Case Name: D. Robert AUTREY, Jr., an individual, et al., Plaintiffs-Appellees, Cross-Appellants, v. UNITED STATES of America, Defendant-Appellant Cross-Appellee
Court: United States Court of Appeals for the Eleventh Circuit
Jurisdiction: United States
Decision Date: 1989-12-06
Citations: 889 F.2d 973
Docket Number: No. 87-8916
Parties: D. Robert AUTREY, Jr., an individual, et al., Plaintiffs-Appellees, Cross-Appellants, v. UNITED STATES of America, Defendant-Appellant Cross-Appellee.
Judges: Before KRAVITCH and CLARK, Circuit Judges, and HENDERSON, Senior Circuit Judge.
Reporter: Federal Reporter 2d Series
Volume: 889
Pages: 973–1004

Head Matter:
D. Robert AUTREY, Jr., an individual, et al., Plaintiffs-Appellees, Cross-Appellants, v. UNITED STATES of America, Defendant-Appellant Cross-Appellee.
No. 87-8916.
United States Court of Appeals, Eleventh Circuit.
Dec. 6, 1989.
Gary R. Allen, Acting Chief, Appellate Section, Tax Div., Dept, of Justice, William S. Rose, Jr., Asst. Attorney General, Jonathan S. Cohen, Joan I. Oppenheimer, Asst. Attys. Gen., Washington, D.C., for defendant-appellant, cross-appellee.
Jerry B. Blackstoek, Powell, Goldstein, Frazer & Murphy, James W. Hawkins, William M. Ragland, Jr., Atlanta, Ga., for plaintiffs-appellees, cross-appellants.
Before KRAVITCH and CLARK, Circuit Judges, and HENDERSON, Senior Circuit Judge.

Opinion:
KRAVITCH, Circuit Judge:
Appellees-cross-appellants brought suit challenging penalties the Internal Revenue Service had assessed under Internal Revenue Code sections 6700, 6701, and 6694 for promoting abusive tax shelters and aiding and abetting understatement of tax liability. A jury found in favor of appellees and the government appeals, citing as error certain of the district court's jury instructions. Appellees cross-appeal from a decision of the district court that the court lacked jurisdiction to entertain the claim of appellee D. Robert Autrey, Jr. for a refund, as well as the court's decision to deny appellees' motion for litigation costs.
I.
A.
STATEMENT OF FACTS
Autrey is a Georgia lawyer and tax specialist. In the early 1980s Autrey organized four cattle breeding enterprises— Star Brangus Ranch, Inc., Sweet Autumn Land and Cattle Co., Inc., Cattle Enterprises, Ltd., and Circle BA Ranch, Inc. Autrey was the principal promoter of these enterprises, was an officer of each, and played a role in the day-to-day management of each as well.
Autrey promoted the cattle breeding program by means of private placement mem-oranda offered by each of the four corporations. Although each private placement memorandum on its face purports to offer "securities," a close reading of the memorandum and the evidence adduced at trial reveals that investors were purchasing the actual breeding cows and entering into certain ancillary agreements. Each of the cattle breeding corporations operated in a similar fashion.
The Star Brangus Ranch was characteristic of the cattle breeding investment programs. An investor would enter an agreement as a "Breeder" with Star Brangus, which would act as a "Rancher." A typical investor would make an investment of $100,000, $2,000 of which would be cash and the remaining $98,000 would be in the form of a seven-year recourse promissory note. Under the terms of the promissory note the investor would pay nine percent interest for the first four years, i.e., $8,820, in four equal quarterly installments per year, and would pay off the principal in the fifth, sixth, and seventh years ($57,952, $19,000, and $21,048, respectively).
For his money, the investor purchased a breeding herd or "unit" of six mother cows. As part of his investment, an investor would also enter into a Cattle Breeding Agreement and a Calf Option Agreement. Under the Cattle Breeding Agreement the Rancher would take possession of a Breeder's cows and "furnish the bulls and/or the semen and [would] breed the Breeder's cows in accordance with a planned professional breeding program." The Cattle Breeding Agreement also gave the Breeder the right to have any cow in his herd that became barren replaced with one of equal or greater value. As appellees observe, this right of substitution was essentially a warranty as to the fertility of the cows.
The Breeder/investor was obligated under the Cattle Breeding Agreement to pay the Rancher $1,000 per breeding cow per year for maintenance. This maintenance fee, however, was not scheduled in annual payments; instead, the Breeder would pay $24,000 in the fifth year and $6,000 in the sixth year.
In the first year the Breeder would pay the Rancher an initial management fee of $3,700. Each year the Breeder would also pay the Rancher $720 for cattle insurance, $475 as an annual management fee, and $53 for membership in the Cattle Association.
Under the Calf Option Agreement the investor had a "put" option to sell the calves to the rancher for a fixed price when the calves were two years old. Oddly, the "fixed price" for any calves was not related to the number of calves; it was simply set at $25,000 for a given year's "crop" of calves, regardless of how many calves were sold. The Calf Option Agreement was structured so that the Breeder had to take affirmative steps if he did not want to sell a year's calves to the Rancher. If the Breeder took no such steps, the calves would be sold to the Rancher, who would pay for the calves by means of a promissory note. The payments under the promissory note over the course of the agreement were scheduled so that they would largely balance the amounts owed by the Breeder to the Rancher under the breeding cow purchase promissory note.
Offsetting Promissory Note Payments
Description 1983 1984 1985 1986 1987 1988 1989 1990
Principal on $98,000 note $57,952 $19,000 $21,048
"Maintenance" fees $24,000 $ 6,000
Notes (plus accrued interest) under
Calf Option Agreement <$81,952 > < 25,000 > < $25,000 >
Net Cash Amount owed by Breeder to Rancher -0- -0- < $3,952 >
The net result of this is that the Breeder would not have to pay off the $98,000 promissory note with cash; instead, that obligation would be satisfied by the Ranch er's offsetting obligation under the Calf Option Agreement. We also note that although the Rancher's obligations to the Breeder under the Calf Option Agreement would exceed the Breeder's obligation to the Rancher under the promissory note, this excess would itself be largely offset by the maintenance fee, which, as we noted above, was not due annually, but instead was to be paid in the fifth and sixth years.
It is curious that current maintenance expenses would be paid by promissory notes payable some years from when the Rancher in theory accrued the expenses. Although not necessary to our deciding the appeal at hand, viewed in toto, it appears that the "interest" on the $98,000 promissory note was in large part the actual maintenance fee. The so-called "maintenance fee" promissory notes were simply used to help off-set the principal obligation of the $98,000 promissory note.
If the Breeder decided to retain the calves, or to sell them to someone other than the Rancher, then the Rancher had an option to buy "at least" a one-third breeding interest (and, if applicable, semen interest) in any calf for a fixed price of $2,000 per one-third interest. Further, if the Breeder did not "put" the calves to the Rancher, the Breeder had to reimburse the Rancher for certain maintenance, insurance, and advertising costs associated with the calf. The Breeder would also have to reimburse the Rancher for "Artificial Insemination expenditures," "Sire's semen," etc.
Under the terms of the Cattle Breeding Agreement, in the event of the Rancher's bankruptcy,
the Promissory Note for the original purchase of the cattle, given by the Breeder to the Rancher, shall be null and void as of the time the Rancher is adjudicated a bankrupt. Any Promissory Notes given by the Rancher to the Breeder for the purchase of any calves, and any accrued calf option amounts, under the terms of the Calf Option Agreement shall be null and void.
By the same token, if the Breeder was declared bankrupt
prior to the Breeder paying all sums due under the terms of the Promissory Note for the original purchase of the cattle, given by the Breeder to the Rancher, the Promissory Note shall be null and void as of the time the Breeder is adjudicated a bankrupt. Any Promissory Notes given by the Rancher to the Breeder for the purchase of any calves, and any accrued calf option amounts, under the terms of the Calf Option Agreement shall be null and void.
Thus, in the event of either party's bankruptcy, the house of cards made from the various promissory notes would conveniently vanish, relieving both parties of liability.
Although the cattle breeding programs were promoted as being profitable, the private placement memorandum, which Au-trey authored, and the tax opinion letter he wrote and made a part of the private placement memorandum, detail the lucrative tax benefits an investor might enjoy. We need not go into every facet of the cattle breeding program, the largest tax benefits would flow from the depreciation and investment tax credit Autrey asserted would be available on the full $100,000 investment.
As described by Autrey, under then-applicable law, an investor would take the following Accelerated Cost Reduction System ("ACRS") deductions as well as an Investment Tax Credit ("ITC") over the five-year depreciable life of the cattle (assuming that the $100,000'is properly subject to depreciation):
Year ACRS ITC
1 $14,250 $10,000
2 $20,900
3 $19,950
4 $19,950
5 $19,950
In addition, Autrey asserted that all the various annual expenses — e.g., mainte nance, association fees, etc. — would also be deductible, as would the interest on the $98,000 promissory note.
B.
PROCEDURAL HISTORY
The Internal Revenue Service ("IRS") determined that Autrey's cattle breeding program was an abusive tax shelter.
It appears that the first IRS appraiser valued a herd of six cows at $49,800. Two IRS agents, believing that this appraisal was too high for their purposes, asked the appraiser to change his conclusion. The appraiser refused, and the IRS agents destroyed the appraisal and secured another more to their liking.
On March 11, 1985 the IRS assessed Au-trey and the cattle breeding enterprises penalties under section 6700 for promoting abusive tax shelters. Star Brangus was assessed $30,501 with respect to 1982 and $108,988 for 1983. Sweet Autumn Land and Cattle was assessed $43,394 for 1982. Cattle Enterprises was assessed $64,546 for 1982. Circle BA Ranch was assessed $30,029 for 1983. For each assessment against one of the corporations, a duplicate assessment was also made against Autrey individually. Each notice of assessment stated, "THIS IS A DUPLICATE ASSESSMENT AGAINST D. ROBERT AUTREY, JR. AND THIS RELATED CORPORATION, ON THE SAME DATE."
Autrey was also assessed $335,000 under section 6701 for the preparation of material portions of the 1982 and 1983 income tax returns of investors involved in various cattle breeding promotions, and $6,600 under section 6694 for the negligent or intentional disregard of rules and regulations in the preparation of investors' tax returns in 1980 and 1981. In addition, Autrey was assessed $5,000 under section 6700 for the promotion of the Double C Hereford Ranch.
An IRS agent instructed Autrey that only one 15% payment for each "duplicate" assessment would be necessary under section 6703 in order to contest the "duplicate" assessments in the district court. With checks drawn on his personal checking account, Autrey made one 15% payment for each pair of assessments. In the lower left-hand corner of each check, Au-trey referred to the corporation to which the assessment related, e.g., "Sweet Autumn Land & Cattle/IRC6700." The cover letter enclosing each check indicated the taxpayer identification number of both the corporation and Autrey. Also enclosed with each check was a copy of the assessment against the corporation, but not a copy of the "duplicate" assessment against Autrey himself.
The case was tried before a jury. There was conflicting evidence as to the value of the cattle and the ancillary benefits, such as the semen. The government requested the court instruct the jury that in determining whether the appellees had violated section 6700, the jury could only consider the value of the cattle themselves. Instead, the court instructed the jury to consider the value of the "investment unit" as a whole.
Answering special interrogatories, the jury found in favor of the appellees. The government appeals the district court's denial of the government's motion for judgment notwithstanding the verdict or new trial, citing as error the court's jury instruction.
After the trial the government also renewed its argument — which it had made before trial — that the court lacked jurisdiction to entertain Autrey's claim for refund because he had not personally met the jurisdictional requirement of paying 15% of the assessed penalty. The district court concluded that Autrey had not met the statutory requirement, and thus ruled that it lacked jurisdiction to entertain Autrey's individual claim for refund. Autrey cross-appeals the trial court's decision.
Appellees also cross-appeal the district court's conclusion that I.R.C. section 7430 authorized them to recover reasonable litigation costs only for unreasonable conduct on the part of the IRS subsequent to the filing of the taxpayers' refund suit. In addition, appellees also challenge the court's ruling that section 7430 is the exclu sive avenue of recovery for litigation costs based on IRS bad faith or unreasonableness.
II.
THE GOVERNMENT'S APPEAL
The Government's appeal focuses on the trial court's jury instructions. Whether the jury instructions, taken as a whole, correctly state the law is a question of law of which our review is plenary. Somer v. Johnson, 704 F.2d 1473, 1477-78 (11th Cir.1983).
A.
We begin with the statutes under which appellees were assessed penalties. The IRS assessed penalties under section 6700, which provides as follows:
§ 6700. Promoting abusive tax shelters, etc.
(a)Imposition of penalty. — Any person who—
(1) (A) organizes (or assists in the organization of)—
(1) a partnership or other entity,
(ii) any investment plan or arrangement, or
(iii) any other plan or arrangement, or (B) participates in the sale of any
interest in an entity or plan or arrangement referred to in subparagraph (A), and
(2) makes or furnishes (in connection with such organization or sale)—
(A) a statement with respect to the allowability of any deduction or credit, the excludability of any income, or the securing of any other tax benefit by reason of holding an interest in the entity or participating in the plan or arrangement which the person knows or has reason to know is false or fraudulent as to any material matter, or
(B) a gross valuation overstatement as to any material matter, shall pay a penalty equal to the greater of $1,000 or 20 percent of the gross income derived or to be derived by such person from such activity.
(b) Rules relating to penalty for gross valuation overstatements.—
(1) Gross valuation overstatement defined. — For purposes of this section, the term "gross valuation overstatement" means any statement as to the value of any property or services if—
(A) the value so stated exceeds 200 percent of the amount determined to be the correct valuation, and
(B) the value of such property or services is directly related to the amount of any deduction or credit allowable under chapter 1 to any participant.
(2) Authority to waive. — The Secretary may waive all or any part of the penalty provided by subsection (a) with respect to any gross valuation overstatement on a showing that there was a reasonable basis for the valuation and that such valuation was made in good faith.
(c) Penalty in addition to other penalties. — The penalty imposed by this section shall be in addition to any other penalty provided by law.
Before proceeding further, we should dispose of one of appellees' arguments. Appellees argue — strangely, as a part of their harmless error analysis — that penalties under section 6700 may not be assessed against the corporate appellees.
First, we note that the applicable general definition of "person" includes corporations. See I.R.C. § 7701. Appellees, however, argue that the penalties under section 6700 cannot be assessed against the allegedly abusive tax shelter itself, only against the promoters of the shelter. Yet as the government points out, the corporations themselves were not the tax shelters, the cows were. The corporations promoted the cattle tax shelter, and thus may properly be assessed penalties under section 6700.
Liability may be imposed under section 6700 on any person who organizes or participates in the sale of a tax shelter for either of two reasons. Under section 6700(a)(2)(A) a penalty is imposed for knowingly making false or fraudulent material representations as to the allowability of any deduction or credit. Under section 6700(a)(2)(B), on the other hand, a penalty is imposed for "a gross valuation overstatement as to any material matter." "Gross valuation overstatement" is defined in section 6700(b)(1)(A) as exceeding 200% of the correct valuation.
At trial the government argued that penalties were properly assessed under either prong of section 6700. The crux of the government's appeal may best be illustrated by considering the second type of liability under section 6700.
1. Section 6700(a)(2)(B) — Gross Valuation Overstatement.
In determining whether a person has made a gross valuation overstatement the finder of fact must first know what the subject of the "valuation" is in the first place, i.e., exactly what was being valued.
It is undisputed that whatever was being valued, appellees gave "it" a valuation of $100,000. It is also undisputed that, at a minimum, "it" included the six breeding cows. The question is whether "it," for the purposes of valuation, included anything else.
From the private placement memorandum, it would appear that the $100,000 valuation was limited solely to the six breeding cows. The bill of sale is unambiguous on this point:
The Rancher, STAR BRANGUS RANCH, INC., for and in consideration of the sum of One Hundred Thousand ($100,000.00) Dollars, consisting of a down payment in the amount of Two Thousand ($2,000.00) Dollars and a Promissory Note in the amount of Ninety-Eight Thousand ($98,000.00) Dollars, does hereby sell, bargain, convey, transfer and deliver to the Breeder all right, title and interest in and to the Brangus cattle described on Exhibit "BS", hereto annexed and made a part hereto by reference.
From this it would appear that the case is straightforward: was the valuation of the six breeding cows a gross valuation overstatement as that term is defined in section 6700(b)(1)(A)?
Appellees, however, argue that the $100,-000 valuation included many things in addition to the breeding cows themselves. For example, during the presentation of appel-lees' case at trial, Autrey testified as follows:
Q. Can you tell us what you as the drafter of the Bill of Sale and as the — in preparing this document for the cattle-breeding program intended to sell to the investors at the time as a part of the cattlebreeding program?
A. They would be buying the cows; they would be buying the management in which to be able to breed these cows to the respective sires that were owned by the ranch; the use of the bull semen that would be the catalyst that would create the calves that would be born of their cows; the maintaining of these cows and calves in a breeding program in which the investor could get a profit; the taking if these calves being managed by our showmen [sic], at that point in time — well, just our showmen [sic] who did nothing but groom the cows, that's the only reason he was on the payroll, was to groom the calves so they could be placed in exhibition in shows. They received the ability to place any of their calves or cows in any of our sales, and we would market those calves and cows for them.
Q. What if a cow turned out to be barren, that is, it would not produce a calf?
A. That's the reason I put the substitute in there. If you have the — the Ranch guaranteed to the investor that they .would have viable cows that could be used in a breeding program and they would have a reasonable expectation of receiving calves. If they didn't get any calves . we would get rid of this particular cow if she was a hard breeder or if for some reason she couldn't be bred at all, because we were going to have to have calves being born. The only way we can make money as a ranch and the only way the investor can make any money as an investor is if calves are born. This is the only way we can do it_
Trial Transcript vol. 2 at 192-94.
Seizing the bull by the horns, as it were, appellees direct our attention to Houchins v. Commissioner, 79 T.C. 570 (1982) and Grodt & McKay Realty, Inc. v. Commissioner, 77 T.C. 1221 (1981). Appellees argue that these cases show that when valuing a tangible asset, the value of associated intangible contract rights must also be included. We agree that Houchins and Grodt are instructive, but perhaps not in the way appellees would like.
Both Houchins and Grodt involved investments in cattle breeding tax shelters, and in both, the taxpayers argued that the value of their investment included certain contract rights associated with the cattle themselves. In both cases the Tax Court considered the value of these contract rights, but concluded that these rights were valueless. Although Houchins and Grodt cannot stand for the proposition that intangible contract rights must add value to an associated tangible asset, nevertheless, we find Houchins and Grodt useful because they illustrate a simple truth: a valueless intangible contract right can add no value to an associated tangible asset.
The items that appellees argue should be included — and which the government argues should not be included — fall into two categories. First, appellees argue that the $100,000 valuation included the value of high quality bull semen. Second, the appel-lees argue that the $100,000 valuation included certain intangibles, such as the right to have a nonbreeding cow replaced.
Before considering each of the additional items that appellees assert went into the $100,000 valuation, we note that appellees' good faith belief that an item gave additional value does not suffice under section 6700(a)(2)(B). As quoted above, a statement is a "gross valuation overstatement" if
(A) the value so stated exceeds 200 percent of the amount determined to be the correct valuation, and
(B) the value of such property or services is directly related to the amount of any deduction or credit allowable under chapter 1 to any participant.
I.R.C. § 6700(b)(1). Thus, a promoter is in essence strictly liable for grossly overstating the value of property or services based upon which an investor will attempt to take a deduction or credit. The apparent harshness of this rule is mollified by section 6700(b)(2), which gives the Commissioner the authority to waive the penalty if the promoter acted in good faith.
Whether a valuation statement "exceeds 200 percent of the amount determined tp be the correct valuation," is a mixed question of law and fact. The actual valuation statement made by a promoter is, of course, a factual issue — in this case it is undisputed to be $100,000. Yet, as we shall discuss, some things — as a matter of law — can add no value, and thus, cannot be a part of the "correct valuation" under section 6700(b).
In the context of the instant appeal, the six cows unquestionably have value, and thus the finder of fact must determine their correct valuation. Whether the value, if any, of a warranty, or semen, or management services, tangibles or intangibles, etc., may be included in the valuation is, on the other hand, a question of law. If, as a matter of law, any of those items may add some value, then it is within the province of the finder of fact to ascertain their correct valuation. Where the items have no value, however, it would be improper to instruct the jury to consider the valueless items as that would confuse the jurors and could lead to an illogical and capricious verdict.
a. Bull Semen
We first address the one additional tangible asset that the appellees assert is properly included in the valuation. Before this court appellees assert, as they did below, that in addition to a breeding herd of six cows, an investor purchased "bull semen (a tangible asset) [that] was worth between $20,000 and $23,000." For the reasons discussed below, we conclude that as a matter of law the bull semen could add no value to the investment.
First, we note that appellees appear to overstate the case somewhat by claiming that the investor actually purchased a five-year supply of bull semen as a tangible asset which could be depreciated. There is no record evidence to suggest that the investors actually purchased and took title to any bull semen, frozen in liquid nitrogen, or otherwise.
At the most, an investor actually purchased tangible semen for the first year of the cattle breeding program, and a right to a future supply of bull semen in subsequent years. Over the five years of the agreement the investor's cows would be impregnated by this semen. But the investor did not actually purchase a specific existing quantity of semen, nor was the semen itself "identified." Indeed, the donor bull was not even identified.
This clarification, however, is not necessarily dispositive of the question of whether the right to bull semen or actual bull semen itself may properly be included in the valuation. The answer to this question lies in the Calf Option Agreement.
As noted above, if a Breeder elected to retain a calf or to sell it to someone other than the Rancher, the Calf Option Agreement specifically required the Breeder to reimburse the Rancher for the cost of the sire's semen and for the costs of insemination. If the Breeder had already purchased the semen as a part of his $100,000 investment, then he could not be required to buy it again later. The simple legal reality of the transaction is that the $100,-000 investment cannot have included the actual semen.
Even if we posit that the investor purchased an option to buy a future supply of semen, that ersatz option cannot have added any material value to the investment because the price at which the Breeder would have to purchase the semen is, under the Calf Option Agreement, the actual cost. Thus, as a matter of law, the semen could not have added any value to the $100,000 investment.
b. Other Intangibles
Appellees also argue that the investor "purchased" certain other intangible contractual rights, and that the value of these additional rights should be included in the valuation. We note that at this point we are not considering whether these intangibles are properly subject to the ITC and ACRS; instead, we are focusing solely on their economic value absent ITC and ACRS. Yet here again, because the contractual terms of those intangible rights required the investor (as Breeder) to pay for any benefits such as management services, the asserted additional value of these rights is chimerical.
For example, as the excerpt of Autrey's testimony quoted above shows, appellees assert that the management and maintenance services the Rancher was obligated to provide under the Cattle Breeding Agreement added value to the investment. Yet, as noted above, the Cattle Breeding Agreement specifically required the Breeder to compensate the Rancher for those very same services, such as feed and veterinary care.
Before turning to the right of substitution, it is useful to consider where our analysis has brought us so far. As noted above, the private placement memorandum — in particular the bill of sale and promissory note, the Cattle Breeding Agreement, and the Calf Option Agreement — suggests that the $100,000 was solely for the purchase of the breeding cows. At trial, however, appellees in essence argued that the documents did not mean what they said, and that the investor was actually purchasing much more. Yet by making such arguments, the appellees ignored the inescapable legal consequences of the complex web of contractual arrangements that appellees drafted and entered into. By giving full legal effect to the agreements, we have returned to the point from which we began: the private placement memorandum meant what it said.
c. Right of Substitution
Whether the right of substitution — essentially a warranty as to the fertility of the cows — may add value to the investment is a slightly different issue. At trial the appellees argued that the market value of the six breeding cows did not include the value of this warranty, and that the warranty itself thus added additional value.
Even assuming arguendo that the market value of the cows does not reflect the warranty, the benefit of the warranty ran to the Rancher. As noted above, the Calf Option Agreement obligated the Rancher to purchase each year's "crop" of calves. As we also noted, the Rancher's purchase price was not based on the number of calves. For example, if the six cows produced a "crop" of six calves, the Rancher would pay the Breeder $25,000 (through a promissory note). Similarly, if the six cows produced a "crop" of only one calf, the Rancher would still be obligated to pay the same $25,000. Thus, the risk of fertility was essentially shifted to the Rancher. The Breeder would have no incentive to pay more for a warranty when he would not suffer the ill-consequences of nonfertility. Therefore, given the effect of the Calf Option Agreement, the warranty adds no significant value to the investment.
d. Jury Instructions on Section 6700(a)(2)(B)
With these observations in mind, we turn to the jury instructions given by the trial court. The government specifically requested that the court instruct the jury it could only consider the valuation of the cows themselves. The court, however, instructed the jury to consider the value of the "investment unit." Because we have concluded that, as a matter of law, only the cattle could be considered in determining the "correct valuation," the court's jury instruction was in error, and the government's requested charge, insofar as it was limited to the cattle value, was correct.
Autrey's actual cost of the breeding cows the investor purchased was about $24,096 per unit of six cows. The trial testimony as to the value of the cows ranged from $14,922 to $92,700 per herd. Because there was ample evidence to support a jury finding that $100,000 was a gross valuation overstatement, the error in the jury instruction was not harmless.
2. Section 6700(a)(2)(A) — False Representations.
We turn next to the government's alternative theory of liability under section 6700. Section 6700(a)(2)(A) imposes a penalty on a person who makes "a statement with respect to the allowability of any deduction or credit . which the person knows or has reason to know is false or fraudulent as to any material matter." By its terms, section 6700(a)(2)(A) does not impose a strict liability; instead, the section requires that a person must "know or have reason to know" that a statement as to the allowability of a deduction or credit is "false or fraudulent."
a. The Statement
The first step under section 6700(a)(2)(A) is to determine the "statement with respect to the allowability of any deduction or credit" made by appellees. Appellees assert that this statement was that ACRS and ITC would be available on both the tangible and intangible property that made up the cattle breeding program investment. Even taking appellees at their word, however, does not help their ease.
b. False or Fraudulent
The next step is to determine whether that statement was "false or fraudulent." There is no dispute that the six cows are properly subject to the ITC and ACRS. Thus, we must turn to the question of whether appellees' statement on the availability of the ACRS and ITC on the other tangible and intangible assets was "false or fraudulent."
We first turn to appellees' statement that the ACRS and ITC are available for intangible assets. Appellees have cited no authority for this proposition. Internal Revenue Code sections 38(a)(2) and 46(a) allowed for a tax credit of a percentage of the cost of a "qualified investment." Under the section 46(c) definition, a "qualified investment" could only be "section 38 property." The final piece to our puzzle is to be found in section 48(a), which limited the definition of "section 38 property" to certain tangible property. Therefore, based on the Code, the ITC was available only on tangible property.
Similarly, the availability of the ACRS was also specifically linked to tangible property. Under section 168(a), depreciation under the ACRS was available only for "recovery property." Section 168(c) in turn defined recovery property as tangible property. Thus, the ACRS was also available only for tangible property.
Appellees argue that Texas Instruments, Inc. v. United States, 551 F.2d 599 (5th Cir.1977) supports their assertion that intangible property can be "bundled" with tangible property, and the value of both can be subject to the ACRS and the ITC. First, we note that in Texas Instruments the issue before the court was not whether tangible or intangible assets are subject to the investment tax credit, or whether they could be bundled together. Instead, the issue was whether the value of the tangible assets — computer data tapes — included the cost basis of the collection of the seismic data stored on the tapes. The court ex pressly concluded that the property at issue — tapes with certain seismic data — was in fact tangible. 551 F.2d at 611 ("Thus, the basis of the tangible tapes and films must include the costs of collecting . seismic data and recording it on the tangible property, with the result being an asset constituting 'tangible personal property.' ")•
Appellees' argument based on Texas Instruments may be reduced to the following syllogism: (1) Seismic data is intangible. (2) The value of seismic data is included in the tangible asset data tape. (3) Therefore, the value of intangibles may be included in the value of tangibles. Appellees ignore the essential facts that led the Texas Instruments court to its conclusion.
Texas Instruments does not suggest that intangible assets are themselves subject to the ITC or ACRS. Moreover, Texas Instruments does not hold that the value of an intangible contract right may be "bundled" with a related tangible asset. Instead, Texas Instruments teaches that tangible property that is the physical incarnation of an intangible may include the cost basis of collecting or creating that intangible. "[The tapes] have intrinsic value because the seismic information thereon does not exist as property separate from the physical manifestation." Id. Thus, in Texas Instruments itself, the depreciable cost of data tapes and films containing seismic data included the cost of obtaining that data. Similarly, the basis of a motion picture film may include the cost of "creating" the film. E.g., Walt Disney Productions v. United States, 549 F.2d 576 (9th Cir.1976).
Appellees' cattle breeding program is entirely different. Although the alleged intangible assets — contract rights — relate to the tangible cows, that does not mean that they have no existence other than through the tangible assets. Indeed, any intangible contract right may be thought of as relating to some tangible asset. Appellees' reasoning would swallow up all intangible assets into heretofore unknown "bundles." The simple truth is that the intangibles here are contract rights, which are not tangible. Laird v. United States, 556 F.2d 1224 (5th Cir.1977), cert. denied, 434 U.S. 1014, 98 S.Ct. 729, 54 L.Ed.2d 758 (1972). As we noted above, intangibles are not subject to the ITC or ACRS.
Appellees have failed to suggest how the intangible rights involved in the cattle breeding tax shelter would fit under the rule of Texas Instruments, and they have also utterly failed to show how the intangible contract rights involved are any different from all other contract rights, which are not subject to the ITC or ACRS, a point on which the law has long been settled. By no stretch of the imagination can we fit appellees' cattle breeding program within Texas Instruments.
Thus, we conclude that as a matter of law, appellees' statements as to the allowability of the ACRS and ITC with respect to the intangible aspects of the cattle breeding program were false. We also observe that these statements were unquestionably "material."
c. "Knows or has reason to know"
The next step under section 6700(a)(2)(A) is to determine whether the appellees "knew or had reason to know" that their false statement as to the allowability of the ITC and ACRS for the intangible aspects of the cattle breeding program was false. This is a determination for the finder of fact on remand.
3. On remand
On remand, the court must instruct the jury under sections 6700(a)(2)(A) and (B) along the lines of our analysis above.
The first step is to determine the statement made as to the allowability of a deduction or credit. If the jury concludes that, as appellees assert, the statement was that the $100,000 investment included the value of the cows and the ancillary intangible contract rights, and that all would be properly subject to the ITC and ACRS, the court must instruct the jury that the statement as to the allowability of the ACRS and ITC for the intangible aspects of the investment was false for the purposes of section 6700(a)(2)(A). Furthermore, the court must instruct the jury that in determining the "correct valuation" under section 6700(a)(2)(B), the sole item to be valued is the cattle themselves.
B.
The IRS also assessed penalties under section 6701, which provides in part:
§ 6701. Penalties for aiding and abetting understatement of tax liability
(a) Imposition of penalty. — Any person—
(1) who aids or assists in, procures, or advises with respect to, the preparation or presentation of any portion of a return, affidavit, claim, or other document in connection with any matter arising under the internal revenue laws,
(2) who knows that such portion will be used in connection with any material matter arising under the internal revenue laws, and
(3) who knows that such portion (if so used) will result in an understatement of the liability for tax of another person, shall pay a penalty with respect to each such document in the amount determined under subsection (b).
(b) Amount of penalty.—
(1) In general. — Except as provided in paragraph (2), the amount of the penalty imposed by subsection (a) shall be $1,000.
(2) Corporations. — If the return, affidavit, claim, or other document relates to the tax liability of a corporation, the amount of the penalty imposed by subsection (a) shall be $10,000.
(3) Only 1 penalty per person per period. — If any person is subject to a penalty under subsection (a) with respect to any document relating to any taxpayer for any taxable period (or where there is no taxable period, any taxable event), such person shall not be subject to a penalty under subsection (a) with respect to any other document relating to such taxpayer for such taxable period (or event).
(f) Penalty in addition to other penalties.—
(1) In general. — Except as provided by paragraph (2), the penalty imposed by this section shall be in addition to any other penalty provided by law.
(2) Coordination with return preparer penalties. — No penalty shall be assessed under subsection (a) or (b) of section 6694 on any person with respect to any document for which a penalty is assessed on such person under subsection (a).
The jury's determination of appellees' liability under section 6701 was necessarily related to its determination under section 6700. Yet, as we have concluded, the jury's findings with regard to section 6700 were based on erroneous instructions. Therefore, the findings under section 6701 as well as the jury's findings with regard to section 6694 must be set aside.
III.
THE TAXPAYERS' CROSS-APPEAL
1. Jurisdiction
The appellees cross-appeal the trial court's determination that it lacked jurisdiction to entertain Autrey's individual claims for refund because he had not met the statutory requirements for seeking a refund in the district court.
Under section 6703, a person seeking to challenge in the district court the assessment of a penalty under section 6700 or 6701 must pay 15% of the assessed penalty:
§ 6703. Rules applicable to penalties under sections 6700, 6701, and 6702
(a) Burden of proof. — In any proceeding involving the issue of whether or not any person is liable for a penalty under section 6700, 6701, or 6702, the burden of proof with respect to such issue shall be on the Secretary.
(b) Deficiency procedures not to apply. — Subchapter B of chapter 63 (relating to deficiency procedures) shall not apply with respect to the assessment or collection of the penalties provided by sections 6700, 6701, and 6702.
(c) Extension of period of collection where person pays 15 percent of penalty.—
(1) In general. — If, within 30 days after the day on which notice and demand of any penalty under section 6700, 6701, or 6702 is made against any person, such person pays an amount which is not less than 15 percent of the amount of such penalty and files a claim for refund of the amount so paid, no levy or proceeding in court for the collection of the remainder of such penalty shall be made, begun, or prosecuted until the final resolution of a proceeding begun as provided in paragraph (2).
Notwithstanding the provisions of section 7421(a), the beginning of such proceeding or levy during the time such prohibition is in force may be enjoined by a proceeding in the proper court.
(2) Person must bring suit in district court to determine his liability for penalty. — If, within 30 days after the day on which his claim for refund of any partial payment of any penalty under section 6700, 6701, or 6702 is denied (or, if earlier, within 30 days after the expiration of 6 months after the day on which he filed the claim for refund), the person fails to begin a proceeding in the appropriate United States district court for the determination of his liability for such penalty, paragraph (1) shall cease to apply with respect to such penalty, effective on the day following the close of the applicable 30-day period referred to in this paragraph.
The code refers to a 15% payment by "any person" on whom notice and demand are made. The "duplicate assessments" were made against both Autrey and the corporate entities, all of whom are "persons" for this purpose. Accordingly each entity was required by the statute to pay 15% of the penalty in order to preserve the district court's jurisdiction.
The inescapable fact is that for each "duplicate assessment" only one 15% payment was made. The district court concluded that, based on the evidence, the payment was not made by Autrey in his individual capacity, but instead was made by the corporations. We cannot say that this was error.
Autrey argues that because an IRS agent told him that only one payment was required for each "duplicate assessment" the government should somehow be estopped from asserting lack of jurisdiction. It is too late in the day to argue that estoppel may confer jurisdiction on a court of limited jurisdiction, be those limitations based on constitutional or statutory grounds.
Autrey also argues that the issuance of "duplicate" assessments is itself not authorized by the Code. By making this argument, however, Autrey fails to grasp that the district court lacked jurisdiction to entertain such a challenge to the validity of the assessment. As the district court so succinctly noted, Autrey "may not by-pass the jurisdictional prerequisite by attacking the validity of the assessment."
2. Litigation costs
Appellees also cross-appeal from the district court order denying their motion for litigation costs. Under section 7430, a prevailing party may recover reasonable litigation costs if "the position of the United States in the civil proceedings was unreasonable." Under prior binding precedent of this court, the "position" of which the reasonableness must be judged is solely that taken in the civil litigation, and does not include prior administrative positions or conduct. Ewing v. Heye, 803 F.2d 613 (11th Cir.1986). The district court concluded that the government's position during litigation was reasonable, a conclusion that our analysis supports. Because we have vacated and reversed the judgment in favor of appellees, however, appellees are no longer the "prevailing party." Thus, any issue of fees under section 7430 is not properly before this court. Nor need we reach appellees-cross-appellants' argument in the alternative that they may recover fees under 28 U.S.C. § 2412.
IV.
CONCLUSION
We conclude with an admonitory note. In this opinion we have not sought to chart the course for some future promoter of cattle breeding as a tax shelter. Rather, we have simply decided the case at hand. As this case so well illustrates, the promoter of a tax shelter who tries to avoid the mistakes made by others may unwittingly fall into new ones of his own making. And that is how it should be.
Discussing another provision of the Internal Revenue Code aimed at curbing abuse, Judge Raum observed that "Congress was obviously fed up with widespread abusive practices." Hans S. Mannheimer Charitable Trust v. Commissioner, 93 T.C. 35 (1989). We believe the section 6700 and 6701 penalties reflect a similar congressional intolerance of grossly abusive practices.
AFFIRMED IN PART, REVERSED IN PART and REMANDED WITH INSTRUCTIONS.
. This case is governed by the Internal Revenue Code of 1954, as amended, not by the Internal Revenue Code of 1986. All references will be to the Code of 1954 unless otherwise specifically indicated.
. Use of terms such as "investment," "purchase," "price," "warranty," "interest," "principal," "option," etc., should not be taken as carrying any conclusion as to the legal effect of the documents or transactions involved.
. We follow the practice of the parties in using the Star Brangus Ranch memorandum as an example.
. Including interest on the $98,000 promissory note, the total cash payments from the Breeder to the Rancher would be about $10,000 each year.
. Arguably, the agreement could be construed to permit the Rancher to purchase three-thirds (i.e., the entire calf) for $6,000.
. If the Rancher elected to purchase a share of a calf then these costs would be borne pro rata,
. Section 7701 provides in relevant part:
§ 7701. Definitions
(a) When used in this title, where not otherwise distinctly expressed or manifestly incompatible with the intent thereof—
(1) Person. — The term "person" shall be construed to mean and include an individual, a trust, estate, partnership, association, company or corporation.
As our analysis indicates, the use of this general definition is not "manifestly incompatible" with the intent of section 6700, nor is there any contrary indication in section 6700 itself.
. Judge Clark's assertion that valuation is usually a matter for the jury does not undermine our conclusion, which is that a jury should not be permitted to increase a valuation determination based on a valueless "intangible right." Laird v. United States, 556 F.2d 1224 (5th Cir.1977), is in no way contrary as there the intangible rights were valuable. Moreover, Laird was tried to the court as a finder of fact.
. Judge Clark, in dissent, argues that because the rancher had the right to place the investor's cattle in shows with the possible result of increasing the value of that particular animal and its progenitors, therefore the investor received something of value which he did not pay for separately. Judge Clark's analysis and view of the record are inaccurate. First, analytically, the fact that the rancher unilaterally could decide to place or not to place calves (Autrey's testimony and the underlying documents refer to calves being shown) in shows provided no bargained for benefit purchased by the investor. The investor did not purchase a right to have his or her calves shown, nor did the investor purchase a right to have other Star Brangus calves shown (in hopes that the success of others would have a salubrious effect on the value of his own investment). That the rancher did show calves and that the promotion may have improved the value of the investor's calves is immaterial to those intangible rights purchased by the investor. Assuming arguendo, however, that the parties understood the rancher's obligation to provide "a professional breeding program" to encompass an obligation to show the animals, nonetheless, the investors paid the expenses in addition to the initial investment.
Autrey testified "We also had included in the program the right to have their calves shown at no further cost to them other than the actual expense of being on the road." In fact, however, the Calf Option Agreement provides that if the investor decides to retain ownership of a calf (i.e., decides to override the rancher's automatic ownership option), then "the Breeder [investor] will reimburse the Rancher for .
(b) advertising of any specific calf; and
(c) Show/Exhibition expenditures, including, but not limited only hereto . registration, travel, grooming and the like, prorated for any specific calf." (second ellipsis in original).
The agreement provided that there were "no agreements, representations, or warranties, either expressed or implied, oral or written, other than those expressly herein set forth." Autrey's testimony to the contrary cannot defeat the provisions of the agreement.
Therefore, as with the the management and maintenance fees, to the extent the investors elected to reap any of the real economic benefits of the show awards, the investors were required to pay their own way. Otherwise, the rancher automatically owned the calf, decided whether or not to show it, and received any of the concomitant benefits. The economic reality exhibited here is the same as that permeating the entire deal: the investor owned the cattle, and all additional maintenance or investment-enhancing services were provided on a pay-as-you-go basis.
Finally, even if the investors did not bear the costs, it is far from clear that the appraised value of the cattle would not already include the increased value resulting from the results of exhibition showings. We need not reach that issue, however, given the facts of this case.
. We note the Tax Court has observed that in the cattle breeding business such warranties are customary, and are included in the market price of the breeding cows. See Houchins v. Commissioner, 79 T.C. 570 (1982); Grodt & McKay Realty, Inc. v. Commissioner, 77 T.C. 1221, 1239 (1981) ("since the standard practice in the industry when selling breeding cattle is to include a nonbreeder warranty, that warranty adds nothing to the established fair market value of [the] cattle"). The Tax Court's observation, not dispositive of the case at hand, illustrates an important point. It is often difficult to ascertain the value of an intangible asset such as a warranty, and courts must be alert to prevent the possibility of double-counting. If the appel-lees argue that the warranty has a separate ascertainable value, then the appellees must show first that the value of the warranty is not already reflected in the market value of the cattle. The appellees must then prove the additional value of the warranty.
. Judge Clark asserts that evidence was presented at trial demonstrating that the right of substitution resulted in an increase in the value of the investor's "unit" of six cows, and that a reasonable jury could have so found. As with the showing "rights," the issue here is not whether some investors in fact received better and younger cows as the result of substitution; the issue is whether each investor purchased the right to such a substitution. In fact, the agreement provided that the rancher was obliged to substitute a cow of "equal or greater quality." Judge Clark's assumption that the substitute cows always would be younger is unfounded. Admittedly, the substitute cow did have to be fertile and of at least equal quality. The substitution provision required no more than equal value replacement, and accordingly we believe no additional value was guaranteed the investor by the substitution agreement.
. Thus, we agree with Judge Clark on the legal standard to be applied on appeal in evaluating a party's allegation of error as to jury charges, but because of our differing views on the merits of valuation we conclude that the government has placed the issue before us properly. We need not expressly approve the letter of the government's proffered instruction, but we do conclude that it was sufficient to alert the trial judge to the gist of the government's contention. Under the law, as we have set forth above, the instruction as given could have misled the jury and adversely affected its understanding of the issues.
.Before proceeding any further, it may be useful to put our discussion in perspective. As this appeal illustrates, § 6700(a)(2)(A) and (B) stand as Scylla and Charybdis, traps to the left and to the right for the promoter of an abusive tax shelter. On the one side, appellees face the risk of § 6700(a)(2)(B) of gross valuation overstatement as to the $100,000 investment. To avoid this, appellees argued that the $100,000 investment included additional intangible rights. Yet in trying to avoid § 6700(a)(2)(B), appellees risk falling into the whirlpool of § 6700(a)(2)(A). If those alleged intangible rights were included in the investment, but if they are not subject to the ITC and ACRS, then appellees have made a false statement under § 6700(a)(2)(A), and will be liable if they knew or had reason to know that it was false.
. Section 46(c) provided in part:
(c) Qualified investment.—
(c)(1) In general. — For purposes of this sub-part, the term "qualified investment" means, with respect to any taxable year, the aggregate of—
(c)(1)(A) the applicable percentage of the basis of each new section 38 property (as defined in section 48(b)) placed in service by the taxpayer during such taxable year, plus (c)(1)(B) the applicable percentage of the cost of each used section 38 property (as defined in section 48(c)(1)) placed in service by the taxpayer during such taxable year.
. Section 48 read in part:
§ 48. Definition; special rules (a) Section 38 property.—
(a)(1) In general. — Except as provided in this subsection, the term "section 38 property" means—
(a)(1)(A) tangible personal property (other than an air conditioning or heating unit), or
(a)(1)(B) other tangible property (not including a building and its structural components)
. Section 168(a) provided:
§ 168. Accelerated cost recovery system (a) Allowance of deduction. — There shall be allowed as a deduction for any taxable year the amount determined under this section with respect to recovery property.
. Section 168(c) provided in part:
§ 168(c) Recovery property. — For purposes of this title—
(c)(1) Recovery property defined. — Except as provided in subsection (e), the term "recovery property" means tangible property of a character subject to the allowance for depreciation—
(c)(1)(A) used in a trade or business, or
(c)(1)(B) held for the production of income.
. By contrast, under § 167 of the Code, certain intangibles could be depreciated. See Reg. 1.167(a)-3.
. Revenue Ruling 71-177. 1971-1 C.B. 5, is fully consistent with this. Computer software is simply another form of "data," and thus is akin to the seismic data in Texas Instruments.
. In their brief before this court, the appellees claim that "[t]he Government's failure to cite Texas Instruments as controlling authority contrary to its position is at best disingenuous and comes close to a violation of ethical rules or Fed.R.Civ.P. 11." Because we find that Texas Instruments was in no way contrary to the Government's position, we of course find no reason to impugn the Government's conduct.
We will take this opportunity, however, to warn appellees' counsel that we look with disfavor on a party's use of Rule 11 or the ethical rules as combative tools. The rules governing the ethical conduct of lawyers are far too important to be trivialized and used in baseless mudslinging such as this. We will not tolerate attempts to use the ethical rules in a way contrary to the spirit of those very rules.
. Nevertheless, we should note that just because we have taken the time to dispose of appellees' "bundling" argument, this should not be taken as any indication that we believe the argument itself is reasonable, or that Autrey was under such a belief at the time he made the statement at issue. Indeed, we can only reiterate that appellees' reliance on Texas Instruments is wholly inapposite, and there is no support for their claim that any intangible contract right may be "bundled" with tangible assets to which they may relate.
. Section 6694 provides in part as follows:
§ 6694. Understatement of taxpayer's liability by income tax return preparer
(a) Negligent or intentional disregard of rules and regulations. — If any part of any understatement of liability with respect to any return or claim for refund is due to the negligent or intentional disregard of rules and regulations by any person who is an income tax return preparer with respect to such return or claim, such person shall pay a penalty of $100 with respect to such return or claim.
(b) Willful understatement of liability. — If any part of any understatement of liability with respect to any return or claim for refund is due to a willful attempt in any manner to understate the liability for a tax by a person who is an income tax return preparer with respect to such return or claim, such person shall pay a penalty of $500 with respect to such return or claim. With respect to any return or claim, the amount of the penalty payable by any person by reason of this subsection shall be reduced by the amount of the penalty paid by such person by reason of subsection (a).
. Section 7430 provides in relevant part:
§ 7430. Awarding of court costs and certain fees
(a) In general. — In the case of any civil proceeding which is—
(1) brought by or against the United States in connection with the determination, collection, or refund of any tax, interest, or penalty under this title, and
(2) brought in a court of the United States (including the Tax Court and the United States Claims Court),
the prevailing party may be awarded a judgment for reasonable litigation costs incurred in such proceeding.
(b) Limitations.—
(b)(1) Maximum dollar amount. — The amount of reasonable litigation costs which may be awarded under subsection (a) with respect to any prevailing party in any civil proceeding shall not exceed $25,000.
(b)(2) Requirement that administrative remedies be exhausted. — A judgment for reasonable litigation costs shall not be awarded under subsection (a) unless the court determines that the prevailing party has exhausted the administrative remedies available to such party within the Internal Revenue Service.
(b)(3) Only costs allocable to the United States. — An award under subsection (a) shall be made only for reasonable litigation costs which are allocable to the United States and not to any other party to the action or proceeding.
(b)(4) Exclusion of declaratory judgment proceedings.—
(b)(4)(A) In general. — No award for reasonable litigation costs may be made under subsection (a) with respect to any declaratory judgment proceeding.
(b)(4)(B) Exception for section 501(c)(3) determination revocation proceedings. — Subpara-graph (A) shall not apply to any proceeding which involves the revocation of a determination that the organization is described in section 501(c)(3).
(c) Definitions. — For purposes of this section—
(2) Prevailing party.—
(A) In general. — The term "prevailing party" means any party to any proceeding described in subsection (a) (other than the United States or any creditor of the taxpayer involved) which—
(i) establishes that the position of the United States in the civil proceeding was unreasonable, and
(ii)(I) has substantially prevailed with respect to the amount in controversy, or
(II) has substantially prevailed with respect to the most significant issue or set of issues presented.
(B) Determination as to prevailing party.— Any determination under subparagraph (A) as to whether a party is a prevailing party shall be made—
(i) by the court, or
(ii) by agreement of the parties.