EC Term of Years Trust v. United States, - U.S. - (2007) Statutory Analysis wins!

The Supreme Court held that as to third party wrongful levy actions there is a specific statute § 7426(a)(1) that governs this area. Therefore, the limitations period for a tax refund action under 28 U.S.C. § 1346(a)(1) does not apply. The outcome is not a surprise but the analysis in the decision, albeit short and simple, again raises questions as to the strategy being employed by the Government in its battles as to tax shelters.

The facts in this case are as follows: After two individuals established a Trust, the IRS assessed federal tax liabilities against them for what the Government claimed were unwarranted income tax deductions in an earlier taxable year. The Government assumed that the individuals had transferred assets to the Trust to evade taxes, and so filed a tax lien against the Trust. The Trust denied any obligation, but for the sake of preventing disruptive collection efforts by the IRS, it deposited funds in a bank account, which the IRS levied upon.

Almost a year after that, the Trust brought a civil action under § 7426(a)(1) claiming wrongful levies, but the District Court dismissed it because the com-plaint was filed after the 9-month limitations period had expired. See § 6532(c)(1). The court also noted that tax-refund claims under 28 U.S.C. § 1346(a)(1) were not open to the plaintiff trusts because § 7426 "'affords the exclusive remedy for an innocent third party whose property is confiscated by the IRS to satisfy another person's tax liability.'" At first the Trust sought review by the Court of Appeals for the Fifth Circuit, but then voluntarily dismissed its appeal. After unsuccessfully pursuing a tax refund at the administrative level, the Trust filed a second action - a refund under § 1346(a)(1). The District Court remained of the view that a claim for a wrongful levy under § 7426(a)(1) had been the sole remedy possible and dismissed. The Court of Appeals for the Fifth Circuit affirmed.

The Supreme Court agreed with the Fifth Circuit. The Supreme Court stated:

 In a variety of contexts the Court has held that a precisely drawn, detailed statute pre-empts more general remedies.” Brown v. GSA, 425 U.S. 820, 834 (1976). . . Resisting the force of the better-fitted statute requires a good countervailing reason, and none appears here. Congress specifically tailored § 7426(a)(1) to third party claims of wrongful levy, and if third parties could avail them-selves of the general tax refund jurisdiction of § 1346(a)(1), they could effortlessly evade the levy statute's 9-month limitations period thought essential to the Government's tax collection.

Interestingly Brown reads as follows:

In a variety of contexts the Court has held that a precisely drawn, detailed statute pre-empts more general remedies. In Preiser v. Rodriguez, supra, for example, state prisoners whose good-time credits had been canceled for disciplinary reasons brought suit under the Civil Rights Act of 1871, as amended, 42 U.S.C. s 1983, in conjunction with a habeas corpus action. Although acknowledging that the civil rights statute was, by its terms, literally applicable, we held that challenges to the fact or duration of imprisonment appropriately lie only under habeas corpus, the “more specific act.” Permitting such challenges to be brought under the general, civil rights statute, where exhaustion is not required, would undermine the “strong policy requiring exhaustion of state remedies” when prisoners challenge the length of their confinement. 411 U.S., at 488-490. The Court has reached similar results in cases in which injured federal employees have claimed the right to proceed under facially applicable tort recovery statutes. E. g., United States v. Demko, 385 U.S. 149 (1966) (18 U.S.C. s 4126; Federal Tort Claims Act); Patterson v. United States, 359 U.S. 495 (1959) (Federal Employees' Compensation Act; Suits in Admiralty Act); Johansen v. United States, 343 U.S. 427 (1952) (Federal Employees' Compensation Act; Public Vessels Act). We have consistently held that a narrowly tailored employee compensation scheme pre-empts the more general tort recovery statutes. See also Fourco Glass Co. v. Transmirra Products Corp., 353 U.S. 222 (1957); Stonite Products Co. v. Melvin Lloyd Co., 315 U.S. 561 (1942) (in patent cases, venue is governed exclusively by statute dealing specifically with patent cases; general venue statute held inapplicable).

Thus, Supreme Court is clear if the statute is clear, then there is no need to use a general remedy. The question then becomes can someone explain to me what is going on in the tax shelter wars, i.e. is a general remedy superseding the governing statutes? Personally, I do believe so but the more the IRS becomes solely reliant on the economic substance doctrine rather than the code then this potential problem can come to fruition.

In its battles with the Tax Shelters, the IRS has relied on the judicial doctrine of economic substance. Said economic substance does not have one definition but has, at my count, four different variations to its flavor. Thus, depending on which Circuit you live in and/or were you filed the proceeding – you may have a chance to win the underlying case and the penalties while in other circuits/venues “it ain’t happening captain.” Maybe this is the dilemma that the Judge in Jade Trading is confronting and why she continues to asks the parties to file briefs when a new tax shelter opinion case comes out.

The bottom line is that I have heard government officials’ side step this issue and rationalize that there is no need for economic substance to be defined in the code. They can rationalize it all they want but the bottom line is that it suits the Government’s needs not to have standard because they are winning these cases. But this come at a price – the expense of treating similarly treated in a consistent manner. Personally, that is too a high price to win this battle. Remember government who is supposed to wear the white hats.

Don’t misunderstand my point to be of advocating these shelters because that is not my point. My point is very simple, and I do recognize it is also complex; a taxpayer should be entitled to rely on the plain meaning of a statute and be held to the language and the intent contained in the statute. How that is achieved while balancing a fair and equitable tax system is the open question which we have not been able to answer since the beginning of time.

But mark my words, which every tax litigator knows, there will come a time when the pendulum swings back to rigid construction. Is EC Term of Years Trust, the case that swings the pendulum – who knows? But with Jade Trading still out there and numerous son-of-boss cases being set for trial in the Tax Court before Judge Halpern and Judge Laro, we will get our answer shortly.

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