the time of the settlement,

re spondent did not intend to treat petitioner's case differently- 29 -

from the cases of other Arbitrage Managem ent partners, and

respo ndent did not impose fraud additions on the other Arbitrage

Management partners. Moreover, Mr. Kletnick acknowledged that he

was aware of the Arbitrage Management criminal investigation at the

tim e of the settlement; nevertheless, respondent chose to settle

with petitioners. As part of the settlement, respondent agreed to

forgo the section 6653 additions to tax . This was a valid

settlement, and once reached, cannot be repudiated by either party.

See Stamm Intl. Corp. v. Commissioner , 90 T.C. 315 (1988). Thus,

we hold that respondent may not assert the fraud additions against

petitioner.

E. District Court's Determination Irrelevant Herein

We reject respondent's contention that petitioners are bound

by the District Court's finding that no settlement was entered into

between respondent and petitioners for 1982 and 1983. The District

Court's decision was superseded by the decision of the U.S. Court

of Appeals for the Second Circuit in Manko v. United States , 87

F.3d 50 (1996), which remanded the case for the District Court to

determine whether the exclusion of settlement evidence de prived

petitioner of a fair trial. The District Court's finding as to the

nonexistence of a settlement has no preclusive effect at this time.

Respondent contends that collateral estoppel applies. We

disagree. Collateral estoppel precludes litigation by parties or- 30 -

their privies, in a later suit on a different cause of action, of

issues of fact and law actually litigated and necessarily decided

by a court in reaching a prior judgment. U nited States v. Mendoza

,

464 U.S. 154, 158 (1984). As we stated in H udson v. Commissioner

,

100 T.C. 590, 593-594 (1993):

For obvious reasons, where a trial

court's judgment is vacated, reversed, or set

aside by an app e llate court, collateral

estoppel will not apply to the trial court's

conclusions of law or findings of fact. * * *

where a trial court's conclusions of law or

its findings of fact are challenged on appeal

and where the appellate court affirms the

trial court's judgment on grounds diff e rent

from those relied upon by the trial court and

does not pass on the trial court's conclusions

of law or findings of fact, collateral

estoppel will not apply to the trial court's

conclusions of law or findings of fact. * * *

The underlying rationale for this

limita t ion on collateral estoppel is that,

where an appellate court does not pass on a

trial court's conclusions of law or findings

of fact with regard to a particular issue that

is appea l ed, the party who lost before the

trial court has not ha d a full and fair

opportunity to litigate, at the appellate

level, the trial court's conclusions of law or

findings of fact. * * * Under this limitation,

where a trial court's conclusions of law or

findings of fact are n ot passed on by the

appellate court, the trial court's conclusions

of law or findings of fact are effectively set

aside, and the trial court's conc lusions of

law or findings of fact cannot be used as the

basis for collateral estoppel in a subsequent

proceeding bet w een the same parties. * * *- 31 -

Here, the District Court's judgment was vacated. Accordingly,

following Hudson v. Commissioner

, supra at 593, collateral estoppel

does not apply to the District Court's conclusions. Moreover, in

vacating the District Court's judgment, the Court of Appeals cast

doubt in particular on the finding that no settlement was reached.

See Manko v. United States , 87 F.3d at 53.

The Court of Appeals concluded that rule 408 of the Federal

Rules of Evidence does not require exclusion of evidence relating

to a civil settlement in a criminal trial, and that the District

Court abused its discretion in holding that evidence of the

settlement was inadmissible as a matter of law. I d. at 55. The

Court of Appeals did not rule on whether a settlement between

pe titioner and respondent existed. To a certain extent, the

District Court's finding on this matter was insulated from review,

owing to the court's reliance on rule 408 of the Federal Rules of

Evidence and the fact that even if such a finding were erroneous,

it might no t entitle petitioner to a new trial in the criminal

case. Thus, because the Court of Appeals did not rule on the

Dis trict Court's finding that no settlement took place, that

fin ding by the District Court cannot be used as the basis for

collateral estoppel herein. See Hudson v. Commissioner

, supra at

593-594. Consequently, for the aforementioned reasons, we reject

respondent's collateral estoppel argument.- 32 -

Accordingly, we shall grant petitioners' motion for partial

summary judgment.

To reflect the foregoing,

An appropriate order will

be issued

.