internal_revenue_service department of the treasury index number washington dc person to contact telephone number refer reply to plr-122664-98 cc dom p si date date number release date legend x y foreign_entity d1 d2 d3 state dear this letter responds to a letter dated date and subsequent correspondence by your authorized representative on behalf of x requesting a ruling under sec_1362 of the internal_revenue_code facts according to the information submitted x a state corporation elected to be treated as an s_corporation effective d1 on d2 x which already owned a interest in y a foreign_entity obtained an interest in y terminating x's s_corporation_election at the time x and its shareholders did not realize that x's ownership of of y violated the requirement in sec_1361 of the code as in effect prior to date that an s_corporation not be an ineligible_corporation in d3 when x's shareholders were considering selling x the potential buyer's accountants discovered that x's s_corporation_election had terminated and x subsequently filed a private_letter_ruling request with this office plr-122664-98 x represents that the termination of its election was inadvertent and was not motivated by tax_avoidance or retroactive tax planning x and each of its shareholders who were shareholders during the period of termination agree to make any necessary adjustments consistent with the treatment of company as an s_corporation law and analysis sec_1361 defines an s_corporation as a small_business_corporation for which an election under sec_1362 is in effect sec_1361 provides that one of the requirements for a taxpayer to be a small_business_corporation is that the taxpayer is a domestic_corporation which is not an ineligible_corporation sec_1361 as in effect prior to date provided in part that an ineligible_corporation is a corporation which is a member_of_an_affiliated_group determined under sec_1504 without regard to the exceptions contained in sec_1504 under this test an s_corporation could not own or more of the stock of another corporation if such stock possessed at least of the total voting power and of the total value of the stock of such corporation effective date an s_corporation that is a member_of_an_affiliated_group is no longer an ineligible_corporation under sec_1361 sec_1362 provides that an election to be an s_corporation will be terminated whenever the corporation ceases to be a small_business_corporation sec_1362 provides that if an election under sec_1362 by any corporation was terminated under sec_1362 or the secretary determines that the circumstances resulting in such termination were inadvertent no later than a reasonable period of time after discovery of the circumstances resulting in the termination steps were taken so that the corporation is a small_business_corporation and the corporation and each person who was a shareholder of the corporation at any time during the period specified pursuant to sec_1362 agrees to make the adjustments consistent with the treatment of the corporation as an s_corporation as may be required by the secretary for that period then notwithstanding the circumstances resulting in such ineffectiveness or termination the corporation shall be treated as an s_corporation during the period specified by the secretary after applying the relevant law to the facts submitted and the representations made we conclude that x's s_corporation_election terminated on d2 when x became an shareholder of y we also hold that the termination was inadvertent within the meaning of sec_1362 plr-122664-98 we further hold that under the provisions of sec_1362 x will be treated as an s_corporation from d2 until date when x was no longer an ineligible_corporation and thereafter provided x had a valid s_corporation_election and that election was not otherwise terminated under sec_1362 accordingly all shareholders of x in determining their respective income_tax liabilities must include the pro_rata share of the separately and nonseparately computed items of x as provided in sec_1367 and take into account any distributions made by x as provided by sec_1368 this ruling will be null and void if x or any of its shareholders fail to comply with these requirements except as specifically set forth above no opinion is expressed or implied as to the federal_income_tax consequences of the transaction described above under any other provision of the code specifically no opinion is expressed concerning whether x is in fact an s_corporation for federal tax purposes this ruling is directed only to the taxpayer who requested it sec_6110 of the code provides that it may not be used or cited as precedent pursuant to a power_of_attorney in this office the original of this letter is being sent to you and copies will be sent to your authorized representatives sincerely yours william p o'shea chief branch office of the assistant chief_counsel passthroughs and special industries


t c memo united_states tax_court patrick carlin hickey et al petitioners v commissioner of internal revenue respondent docket nos filed date patrick carlin hickey pro_se robert p gettys for petitioner sharon joann hickey louis h hill for respondent cases of the following petitioners are consolidated herewith patrick carlin hickey docket no sharon joann hickey docket no and sharon joann hickey and patrick c hickey intervenor docket no memorandum findings_of_fact and opinion laro judge petitioners petitioned the court to redetermine certain determinations made by respondent as to their federal_income_tax liabilities the court consolidated the cases for purposes of trial briefing and opinion inasmuch as petitioner sharon joann hickey is involved in these cases because she filed joint and federal_income_tax returns with petitioner patrick carlin hickey we hereinafter use the singular petitioner to refer solely to patrick carlin hickey we refer to sharon joann hickey as hickey unless otherwise noted section references are to the applicable versions of the internal_revenue_code and rule references are to the tax_court rules_of_practice and procedure in docket nos and petitioner petitioned the court on date to redetermine respondent’s determination of the following deficiencies additions to tax and penalties additions to tax penalty year deficiency sec_6651 sec_6654 sec_6663 dollar_figure dollar_figure dollar_figure dollar_figure big_number big_number big_number big_number big_number big_number big_number big_number big_number respondent reflected this determination in two notices of deficiency issued to petitioner on date respondent also determined in the notices of deficiency that petitioner is liable under sec_6651 for additions to his and taxes in amounts to be determined in answering petitioner’s petition in docket no respondent conceded that petitioner is not liable for the sec_6651 and additions to tax determined for in docket no hickey petitioned the court on date to redetermine respondent’s determination of the following deficiencies additions to tax and penalties additions to tax penalty year deficiency sec_6651 sec_6654 sec_6663 dollar_figure dollar_figure dollar_figure dollar_figure big_number big_number respondent reflected this determination in a single notice_of_deficiency issued to hickey on date respondent also determined in the notice_of_deficiency that hickey is liable under sec_6651 for an addition to her tax in an amount to be determined in answering hickey’s petition in docket no respondent conceded that she is not liable for the sec_6663 penalties determined for and and alleged as to that she is liable for a dollar_figure accuracy- related penalty under sec_6662 and d for substantial_understatement in docket no hickey petitioned the court on date for relief under sec_6015 from joint liability for any amount that she is determined to be liable in docket no on date the commissioner had issued to hickey a final notice_of_determination denying her any such relief following a short trial on these cases inclusive of an evidentiary hearing on a motion by petitioners to suppress all documents and testimony collectively proffered evidence related to the commissioner’s determinations and allegations of fraud we decide whether we shall grant that motion to suppress we hold that we shall not given this holding petitioners concede all other issues in these cases including their liability for the deficiencies additions to tax penalties and accuracy-related_penalties determined by respondent except to the extent conceded by respondent in his answers and whether hickey is entitled to her requested relief under sec_6015 findings_of_fact some facts were stipulated we incorporate herein by this reference the parties’ stipulation of facts and the exhibits submitted therewith we find the stipulated facts accordingly petitioners’ motion was filed as a motion to dismiss for cause or alternatively to suppress the proffered evidence a dismissal of the deficiency cases generally would require that the court enter decisions finding that the deficiencies in tax additions thereto and penalties are the amounts determined in the notices of deficiency see 62_tc_519 see also sec_7459 cf 118_tc_330 given that result which petitioners obviously do not desire we consider in the deficiency cases only so much of their motion as relates to suppression of evidence we consider their motion in its entirety in the remaining case petitioners resided in kentucky when their petitions were filed with the court they were married on date and they have been husband and wife ever since at all relevant times petitioner has been a licensed practicing attorney in kentucky petitioner filed his and federal_income_tax returns on date using the filing_status of single those returns reported that petitioner had one dependent a daughter for and two dependents a son and daughter for and total income of dollar_figure for and dollar_figure for petitioner filed his federal_income_tax return on date using the filing_status of single that return reported that petitioner had two dependents a son and a daughter and total income of dollar_figure petitioners filed a joint federal_income_tax return on date that return reported that petitioners had two dependents petitioner’s son and daughter and total income of dollar_figure petitioners filed a joint federal_income_tax return on date that return reported that petitioners had two dependents petitioner’s son and daughter and total income of dollar_figure almost all of the total income reported on these five returns was attributable to petitioner’s practice as a self-employed attorney the and returns reported that petitioner owed tax of dollar_figure and dollar_figure respectively the and returns reported that petitioners owed tax of dollar_figure and dollar_figure respectively petitioner did not submit with his or return the amount of tax reported as owed in date the commissioner assigned michael cox cox a revenue_officer in the commissioner’s collection_division to collect assessed federal income taxes shown in the commissioner’s records to be owed by petitioner cox was not assigned to audit or examine any of the returns underlying those taxes nor did he do so on date cox concluded that the taxes were uncollectible and he closed the case as such cox’s conclusion was based primarily on his receipt from petitioner of information on his finances and cox’s finding at the local courthouse of no assets recorded in petitioner’s name in john voorhees voorhees a special_agent in the commissioner’s criminal_investigation_division cid was told by a law enforcement agency that it had been informed that hickey was selling prescription drugs illegally later in date voorhees spoke to one of the agency’s confidential informants and was told that petitioners kept a large quantity of narcotics at their home and lived a lavish lifestyle the informant told voorhees that petitioners had paid for a lavish wedding and honeymoon in ireland and that petitioners had primarily used cash to pay for home improvements eg a jacuzzi and expensive windows and entertainment_expenses eg stereo equipment and large television sets the informant told voorhees that either petitioner or hickey had told the informant that petitioners kept large amounts of cash in petitioner’s car on the basis of this information voorhees began a preliminary investigation of petitioners to determine whether he should begin a formal criminal investigation voorhees closed the preliminary investigation on or about date concluding that he had insufficient information to support a criminal investigation of petitioners in connection with that closing voorhees contacted cox voorhees told cox the information that voorhees had received from the confidential informant and told cox that he should consider looking into the ability of petitioner to pay his delinquent federal income taxes as he may be financially able to do so at no time during that conversation nor at any other time did voorhees advise or direct cox to do any specific work as to petitioner from either a civil or criminal point of view on or about date cox reopened his collection case as to petitioner’s delinquent federal_income_tax liability seventeen days later cox visited petitioner’s residence a two-story house that he and his ex-wife had built in for dollar_figure where cox observed a fairly new jeep wrangler in the driveway a new jacuzzi in the backyard and a new front door petitioner did not answer cox’s knock at the door and cox left his business card at the house without speaking either to petitioner or to hickey on date petitioner stopped by cox’s office without prior notice and petitioner completed in part and signed under penalties of perjury a form 433-a collection information statement for individuals and a form 433-b collection information statement for businesses collectively financial statements cox informed petitioner at that meeting that all relevant information on the financial statements had to be completed in full the financial statements did not indicate that petitioner owned a house or a vehicle petitioner told cox that petitioner did not own a vehicle that his wife owned one vehicle subject_to a lien and that his daughter owned the house in which he lived although he stated she was a law student and tended not to stay at the house petitioner informed cox that the house had previously been transferred to petitioner’s mother when he divorced his ex-wife and that his mother transferred the house to the daughter when the mother died in petitioner informed cox that petitioner and the daughter split the cost of improvements made to the house on date cox researched the records of the department of motor vehicles and learned that hickey was listed as the owner of two unencumbered vehicles a jeep wrangler and a jeep cherokee with a total assessed value of dollar_figure cox also researched the pertinent real_property records and learned that petitioner’s daughter was listed as the owner of the referenced house which then was assessed at dollar_figure cox did not find at either place the recording of any asset in petitioner’s name as of date the commissioner’s records showed that petitioner owed more than dollar_figure in back taxes interest and penalties on that day petitioner gave cox some additional financial information including lien information for the jeep wrangler and cox informed petitioner that his financial status as reported to cox allowed petitioner to pay at least dollar_figure per month towards his federal_income_tax liability petitioner replied that he must not have given cox all of his actual financial information as petitioner indicated he was unable to make that minimum payment and requested additional time to disprove the calculated minimum payment later on that day cox recorded in his investigative history sheet history sheet his plan of action for the case his plan stated discuss case with cid for possible fraud i believe tp has submitted a fraudulent financial statement with regards to vehicles income and possibly real_property i also believe that his could also be fraudulent with regards to his dependents and income tp has dollar_figure in vehicles which are free and clear and i don’t see where his financial statements or income_tax returns support this as of this time cox did not believe that he had the requisite firm indication of fraud that would support referring petitioner’s case to cid instead cox thought he should investigate further to determine whether the recording of the house and vehicles in names other than petitioner was in fact proper cox also was awaiting receipt of additional financial information that petitioner had told him would be forthcoming cox was not sure at this time that he would refer petitioner to cid but thought that he should discuss with cid his belief that petitioner’s case was a potential fraud case cox had a suspicion at the time that petitioner was not being truthful with him on date petitioner met with cox again and gave him more financial information petitioner informed cox at this meeting that petitioner’s income to date was dollar_figure rather than dollar_figure as previously reported petitioner also changed certain line items that he had previously reported on the financial statements petitioner and cox had no further meetings after this date on date petitioner filed for bankruptcy under chapter of the u s bankruptcy code on the same day cox received a copy of that filing on or about date cox attempted to contact petitioner’s daughter but was unable to do so on date cox spoke to petitioner’s ex-wife as to the house in which petitioner lived and the fact that it was listed in the name of the daughter petitioner’s ex-wife informed cox that she did not realize that the house was in the daughter’s name and that the daughter was a law student who worked part time petitioner’s ex-wife informed cox that the daughter and son of petitioner and his ex-wife lived with the ex-wife and that she did not believe that the daughter could afford to pay any expenses related to the house following this conversation cox believed that he should discontinue his case as to petitioner and refer him to cid for criminal prosecution shortly before date cox met with voorhees for the first time after reopening the collection case and discussed with him whether the facts of petitioner’s case as cox believed them to be supported his making of a criminal_referral of petitioner to cid on date cox prepared the requisite paperwork to refer petitioner’s case to cid and cox forwarded the case to cid the essence of cox’s referral was that petitioner was evading the payment of his assessed federal_income_tax liability in that he claimed that he did not own the house in which he lived the house was in the name of his teenage daughter who did not work full time his ex-wife the daughter’s apparent custodial_parent had no knowledge of any such ownership by the daughter and the house if in fact owned by petitioner could be used to pay his federal_income_tax liability on or about date voorhees began the criminal investigation of petitioner pursuant to cox’s referral and recorded for the first time in the commissioner’s computer system that a criminal investigation of petitioner was underway on date voorhees interviewed petitioner for the first time subsequently petitioner was indicted by the united_states for various tax offenses for through including for each year income_tax evasion under sec_7201 during that proceeding criminal case petitioner moved the district_court to suppress evidence that he claimed was obtained in violation of his constitutional rights an evidentiary hearing was held as to the motion and on date a magistrate judge issued a report and recommendation r r denying it nine days later petitioner objected to the r r and days after that the united_states responded to those objections on date the district_court overruled petitioner’s objections as moot accepted the r r and denied petitioner’s motion to suppress as moot the district court’s actions followed notification that petitioner would be pleading guilty to part of the indictment on or about date petitioner pleaded guilty to a single count of sec_7201 tax_evasion for the other counts in the indictment were dismissed upon motion by the united_states after he had served his sentence stemming from his plea petitioner on or about date petitioned the district_court for a writ of error coram nobis pursuant to u s c sec petitioner asserted that the petition should be granted because the commissioner had developed the criminal case in the guise of a civil investigation even after the civil investigation had uncovered firm evidence of fraud petitioner asserted that one of the commissioner’s civil investigators cox had improperly collaborated with one of the commissioner’s criminal investigators voorhees before petitioner’s case was referred to cid petitioner asserted that the commissioner had improperly conducted a criminal examination under the guise of a civil examination the district_court denied petitioner’s petition and that denial was affirmed on appeal see 92_fedappx_317 6th cir opinion petitioners move the court to exclude from evidence all of the proffered evidence because they argue cox and voorhees disregarded petitioners’ constitutional rights by criminally investigating petitioner under the guise of a civil examination while the court_of_appeals for the sixth circuit generally disfavors the citation of unpublished decisions the rules of that court allow such a citation for the purpose of establishing res_judicata estoppel or the law of the case see 6th cir r g in violation of audit internal_revenue_manual sec at big_number irm section and sec_7605 irm sec states in relevant part if during an examination an examiner uncovers a potentially fraudulent situation caused by the taxpayer and or the preparer the examiner shall discuss the case at the earliest possible convenience with his her group manager if the group manager concurs he she will discuss the case with the district fraud coordinator dfc who together with the group manager will provide guidance to the examiner on how to proceed once there is a firm indication of criminal_fraud all examination activity shall be suspended if the case meets the criminal criteria found in the law enforcement manual or locally developed criminal criteria a referral will be made to criminal investigation ci via form_2797 a firm indication of fraud is more than mere suspicion or first indication of fraud it is a factual determination which must be made on a case by case basis this determination will be made by the dfc and the group manager on each case under no circumstances will an examiner or group manager obtain advice and or direction from ci for a specific case under examination although this section on its face applies solely to examiners respondent concedes that its provisions also applied to cox sec_7605 provides in relevant part sec_7605 time and place of examination a time and place --the time and place of examination pursuant to the provisions of sec_6420 sec_6421 sec_6427 or sec_7602 shall be such time and place as may be fixed by the secretary and as are reasonable under the circumstances in the case of a summons under authority of paragraph of sec_7602 or under the corresponding authority of sec_6420 sec_6421 or sec_6427 the date fixed for appearance before the secretary shall not be less than days from the date of the summons continued petitioners assert that cox violated irm section when he continued a civil examination after finding a firm indication of fraud petitioners assert that cox violated irm section when he spoke to voorhees about the making of petitioner’s criminal_referral to cid petitioners assert that cox violated sec_7605 by conducting a second_examination of petitioner’s books_and_records with the exception of petitioners’ assertion concerning sec_7605 petitioners’ two assertions are the same assertions that petitioner made in the criminal case and that were not accepted by either the district_court or the court_of_appeals for the sixth circuit see hickey v united_states supra respondent notes that petitioners’ current assertions on the applicability of irm section are similar to the assertions that petitioner made in the criminal case in his motion to suppress and argues that the district court’s disposition of that motion may estop petitioners from making those same assertions here respondent makes no mention of the fact that petitioner also made the same assertions in connection continued b restrictions on examination of taxpayer --no taxpayer shall be subjected to unnecessary examination or investigations and only one inspection of a taxpayer’s books of account shall be made for each taxable_year unless the taxpayer requests otherwise or unless the secretary after investigation notifies the taxpayer in writing that an additional inspection is necessary with his petition for a writ of error coram nobis and that neither the district_court nor the court_of_appeals for the sixth circuit accepted those assertions see hickey v united_states supra we believe that the courts’ decisions in hickey v united_states supra preclude petitioners from repeating in this proceeding the same assertions that petitioner made in support of his petition for writ of error coram nobis that petition contended that cox improperly collaborated with voorhees before petitioner’s case was submitted for criminal_referral and that cox and voorhees developed a criminal case against petitioner in the guise of a civil examination even after cox had uncovered in the civil investigation firm evidence of fraud id the district_court rejected those contentions and denied the petition the court_of_appeals for the sixth circuit affirmed that action stating the district_court correctly concluded that the evidence of record does not support petitioner’s contention that irs agents developed its criminal case against him in the guise of a civil investigation even after the civil investigation had uncovered firm evidence of fraud id pincite w hen an issue of ultimate fact has once been determined by a the district_court may also have rejected the same assertions when it denied petitioner’s motion to suppress the record is not clear as to whether the court denied that motion on its merits or because it was moot valid and final judgment that issue cannot again be litigated between the same parties in any future lawsuit 397_us_436 accord 195_f3d_836 6th cir see also 195_f2d_179 9th cir the nature of the writ of error coram nobis is that it is a civil_proceeding in which the judgment of the court is res_judicata at least of the issues tendered and joined cf 606_f2d_216 7th cir a coram nobis motion is a step in a criminal proceeding yet is at the same time civil in nature and subject_to the civil rules of procedure even if petitioners were entitled in this case to repeat petitioner’s previous assertions they would still not prevail in that we disagree with each of their three assertions our decision as to whether cox had a firm indication of fraud within the meaning of irm section and failed to suspend his examination of petitioner turns on the facts in the record at hand see 192_f3d_535 6th cir petitioners bear the burden_of_proof id pincite cf 153_f3d_445 7th cir although the decisions relating to petitioner’s petition for writ of error coram nobis were not raised by respondent as an affirmative defense a federal court may raise the issue of res_judicata sua sponte see 891_f2d_1211 6th cir see also 109_tc_235 this court may raise the doctrine_of issue preclusion sua sponte 835_f2d_1095 5th cir while they argue that cox had the requisite firm indication of fraud by virtue of the fact that he entered in the history sheet that i believe tp has submitted a fraudulent financial statement with regards to vehicles income and possibly real_property we do not believe that this entry establishes that cox had a firm indication of fraud as to petitioner within the meaning of irm section we read that entry in the context of the record as a whole as expressing cox’s then serious suspicion that petitioner had engaged in an act that could be fraudulent but which had to be explored further to determine whether it was in fact fraudulent such a general suspicion of fraud is not a firm indication of fraud for purposes of irm section see united_states v peters supra pincite firm indication of fraud in the context of irm section is different from an initial indication of fraud and is more than a mere suspicion of fraud cf united_states v mckee supra pincite 820_f2d_1395 5th cir our reading of that entry is supported by cox’s credible testimony that he did not at the time of the entry believe he had the requisite firm indication of fraud to refer the matter to cid our reading is also supported by our finding that cox did not know when he made the entry whether petitioner’s omission of the house and vehicles from his financial statements was proper upon his receipt of the financial statements from petitioner cox did not have clear evidence of tax_fraud such that the only reasonable conclusion was that petitioner willfully set out to evade his federal tax_liability given that cox knew at the time of the entry that the house and vehicles were actually titled in the public records in names other than petitioner’s the question was whether one or more of those assets was actually owned by petitioner and thus inappropriately omitted from his financial statements cox needed to and actually did perform further investigation of each asset to make that determination it was only after he completed that and other further investigation that he verified and firmly believed that petitioner’s financial statements were fraudulent and deserving of a referral of petitioner to cid by analogy to an observation of the court_of_appeals for the sixth circuit in united_states v mckee supra pincite when faced with a similar setting only the most overzealous revenue_officer would have considered referring petitioner’s case to cid upon receiving petitioner’s financial statements which on their face did not appear to be trustworthy but which in fact reflected the ownership of the house and vehicles as of public record given the unanswered question as to whether the true owner of each of those assets was the individual who was actually listed in those records or was in fact petitioner we do not believe that cox had such a firm indication of fraud that required him to refer petitioner’s case to cid in face of that unanswered question see id see also united_states v peters supra pincite united_states v caldwell supra pincite3 816_f2d_139 4th cir 705_f2d_1237 10th cir as noted by the court_of_appeals for the sixth circuit in united_states v mckee f 3d pincite courts must defer to the discretion of a civil agent as to whether and when a criminal investigation is warranted see also united_states v caldwell supra pincite cf 860_f2d_495 4th cir nor do we believe that a violation of irm section occurred when cox spoke to voorhees just before cox’s criminal_referral of petitioner while petitioners invite the court to read irm section narrowly to treat any prereferral contact between the two as a violation of irm section we decline that invitation and apply that section as written to preclude advice and or direction from ci for a specific case under examination credible_evidence in the record establishes and we find as a fact that cox’s conversation with voorhees did not involve advice and or direction from voorhees as to cox’s criminal_referral of petitioner the conversation focused solely on whether cid would accept cox’s criminal_referral of petitioner if cox expended the time and energy to make a referral on the basis of the facts as he believed them to be cox as of the time of the conversation had gathered all information that he believed was necessary to show that petitioner owned one or more of the relevant assets and that petitioner had fraudulently omitted one or more of those assets from his financial statements the record does not establish that cox during the conversation sought or received the advice or direction of voorhees as to any information that cox needed to obtain to build a better criminal or civil case against petitioner in fact the record does not establish that cox during or after his conversation with voorhees acquired any information at all from or about petitioner as to petitioners’ third assertion they argue that cox violated sec_7605 by conducting more than one examination of petitioner we disagree pursuant to sec_7605 the commissioner generally may inspect a taxpayer’s books_or_records for a taxable_year only once ‘ t he standard is whether the examination or investigation sought by the irs is unnecessarily duplicative of some prior examination’ 769_f2d_1440 10th cir quoting 543_f2d_996 2d cir petitioners have not demonstrated that the commissioner while petitioners ask the court to conclude that voorhees directed cox to reopen his collection case we do not find that such was so nor do we find as petitioners ask us to that cox and voorhees participated in a joint collaborative effort in preparing the referral of petitioner to cid met this standard when cox reopened petitioner’s collection case or that the commissioner otherwise improperly inspected petitioner’s books_or_records more than once for a taxable_year nor have petitioners cited any authority and we are not aware of any such authority that states that the commissioner may not reopen a closed collection case on the basis of information that at the time of reopening tends to show that the amount previously considered uncollectible may in fact be collectible given the additional fact that petitioner never resisted giving information to cox after he had reopened his collection case but in fact gave it to him voluntarily we conclude that cox by reopening the collection case did not perform a prohibited second inspection of petitioner’s books_and_records in violation of sec_7605 see 451_f2d_352 6th cir cf miller v commissioner tcmemo_2001_55 we sustain respondent’s determinations except to the extent of his concessions we have considered all arguments made by the parties and have rejected those arguments not discussed herein as meritless in order to reflect the foregoing including respondent’s concessions an order will be issued denying petitioners’ motion and decisions will be entered under rule


internal_revenue_service number release date index number ------------------------------------ ------------------------------ ------------------------------------- -------------------------------- department of the treasury washington dc third party communication none date of communication not applicable_person to contact ------------------- id no ------------- telephone number --------------------- refer reply to cc psi plr-126312-07 date date --------------------------------------------------------------------------------------------------- x ----------------------------------------- a --------------------------------------------- ----------------------- ------------------------ ------------------------- ----------------------- ------------------------- --------------------- ------------------------- ------------- ------------------ ------------------------- ----------------------- ----------------- dear ------------------ this letter responds to a letter dated date submitted by x's authorized representative on behalf of x requesting inadvertent termination relief under sec_1362 of the internal_revenue_code the information submitted states that x was incorporated under the laws of state on d1 and elected to be an s_corporation effective the same date on d2 x issued all of the shares of x stock to a a state limited_partnership on d3 x's tax advisors notified x that its issuance of stock to a caused the termination of x’s s_corporation_election to remedy this problem on d4 a was dissolved and all of its shares of x stock were transferred to b c and d all of whom are individuals and eligible s_corporation shareholders b c d state d1 d2 d3 d4 plr-126312-07 x represents that the circumstances resulting in the termination of x's s_corporation_election were inadvertent and were not motivated by tax_avoidance or retroactive tax planning x and its shareholders have agreed to make such adjustments consistent with the treatment of x as an s_corporation as may be required by the secretary which an election under sec_1362 is in effect for such year sec_1361 defines an s_corporation as a small_business_corporation for sec_1361 provides that a small_business_corporation cannot have as a shareholder a person other than an estate and other than a_trust described in sec_1361 or an organization described in sec_1361 who is not an individual sec_1362 provides that an election under sec_1362 shall be terminated whenever at any time on or after the first day of the taxable_year for which a corporation is an s_corporation such corporation ceases to be a small_business_corporation a termination of an s_corporation_election under sec_1362 is effective on and after the date of cessation sec_1362 provides that if an election under sec_1362 by any corporation was terminated under paragraph or of sec_1362 the secretary determines that the circumstances resulting in such termination were inadvertent no later than a reasonable period of time after discovery of the circumstances resulting in such termination steps were taken so that the corporation is a small_business_corporation and the corporation and each person who was a shareholder of the corporation at any time during the period specified pursuant to sec_1362 agrees to make such adjustments consistent with the treatment of the corporation as an s_corporation as may be required by the secretary with respect to such period then notwithstanding the circumstances resulting in such termination the corporation shall be treated as an s_corporation during the period specified by the secretary election was terminated on d2 when a an ineligible shareholder acquired x stock we also conclude that this termination was inadvertent within the meaning of sec_1362 based solely on the facts represented we conclude that x's s_corporation therefore we conclude that x will continue to be treated as an s_corporation for the period from d2 and thereafter provided that x’s s_corporation_election was valid and provided that the election was not otherwise terminated under sec_1362 during the period from d2 until d4 b c and d will be treated as the owners of the x stock acquired by a in proportion to their respective interests in a the shareholders of x must include their pro_rata share of the separately_stated and nonseparately computed items of x as provided in sec_1366 make any adjustments to basis as provided in sec_1367 and take into account any distributions made by x as provided in sec_1368 if x or its shareholders fail to treat x as described above this letter_ruling will be null and void plr-126312-07 except as specifically ruled above we express no opinion concerning the federal_income_tax consequences of the facts of this case under any other provision of the code specifically no opinion is expressed regarding x's eligibility to be an s_corporation or the validity of its s_corporation_election in accordance with the power_of_attorney on file with this office we are sending a copy of this letter to x’s authorized representative this ruling is directed only to the taxpayer requesting it sec_6110 of the code provides that it may not be used or cited as precedent sincerely bradford r poston senior counsel branch office of the associate chief_counsel passthroughs special industries enclosures copy of this letter copy for sec_6110 purpose-s


internal_revenue_service number release date index number ------------------------- ----------------------------------------------- -------------------------------------- ------------------------------------- ---------------------------------------------------- department of the treasury washington dc third party communication none date of communication not applicable_person to contact ------------------------- id no ------------- telephone number --------------------- refer reply to cc intl b02 plr-145376-08 date date ty ------- legend taxpayer fc parent fc year year year firm q firm r -------------------- ------------------ ------------------------------------------ ----------------- ------------------------------------------ ----------------- ------- ------- ------- --------------------- ---------------------------- dear -------------------------- this is in response to letters dated date and date and subsequent correspondence submitted by taxpayer’s authorized representative that requested the consent of the commissioner of the internal_revenue_service commissioner for taxpayer to make a retroactive qualified_electing_fund qef election under sec_1295 of the internal_revenue_code code and sec_1_1295-3 with respect to taxpayer’s investment in fc plr-145376-08 the ruling contained in this letter is based upon information and representations submitted on behalf of taxpayer by his authorized representative and accompanied by a penalties of perjury statement executed by an appropriate party while this office has not verified any of the material submitted in support of this request_for_ruling such material is subject_to verification on examination the information submitted in the request is substantially as set forth below facts taxpayer is a former u s citizen who owns an interest in parent fc which is the owner of fc fc and parent fc are both foreign_corporations constituting pfics within the meaning of sec_1297 taxpayer was a u s citizen in year when fc was formed fc continued to qualify as a pfic through its year tax_year when taxpayer ceased to be a u s citizen for year through year taxpayer engaged firm q for preparation of his individual u s tax_return firm q employs experienced tax professionals to provide tax_advice on a wide variety of tax matters including international tax firm q advised taxpayer with regard to u s federal_income_tax matters including taxpayer’s ownership of fc taxpayer relied on firm q to provide advice with respect to filing and reporting requirements in general as well as any elections or statements that would be necessary to elect specific tax treatment in year parent fc engaged firm r to provide tax services in connection with the u s tax implication of various related investments in the course of this evaluation firm r determined that fc might qualify as a pfic under sec_1297 beginning in year with respect to taxpayer based on firm r’s determination regarding the potential pfic status of fc and parent fc taxpayer requested firm r to submit a private_letter_ruling request to make a retroactive qef election with respect to fc under sec_1_1295-3 retroactive to year and effective for all subsequent years taxpayer has submitted an affidavit under penalties of perjury describing the events that led to his failure to make the qef election by the election due_date including the roles of firm q and firm r taxpayer represents that he provided information regarding the ownership and financial data of fc to firm q taxpayer represents that in the relevant years fc was not identified as a pfic and taxpayer did not receive any advice regarding the availability of a qef election with respect to fc taxpayer has paid an amount sufficient to eliminate any prejudice to the united_states government as a consequence of his inability to file amended returns in accordance with a signed closing_agreement between taxpayer and the commissioner further taxpayer has agreed to file an amended_return for each of his subsequent taxable years affected by the retroactive election if any plr-145376-08 taxpayer represents that as of the date of this request_for_ruling the pfic status of fc has not been raised by the irs on audit for any of the taxable years at issue ruling requested taxpayer requests the consent of the commissioner to make a retroactive qef election with respect to fc under sec_1_1295-3 retroactive to year law sec_1295 provides that a pfic will be treated as a qef with respect to a taxpayer if an election by the taxpayer under sec_1295 applies to such pfic for the taxable_year and the pfic complies with such requirements as the secretary may prescribe for purposes of determining the ordinary_earnings and net capital_gains of such company under sec_1295 a qef election may be made for any taxable_year at any time on or before the due_date determined with regard to extensions for filing the return for such taxable_year to the extent provided in regulations such an election may be made after such due_date if the taxpayer failed to make an election by the due_date because the taxpayer reasonably believed the company was not a pfic under sec_1_1295-3 a shareholder may request the consent of the commissioner to make a retroactive qef election for a taxable_year if the shareholder reasonably relied on a qualified_tax professional within the meaning of sec_1_1295-3 granting consent will not prejudice the interests of the united state sec_3 government as provided in sec_1_1295-3 the request is made before a representative of the internal_revenue_service raises upon audit the pfic status of the corporation for any taxable_year of the shareholder and the shareholder satisfies the procedural requirements of sec_1 f the procedural requirements include filing a request for consent to make a retroactive election with and submitting a user_fee to the office of the associate chief_counsel international sec_1_1295-3 additionally affidavits signed under penalties of perjury must be submitted that describe the events that led to the failure to make a qef election by the election due_date the discovery of such failure plr-145376-08 the engagement and responsibilities of the qualified_tax professional and the extent to which the shareholder relied on such professional sec_1_1295-3 and iii conclusion based on the information submitted and representations made with taxpayer’s ruling_request we conclude that taxpayer has satisfied sec_1_1295-3 accordingly consent is granted to taxpayer to make a retroactive qef election with respect to fc for year provided that taxpayer complies with the rules under sec_1_1295-3 regarding the time and manner for making the retroactive qef election we have accordingly approved a closing_agreement with the taxpayer with respect to those issues affecting his tax_liability on the basis set forth above pursuant to our practice with respect to such agreements the agreement contains a stipulation to the effect that any change or modification of applicable statutes enacted subsequent to the date of this agreement and made applicable to the taxable_period involved will render the agreement ineffective to the extent that it is dependent upon such statutes except as specifically set forth above no opinion is expressed or implied concerning the u s federal tax consequences of the facts described above under any other provision of the code this private_letter_ruling is directed only to the taxpayer who requested it sec_6110 provides that it may not be used or cited as precedent a copy of this letter_ruling must be attached to any federal_income_tax return to which it is relevant alternatively taxpayers filing their returns electronically may satisfy this requirement by attaching a statement to their return that provides the date and control number of the letter_ruling in accordance with the power_of_attorney on file with this office a copy of this letter is being sent to your authorized representative sincerely barbara e rasch senior technical reviewer branch international


t c memo united_states tax_court canterbury holdings llc christopher b and susan l woodward partners other than the tax_matters_partner petitioners v commissioner of internal revenue respondent canterbury holdings llc christopher b woodward tax_matters_partner petitioner v commissioner of internal revenue respondent docket nos filed date charles p rettig edward m robbins jr and david roth for petitioners margaret a martin for respondent memorandum findings_of_fact and opinion holmes judge christopher woodward david teece and kenneth klopp were partners in canterbury holdings llc canterbury mounted a takeover of an old new zealand clothing company in its ride turned rough and the shell company that canterbury was using had to pony up more money in and to make the deal go through that money actually came from canterbury itself but canterbury argues that these payments are deductible nonetheless the commissioner disagrees and would also saddle canterbury’s partners with an accuracy-related_penalty findings_of_fact woodward and his partners formed canterbury in as a limited_liability_company teece held by far the biggest share at the end of he owned percent and woodward klopp woodward’s keogh_plan and a family_trust owned the rest although the first domestic limited_liability_company llc was created in in wyoming the rise of the llc as a widespread tax-saving entity is relatively new the llc offers the best of both worlds--the limited_liability of a corporation and the favorable tax treatment of a partnership see hamill the story of llcs combining the best features of a flawed business tax structure in business tax stories an in-depth look at ten leading developments in corporate and partnership_taxation bank stark eds foundation press a keogh_plan is an income-tax-deferred qualified_pension plan for the self-employed or those who are owner-employees of unincorporated businesses the initial percentages of ownership among the members was slightly different and by the end of the family_trust no longer had an interest and although canterbury is an llc whose owners are called members under state law both parties agree continued teece was a new zealander with extensive business experience woodward was an investment banker and klopp was the founder of north face the successful sports-apparel company the partners planned to buy undervalued companies in the sports-apparel industry and work at restoring their profitability canterbury shared its name with a 104-year-old brand that sponsored the world’s top rugby teams--including the famed new zealand national team the all blacks woodward and his partners thought they saw hidden value in the brand its owner lwr industries ltd had higher costs than other apparel companies because it continued to manufacture the goods it sold with liberalized world-trade rules coming into effect and continued that canterbury is a tefra partnership under the code tefra is the tax equity and fiscal responsibility act of publaw_97_248 96_stat_324 one part of which governs the tax treatment and audit procedures for most partnerships see tefra secs 96_stat_648 tefra requires the uniform treatment of all partnership items --a term defined by sec_6231 and --and its general goal is to treat all partners alike when the irs adjusts partnership items each tefra partnership is supposed to designate one of its partners as tmp--tax matters partner--to handle tefra issues and litigation for the partnership woodward is canterbury’s tmp congress frequently amends tefra but all the section references in this opinion are to the internal_revenue_code and regulations as in effect for years in issue the one reference to a rule is to the tax court’s rules_of_practice and procedure globalization encouraging the migration of manufacturing it seemed to the partners that they could make the brand more profitable by taking production offshore of new zealand and shifting lwr’s focus to marketing and sales but taking over lwr meant aiming at two targets bil nz holdings ltd and the new zealand public because bil owned about two-thirds of lwr’s stock and the rest was held and publicly traded on new zealand’s stock exchange the partners knew that bil was interested in selling lwr-- bil itself was an extremely large company by new zealand standards and its management thought its own portfolio of businesses featured many with stronger growth prospects than an old clothing company could possibly provide bil’s commanding ownership also meant a hostile takeover was out of the question so the partners approached bil for a friendly deal and quickly came to terms canterbury would take two steps the first would be a tender offer for the percent of lwr’s shares held by the new zealand public and if that worked lwr would be delisted and canterbury would buy the remaining shares from bil canterbury then formed a new zealand corporation dubbed canterbury holdings ltd new zealand canterbury nz and made it a wholly owned subsidiary canterbury’s partners meant canterbury nz to be a shell whose only purpose was to acquire and hold lwr stock making their shell corporation a new zealand company was important to the deal--the partners feared a wholly foreign deal would spur negative public reaction to the expected sale of an iconic new zealand brand the partners also thought it would help the deal survive new zealand’s own legal obstacles to overseas investment in existing new zealand businesses the deal took off in late date when bil granted canterbury nz an option to buy bil’s 66-percent stake in lwr that same day bil and canterbury nz also signed a memorandum of understanding the memorandum provided that canterbury nz would be capitalized by its shareholders to nzdollar_figure million4 to buy the publicly held shares of lwr if the tender offer were to exceed nzdollar_figure million bil promised to lend the necessary funds to canterbury nz for one year canterbury nz’s lwr stock would secure the loan with financing in hand canterbury nz announced its offer and by date almost all the publicly held stock had been tendered canterbury capitalized canterbury nz by wiring nzdollar_figure throughout this opinion we specifically identify amounts stated in new zealand dollars nzdollar_figure all our other mentions of amounts are in u s dollars during the new zealand dollar traded at an average of per u s dollar it weakened to an average of the next year see federal foreign reserve statistical release foreign exchange rates annual date available at http www federalreserve gov releases g5a million to it in exchange for million canterbury nz shares at the time these canterbury nz shares were canterbury’s only significant asset owning one-third of lwr’s shares and holding an option for the rest canterbury nz effectively controlled lwr but the partners knew that they could not take over lwr’s management all at once to ensure a smooth transition canterbury nz signed a joint interest agreement with bil under its terms canterbury nz would share management of lwr with bil until it exercised the option but bil was not volunteering its time the joint interest agreement provided that lwr would pay for bil’s services and the amount lwr would pay was set--somewhat curiously--as a percentage of the price canterbury nz had agreed to pay for bil’s lwr stock percent plus gst for the first year and percent plus gst for a second year this worked out in u s currency to dollar_figure the first year and dollar_figure for the second canterbury nz guaranteed lwr’s obligation to bil but with its capital all spent on acquiring lwr stock through the public_tender_offer could not possibly back that guaranty if lwr faltered everyone involved understood and we so find that it was canterbury’s partners who were actually gst is the goods and services tax new zealand’s value- added tax guaranteeing lwr’s obligation to pay the fees to bil by promising to inject capital into canterbury nz if necessary to complete the transaction bil was not alone in charging lwr during this transition_period the agreement also let canterbury nz charge lwr for its services if the transition ran into a second year lwr would pay canterbury nz percent of the call price plus gst--about dollar_figure canterbury nz had a strong incentive to exercise the option quickly because the agreement allowed these management fees to be reduced ratably if canterbury nz exercised the option sooner than the end of the two-year transition after signing the joint agreement canterbury’s partners took up positions in canterbury nz and canterbury nz also paid canterbury for their services canterbury in turn distributed the money to the partners as wages lwr also paid canterbury’s partners directly as contractors so the cash was flowing reasonably well both directly and indirectly from lwr to the partners but the cashflow to bil dried up despite the express terms of the joint agreement bil was not getting paid for its management services to lwr bil noticed and sent a letter to lwr in date reminding it that management fees were due_date teece responded on behalf of canterbury with a complaint that bil had misrepresented lwr’s financial situation before signing the joint agreement making lwr unable to fund the payments the same letter was sent to bil from canterbury nz bil though was eager to unhitch itself from lwr and proved willing to renegotiate both the joint agreement and the call option the changes were very much to canterbury’s advantage--the option_price was marked down from nzdollar_figure million to only nzdollar_figure million and to settle the dispute over management fees bil agreed to accept nzdollar_figure as payment in full and here we come to the first expense whose deductibility we must analyze canterbury nz though it was the entity that owed bil the management fees wasn’t the entity that paid it instead canterbury itself paid bil directly canterbury converted these payments to u s currency and deducted them on its and returns with these new arrangements in place canterbury nz exercised its option and paid bil nzdollar_figure for its lwr shares on date of this sum nzdollar_figure was paid to bil at closing leaving a balance of nzdollar_figure million subject_to a mortgage of securities the interest on this remaining nzdollar_figure million debt was unusual as well the nzdollar_figure million principal was not owed until late with no further interest owed unless canterbury nz failed to pay and canterbury nz allegedly assigned this debt to canterbury itself though the assignment wasn’t reflected on the books of either firm until but whatever was paid and owed and by whom the compromise worked bil withdrew its managers and lwr hired others to replace them the commissioner audited canterbury’s returns and issued notices of final_partnership_administrative_adjustment for and denying canterbury’s deductions for management fees and interest he also asserted penalties under sec_6662 we tried the case in san francisco--canterbury had its principal_place_of_business in california when it filed its petition i deductibility of expenses paid opinion as a general_rule shareholders who pay their corporation’s expenses don’t get a deduction--the code treats them as investors not as engaged in their corporation’s trade_or_business themselves 802_f2d_365 9th cir affg in part and revg in part tcmemo_1984_ 357_f2d_504 9th cir affg tcmemo_1964_226 madden v commissioner tcmemo_1980_350 the code and regulations usually treat such expenditures as loans or capital contributions sec_263 an fpaa as a notice of final partnership administrative adjustments is abbreviated is the tefra equivalent of a notice_of_deficiency in that it triggers the start of the time for filing a case in tax_court sec_1_263_a_-2 income_tax regs voluntary contributions by shareholder for any corporate purpose are nondeductible capital_expenditure see also betson f 2d pincite canterbury’s payments on behalf of canterbury nz therefore look like they would fall within this general_rule and be considered nondeductible loans or capital contributions canterbury understands this but invokes an exception sec_162 permits deductibility of ordinary and necessary expenses paid_or_incurred during the taxable_year in carrying on any trade_or_business and there’s nothing in the code that bars a shareholder from deducting payments of his corporation’s expenses if those expenses are also ordinary and necessary to his own trade_or_business 48_tc_679 the main question thus amounts to which of two groups of cases is a better fit for the facts before us the rules are a little bit different for the management fees and the interest deductions and we examine them separately but there are a great number of cases in this area and very little custom tailoring is needed a management fees lohrke is the key case in the field summarizing the exception to the general_rule of nondeductibility to require that a shareholder who wants a deduction for paying his corporation’s expenses must show two things that his purpose was to protect or promote his own business and that the expenses paid were ordinary and necessary to that business id pincite the problem is that canterbury itself didn’t benefit directly from bil’s management of lwr lwr received the services but canterbury itself looks like it benefited only indirectly--the services presumably improved lwr’s value which presumably increased the value of canterbury nz’s lwr stock and option to buy more which presumably increased the value of canterbury’s canterbury nz stock recognizing that this would make payment of the fees look more like a capital_transaction canterbury argues instead that the fees were also ordinary and necessary to its own business because their payment protected its own reputation and credit and thus promoted its own business this argument has persuaded us in the past--canterbury cites coulter elecs inc v commissioner tcmemo_1990_186 affd without published opinion 943_f2d_1318 11th cir where we allowed a parent company to deduct reimbursements made to a wholly owned canadian subsidiary for the cost of warranty services because those services would affect the parent’s sales and its own business reputation see also 282_f2d_614 5th cir revg tcmemo_1959_32 22_tc_430 7_tc_779 and of course there is the landmark case of jenkins v commissioner tcmemo_1983_667 where we waxed lyrical on and found deductible conway twitty’s payments of corporate debt to protect his own reputation but we have to agree with the commissioner that canterbury runs into a snag in trying to fit itself into this line of cases in cases where we’ve allowed a deduction to an owner who has paid his company’s expenses the owner himself had an independent operating business or in the case of conway twitty a high- profile reputation requiring the good will of the public to sustain sales such payors have a longstanding reputation separate from that of their subsidiary see dinardo t c pincite years of practicing medicine scruggs-vandervoort- barney t c pincite years of running a department store coulter electronics tcmemo_1990_186 two decades of manufacturing advanced medical equipment what we look for here is therefore canterbury’s ability to otherwise promote its own business wholly apart from that of its subsidiary the commissioner stipulated that canterbury’s general business was to acquire manage and turn around distressed companies but the parties also stipulated into evidence the operating_agreement of canterbury’s partners its specific terms restricted canterbury’s business activity to the investment in lwr article of the partners’ operating_agreement is seamless evidence of this without the unanimous consent of the voting members ie the three partners the company may not engage in any business other than the following a directly or indirectly managing and disposing of lwr and the assets thereof b purchasing real or personal_property making investments and other business activities proposed by the board_of managers in connection with enhancing the value of lwr and not prohibited by law or this agreement c engaging in any other activities directly related to lwr to further the foregoing business and d ultimately realizing the value and distributing the proceeds from the foregoing the operating_agreement also defined certain events including a partner’s termination of employment at lwr as a termination of his voting membership in canterbury woodward credibly testified that even as the problems at lwr took ever larger amounts of the partners’ time canterbury at least nosed around the possibility of doing other deals but we specifically find that during the years at issue here canterbury itself had no actual business apart from stitching together a deal for and then managing lwr although canterbury indicates that by working with bil it hoped to get a foot in the door promoting its consulting business in new zealand and while it describes dire consequences to its reputation had it not paid the fees to bil canterbury did not have already operating business_credit standing or a preexisting reputation to maintain its desire to build a future reputation is simply not enough for us to grant its current deductions as protecting and promoting its trade_or_business the ninth circuit has also long recognized that a more direct connection with an existing business is needed to sustain a deduction in this area when a doctor tried to deduct his payments to the family pet store’s creditors as a business_expense of his medical practice our denial of the deduction was affirmed while community disapproval might well be expected to follow from one’s failure to recognize moral responsibility for a debt owing to an impoverished widow it would not in our judgment necessarily result from failure to assume responsibility for such impersonal matters as taxes utility charges or debts to distant creditors grauman v commissioner f 2d pincite we therefore find that the management fees were capital investments and not deductible expenses those payments by canterbury were not ordinary and necessary expenses of its own business but aimed only at protecting the value of the lwr stock that canterbury nz already owned as well as its ability to buy the rest from bil canterbury thus fails the first part of the lohrke test if that were all we’d have no problem denying the deduction of the management fees but perhaps recognizing the poor fit of this first argument canterbury dons a second--that canterbury nz was a nominee whose separate existence we should ignore canterbury nz was certainly not an independent subsidiary with a business of its own it had no assets no employees and all of the business was that of canterbury its funds were all provided by canterbury and all its management decisions and services were canterbury’s alone it was canterbury’s partners who performed management services for lwr on behalf of canterbury nz and it was they who were paid for them canterbury orally guaranteed canterbury nz’s obligations to bil despite the names on the documents bil always looked to canterbury for payment because bil was aware that canterbury nz had no independent means of payment and was just an acquisition vehicle there is some force then in canterbury’s assertion that canterbury nz was no more than a disregarded or deemed nominee of canterbury holding passive title to lwr shares or maybe an agent for canterbury’s business_purpose but being a shell corporation is not synonymous with being a nominee or an agent unlike the nominee corporation analyzed in 150_f2d_334 2d cir canterbury nz was not a mere passive dummy we cannot say that it served no business_purpose and was intended to serve only as a blind to deter the creditors of one of the partners id we likewise find no merit in canterbury’s argument that canterbury nz was its agent a corporation can of course be an agent--no one would say that a customer of western union is making a capital_contribution when he gives it money to wire abroad but if the corporation is a true agent its relations with its principal must not be dependent upon the fact that it is owned by the principal 336_us_422 canterbury nz’s relations with canterbury in obvious contrast were wholly dependent on its ownership by canterbury--it was useful simply by being a new zealand presence for the deal to take over lwr and conducted business in its own name as a coowner of lwr throughout the years in issue there was no agency agreement between canterbury and canterbury nz and canterbury at no time identified canterbury nz to bil as anything other than its subsidiary cf 485_us_340 the code and caselaw simply do not allow canterbury to ignore its organizational choices when convenient for tax purposes 308_us_473 grothues v commissioner tcmemo_2002_287 it was canterbury nz that made the tender offer to the new zealand public and it was canterbury nz that appeared on all letterheads and correspondence and agreements with bil canterbury’s change_of heart in treating its subsidiary as merely its agent or nominee is also contrary to the position it took in its tax_return where canterbury listed the capital contributions made to canterbury nz as a capital_asset and canterbury nz itself as an investment it then reported the payments received from canterbury nz for the partners’ services as income and deducted amounts paid to the partners as wages and salaries it is something of a puzzle why canterbury capitalized canterbury nz for the first stage of the takeover plan but then didn’t do so again when canterbury nz needed more money to pay its obligations to bil the only solution the record supports is that by that time canterbury or more precisely its partners had more use for the deductions than did canterbury nz but even if we’re wrong about that another one of the old general principles of corporate tax law still fits w hile a taxpayer is free to organize his affairs as he chooses nevertheless once having done so he must accept the tax consequences of his choice 417_us_134 the expense of acquiring a capital_asset generally is not currently deductible by its own admission canterbury claims that it paid the management fees to salvage and preserve a potentially deteriorating relationship with bil canterbury’s payment to bil should therefore not be viewed in isolation when canterbury made the payment on date canterbury nz already had a 34-percent interest in lwr from the successful tender offer and it wanted the rest so we find that canterbury’s payment of management fees primarily enhanced the value of its indirect investment in lwr we therefore agree with commissioner and find that the payments made by canterbury to bil were directly tied to the purchase of the lwr shares a separate and distinct asset and therefore a capital_expenditure they were not an ordinary_and_necessary_expense of canterbury’s own trade_or_business our finding on this point is also supported by some evidence that canterbury and canterbury nz themselves described these management fees as repayment of a loan when teece responded to bil’s demand letter for management fees he described them as requesting the loan and noted that it was always contemplated that the source of the funds for repayments of any advances made by bil to canterbury nz was to be from funds made available from lwr teece continued that since lwr’s financial affairs were worse than presented to them lwr is unable to fund the payments under the loan due on november he went on in his letter to request an extension of the repayment date and promised to repay the outstanding balance of about nzdollar_figure million by date reminding bil it held a mortgage of lwr shares secured for this repayment of loan similarly when canterbury nz repeated its allegations that bil had lied about lwr’s financial condition it said that lwr was unable to fund the repayment of the loans due on date citing sec_5 of an date memorandum of understanding neither party offered that memorandum into evidence but we do have an earlier version from date this version of the memorandum agreement mentions a loan bil would advance to canterbury nz if the tender offer required more than nzdollar_figure million to close the loan would bear percent interest we don’t have to decide from this sketchy evidence whether the management fees are not deductible because they are in fact a repayment of loan principal but we do think it saps strength from canterbury’s argument that what it paid to bil was an ordinary_and_necessary_expense of its own business rather than part of acquiring a capital_asset the management fees at issue here are best seen as part of the whole transaction of the purchase of lwr by canterbury nz and we therefore find that they should be treated as capital contributions b interest_expenses sec_163 allows a deduction for interest on indebtedness paid_or_accrued within the taxable_year canterbury claimed a deduction for interest_paid in according to the agreement for sale and purchase of shares that closed on date but this agreement required canterbury nz not its american parent to pay bil for its lwr stock the loan also had curious terms-- bil agreed to lend nzdollar_figure million to canterbury nz subject_to the terms of another agreement which the parties called the facility agreement the facility agreement did not provide for any interest to be due unless repayment of the nzdollar_figure million was not made by date although the nzdollar_figure million was paid in before the loan’s due_date canterbury presented at trial an assignment-of-interest agreement between bil and canterbury stating that canterbury would assume canterbury nz’s obligation to pay bil interest of nzdollar_figure for the period of date through date according to credible testimony this money wasn’t actually paid and was perhaps deducted from the principal that was repaid later on--though even this is unclear canterbury nevertheless reported this amount as its own interest_expense on its tax_return the commissioner denied the deduction because he concluded the indebtedness was not canterbury’s but canterbury nz’s we agree as with the management fees canterbury argues once again that the interest payments were essential to promoting and protecting its trade_or_business we reject this argument for the same reasons we rejected it already with regard to the management fees furthermore we find that it was part of the deal that enabled canterbury nz to acquire all of lwr’s shares although canterbury claims the loan was assigned to it by canterbury nz there was no such document between canterbury and canterbury nz admitted into evidence the record does include an agreement between bil and canterbury for canterbury to pay bil we also note interest incurred on property_held_for_investment is investment_interest sec_163 sec_163 limits the deductibility of investment_income of a noncorporate taxpayer to the amount of net_investment_income excess of investment_income over investment_expenses sec_163 canterbury reported only trivial investment_income on its returns and it could not claim investment-interest deductions above those amounts nzdollar_figure in interest but only canterbury signed it and some important blank spaces in the agreement--especially the one to record the date of the assignment to canterbury of the loan between canterbury nz and bil--remain unfilled we therefore agree with the commissioner that there was no reason for canterbury as part of its own trade_or_business to assume canterbury nz’s obligation this isn’t to say that canterbury lacked any reason to pay this debt we recognized in a similar case that a successful operation of the foreign_subsidiary would obviously inure to the benefit of the petitioner as parent_corporation petitioner’s willingness to undertake this obligation is understandable but we do not believe that these dollar payments of salaries and related payments can be construed as petitioner’s own business_expense as a part of its cost_of_goods_sold 42_tc_800 we have no reason to decide this case differently a corporation generally is a separate taxable entity even if it has only one shareholder who exercises total control_over its affairs 319_us_436 ii accuracy-related_penalty sec_6662 imposes a penalty on underpayments attributable to gross_valuation_misstatements negligence or a substantial_understatement_of_income_tax in this case the commissioner asserted the penalty on two grounds negligence for the deduction of interest and substantial_understatement_of_income_tax for the deduction of the management fees both of these grounds for imposing the penalty are subject_to the defense of reasonable good-faith reliance on professional advice sec_6664 see also sec_1_6664-4 income_tax regs 116_tc_438 canterbury argues that it relied on the professional advice of one max gray gray is a cpa and attorney with more than years of experience as a tax consultant he was also a kpmg partner we have no doubt that he is a competent professional in his field--in addition to his experience his education was also top-of-the-line he has a b s in accounting and finance an m a from berkeley and a j d from the university of san francisco while in law school gray began to work on the audit staff of kpmg and climbed his way up to be a member of the tax department until he made partner in while working for kpmg he even taught tax courses at california state university hayward now called california state university east bay and though he had already retired from kpmg when he was advising canterbury he still had a private practice tefra tells us that we should usually examine any accuracy-related_penalties or additions to tax related to adjustments to partnership items at the partnership level new millennium trading llc v commissioner t c ___ ___ slip op pincite tigers eye trading llc v commissioner tcmemo_2009_121 woodward and teece called gray in and asked for his advice on the u s tax consequences of their new zealand acquisition canterbury supplied gray with all the relevant documentation including its draft tax returns for the and tax years and consulted with him on the proper character and reporting of the management fees and interest_expenses paid_by canterbury to bil canterbury thereafter followed gray’s advice though we disagree with gray on the merits of this case we find that canterbury reasonably relied in good_faith on his advice that is enough to free canterbury of liability for the penalties when an accountant or attorney advises a taxpayer on a matter of tax law it is reasonable for the taxpayer to rely on that advice 469_us_241 decisions will be entered under rule the partners’ reasonable reliance on gray’s advice is also enough to refute the commissioner’s new_theory that canterbury was a tax_shelter under sec_6662 that disguised the real relationship of the deductions to the partners this rather startling argument would require us to find that the purpose the partners had in forming the llc was to enable themselves to deduct the management fees and interest_expenses this is too much--everything in the record supports canterbury’s position that its partners formed the llc and created canterbury nz for the perfectly understandable and profit-motivated purpose of acquiring and rehabilitating the canterbury brand not evasion or avoidance of federal_income_tax


cca-718131-13 ----------------- id office uilc number release date from -------------- sent thursday date am to --------------------- cc ------------------------------- ---------------------- --------------- subject advice response --------- this responds to your request for advice sent on date in connection with the timing of taxpayer’s payments under an agreement labeled as a swap in that request you state that the issue is whether the payments paid_by taxpayer to buyer under the agreement should be characterized as an ‘adjustment to sale price ’ as the taxpayer characterized them and thus be fully deducted in the year of the payment as capital_loss or as a ‘non-periodic payment ’ and thus be amortized for the life of the agreement the facts you have provided include taxpayer sold stock of a third-party to buyer for an agreed-upon amount sale price the transfer of the stock was restricted and convertible into another class of stock publicly traded and issued by the same third-party upon the conclusion of certain contingencies outside the control of taxpayer and buyer simultaneous with the stock sale taxpayer and buyer entered into agreement labeled as a share swap under which taxpayer agreed to make certain payments at any time related primarily to the decline in the conversion rate of the restricted_stock into the publicly traded stock under the agreement taxpayer generally was also entitled to receive payments at any time in the event there was an increase in the conversion rate of the restricted_stock into the publicly traded stock however we have no information indicating that the parties to the agreement reasonably expected that any such payments would ever be made the terms of the stock sale and the agreement were negotiated together and the stock sale price would have been substantially lower if taxpayer had not agreed to enter into the agreement taxpayer subsequently made substantial payments under agreement deducting the full amounts as capital losses in the years they were paid and taxpayer never received any payments under the agreement based on the facts provided and our analysis to date characterizing the payments as made pursuant to something other than a notional_principal_contract in this case as an adjustment to the sales_price is a more appropriate result