T.C. Mem o. 2 01 4- 86

UNITED STAT ES TAX COURT
THE MARKELL COMPANY, INC., Peti ti on er v . COMM ISSI ONER OF INTERNAL REVENUE, Resp on de nt

Doc ke t No . 20 55 1- 08
. Fi le d M ay 13 , 20 14
.
Ja sp er Geo rg e Tay lo r, III an d S us anV. Sam pl e, fo r pe ti ti on er. Elai ne Harri s, J ul ie Gasp er, an d Ver on ic a Trev in o, fo r res po nd en t.

MEMORANDUM FINDINGS OF FACT AND OPINION HOLMES, Ju dg e: Thi s ca se be ga n wh enth e Co m mis si on er fo un d t he
rem ai ns of aco rp or at io n o n a n In di anres erv at io n i n a n e xt rem el y rem ot e co rn er o f Utah . The trib e cl ai m edno t t o kno w ho w th e co rp or at io n’s s to ckha d e nd edup in- 2 -

[* 2] it s h an ds . Andth ere was li tt le or n o m on ey or v al uabl e p ro pe rty leftin si de th e co rp or at e sh el l. All si gn s p oi nt edto th e co rp or at io n’s m an ag er, a s op hi st ic at edEastCo as t
m on eym an , as the ke y

pe rs on of i nt eres t. An d h is m etho d was a se rie s o f co m pl ex tra ns act io ns th atbo re a s tri ki ng res em bl an ce t o S on -o f-BOSS de al s al ready ex am in edm an y

ti m es be fo re b y

th is Co urt-- bu t wi th a co rp or at e-p artne r twi st . FINDINGS OF FACT I. Ja m es Habe r The cen tra l p lay er i n t hi s my st ery is James Hab er, a CP A andfou nd er o f Div ers ifi edGroup, In c. (DGI), whe re h e was so le own er, d ire ct or , pre si de nt , and CEO. He was al so th e d ire ct orof He li os Trad in g LLC (Hel io s) . Haberis an ex cep ti on al ly sm artm an , andex cep ti on al ly gift edinde si gn in g c om pl ex tra ns act io ns . A deca de ag o h e d es ig ne d wh athe th ou gh t was a way to us e DGI
an d Hel io s t o s ol ve a ve ry pa rti cu la r ta x p ro bl em : h ow t o u nl oc k t he va lu e lyin g in C co rp or at io ns with l ow b as is incap it al ass et s b y crea ti ng de al s tha t g en erat ed 1
en orm ou s capi ta l l os se s- -lo ss es lar ge en ou gh to off se t the co rp or at e-l ev el tax on
“ C co rp or at io n” is tax jargo n fo r a co rp or at io n g ov ern edun de r th e la ws o f 1 subc hapt er C o f th e In te rn al Rev enue Co de . S cor po rat io ns are g ov ern edun de r th e la ws o f subc hapt er S, an d p artne rs hi ps are g ov ern edun de r th e la ws o f subc hapt er K.- 3 -

[* 3] cap it al ga in s- -an d t he reb y lar ge ly elim in at e co rp or at e-l ev el tax es . He
m ark et edth is pl anas t he “ Opt io n P artne rs hi p S tra te gy” (OPS). The OPS fea tu red
a co nt rib ut io n o f pa ire d o pt io ns by a corp or at io n t o ali mit edli ab il ity co m pa ny th atwas m an ag edby a com pa ny of wh ic h Hab er was pre si de nt . One p artof t he pa ir wa s a s ho rt o pt io n, an d o ne a lo ng . The s ho rt o pt io n, i n a ny reaso nabl e 2
eco no m ic vi ew, is a po te nt ia l l iabi li ty. Bu t Hab er an d t ho se who un de rto ok si mil ar d eal s cl ai m edto ad op t the po si ti on th atth e p ot en ti al li ab il ity of t he sh ort op ti on di d n otoff

se t the po te nt ia l p ay of

f of th e lo ng op ti on , andso co ul d b e ig no redas am at te r of

tax acco un ti ng . Thatwou ld , intu rn , ov ers ta te th e cap it al
co nt rib ut io n an d g iv e th e C co rp or at io n atax be ne fitinth e n atur e o f a b ui lt -in

3 cap it al lo ss on th e sa le of t he C co rp or at io n’s p artne rs hi p i nt eres t. To r eal iz e th e be ne fit , th e C co rp or at io n wo ul d re si gnfro m th e p artne rs hi p, t ak e a tran sf erre d

An o pt io n i s a c on tra ctth atgi ve s i ts bu y er the rig ht , bu t n otth e o bl ig at io n, 2 to bu y or s el l an ass etat apre de te rm in ed“ st rik e” p ric e atso m e p oi ntinth e fu tu re. A sh ort o pt io n g iv es it s b uyer a rig htto sel l the ass et ; a l on g o pt io n g iv es it s b uyer a ri gh t t o b uy the ass et . Fo r pa rtn ers hi p t ax purp os es , each partn er h as bo th a ta x- ba si s an d b oo k- 3 ba si s capi ta l ac co un t. A pa rtn er’s t ax -b as is cap it al acco un t i s i nc reas edor de crea se d d ep en di ng onsp eci fic ad jus tm en ts , su chas the partn er’s i ni ti al co nt rib ut io ns , hi s d is tri bu ti ve sh are o f th e p artne rs hi p’s t ax ab le in co m e o r lo ss , an d a ny dis tri bu ti on s m ad e to hi m . A partne r’s ou ts id e b as is inth e p artne rs hi p c an th enbe cal cu la te d b y

ad di ng hi s s ha re o f li ab il it ie s t o h is tax -b as is cap it al acco un t.- 4 -

[* 4] ba si s inth e se cu rit ie s d is tri bu te d t o i t i n l iqui da ti on of i ts in te res t, an d

4
subs eque nt ly sell th os e as se ts at ahu ge lo ss --al l due to th e o m is si on of t he sh ortle g o pt io n. Marke ll ’s bri ef ad m it s tha t Hab er h adco ns id erab le expe rie nc e wit h t he
se le ct io n, ac qu is it io n, an d m an ag em en t o f Eur op ean -s tyle d ig it al op ti on s. And 5 Hab er was a se ria l d eal m ak er, wh o d idat l eas t 1 2 o f th es e d eal s as th e p res id en t o f DGI an d Hel io s fr om

20 00 -2 00 2. Bu t the se de al s caug htth e at te nt io n o f th e U.S. Att orne y forth e So uthe rnDis tri ctof Ne w York --an d t ho ug h Hab er h as ne ve r be en in di ct edor e ve n m ad e a t arg et , he c ho se to pl eadth e Fi fth du rin g t he tri al of t hi s cas e. II. Marke ll The co rp or at e co rp se inth is cas e is The M ark el l Co m pany, form edby one F.E. Mark el l i n l at e 1 93 4 wi th anin it ia l capi ta l co nt rib ut io n o f $1 ,00 0. Ma rk el l, a wid owe r, ke ptm os t o f th e st oc k i n t he co m pa ny but am en de d t he art ic le s o f The p artne r’s ou ts id e b as is init s p artne rs hi p i nt eres t b eco m es th e p artne r’s 4 ba si s i n the co nt rib ut edpro pe rty. Sec. 73 1. (Un le ss ot he rwis e in di cat ed , all se ct io n re fere nc es are t o t he Int ern al Rev enue Co de ineffe ctforth e y ear i n i ss ue . All Ru le refe ren ces are t o t he Tax C ou rt Rul es of P ract ic e an d P ro cedur e.) A di gi ta l o pt io n h as on ly two p os si bl e o ut co m es at e xp ira ti on : s om e fi xe d 5 pa y of f am ou nt , or e ls e n ot hi ng . Dig it al op ti on s ar e typi cal ly also Euro pe an -s tyle op ti on s, wh ic h m ean s tha t the y canbe ex erci se d o nl y

on th e o pt io n’s ex pi rat io n da te .- 5 -

[* 5] in co rp or at io n afew y ears lat er t o g iv e a p orti on to hi s d au gh te r an d gr an dd au gh te r. The co m pa ny op erat edas ape rs on al ho ld in g c om pa ny form or e 6 th anha lf acen tu ry , andby 200 1 was st il l fa m il y own ed , with i ts sh areh ol de rs ’ reg is try a famil y

tre e o f Marke ll de sc en dant s thr ou gh hi s g ran dd au gh te r. By th e ti m e Hab er en te redth e sc en e, Marke ll ’s 4 g reat -g ran dc hi ldrenan d h is 11 gre at gr eat -g ran dc hi ldrenown ed , th ro ug h t ru st ees , 10 0% o f Marke ll ’s st oc k. Bruc e McC larenwas the y ou ng es t o f th e 4 gre at -g ran dc hi ldrenan d an o ffi cer o f th e co m pa ny at th e ti m e. By

20 01 th e co m

pany hadass et s o f ap pr ox im at el y $2 2.8
m il li on inap pr eci at edsec ur it ie s wi th a bu il t-i n g ai n o f ne arl y $1 5 m il li on . By 20 02 fam il y

di sc or d o ve r th e fi rm ’s futur e le d thr ee o f th e fo ur si bl in gs to de ci de th ey wou ldin ve stin di vi du al ly rath er tha n t hr ou gh th e fam il y co m pa ny. McC larendi sc us se d t he po ss ib il ity of r ed em pt io n wi th th e o th er sh areh ol de rs , andm ean whi le co nt act edKPMG to he lp hi m fin d abu y er fo r th e Marke ll st oc k. Me l Ad es s, the KPMG p artne r McC la renwork edwith, h ada rep ut at io n o f kn owi ng cert ai n t ran sa ct io na l s tru ctur es th atwou ldlea d t o p art ic ul ar ta x a dv an ta ge s. KPM G agr eedin20 01 to he lp fin d abu y er fo r a fl atfee o f

Und er s ect io n 5 42 , a co rp or at io n i s a p ers on al ho ld in g c om pa ny if itm eet s 6 cert ai n i nc om e an d s to ckown ers hi p re qu ire m en ts .- 6 -

[* 6] $5 00 ,00 0. Be fo re Mc Cl aren ev ensi gn edth e ag reem en t, Ad es s al read y ha d jus t the m aninm in d: Habe r. W ithi n t wo wee ks McC laren ’s si bl in gs un an im ou sl y co ns en te d t o re de em th ei r sh ares . In J anua ry

20 02 Mark el l b orro wed$1 3 m il li onfro m Mi dwe stBan k 7 to fin an ce the red em

pt io n, s ecu redby its po rtf ol io of app reci at edsec ur it ie s, an d a few d ay s l at er Mark el l re de em edall bu t the 24 8.5 sh ares own edby McCl aren an d th e trus te e fo r hi s ch il dr en . The n ex t d ay , McCl aren be cam e Mark el l’s s ol e di rect or , pre si de nt , andsec ret ary. III. Sku ll Vall ey

Ban d o f Gos hu te Ind ia ns Far t o t he westare the th irdgro up of p la y ers inth is m y st ery. The Skul l Vall ey Ban d o f Gos hu te Ind ians of Ut ah , a fed eral ly recog ni zedInd ia n t rib e in Too el e Co un ty, is a ve ry

sm al l b an d o f fewerth an50 m em be rs . The trib al ch ai rm anat t he ti m e was Leon Dale Bear . Butwith s o fe w peo pl e o n the
res erv at io n, trib al go ve rn m en t h ada to wn- m eet in g fe el , andth e m em be rs wou ld
m eetan d p as s re so lu ti on s g ran ti ng Ch ai r Bear sp eci fic au th or ity to pu rs ue cert ai n bu si ne ss op po rtu ni ti es forth ei r be ne fit . In M ay 20 01 on e su chop po rtu ni ty aros e an d t he Ban d’s ex ecu ti ve co m m it te e p as se d ares ol ut io n aut ho riz in g t he form at io n They owne d 7 6% o f th e co rp or at io n’s s to ck . McCl arenan d atru st ee fo r 7 hi s ch il dr enown edth e res t.- 7 -

[* 7] of KR Acqui si ti on LLC (KRA), a Wy om in g LLC. The co m m it te e au th or iz ed Ch ai r Bear to ex ecu te an d d el iv er the KRA op erat in g a gr eem en t. The op erat in g ag reem en t n am edDGI, inth e p ers on of J am es Habe r, as m an ag er o f KRA. KRA m or ph edth ro ug h s ev eral na m es bu t s ettl edonMCO Acqui si ti on LLC (MC OA). The fi rs t n am e ch an ge was e xe cu te d b y James Hab er, p res id en t o f DGI,
as m an ag er o f MCOA. The fin al na m e ch an ge was a ls o e xe cute d b y James Hab er, bu t as m an ag er o f Hel io s, the m y st eri ou s n ew m an ag er o f MCOA. All rig ht s, in te res t, an d c on tro l o f th e co m pa ny, its op erat io n, an d i ts bu si ne ss affa irs were ve st edso le ly in the m an ag er. The bankacco un ts of the co m pa ny were to be
m ai nt ai ne d s ol el y

by the m an ag er. Andno m em be r of th e LLC was e nt it le d t o a ny di st rib ut io n fr om

th e co m pa ny or to de m an d any retu rnof a ny partof i ts cap it al
co nt rib ut io n. Me m

be rs co ul d n otev enex pe l the m an ag er wi th ou t the m an ag er’s
own co ns en t. The re was no th in g Hab er co ul d d o t o M COA, an d t hr ou gh MCOA to Mark el l, tha t an y on e co ul d c om pl ai n abo ut . Hab er h adtak enful l co ntro l o f MCOA an d was ready to be gi n t he OPS. IV. The Int erm ed iary

Tran sa ct io n: MCOA Bu y s M ark el l On Fe brua ry

4, 2 00 2, M cCl aren acce pt edanoff er b y MCOA t o b uy all
ou ts tand in g M ark el l s hares for94 % of t he co m pany’ s n etass etva lu e. (The 6% di sc ou ntwas o nl y

a frac ti on of t he cap it al -g ai ns tax rat e Mark el l wo ul d h av e p ai d- 8 -

[* 8] if i t h adso ldit s p ortfo li o o f se cu rit ie s i n t he no rm al way .) Habe r, as MCOA’s m an ag er, s ig ne d t hi s s to ckpu rch as e ag reem en t, wh ic h i n a dd it io n t o se tt in g apri ce fo r Marke ll ’s st oc k re qu ire d M COA to rep ay th e lo anfro m

Mi dwe st Ban k. It wa s the n t im e to li qu id at e Mark el l’s p ortfo li o. OnFeb ru ary 7, UBS fo rm al ly offer edto bu y

th e Mark el l p ortfo li o wi thne t p ro ceed s o f $2 1.9 m il li on . Marke ll di rect edth atth e p ro ceed s b e p ai d t o M COA, an d M cCl arenres ig ne d a s pr es id en t o f Marke ll . Here’s th e d eal so far:

MCOA, b y

no w th e so le sh areh ol de r of Mark el l, el ect edHabe r an d am anna m ed Jo hn Hub er as Mark el l’s n ew di rect or s. Hab er an d Hube r th enele ct edeach ot he r pr es id en t an d v ic e p res id en t o f Marke ll , res pe ct iv el y .- 9 -

[* 9] V. Marke ll Afte r Hab er To okCo nt ro l Marke ll was n ow ju sta ti ny pil e o f m on ey an d apo te nt ia ll y

lar ge tax li ab il ity tu ck edin to a co rp or at e fo rm . ButHabe r was no t d on e wit h i t qui te y et . InMarc h 2 00 2 h e fo rm edMC In ve st m en ts LLC with two Iri sh co m pa ni es , Bren vi ew Hol di ng s Li m it edan d C um be rd al e In ve stm en ts Lim it ed
. Each 8
co rp or at io n c on tri bu te d $ 5,0 00 inex ch an ge fora 50 % m em be rs hi p i nt eres t i n M C In ve st m en ts . MC In ve st m en ts ’ op erat in g a gr eem en t i s ex pl ic itth atm em be rs sh al l

“ ta ke no pa rt wh at so ev er i n t he co nt ro l, m an ag em en t, d ire ct io n o r op erat io n o f th e affa irs of t he Co m

pa ny andsh al l h av e n o p owe r to actforor b in d t he Co m pa ny.” The op erat in g a gr eem en t g oe s o n t o e xp la in th aton ly the m an ag er (wh o was Hab er, ag ai n) ha d t hi s au th or ity . The ag reem en t al so st at es th atth e cap it al
acco un ts of t he m em

be rs wil l b e m ai nt ai ne d i n a cco rd an ce wi thsec ti on70 4( b) an d th e acc om

pa nyin g re gu la ti on s. Th e ag reem en t was si gn edby H ab er as well as t wo Iri sh lawyers re pr es en ti ng Cu m be rd al e an d B ren vi ew. As p res id en t o f Marke ll , Habe r th enform edMC Trad in g LLC an d
co nt rib ut ed$7 5,0 00 as s tartup c ap it al to it . On March 22 , 20 02 , MC Trad in g Bren vi ew an d C um

be rd al e were b ot h fo rm edin19 95 by K earn ey Curran 8 & Co . nam in g Wil li am

Curran an d P hi li p O’Don og hu e as di rect or s. Su ch“ offth e-s he lf” co rp or at io ns ha ve eas il y rep la ceab le di rect or s b ecau se alt ho ug h t he y are in co rp or at ed , th ey

ha ve no t yet be enus edfor an y bu si ne ss pu rp os e. See Es ta te of Ang le v. Co m

mis si on er, T.C. Mem o. 2 00 9- 22 7.- 10 -

[* 10 ] co ntract edwith R efco Cap it al Mark et s (R efco ), a Berm ud ian s ub si di ary of Refc o, In c., to bu y

sh ort an d l on g o pt io ns fora NASDAQ in de x. The de al no w lo ok edli ke th is :

The Refc o c on tra ct , whi chin co rp or at edth e In te rn at io na l Swap Dea le rs Ass oc ia ti on (ISDA) Ma st er Ag reem en t, h ada ne tt in g p ro vi si on : If o n a ny dat e am ou nt s wo ul d o th erwi se be pa y ab le
. . . in res pe ctof th e sa m e Tran sa ct io n, b y each pa rty to t he ot he r, th en. . . each party’ s ob li ga ti on to m ak e p aym en t o f an y su cham ou ntwil l b e au to m at ic al ly sa ti sf ie d a nddi sc ha rg edan d . . . rep la cedby an o bl ig at io n upo n the pa rty by who m th e larg er ag gr eg at e am ou ntwou ldha ve be enpa y ab le to pa y to th e o th er p arty

th e ex ces s o f th e larg er ag gr eg at e am ou nt ov er the sm al le r ag gr eg at e am ou nt . Eachop ti on ha d i ts ownin di vi du al co nf irmatio n, b utth ere was a si ng le tra de
co nf irmatio n fo r th e en ti re tran sa ct io n. Th e p ai redop ti on s co ns is te d o f a s ho rt a nd lo ng Euro pe andi gi ta l o pt io n. Th e p ric e o f th e NASDAQ in de x wh enRefc o a nd- 11 -

[* 11 ] MC Trad in g t rad edth e o pt io n was $1 ,47 7.3 0. Th e sh ort o pt io n h ada pr em iu m of $ 14 ,92 5,0 00 (no min al ly pai d b y Refc o t o M C Trad in g) an d re qu ire d MC Tra di ng to pa y

Refc o $ 49 ,98 5,7 26 if the in de x was tra di ng at $ 1,5 91 .04 or hi gh er o n J un e 2 1, 2 00 2. Th e lo ng op ti on ha d apre m iu m of $ 15 m il li on (n om in al ly pai d b y

MC Trad in g t o R efco ) an d e nt it le d M C Trad in g t o $5 0,1 76 ,33 7 fr om

Refc o i f th e in de x was tra di ng at $ 1,5 91 .01 or h ig he r on Ju ne 21 , 20 02 . Bot h o pt io ns na m edRefc o a s “ cal cu la ti ng ag en t,” t he pe rs on res po ns ib le forde ci di ng whatth e m ark etpri ce o f th e in de x was du rin g asp eci fic 15 -m in ut e win do w onth e ex pi rat io n d at e. Marke ll th enco ntrib ut edit s i nt eres t i n M C Trad in g t o M C In ve st m en ts in
ex ch an ge foran82 .76 % in te res t i n M C In ve st m en ts . Mark el l’s ad mis si on as a m em be r of MC In ve st m en ts was a ccep te d b y DGI as m an ag er o f In ve st m en ts si gn ed , of c ou rs e, by Haber. Cu m be rd al e an d B ren vi ew’s in te res ts de crea se d t o 8 .62 % as ares ul t o f th is
co nt rib ut io n:- 12 -

[* 12 ]

On Ap ril 1, 2 00 2, M C In ve stm en ts bo ug ht27 5 s ha res of a no th er NASDAQ in de x- li nk edsec ur ity

(whi chwe’ll ca ll QQQ, its tra di ng sym bo l) f or$9 ,83 6.7 5. Anditwas n ow t im e fo r Marke ll to ha rv es t the fru itof t hi s p ap er o rch ard : Marke ll red eem edit s i nt eres t i n M C In ve stm en ts on Ju ne 13 , 20 02 , andrece iv ed $4 3 c as h a nd23 0 QQQ s ha res inex ch an ge . It s ol d t he st oc k am on th lat er fo r $5 ,55 4 b utwou ldrep ort tha t i ts tax lo ss on th e sa le was arem ark ab le $1 4,9 94 ,40 3. Pryor Cas hm anch arg edMark el l $ 22 ,50 0 fo r anop in io n ju st ifyin g M ark el l’s t ax tre atm en t o f th os e tr an sa ct io ns .- 13 -

[* 13 ] VI. Pro cedur al His to ry Hab er, as pre si de ntof DGI, i n DGI’s capa ci ty as m an ag er o f MC In ve st m en ts , fil edMC In ve stm en t’s 2 00 2 p artne rs hi p re turnlat e in 20 03 . That return o m it te d t he sh ort o pt io n fr om it s p artne rs hi p l iabi li ti es fortax pu rp os es , bu t to okitin to acco un t fo r fi na nc ia l-a cco un ti ng pu rp os es . Haberals o fi le d M ark el l’s 20 02 tax return. Th is return re po rte d alo ng -te rm cap it al ga in fro m

th e sa le of t he Marke ll po rtf

ol io of $ 14 ,04 8,1 02 an d ash ort-t erm cap it al lo ss fro m

th e sa le of t he QQQ sto ckof $ 14 ,99 4,4 03 th atMark el l h adrece iv edup ondi sp os it io n o f it s own ers hi p o f MC I nv es tm en ts . The rep orte d n etlo ss was $ 94 6,3 01
. The Co m m is si on er fo un d o ut , andaft er a p ro lo ng edex am in at io n i ss ue d a
no ti ce o f de fic ie nc y

to Mark el l fo r th e 2 00 2 t ax y ear. Th e n ot ic e d is al lo wedth e $1 4 m il li on cap it al lo ss an d d et erm in eda de fic ie nc y of n earl y $4 .8 m il li on pl us accu racy-rela te d p en al ti es un de r se ct io n 6 66 2. Marke ll ti m el y

fil edit s p et it io n i n t hi s ca se . Its off ic es are l is te d a s the New York o ffi ce o f DGI. Trial of thi s an d s im il ar ca se s was de la y edby the po ss ib il ity 9 of p aral le l cr im in al pro ceed in gs .
W e th in k t hi s m ean s anap pe al wou ldbe inth e Co urt o f App eal s fo r th e 9 Seco ndCir cu it . See Go ls env. Co m m is si on er, 5 4 T.C. 7 42 (19 70 ) (ap pl y in g t he ru le s o f th e ci rcu itinwhi chth e cas e wou ldbe ap pe al ed ), aff’d, 4 45 F.2d98 5 (1 0t h Ci r. 19 71 ).- 14 -

[* 14 ] OPINION I. Ju ris di ct io n Part ne rs hi ps do no t p ay

tax es , bu t the y

do fil e in fo rm at io n re turn s tha t the ir pa rtn ers th enus e to cal cu la te th ei r own in di vi du al tax li ab il ity . See s ec. 7 01
. Sp eci al tax an d aud itrul es ap pl y to m os t p artne rs hi ps , with afew n ot ab le 1 0
ex cep ti on s. Th e rel ev an t o ne he re i s u nd er s ect io n 6 23 1( a)(1 )(B) (i) : Th e te rm

“pa rtn ers hi p” sh al l n otin cl ud e an y pa rtn ers hi p h av in g 1 0 o r fewer pa rtn ers each of who m is anin di vi du al (ot he r th ana no nr es id en t al ie n) , a C co rp or at io n, o r an es ta te of ade ceas edpa rtn er. So ou r juri sd ic ti on inth is cas e is no t d ep en de nton th e d is ti nc ti on be twee n p artne rs hi p andno np artne rs hi p i te m s fo r pu rp os es of
se ct io n 6 22 6( f) b ecau se MC In ve st m en ts ha d o nl y th ree p artne rs : Br en vi ew, Cu m be rd al e, an d M ark el l. II. In te rm ed iary

Vari at io n o f So n- of

-BOSS Thi s ca se is an ot he r of

th e Co m m is si on er’s b at tl es ag ai ns t a t ax sh el te r cal le d S on -o f-BOSS . Whi le th ere a re d iff eren t v ari et ie s o f So n- of

-BOSS de al s, wha t the y ha ve inco m

m on is th e tr an sf

er o f as se ts en cu m

be redby sig ni fic an t Und er the Tax Equi ty andFis cal Res po ns ib il ity Act o f 19 82 (TEFRA), 1 0 Pub. L. No. 9 7- 24 8, s ec. 4 02 (a), 9 6 S ta t. at64 8, an y “pa rtn ers hi p,” in cl ud in g a ll th e p artne rs hi ps th atbro ug htth es e cas es , m us t d es ig na te on e o f it s p artne rs as t he ta x m at te rs pa rtn er t o h an dl e it s ad m in is tra ti ve is su es with t he Co m m is si on er an d m an ag e an y

res ul ti ng li ti ga ti on . Sec. 6 23 1( a)(7 ).- 15 -

[* 15 ] li ab il it ie s t o apa rtn ers hi p, wi th th e g oa l o f in fla ti ng ba si s i n t ha t p artne rs hi p. See Kl ig fel d Ho ld in gs v. Co m m is si on er, 1 28 T.C. 19 2 (2 00 7) . The l iabi li ti es are us ua ll y ob li ga ti on s t o b uy securit ie s, an d t he y are al way s co nt in ge ntat t he ti m e o f tra ns fer. Taxpa y ers who en ga ge inth es e d eal s cl ai m th atth is all ows th e p artne r to ig no re tho se li ab il it ie s i n c om pu ti ng ba si s, wh ic h a ll ows th e p artne rs hi p t o i gn or e th em inco m pu ti ng ba si s. Th e res ul t i s tha t the pa rtn ers wil l h av e b as es inth e pa rtn ers hi p h ig h e no ug h t o p ro vi de for lar ge no ne co no m ic lo ss es on th ei r in di vi du al tax returns . At is su e h ere i s an “ ou ts id e b as is ” So n- of -BOSS de al : the in fla te d b as is is th e p artne r’s ou ts id e b as is inth e p artne rs hi p. The v ers io n h ere 1 1 in vo lv es a co rp or at io n a s the partn er, an d a n i nt erm ed iary tra ns act io n; nam el y , Marke ll ’s st oc k s al e imm ed ia te ly foll owe d b y anass etsal e. Inth e m id dl e o f th is was M C Trad in g, wh ic h M ark el l fo rm edan d t o wh ic h itco nt rib ut ed$7 5,0 00 cas h. MC Trad in g t he n c on tra ct edforth e sh ort an d l on g 1 2 The u su al “ ou ts id e b as is ” So n o f BOSS d eal requi res a ta xp ay er t o b uy the 1 1 op ti on s an d t he n c on tri bu te th em to th e p artne rs hi p i n e xc ha ng e fo r a p artne rs hi p in te res t. Inan“ in si de ba si s” So n- of -BOSS de al , th e p artne rs hi p i ts el f pu rch as es th e o pt io ns an d t he in fla te d b as is is att ach edto th e in si de ba si s o f th e p artne rs hi p. Inth atcas e, th e lo ss is real iz edwhen th e p artne r rec ei ve s the ass etina di st rib ut io n an d t he n s el ls it . See, e.g ., 66 11 Ltd . v. Co m mis si on er, T.C. Mem o. 2 01 3- 49
. Und er fe de ral tax law, a s in gl e-m em be r LLC th atdo es no t m ak e an 1 2 el ect io n i s a d is reg ard eden ti ty--a tax no th in g. Th e res ul t i s tha t the m em be r is tre at edas p ers on al ly eng ag in g i n t he tra ns act io ns en ga ge d i n b y th e LLC. Treas
. (co nt in ue d...)- 16 -

[* 16 ] op ti on s- -in de pe nd en t i nv es tm en ts , acco rd in g t o M ark el l, b ecau se th e te rm s of each op ti on were s etou t i n s ep arat e co nf irmatio ns an d i n t he ory

th e o pt io ns co ul d b e tr an sf

erre d o r as si gn edin de pe nd en tl y of e achot he r. Whe n M ark el l the n co nt rib ut edit s i nt eres t i n M C Trad in g t o M C In ve st m en ts itcla im s t o h av e b ou gh t a p artne rs hi p i nt eres t, an d c al cu la te d i ts ba si s i n M C In ve st m en ts witho uttak in g in to acco un t as a li ab il ity MC Trad in g’s co nt in ge ntli ab il ity . See s ec. 7 52 . This st ep is of e xt rem e im

po rta nc e inSo n- of

-BOSS de al s- -a p artne r who ge ts hi s pa rtn ers hi p t o a ss um e a l iabi li ty has to re du ce hi s b as is inth e p artne rs hi p b y th e am ountof t ha t l iabi li ty. See s ec. 7 52 (b ). Doi ng so wou ld , ho wev er, d efea t the go al of i nf

lati ng ba si s t o c reat e a g ia ntart ifi ci al lo ss . So when Mark el l d idth is , itwas s et ti ng up it s ar gu m en t tha t i ts ou ts id e ba si s i n M C In ve st m en ts was o nl y it s b as is inth e lo ng op ti on --ap pr ox im at el y $1 5
m il li on . MC In ve st m en ts th enbo ug htth e QQQ st oc k fo r le ss th en$1 0,0 00 an d di st rib ut edm os t o f italo ng with ano m in al am ou ntof c as h t o M ark el l i n li qu id at io n o f Marke ll ’s partn ers hi p i nt eres t. Un de r se ct io n 7 32 , Mark el l’s
supp os edou ts id e b as is of $ 15 mil li on (m in us th e cas h re cei ve d) be cam e it s b as is (...co nt in ue d) 1 2 Reg . sec . 30 1.7 70 1- 3( b) (1 )(i i), Pr oc ed . & Adm in . Reg s.; Med . Pract ic e So lu ti on s, LLC v. Co m

m is si on er, 1 32 T.C. 12 5 (2 00 9) (ho ld in g t he “ ch eck -th e-b ox ” reg ul at io ns are v al id ), aff’d wi th ou t p ub li sh edop in io n s ub no m . Bri tt onv. Shul m an , 20 10 W L 35 65 79 0 (1 stCir . 20 10 ).- 17 -

[* 17 ] inth e d is tri bu te d s to ck . Mark el l the n s ol d t he st oc k fo r ab ou t $ 5,0 00 . But rathe r th ancal cu la te it s g ai n o r lo ss by sub tra ct in g t he actua l p ur ch as e p ric e o f it s sh ares fro m

th e actua l s al e p ric e, itcla im edth atitco ul d s ub tra ctth e $ 15 mil li on pr et en d b as is forth os e sh ares fro m th e actua l s al e p ric e. Thu s, atth e en d o f th e pape r sh uf

fle , itcla im eda cap it al lo ss jus t s hy of $ 15 m il li on fro m th e sa le of t he QQQ sto ck --an am ountsu ffi ci en t t o a lm os t co m pl et el y off se t i ts pre vi ou s capi ta l ga in s fr om

th e as se t s al e a m on th earl ie r. A. MC In ve st m en ts as aPartne rs hi p One of t he ess en ti al pa rts of t hi s d eal is th atMC In ve st m en ts be a pa rtn ers hi p, b ecau se itis on ly the ba si s ru le s fo r pa rtn ers hi ps th atsee m to len d th em se lv es to th is ki ndof m an ip ul at io n. An d M ark el l i ns is ts th atMC In ve st m en ts ’ st atus as apa rtn ers hi p m us t b e res pe ct ed . Fed eral law co ntro ls th e cl as si fic at io n o f anen ti ty for fed eral tax pu rp os es , Lun a v . Comm is si on er, 4 2 T.C. 10 67 , 10 77 (19 64 ), so we m us t fi rs t d et erm in e whe th er MC Inv es tm en ts -- or ga ni zedas a n LLC-- was infacta bo na fi de pa rtn ers hi p u nd er the Co de
. Marke ll be gi ns by argu in g t ha t M C In ve st m en ts was ava li d LLC cr eat ed
un de r Del aware law an d t ha t und er re gu la ti on sec ti on 30 1.7 70 1- 3( b) (1 )(i ), Pro ced
. & Admin . Reg s., i t s ho ul d b e co ns id ereda pa rtn ers hi p. Th atreg ul at io n d oe s t el l
us th atanLLC with m or e th anon e m em be r is by defau ltcla ss ifi edas apa rtn ers hi p- 18 -

[* 18 ] fortax pu rp os es . (Suc h an LLC m ay ele ctto be tre at edas aco rp or at io n, s ec. 30 1.7 70 1- 3( b) (1 )(i ), Pro ced . & Adm in . Reg s., b utMC In ve stm en ts di dn ’t.) But th is is th e fi rs t b arri er tha t M ark el l’s ar gu m en t cr as he s i nt o: As th e Sev en th Ci rcu itpo in te d o utinSupe rio r Trad in g, LLC v . Comm is si on er, 7 28 F.3d67 6, 6 81 (7 th Cir . 20 13 ), aff’g 1 37 T.C. 70 (10 11 ) an d T.C. Me m o. 2 01 2- 11 0, the pu rp os e of sec ti on 30 1.7 70 1- 3( b) (1 )(i ), Pro ced . & Adm in . Reg s., i s “ m erel y to de te rm in e whe th er the de fau lttax tre atm en t o f th e en ti ty sha ll be un de r th e co rp or at e o r th e pa rtn ers hi p p ro vi si on s o f fed eral tax law” --n otwhet he r anen ti ty can av ai l i ts el f of th e b en efi ts affo rd edby tho se pro vi si on s s ho ul d t he y be fou ndin ap pl ic ab le for ot he r rea so ns . Sup eri orTrad in g, 7 28 F.3dat 6 81 ; s ee al so Ji m as to wlo Oil , LLC v. Co m m is si on er, T.C. Mem o. 2 01 3- 19 5, at*4 1- *4 2 (“ th e im po rt o f th es e so -cal le d Lun a fac to rs ha s n otdi ss ip at edan y aft er the pro m

ul ga ti on of s ec. 3 01 .77 01 -3 (a), Pro ced . & Adm in . Reg s.”)
. The term “pa rtn ers hi p” is de fin edas asyndi cat e, gr oup, p oo l, joi ntve ntur e, orot he r un in co rp or at edorg an iz at io n, thr ou gh or b y m ean s o f whi chan y

bu si ne ss , fin an ci al op erat io n, o r ve ntur e is carr ie d o n. Se cs . 76 1, 7 70 1( a)(2 ). Mere co own ers hi p i s n ot , by it se lf, e no ug h. Se e se c. 30 1.7 70 1- 1( a)(2 ), Pro ced . & Adm in
. Reg s. In st ead , we lo okto sev eral fact or s: (1 ) th e ag reem en t o f th e p art ie s an d t he ir c on du ctinex ecu ti ng it s t erm s;- 19 -

[* 19 ] (2 ) th e co ntrib ut io ns , if an y , whi cheachpa rty has m ad e to th e v en tu re; (3 ) th e p art ie s’ con tro l o ve r in co m e an d c ap it al an d the rig htof e ach to m ak e wit hd rawal s; (4 ) whe th er ea chpa rty was a p rin ci pa l an d c op ro pr ie to r, sh ari ng a m utua l pr op rie tary

in te res t i n t he ne t p ro fit s an d h av in g an o bl ig at io n t o s ha re lo ss es , or wh ethe r on e p arty was the ag en t o r em

pl oyee of th e o th er, rece iv in g fo r hi s s erv ic es co nt in ge ntco m pe ns at io n i n t he form

of a pe rcen ta ge of i nc om e (n ota rel ev an t d is ti nc ti on inth is cas e); (5 ) whe th er b us in es s was co nduc te d i n t he joi ntna m es of t he pa rti es ; (6 ) whe th er the pa rti es fil edFed eral pa rtn ers hi p re tu rn s o r ot he rwis e rep res en te d t o re sp on de ntor t o p ers on s wi th who m th ey de al t tha t th ey were joi ntve ntur ers ; (7 ) whe th er s ep arat e b oo ks of a cco un t wer e m ai nt ai ne d fo r th e v en tu re; (8 ) whe th er the pa rti es ex erci se d m utua l co nt ro l o ve r an d a ss um ed m utua l re sp on si bi li ti es forth e en te rp ris e. Lun a, 42 T.C. at 1 07 7- 78 ; s ee TIFD II I-E, In c. v. Un it edSta te s, 4 59 F.3d22 0, 23 1- 32 (2dCir . 20 06 ). The “ es se nt ia l que st io n” is whet he r th e p art ie s i nt en de d t o, an d d idinfact , jointo ge th er fo r th e p res en t co nduc t o f anun de rta ki ng or en te rp ris e. Co m

m is si on er v . Cul be rts on , 33 7 U.S. 7 33 , 74 2 (1 94 9) ; Co m m is si on er v. To wer, 3 27 U.S. 28 0, 2 86 -8 7 (1 94 6) ; Hi st or ic Bo ardwalkHall , LLC v. Co m m is si on er, 6 94 F.3d42 5, 4 49 (3dCir . 20 12 ), rev ’g an d re m an di ng 13 6 T.C. 1 (2 01 1) ; So ut hg at e Ma st er Fu nd , L.L. C. ex . rel . Mo nt go m ery Cap it al Adv is or s v . Uni te d S tate s, 6 59 F.3d46 6, 4 88 (5t h C ir. 2 01 1) ; TIFD, 4 59 F.3dat 2 30 ;- 20 -

[* 20 ] Ji m as to wlo Oil , LLC v. Co m m is si on er, T.C. Mem o. 2 01 3- 19 5. W e wil l 1 3
ex am in e eac h o f th e ap pl ic ab le fact or s.

Part ie s’ Con tri bu ti on to th e Ven tu re. MC I nv es tm en ts was es tabl is he d M arch18 , 20 02 with i ni ti al co nt rib ut io ns fro m Bren vi ew an d Cu m be rd al e o f $5 ,00 0 a ndMark el l’s co nt rib ut io n o f th e p ai red -o pt io n b un dl e. Thi s fa ct or

weig hs infav orof f

in di ng a pa rtn ers hi p. Agr eem en t o f th e Parti es an d Whet he r Bu si ne ss W as Co nduc te d i n Jo in t Nam e. Ther e is a wis p o f a fo rm al ag reem en t-- Bren vi ew an d C um be rd al e ap pe ar i n t he op erat in g a gr eem en t-- bu t tha t i s the on ly doc um en t wh ere the y ap pe ar. All th e actua l ac ti vi ty w as sh un te d t hr ou gh a si ng le co ndui t: Jam es Hab er, as Pres id en t o f DGI an d m an ag er o f Marke ll . Andth e o nl y “bu si ne ss ” MC In ve st m en ts co nduc te d was a si ng le st oc k p ur ch as e. Und er an y de fin it io n,

“bu si ne ss ” m ean s a “ ‘cours e o f act iv it ie s en ga ge d i n fo r pr of it .’ ” Bro okInc . v. Co m m is si on er, 7 99 F.2d83 3, 8 39 n.7 (2dCir . 19 86 ), aff’g T.C. Me m o. 1 98 5- 46 2
an d T.C. Me m o. 1 98 5- 61 4; Lam on t v . Comm is si on er, 3 39 F.2d37 7, 3 80 (2dCir
. 19 64 ) (quo ti ng 4 M ert en s Law o f Fed eral Inc om e Tax at io n, s ec. 2 5.0 8 (1 96 0) ). The ph ras e “ co ur se of a ct iv it ie s” im pl ie s m or e th ana si ng le trans act io n; itim pl ie s Thi s en ti ty-focu se d a ndin te nt -s eek in g app ro ach to de te rm in in g t he 1 3 ex is te nc e o f a p artne rs hi p app li es bro ad ly--no t ju stto partn ers hi ps en ga ge d i n dubi ou s d ig it al -o pt io n d eal s.- 21 -

[* 21 ] rou ti ne , or aser ie s o f tr an sa ct io ns . Here, th ere was no “bu si ne ss ” to
co nduc t, jus t a s in gl e tr an sa ct io n, an d e ve n i t was n’t i n jo in t n am e. Thes e fac to rs weig h v ery he av il y

ag ai ns t fi nd in g apa rtn ers hi p. Mu tu al Co nt ro l an d R es po ns ib il ity . Bren vi ew an d C um be rd al e m ay ha ve ha d i nt eres ts inMC In ve st m en ts , bu t the y were fo recl os edun de r th e op erat in g a gr eem en t fr om ex erci si ng an y

po wer o ve r m an ag em en t. The ag reem en t is expl ic it : m em

be rs wil l “ ta ke no pa rt wh at so ev er i n t he co nt ro l, m an ag em en t, di rect io n, o r op erat io n o f th e aff ai rs of t he Co m

pa ny andsh al l h av e n o p owe r to actforor b in d t he Co m

pa ny.” None of t he m em be rs co ul d o pe rat e th e al le ge d bu si ne ss . Onl y

Habe r, by an i rrev oc ab le po wer o f atto rn ey , cou ldbi ndth e co m pa ny andsi gnan y

do cum en t o n b eh al f of

th e m em be rs --wh ic h h e d id . Non e of th e m em be rs co ul d e ve n t ran sf

er i ts in te res t wi th ou t Hab er’s ap pr ov al . There
was no m utua l co nt ro l, the re was on ly one -m anco nt ro l. Thi s fa ct orals o wei gh s ag ai ns t fi nd in g apa rtn ers hi p.

Sep arat e Bo ok s an d R eturn F il in gs . Haberdo es see m to ha ve ke pt MC In ve stm en ts ’ bo ok s s ep arat e fro m hi s o th er s im il ar v en tu res , andMC In ve st m en ts di d fi le pa rtn ers hi p F orm 10 65 , U.S. Retu rnof P artne rs hi p In co m e, fo r it s 2 00 2 t ax y ear- -a re tu rnwhi chon ly he si gn ed --i n Oct ob er 2 00 3. Th e LLC di d a ls o i ss ue th ree S ch edul es K-1: on e to Cu m be rd al e, on e to Bren vi ew, an d o ne- 22 -

[* 22 ] to Mark el l. An d t he return s ho ws tha t M C In ve st m en ts he ldit se lf o utas a fed eral ly recog ni zedpa rtn ers hi p, an d i t al so st at es th atMC In ve st m en ts co ns id eredCu m

be rd al e an d B ren vi ew joi ntve ntur ers alo ng with M ark el l. Thi s fact or do es weig h i n fa vo r of

fin di ng MC In ve st m en ts to be a pa rtn ers hi p. Bu t thi s en ti re m

ul ti fact or tes t turns on th e fai r an d o bjec ti ve ch arac te riz at io n o f co ns id eri ng all th e ci rcum st an ces . Wha t we fi ndis a sc rupu lo us adhe ren ce t o t he form al requi rem en ts of m ak in g M C In ve st m en ts lo ok li ke a pa rtn ers hi p, b uta co m pl et e ab se nc e inth e p artne rs hi p’s o pe rat in g a gr eem en t
an d a ctua l o pe rat io ns of a ny ob jecti ve in di cat io n o f a m

utua l co m bi na ti on forth e pr es en t co nduc t o f anon go in g e nt erp ris e. B. Bu si ne ss Purp os e The re i s a s eco ndan d s ep arat e hur dl e to an y fin di ng th atMC In ve stm en ts was a partn ers hi p h owe ve r: A p artne rs hi p m us t co nduc t s om e k in d o f bu si ne ss act iv ity . See To rres v. Co m mis si on er, 8 8 T.C. 7 02 , 73 7 (1 98 7) . The ca se la w on th e subjec t i s ex pl ic itth atth e p ur su itof abu si ne ss act iv ity infurth eran ce o f ta x av oi da nc e is “ no m or e a b us in es s p ur po se th anactua ll y

en ga gi ng intax av oi da nc e.” ASA In ve st eri ng s P’sh ip v. Co m m is si on er, 2 01 F.3d50 5, 5 13 n.6 (D.C. Ci r. 20 00 ), aff’g T.C. Me m o. 1 99 8- 30 5; see als o B oc a In ve st eri ng s P’sh ip v. Uni te d S tate s, 3 14 F.3d62 5, 6 32 (D.C. Cir . 20 03 ). W e m us t as k the refo re wh ethe r- 23 -

[* 23 ] th e p art ie s i nt en de d t o jo in to ge th er as pa rtn ers to co nduc t a b us in es s act iv ity fora pu rp os e o th er than t ax av oi da nc e. Adv ers e In fere nc es . W e b eg inby loo ki ng at wh atwe canin fer abo ut MC In ve stm en t’s al le ge d b us in es s p ur po se fro m

Habe r’s in vo cat io n at tria l o f hi s Fi fth Am en dm en t ri gh t t o re m ai n s il en t. We do n’t d oubtth athe ha d t he rig htto do so . Fol lo win g a n ex p ar te he ari ng , andforreas on s we e xp la in edinth e se al ed po rti onof t he tra ns cri pt , we su st ai ne d h is cla im an d re le as edhi m . The Fi fth 1 4 Am en dm en t, h owe ve r, do es no t p ro hi bi t ad ve rs e in fere nc es ag ai ns t p art ie s t o ci vi l act io ns when th ey

refu se to tes ti fy

inth e fac e o f pr ob at iv e ev id en ce ag ai ns t the m . Bax te r v. Pa lm ig iano , 42 5 U.S. 3 08 , 31 8 (1 97 6) ; Li Bu tt i v . Uni te d S ta te s, 1 07 F.3 d 1 10 , 12 4 (2 d C ir. 1 99 7) ; Un it edSta te s v . Ian ni el lo , 82 4 F .2d20 3, 2 08 (2d Ci r. 19 87 ) (ap pl y in g the Bax te r ru le ev enif the go ve rn m en t i s the be ne fic ia ry of th e adve rs e in fere nc e). The ass ert io n o f th e Fi fthAm en dm en t b y a no np ar tym ay al so warran t an adve rs e in fere nc e ag ai ns t a p arty de pe nd in g o n t he rel at io ns hi p Tran sa ct io ns li ke th e o ne inth is cas e th atKPMG h adde vi se d wer e 1 4 in ve st ig at edby the U.S. Atto rn ey ’s Offic e fo r th e So ut he rnDis tri ctof Ne w York
. Tha t i nv es ti ga ti on letto sev eral in di ctm en ts . See Un it edSta te s v . Ste in , No. 1: 05 -cr- 00 88 8- LAK (S.D.N.Y. fil edAug . 24 , 20 05 ). Duri ng hi s d ep os it io n i n Iro nb rid ge Co rp . v. Co m

m is si on er, T.C. Mem o. 2 01 2- 15 8, af f’d, 52 8 F ed . App x. 43 (2n d C ir. 2 01 3) , Habe r ga ve tes ti m on y in di cat in g h e b el ie ve d h e h adbe co m e a “po te nt ia l” tar ge t o f th e cri m in al in ve st ig at io n a ro un d “ 20 02 or 2 00 3,” th ou gh he ha s n ev er b eenin di ct edor trie d. St ei n e nd edinJu ne 20 09 , bu t the rel at edcri m in al in ve st ig at io n s eem s t o c on ti nu e.- 24 -

[* 24 ] be twee n t he two . LiBu tt i, 1 07 F.3dat 1 21 ; FDIC v. Fi d. & Depo si t Co . of Md ., 45 F.3d96 9, 9 77 (5t h C ir. 1 99 5) (“ ‘Ano n- party’ s s il en ce i n aciv il pr oc eed in g i m

pl ic at es Fif

th Am en dm en t co nc ern s t o an e ve n l es se r de gr ee’” (quo ti ng RAD Serv s., In c. v. Aet naCas . & Sur. Co ., 80 8 F .2d27 1, 2 75 (3dCir
. 19 86 ))) (c it in g R os eb udSio ux Trib e v . A & P Ste el , Inc ., 73 3 F .2d50 9, 5 21 (8t h Ci r. 19 84 )). The Seco ndCir cu itinLib ut ti li st edfou r fac to rs fora tr ia l co urt t o wei gh in de ci di ng whet he r to dra w onadve rs e in fere nc e fro m a no np arty ’s refu sa l t o t es ti fy :

• th e n atur e o f th e rel at io ns hi p;

• th e d eg ree o f co ntro l o ve r th e n onpa rty;

• th e d eg ree t o wh ic h t he no np arty an d t he party sh are the same in te res ts inth e o ut co m e o f th e li ti ga ti on ; an d

• th e d eg ree t o wh ic h t he no np arty witne ss pl ay eda ke y

rol e in th e un de rlyin g e ve nt s. LiBu tt i, 1 07 F.3dat 1 23 . The que st io n fo r us th enis to de te rm in e whe th er Hab er’s
ne arl y un fet te redau th or ity

ov er Ma rk el l l et s u s draw anadve rs e in fere nc e ag ai ns t Marke ll . W e fi nditdo es . Haberwas i n c on tro l o f Marke ll th ro ug ho utth e en ti re OPS arr an ge m en t, an d p la cedhi m se lf i n m an ag eri al po si ti on s i n e ve ry en ti ty ne ces sa ry forth e OPS t o wo rk : Mark el l, MC Inv es tm en ts , MC Trad in g, an d- 25 -

[* 25 ] MCOA. He s ig ne d a ll th e d oc um en ts an d und en iabl y sh ares th e sa m e in te res ts as M ark el l i n the ou tc om e o f th is li ti ga ti on . W e o ur se lv es ha ve ad de d t ha t we m ay dra w an a dv ers e in fere nc e in a ci vi l
cas e fro m a pa rty’ s cl ai m

of p riv il eg e o nl y

if the re i s s om e ad di ti on al ev id en ce in de pe nd en t o f th e in vo cat io n o n wh ic h t o b as e th e in fere nc e. Pet zo ld t v . Co m m is si on er, 9 2 T.C. 6 61 , 68 5 (1 98 9) . Andonth is po in t, we fi ndth ere i s co ns id erab le cir cu m st an ti al ev id en ce co nt rad ic ti ng Mark el l’s cl ai m of apro fit
m ot iv e g iv enth e st ru ctur e, te rm s, an d l ik el ih oo d o f pr of itof t he pa ire d o pt io ns . Pai redOpt io ns . The p ai redop ti on s i n t hi s ca se co ns is te d o f sh ort an d lo ng Euro pe andi gi ta l ca ll op ti on s. Th es e cas h- or -n ot hi ng op ti on s ca n b e v al ue d by m ul ti pl y in g t he pre se ntva lu e o f th e cas h p ay of f am ou ntby the pro babi li ty cal cu la te d fr om

th e Bl ack -Sch ol es -Me rto n (B SM) m od el th atth e d ig it al op ti on wil l b e in th e m on ey

at t he ex pi rat io n d at e. App lying th is m od el , th e co m bi ne d
va lu e fo r th e p ai redop ti on s was $5 9,0 41
. The d iff eren ce i n t he am ou ntactua ll y 1 5 pa id , $7 5,0 00 , andth e o pt io n’s v al ue us in g t he BSM m od el is ess en ti al ly an
am ountpa idin di rect ly to the de al er fo r th e tr an sa ct io n. Inth is de al , th atm arkup Acco rd in g t o the BSM m od el , th e d ig it al cal l o pt io n v al ue s ar e 1 5 $0 .29 86 92 8 fo r th e lo ng op ti on , and$0 .29 86 50 7 fo r th e sh ort o pt io n p er d ol la r of cas h p ay ou t. Thu s, the m ark etva lu e o f th e lo ng op ti on was $ 14 ,98 7,3 12 , andth e sh ort o pt io n was -$1 4,9 28 ,27 0. MC Trad in g i ts el f cal cu la te d ath eo ret ic al va lu e o f th e p ai redop ti on s o f $5 6,8 92
.- 26 -

[* 26 ] was 22 %, whi chis ast ou nd in g i n l ig htof c red ib le ex pe rt- witne ss tes ti m on y th atm ark etpra ct ic e is th ata m arkup sh ou ldno t ex ceed5% t o c us to m ers , andth at
m arkup s i n e xc es s o f 5% v io la te a ba ck gr oundno rm inth e in du st ry

th ata br ok erde al er co m

pl y with t he ba si c p rin ci pl es of f ai r an d e qu it ab le tra de . So we fi ndth at Marke ll gro ss ly ove rp ai d fo r th e o pt io ns . The term s o f th e o pt io n s pr eadwere al so un us ua l. The strik e p ric es were on ly $0.0 3- -o r th ree “pi ps ” as th e in du st ry cal ls th em --ap artan d v ery far o ut -o fth e-m on ey . The s tri ke pri ces were s o c lo se to ge th er tha t, fro m a ri sk -m an ag em en t pe rs pe ct iv e, th ey

were i nd is ti ng ui sh ab le . Refco , as the cal cu la ti ng ag en t, h adth e ch oi ce o f any

pri ce tha t was pri nt edbe twee n 9 :3 0 a .m . and9: 45 a.m . onth e d at e o f
ex pi rat io n. Th e k ey

factis th atth e o pt io n s ol d c ou ldno t h av e b eendi sp os edof witho utth e o pt io n p ur ch as ed : We sp eci fic al ly findth atRefc o wo ul d n ev er h av e al lo wedMark el l, wh ic h h adon ly $75 ,00 0 i n i ts Refc o a cco un t, t o c ol le ct$1 4.9
m il li on as p rem iu m

for th e sh ort l eg du e to th e cre di t ri skin vo lv edinsel li ng an op ti on . Andhe re, the cred itris k t o R efco wou ldbe th e in ab il ity to co ll ectfro m MC Tra di ng or M ark el l i f th e sh ort l eg was i n- th e-m on ey at e xp ira ti on . So, Re fco in it s o wn ec on om ic sel f-i nt eres t wo ul d n ev er ch oo se a rat e th atfel l i n t he “ swe et sp ot .”- 27 -

[* 27 ] Andif, fo r th e sa ke of a rg um en t, the in ve st m en t o bjec ti ve was n ev er t o h it th e swe etsp otbu t ra th er t o s pe nd$7 5,0 00 fora m ax im um pa y ou t o f $1 90 ,61 1 ba se d o n t he NASDAQ ind ex ’s go in g up i n p ric e, th ere was a si m pl er ch oi ce tha t ha d ahi gh er p ro babi li ty of ach ie vi ng th atob jecti ve . W e ag ree wi th th e Co m m is si on er’s ex pe rts th atMark el l co ul d h av e sp en t the same $7 5,0 00 fora si ng le Euro pe andi gi ta l ca ll with t he same po ss ib le pa y ou t o f $1 90 ,61 1 b uta st rik e pr ic e cl os e to th e th en -curren t ra te of $ 1,4 77 .30 , rathe r th anth e far -o ut -o f-the
m on ey strik e p ric e o f $1 ,59 1.0 1 t ha t i t ac tu al ly agree d t o p ay forth e lo ng leg of th e p ai redop ti on . BetweenHabe r’s in ex tri cab le rel at io ns hi p wi th Mark el l an d i ts rel at ed
en ti ti es , andth e dub io us in ve st m en t o bjec ti ve s s urro un di ng th e p ai redop ti on s, we fin d t ha t Hab er’s cl ai m

of p riv il eg e p erm it s u s t o draw anadve rs e in fere nc e ag ai ns t M C In ve st m en ts ’s hav in g abu si ne ss pu rp os e atall . See LiB ut ti , 10 7 F .3d at12 3; Pet zo ld t, 9 2 T.C. at68 5. W e al so ha ve to no te th atth e fac ts he re fa ll squa rel y withi n apa tt ernof ot he r cas es di sa ll owi ng de du ct io ns inSo n- of -BOSS de al s. In66 11 Ltd . v. Co m

m is si on er, T.C. Mem o. 2 01 3- 49 , th e ta xp ay ers sco red gi ga nt ic pa y day s i n c on ti ng en cy fees . A pro m ot er ap pr oa ch edth e ta xp ay ers with
anag gr es si ve tax pl an ni ng strat eg y in vo lv in g d ig it al op ti on s an d C an ad ia n d ol lars .- 28 -

[* 28 ] The s ch em e b eg anwith the pu rch as e o f fo rei gn -cu rren cy sh ort an d l on g op ti on s as well as C an ad ian d ol la rs th ro ug h asi ng le -m em be r LLC, th e fo rm at io n of a pa rtn ers hi p wi tha th irdpa rty, andth e co nt rib ut io n o f th e o pt io ns an d t he Can ad ian d ol lars to th atpartn ers hi p. Th e o pt io ns wou ldth enex pi re wo rth le ss , crea ti ng hu ge tax lo ss es at the pa rtn ers hi p l ev el th atco ul d b e unl oc ke d wh enth e si ng le -m em

be r LLC so ldth e Can ad ia n d ol la rs itrece iv edwhen th e p artne rs hi p li qu id at ed . There , th e Co m m is si on er arg ue d t he LLCs were si ng le -m em be r LLCs
an d s ho ul d b e d is reg ard edfortax pu rp os es . The t ax pa y ers co un te redth atbe cau se th ei rs was aco m

m un ity -p ro pe rty sta te , th ei r wiv es were the sec on d o wne rs of t he LLCs, m ak in g t he LLC a partn ers hi p b y de fau ltun de r th e reg ul at io ns . See s ec. 30 1.7 70 1- 3( a), (b )(1 )(i ), Pro ced . & Adm in . Reg s. We di sa gr eedwith t he ta xp ay ers , bec au se no t a s in gl e Lun a fac to r wei gh edinfav orof f in di ng a pa rtn ers hi p e nt ity

an d s ev eral weig he d h eav il y ag ai ns t i t. InHis to ric Bo ardwalk , th e Thi rdCir cu itco nc lu de d t ha t a p artne r who
av oi ds an y

m ean in gf

ul do wns id e ri skinth e p artne rs hi p, wh il e en joy in g ade arth o f
m ean in gf ul up si de po te nt ia l, was no t a bo na fi de pa rtn er atall . 69 4 F .3dat 4 55
- 60 . Fol lo win g t he Seco ndCir cu itinTIFD, th e Thi rdCir cu ithe ldth atto be a bo na fi de pa rtn er fo r ta x p ur

po se s, a p arty

m us t “ ha ve a m ean in gf

ul st ak e in th e su cces s- 29 -

[* 29 ] orfai lu re o f th e en te rp ris e.” Id . at 4 49 . The Se co ndCir cu itit se lf h ad di sr eg ard edtwo for ei gn ba nk s as po ss ib le pa rtn ers be cau se th e p rev ai li ng ch arac te r of

th ei r in te res t re se m

bl edde bt , rathe r th anequi ty. TIFD, 45 9 F .3dat 23 1 (f in di ng th e p ur

po rte d i nt eres ts “ ov erwh el m in gl y inth e n atur e o f a s ecured le nd er’s i nt eres t, wh ic h wo ul d n ei th er b e h arm edby poo r pe rfo rm an ce o f th e pa rtn ers hi p n orsi gn ifi can tl y en ha nc edby extrao rd in ary pr of it s” ). The Sev en th Cir cu itinSupe rio r Trad in g d is reg ard eda supp os edpartn ers hi p whe re i t l ack eda va li d b us in es s p ur po se asi de fro m

tax m ot iv at io n. Inth atcas e, th e p artne rs crea te d a n LLC an d c on tri bu te d t o i t u nc ol le ct ib le acco un ts rece iv ab le fro m a de func t Br azi li anco m

pa ny. The pa rtn ers th enso ldth ei r in te res ts to ou ts id ers who co ul d the n t ak e adva nt ag e o f th e lo ss es on th e sa le s o f th e worth le ss rece iv ab le s --al l due to a lo op ho le inth e Co de si nc e cl os edby the Am eri canJo bs

1 6 Crea ti on Act o f 20 04 , Pub . L. No. 10 8- 35 7, s ec. 8 33 , 11 8 S ta t. at15 89 , am en di ng
Und er the rul es of S ub ch ap te r K, th e co nt rib ut io n o f anass etto a 1 6 pa rtn ers hi p d efer s the reco gn it io n o f ga in or l os s at tri bu tabl e to an y ch an ge inth e as se t’s v al ue un ti l the pa rtn ers hi p s el ls th e as se t. See sec . 72 1( a). If the ass etha s go ne do wn i n v al ue , itis kn own co ll oqui al ly as a b ui lt -in lo ss ass et , anda lo ss wil l be reco gn iz edan d u sabl e to reduc e ta xabl e in co m e o nl y whenth e p artne rs hi p s el ls it . See s ec. 7 04 (c)( 1) (A). If th e co ntrib ut in g p artne r se ll s h is pa rtn ers hi p i nt eres t be fo re the pa rtn ers hi p s el ls th e co nt rib ut edass et , th e bu yer of the partn ers hi p in te res t s te ps in to hi s s ho es an d wi ll reco gn iz e th e b ui lt -in lo ss or g ai n i f an d wh en th e p artne rs hi p s el ls th e as se t. Sec . 1.7 04 -3 (a)( 7) , Inc om e Tax Reg s.; see als o Supe rio r Trad in g, 7 28 F.3dat 6 79
.- 30 -

[* 30 ] se ct io ns 70 4( c) an d 7 43 . The co urt fo un d t ha t the so le pu rp os e o f cre at in g th e LLC was t o t ran sf

er the lo ss es of t he ba nkruptBraz il ia n re ta il er t o U.S. ta xp ay ers who co ul d t he n d educ t the lo ss es fro m th ei r ta xabl e in co m e. The c ou rt al so fou ndth ata bo na fi de partn ers hi p re qu ire s a jo in t b us in es s g oa l b y th e pa rtn ers . Sup eri orTrad in g, 7 28 F.3dat 6 80 (no joi ntbu si ne ss go al wher e o ne pa rtn er ai m edto ex tra ctva lu e o n awort hl es s as se t, an d t he ot he r ai m edto m ak e th e lo ss of t ha t as se t a “ ta x b on an za”)
. MC In ve st m en ts ’s op erat in g a gr eem en t s ta te s tha t i ts pu rp os e is to “ acqui re, own , in ve stin , sel l, as si gn , trans fer andtra de Uni te d S ta te s an d fo rei gncurren ci es an d fu tures co nt ract s re la ti ng to curren ci es an d o th er co m m od it ie s * * * pu t an d/ or cal l o pt io ns in cl ud in g i nt eres t ra te s * * * an d t o c on du ctall lawf ul act iv it ie s as th e Man ag ers m ay

ag ree f ro m ti m e to ti m e.” The actua l fa ct s u nd erm in e th is gra nd st at em en t: They sho w th atMark el l cr eat edMC In ve stm en ts jus t d ay s b efo re Marke ll , th ro ug h M C Trad in g (i ts el f a d is reg ard eden ti ty for t ax pu rp os es ) bo ug ht th e p ai redop ti on s an d NASDAQ in de x s to ck . Mark el l the n c on tri bu te d i ts in te res t in MC Trad in g t o M C In ve st m en ts . As a res ul t, MC Trad in g re m ai ne d a di sr eg ard eden ti ty, m ean in g t ha t fo r ta x p ur po se s, i t was as t ho ug h M ark el l di rect ly con tri bu te d the pa ire d o pt io ns to MC In ve st m en ts inex ch an ge fora pa rtn ers hi p i nt eres t. Ma rk el l the n c as he d o uta few m on th s l at er. The re i s n o- 31 -

[* 31 ] ev id en ce tha t dur in g t hi s t im e th e p artne rs hi p d idanyth in g o th er tha n b uy th e 2 75 QQQ sh ares th atwere re qu ire d fo r Marke ll to ach ie ve it s t ax be ne fit . W e th eref or e fi ndth atMC In ve st m en ts was c reat edto carry ou t a t ax -av oi da nc e sc he m e, an d we f

in d tha t M ark el l n ev er i nt en de d t o ru n abu si ne ss th ro ug h t he
en ti ty. W e th eref

or e wil l d is reg ardMC In ve st m en ts . W e fi ndth atMark el l h adno in te nt io n t o jo in MC In ve st m en ts to sh are i n pr of it s an d l os se s fr om

bu si ne ss act iv it ie s- -itlef t af te r te n wee ks an d unwo un d t he
on ly tran sa ct io n M C In ve stm en ts ev er m ad e. Andth attra ns act io n was do ne th ro ug h M C In ve st m en ts on ly to m ov e fo rwardwith atax -av oi danc e sc he m e. W e fin d t ha t the ch arac te r of

th e res ul ti ng tax lo ss , andno t an y po te nt ia l fo r pr of

it , was th e p rimary

co ns id erat io n M ark el l h adinbu y in g, co nt rib ut in g, an d t he n di st rib ut in g a ss et s u si ng MC In ve st m en ts . III. Sect io n 1 .75 2- 6T, Tem po rary Inco m e Tax Reg s. Eve n i f we were t o fi ndth atMC In ve st m en ts was a bo na fi de partn ers hi p, we wou ldst il l h av e to ho ldth atMark el l’s o ut si de ba si s i n i ts pa rtn ers hi p i nt eres t was rad ic al ly lowerth anwhatitrep orte d b ecau se sec ti on 75 2 c om pe ls Mark el l t o rep ort the sh ort o pt io n a s a l iabi li ty tha t M C In ve st m en ts was a ss um in g. 1 7 In C ou nt ry si de Ltd . P’shi p v . Comm is si on er, T.C. Mem o. 2 00 8- 3, we 1 7 en do rs edth e Sec on d C irc ui t’s re as on in g i n Go ld st ei n v . Commis si on er, 3 64 F.2d (co nt in ue d...)- 32 -

[* 32 ] Sect io n 7 52 de al s wi th th e tr eat m en t o f certa in li ab il it ie s an d p ro vi de s tha t th e as su m pt io n o f a p artne r’s li ab il ity by the pa rtn ers hi p i s co ns id ereda di st rib ut io n fr om

th e p artne rs hi p t o t ha t p artne r, whi le th e as su m pt io n o f a pa rtn ers hi p’s l iabi li ty by

a pa rtn er i s co ns id ereda co nt rib ut io n b y th atpa rtn er t o th e p artne rs hi p. Se e se c. 75 2( a) an d (b ). Tog ethe r with s ect io n 7 22 , sec ti on 75 2( b) reduc es th e p artne r’s ou ts id e b as is if the pa rtn ers hi p a ss um es a “ li ab il ity ” of th e p artne r. Mark el l re li es on Helm er v . Comm is si on er, T.C. Mem o. 1 97 5- 16 0,
an d J ad e Trad in g, LLC v . Uni te d S ta te s, 8 0 F ed . Cl. 1 1 (2 00 7) , aff’d i n p art , rev ’d in pa rt a ndrem an de d i n p art , 59 8 F .3d13 72 (Fed . Cir . 20 10 ), fo r th e p ro po si ti on th atsh ort o pt io ns are co nt in ge ntan d u nc ert ai n a ndare the refo re n ot“ li ab il it ie s”
un de r se ct io ns 75 2 a nd72 2. So on aft er the rel eas e o f Not ic e 2 00 0- 44 whi chale rte d t ax pay ers to th e IRS’s cr ack do wn o n t he So n- of -BOSS tra ns act io ns , th e Treas ury Department 1 8 (...co nt in ue d) 1 7 73 4 (2 d C ir. 1 96 6) , aff’g 4 4 T.C. 2 84 (19 65 ), th atli te ral co m pl ia nc e wit h t he co nd it io ns forap pl ic at io n o f a p art ic ul ar Co de sec ti on is no t en ou gh wher e th e un de rlyin g t ran sa ct io n fa il s t o c om po rt wi th Co ng res s’ pu rp os e in en act in g t ha t se ct io n. Whenanou t-o f-p oc ke t l os s o f $7 5,0 00 is wedd edto a ta x l os s o f $1 4 m il li on --i t’s u su al ly “ th e so rt o f th in g t ha t the IRS fr own s o n.” See Ce m co In ve st or s LLC v . Uni te d S ta te s, 5 15 F.3d74 9, 7 51 (7t h C ir. 2 00 8)
. The No ti ce enum erat es sev eral va ria ti on s o f th e So n- of -BOSS tra ns act io n, 1 8 in cl ud in g o ne wher e a p artne r pu rch as es an d wri te s o pt io ns an d p ur po rts to crea te (co nt in ue d...)- 33 -

[* 33 ] is su edsec ti on 1.7 52 -6 in20 03 as atem po rary regu la ti on , andth enin20 05
as a pe rm an en t o ne . T.D. 92 07 , 20 05 -1 C.B. 1 34 4, 7 0 F ed . Reg . 30 33 4 (M ay 26 , 20 05 ). Thatreg ul at io n s ta te s tha t i t ap pl ie s t o a ss um pt io ns of l iabi li ti es oc cu rri ng

“ aft er Oct ob er 1 8, 1 99 9, an d b efo re J un e 2 4, 2 00 3.” It p ro vi de s tha t i f, ina 1 9 tra ns act io n d es cri be d i n s ect io n 7 21 , a pa rtn ers hi p a ss um es a li ab il ity (as de fin ed in sec ti on 35 8( h) (3 )) o f a p artne r (o th er tha n ali ab il ity to whi chsec ti on 75 2( a) an d (b ) ap pl y ), th en , aft er ap pl ic at io n o f se ct io n 7 52 (a) and(b) , th e p artne r’s ba si s i n th e p artne rs hi p i s re du ced(bu t n otbe lo w th e ad jus te d v al ue of s uc h i nt eres t) b y th e am ou ntof t he li ab il ity , det erm in edas o f th e d at e o f th e ex ch an ge . Cem co In ve st or s, LLC v . Uni te d S ta te s, 5 15 F.3d74 9, 7 52 (7t h C ir. 2 00 8) . All o f whi ch is to say tha t co nt in ge ntli ab il it ie s m us t b e co un te d i n c al cu la ti ng ba si s. The co urts are i n d is ag reem en t as to whet he r th is reg ul at io n app li es retro act iv el y . Com

pa re Mu rfam

Farm s, LLC v . Uni te d S ta te s, 8 8 F ed . Cl. 5 16 (2 00 9) (reg ul at io n i nv al id ), an d Kl am ath S tra te gi c In v. Fu nd , LLC v. Uni te d (...co nt in ue d) 1 8 po si ti ve ba si s i n apa rtn ers hi p i nt eres t b y tra ns ferr in g t ho se op ti on s t o t he pa rtn ers hi p. The Se ve nt h C irc ui t h as ex pl ai ne d t he no rm th ata reg ul at io n o r la w 1 9 sh ou ldap pl y

on ly pro sp ect iv el y

“ m ay be supe rs ed edby a leg is la ti ve gra ntfro m Co ng res s au th or iz in g t he Secr et ary to pre sc rib e th e eff ect iv e d at e wit h re sp ectto an y reg ul at io n.” 26 U.S.C. sec . 78 05 (b )(6 ); C em co , 51 5 F .3dat 7 52
.- 34 -

[* 34 ] Sta te s, 4 40 F. Sup p. 2 d 6 08 , 61 9- 25 (E.D. Tex. 20 06 ), with C em co , 51 5 F .3d at75 2. Ma rk el l ar gu es th atwe can no t ap pl y th e reg ul at io n re tro act iv el y ; the Co m m is si on er d is ag rees an d u rg es us to fol lo w th e Sev en th Cir cu itinCem co . W e ag ree wi th th e Co m

m is si on er, an d h ol d t he reg ul at io n v al idbe cau se itwas i ss ue d
un de r a s pe ci fic co ng res si on al grantof aut ho rit y insec ti on 30 9( c)(1 ) of

th e 2 00 0 Co ns ol id at edApp ro pr ia ti on s Act , 20 01 , Pub . L. No. 10 6- 55 4, ap p. G., se c. 30 9( c)(1 ), 11 4 S ta t. at27 63 A-5 87 , 63 8 (2 00 0) . See Ce m co , 51 5 F .3dat 7 52 (n ot in g Actsp eci fic al ly allo wedth e ret ro act iv e ap pl ic at io n o f as so ci at ed reg ul at io ns ). IV. Effect s Wha t wo ul d b e th e eff

ect s o f ei th er o f th es e an al y se s o n t he ul ti m at e is su e in th is cas e? Ourpri m ary ho ld in g i s tha t M C In ve st m en ts was n ot , as am at te r of fact , a pa rtn ers hi p a t al l. The ab se nc e o f a v al idpa rtn ers hi p m ean s the rul es of s ub ch ap te r K no lo ng er ap pl y

to th e tr an sa ct io n. A d is reg ard edpa rtn ers hi p h as no id en ti ty sep arat e fro m it s o wne rs , andwe tre atitjus t as anag en t o r no m in ee. See , e.g., Tig ers Ey e Trad in g LLC, v . Comm is si on er, 1 38 T.C. 67 , 94 , 96 n.3 2, 9 9 (2 01 2) . Alth ou gh we do n’t re sp ectth e fo rm , we st il l n eedto de al with t he subs ta nc e o f th e tr an sa ct io ns .- 35 -

[* 35 ] See ACM P’shi p v . Comm is si on er, 1 57 F.3d23 1, 2 62 -6 3 (3 d C ir. 1 99 8) , aff’g i n p art , rev ’g inpa rt T.C. M em o. 1 99 7- 11 5. Dis reg ard in g M C In ve st m en ts as apa rtn ers hi p, we treatMC In ve st m en ts as ha vi ng pu rch as edth e QQQ st oc k o n b eh al f of Mark el l as it s ag en t. MC In ve st m en ts in it ia ll y

bo ug ht27 5 s ha res for$9 ,83 7, an d M ark el l l at er s ol d 2 30 of th os e sh ares for$5 ,55 4. Mark el l thu s i nc urreda lo ss onth e sa le of t he QQQ sto ck of $2 ,67 3. Turn in g t o t he tre atm en t o f th e o pt io ns , Mark el l co nc ed edth atth e o pt io ns were a s in gl e o pt io n a s an eco no m ic m at te r, an d we s ee n o re as on why th ey sh ou ld
no t al so be vi ewedas asi ng le op ti on as aleg al m at te r. Mark el l p ric edth e o pt io ns as aneco no m ic un it , andlo ok edforit s p ro fitto th e n etva lu e o f th e p ai r at ex pi rat io n, n otto th e o ff-c ha nc e th ata si ng le op ti on wou ldex pi re i n t he m on ey . The y were ac qu ire d o n t he same dat e, ex ecu te d wi thth e sa m e co un te rp arty , co nt in ge nton id en ti cal fact s, an d e xe rci sabl e o n the same dat e. Altho ug h t he y di d ha ve sep arat e co nf

irmatio ns , th e ISDA Ma st er Ag reem en t’s n et ti ng pro vi si on co ll ap se d t he two in to a si ng le un it . W e th eref or e fi ndth atMark el l s ho ul d h av e tre at edth e o pt io ns as asi ng le op ti on sp readsi nc e th e lo ng an d s ho rt l eg s wer e p art of on e co nt ractan d c ou ldn’t h av e b eensep arat edas am at te r of factan d l aw. Cf.
se c. 10 92 (“ st rad dl e” ru le s) . This m ak es Mark el l’s b as is equa l t o $ 75 ,00 0. Th is- 36 -

[* 36 ] was the on ly m on ey th atch an ge d h an ds be twee n M ark el l an d R efco an d i s th e ap pr op ria te ba si s. Whenth e o pt io ns ex pi redwort hl es s, M ark el l co ul d c la im a $7 5,0 00 lo ss . Evenou r al te rn at iv e h ol di ng --tha t i f on e as su m es MC In ve st m en ts was a bo na fi de partn ers hi p, the ba si s ru le s o f se ct io n 1 .75 2- 6, In co m e Tax Reg s., wou ldst il l p op th e in fla te d- ba si s b al lo on --wo ul d l eadto m uc h t he same resu lt
. The co nt rib ut edop ti on s wo ul d h av e a b as is of $ 75 ,00 0. Un de r th e reg ul at io n Marke ll ’s ou ts id e b as is inMC In ve st m en ts wou ldth enbe on ly $75 ,00 0. Onth e li qu id at io n o f it s i nt eres t, u nd er s ect io n 7 31 , Mark el l wo ul d g eta tr an sf erre d b as is in th e p ro pe rty dis tri bu te d u nd er s ect io n 7 32 equa l t o i ts ou ts id e b as is inth e pa rtn ers hi p a t the ti m e, reduc edby any m on ey rece iv ed . Becau se Mark el l
rece iv ed$4 3 i n c as h, i ts trans ferr edba si s i s $ 74 ,95 7, an d upo n t he sal e o f th e QQQ sh ares , itwou ldreco gn iz e a l os s o f $6 9,4 02 .68 . In an y ev en t, we s us ta in th e Co m m is si on er’s d et erm in at io n o n t he di sa ll owa nc e o f th e g ia ntlo ss an d t he
reco gn it io n o f Marke ll ’s gi an t g ai n o n t he sal e o f it s s to ck po rtf ol io
. V. Pen al ti es The Co m m is si on er ar gu es th atMark el l o wes a pe na lty un de r se ct io n 6 66 2 fo r th e und erp aym en t o f ta x due to a va lu at io n m is st at em en t, an d n otjus t an y va lu at io n b uton e th atis “ gr os s” . A gro ss -v al ua ti on mis st at em en t i nc reas es th e us ua l 2 0% a ccu racy-rela te d p en al ty to 4 0%. Sec . 66 62 (h )(1 ). Forreturns fil ed- 37 -

[* 37 ] be fo re 2 00 6, s ect io n 6 66 2( h) (2 )(A)(i ) de fin eda va lu at io n m is st at em en t as

“ gr os s” if i t was 40 0%, an d o ve rs ta te m en t o f anass et ’s adju st edba si s i s a m is st at em en t o f va lu e. Sec. 6 66 2( e)(1 )(A); Cem co , 51 5 F .3d74 9; San taMo ni ca Pi ctur es , LLC v. Co m

m is si on er, T.C. Mem o. 2 00 5- 10 4; Lon g Term Cap it al Hol di ng s v . Uni te d S ta te s, 3 30 F. Sup p. 2 d 1 22 , 19 9 n .99 (D. Con n. 2 00 4) , aff’d, 15 0 F ed . App x. 4 0 (2 d C ir. 2 00 5) . Mark el l re po rte d aba si s i n t he sh ares of $1 4,9 99 ,95 7 wh eninfactit s b as is was $ 75 ,00 0. Th is is m or e th an40 0% o ve r th e co rrec t am ount , andm ak es Mark el l pr ima fa ci e li ab le forth e 4 0% m is st at em en t pe na lty . Marke ll , ho wev er, cl ai m s tha t i t h as a de fen se . Thatde fen se requi res Marke ll to sh ow tha t i t ac te d wi th reas on ab le cau se an d i n g oo d fa ith. W e d eci de 2 0 th es e que st io ns on a cas e-b y -cas e b as is , tak in g i nt o a cco un t al l th e fac ts an d c irc um st an ces . Sec. 1 .66 64 -4 (b )(1 ), In co m e Tax Reg s. Th es e in cl ud e anex am in at io n o f whe th er a t ax pa y er h adanho ne stm is un de rs tand in g o f factor l aw th atwas re as on ab le inth e li gh t o f th e expe rie nc e, kn owl ed ge , and educ at io n o f th e ta xp ay er. Id
.
Becaus e th is is a cas e o f a g ro ss -v al ua ti on m is st at em en t, we ap pl y th e 2 0 reas on ab le -cau se rul es ass oc ia te d wi th th e ap pl ic at io n o f th e p en al ty on tha t gr ou nd . See Gu st as ha w v. Co m m is si on er, T.C. Mem o. 2 01 1- 19 5, af f’d, 69 6 F .3d 11 24 (11 th Cir . 20 12 ); s ec. 1 .66 64 -4 (b )(1 ), In co m e Tax Reg s.- 38 -

[* 38 ] On thi s que st io n we r each no di ffer en t an swe r he re tha n we d idrece nt ly in Hum bo ld t Sh el by Hold in g C or p. v . Comm is si on er, T.C. Mem o. 2 01 4- 47 , at * 25
- *2 6. Ma rk el l’s und erp aym en t d idno t re su ltfro m anho ne stm is un de rs ta nd in g o f th e la w. Haberis a so ph is ti cat edtax pl anne r who de li be rat el y ex pl oi te d a pe rcei ve d l oo ph ol e in th e la w to try to el im in at e a s ub st an ti al bu il t-i n c ap it al ga in
. Hab er’s ex tre m e so ph is ti cat io n d efea ts an y effo rt t o s ay

th is att em

pt ed
m an ip ul at io n o f th e p artne rs hi p fo rm an d i nd iff

eren ce t o a n app li cab le reg ul at io n was do ne ingo odfai th
. Marke ll ’s effo rts to sh ow tha t i t h adreas on ab le cau se li ke wis e fai ls . It was ba se d e nt ire ly on Hab er’s unr eas on ab le in te rp ret at io n o f Hel m er. Bu t Hel m er i s anin crea si ng ly w ob bl y

au th or ity on whi chto res t. Co m

pa re Pa lm

Can y on X In vs ., LLC v. Co m

mis si on er, T.C. Mem o. 2 00 9- 28 8 (He lm er s up ers ed edby Not ic e 2 00 0- 44 ), Cem co , 51 5 F .3dat 7 51 (Hel m er n otco nt ro ll in g i n t ha t co urt “ or an ywhe re el se ”), an d M ag ui re Partn ers -Ma st er In vs ., LLC v. Uni te d S ta te s, 1 04 A.F.T.R.2d(RIA) 2 00 9- 78 39 (C.D. Cal . 20 09 ) (fo ll owi ng Cem co ), aff’d s ub no m . Tho m as Inv . Partne rs , Ltd . v. Un it edSta te s, 4 44 Fed . App x. 1 90 (9t h C ir. 2 01 1) , with J ad e Trad in g, LLC, 8 0 F ed . Cl. 1 1 (He lm er as co nt ro ll in g aut ho rit y), an d St ob ie Cree k In vs ., LLC v. Uni te d S ta te s, 8 2 F ed . Cl. 6 36 , 66 6 (2 00 8) (Hel m er si gn ifi can t fa ct or ), aff’d, 6 08 F.3d13 66 (Fed . Cir . 20 10 ). In Hel m er, we h el d t ha t- 39 -

[* 39 ] th ere was no co nt in ge ntli ab il ity wher e th e tr an sa ct io n u nd erl y in g t he op ti on was lef t o pe n, an d t he op ti onpre m iu m s wer e n otsubjec t t o fo rfei tu re. Bu t we rece nt ly hel d i n 6 61 1 Lt d., tha t Hel m er i s d is ti ng ui sh ab le fro m si tu at io ns wher e a pa rty sel li ng a pu t o pt io n l ack s the fin an ci al cap aci ty to ev er cl os e itou t. An d n o ta xp ay er s ho ul d b e ab le to pre te ndth atHelm er ex is ts ina va cuum : OnAug us t 1 3, 20 00 , m or e th ana y ear b efo re the MC In ve st m en ts arrang em en t, the IRS p ub li sh ed Not ic e 2 00 0- 44 , ale rti ng tax pa y ers th atth es e types of t ran sa ct io ns --tho se de si gn ed to ov ers ta te ou ts id e b as is by pro du ci ng no ne co no m ic lo ss es --ar e ab us iv e ta x sh el te rs an d wo ul d b e subjec t t o p en al ti es . The n ot ic e ex pl ic it ly lis ts th e of fs et ti ng -o pt io n d ev ic e as on e su chtra ns act io n. So Habe r (an d t hr ou ghhi m Marke ll ) rec ei ve d a m

pl e warn in g t ha t the Co m m is si on er was no t l ik el y

to res pe ct th e ta x t reatm en t o f th e tr an sa ct io n. 2 1

Ano th er way to sh ow re as on ab le cau se an d g oo d fa ith i s t o re as on ab ly and 2 1 in go odfai th rel y

on a pr of es si on al tax advi se r’s op in io n. Ma rk el l d oe s n otarg ue th atth e ta x o pi ni on itrece iv edforth is ve ry pu rp os e sa ti sf

ie s the reas on ab le -b el ie f requi rem en t. An d, s in ce we’ve a lre ady fou ndth atMC In ve st m en ts ha d n o bu si ne ss pu rp os e, we m

us t d en y Mark el l an y

de du ct io n fo r th e $ 22 ,50 0 i n fe es pa idto th atfirm

forit s o pi ni on on th e d eal . See Bro wn v . Comm is si on er, 8 5 T.C. 96 8, 1 00 0 (1 98 5) , aff’d s ub no m . Soc hi n v . Comm is si on er, 8 43 F.2d35 1 (9 th Cir
. 19 88 ).- 40 -

[* 40 ] W e th eref

or e rejectMark el l’s d efen se to th e g ro ss va lu at io n- m is st at em en t pe na lty . An ap pr op ria te de ci si on wil l b e en te red
.