Nance et al v. United States
Filing
34
ORDER DENYING 25 DEFENDANT'S MOTION TO DISMISS AMENDED COMPLAINT. Signed by Judge J. Daniel Breen on 4/11/13. (Breen, J.)
IN THE UNITED STATES DISTRICT COURT
FOR THE WESTERN DISTRICT OF TENNESSEE
EASTERN DIVISION
DAVID W. NANCE and
PRISCILLA LYNN NANCE,
Plaintiffs,
v.
No. 12-1064
UNITED STATES OF AMERICA,
Defendant.
_____________________________________________________________________________
ORDER DENYING DEFENDANT'S MOTION TO DISMISS AMENDED COMPLAINT
_____________________________________________________________________________
INTRODUCTION
This matter was initially brought by the Plaintiffs, David W. Nance and Priscilla Lynn Nance
(the "Nances"), on March 9, 2012 against the United States of America (sometimes referred to
herein as the "Government"). (D.E. 1.) On August 29, 2012, they filed an amended complaint,
seeking a refund of tax penalties. (D.E. 20.) Before the Court is the Defendant's motion to dismiss
the amended complaint pursuant to Rule 12(b)(6) of the Federal Rules of Civil Procedure. (D.E.
25.)
STANDARD OF REVIEW
The Rule permits a court to dismiss a complaint for "failure to state a claim upon which relief
can be granted." Fed. R. Civ. P. 12(b)(6). "When a court is presented with a Rule 12(b)(6) motion,
it may consider the [c]omplaint and any exhibits attached thereto, public records, items appearing
in the record of the case and exhibits attached to defendant's motion to dismiss so long as they are
referred to in the [c]omplaint and are central to the claims contained therein." Bassett v. Nat'l
Collegiate Athletic Ass'n, 528 F.3d 426, 430 (6th Cir. 2008). "[T]he district court must construe the
complaint in the light most favorable to the plaintiff and must accept all the factual allegations
contained in the complaint as true." Paige v. Coyner, 614 F.3d 273, 277 (6th Cir. 2010) (citing
Lambert v. Hartman, 517 F.3d 433, 439 (6th Cir. 2008)). "In order to survive a Rule 12(b)(6)
motion to dismiss, [a plaintiff's] complaint need contain only 'enough facts to state a claim to relief
that is plausible on its face.'" Id. (quoting Bell Atl. Corp. v. Twombly, 550 U.S. 544, 570, 127 S.
Ct. 1955, 167 L. Ed. 2d 929 (2007)).
FACTS ALLEGED
The Plaintiffs have alleged the following facts. The Nances reside in Milan, Tennessee and
own and operate Nance Tool & Die, Inc., a Tennessee corporation. Their attorney, Robert Bly, of
Knoxville, Tennessee, who held himself out as an experienced tax adviser, informed the Plaintiffs
that they could minimize income subject to federal taxation by forming offshore corporations
domiciled in the Bahamas. To that end, he assisted them in forming Bahamian-domiciled Philco
Investments, Ltd. ("Philco"), of which Mr. Nance was principal shareholder. Thereafter, Nance
transferred funds from Nance Tool & Die's corporate account to Philco's bank account in Nassau.
On Bly's advice, Plaintiffs also incorporated Luxum International, Ltd. in the Bahamas and a trust
in Costa Rica. At the time, Bly assured the Plaintiffs their investments were proper.
In late 1999, however, counsel contacted the Nances to inform them that the offshore
transactions may "no longer" be valid from a tax standpoint. Consequently, they ceased all their
Bahamian and Costa Rican operations and deposits. Bly did not instruct Plaintiffs to remove funds
from the offshore accounts, make reports to any agency, including the Internal Revenue Service
("IRS" or the "Service"), or take any other action.
On November 25, 2003, the IRS issued Letter 3679 to the Plaintiffs, advising that they were
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under examination by the agency in connection with their offshore financial arrangements. They
were invited to participate in the Voluntary Compliance Initiative, a program under which they could
minimize their exposure to penalties by providing certain information to the Government. If they
complied, a civil fraud penalty would only be imposed for the "major" year. For any other year,
only a delinquency or accuracy-related penalty would be assessed. The letter further stated that
"[a]dditionally, we will not impose information return civil penalties for failure to comply with
[Internal Revenue Code ("IRC")] sections . . . 6048 [which requires reporting with respect to foreign
trusts], if you file delinquent or amended information returns." (D.E. 20-1 at 1.) The letter provided
that
civil penalties for violations involving Reports of Foreign Bank and Financial
Accounts (FBAR) will be imposed for only one year and we may resolve the FBAR
penalty for less than the statutory amount based on the facts and circumstances of
your case. Except for the FBAR penalty in one year, to which you will be expected
to agree, civil penalties will not be imposed for failure to file an FBAR, for filing a
false FBAR, or failing to keep records you are required to keep, if you file delinquent
or amended FBARs.
(Id.). Letter 3679 instructed that, in order to participate in the program, Plaintiffs had to advise the
IRS within thirty days of the date of the letter of their intention to participate. All required materials
were to be submitted within 150 days. The agency contact person was listed therein as Elysia A.
Wilcox.
After consulting with an attorney1 and their accountant, the Nances opted to participate in
the initiative. On December 8, 2003, they provided a Form 2848 to their accountant, Tom Shelton,
permitting him to discuss their tax issues with the IRS. The Nances submitted the same form to their
1
The amended complaint does not indicate whether this individual was Bly, Frank
Stockdale Carney, see infra, or someone else.
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current attorney, Frank Stockdale Carney, on March 18, 2004. The form included power to discuss
issues related to their income taxes and civil penalties for tax years 1996 through 2003. By letter
dated March 24, 2004, Carney advised Wilcox that he was working with the Plaintiffs on a response
to her letter and enclosed a copy of the Form 2848. In a subsequent correspondence dated April 9,
2004, Carney informed Wilcox of the facts and circumstances of Plaintiffs' offshore transactions and
sought to begin the process of filing the necessary documents to be in compliance with the initiative.
In the early summer of 2004, Carney contacted Janet Cunningham, the revenue agent assigned to
the Nances' case, stating:
As you and I discussed, there may be some informational returns, such as reports in
IRC section[] . . . 6048, that should have been filed in the past in connection with the
foreign bank accounts. At this time, the Nances no longer maintain any of the
foreign bank accounts. You mentioned that in your review you would determine
whether these informational returns are now moot and we do not need to file those,
or whether you want us to file any of those applicable returns. As I confirmed, if you
feel you need us to file the applicable informational returns, please let me know and
we will prepare those returns.
(Id. at 33.) Plaintiffs worked diligently to determine whether information reported for years 1997
through 2000 was correct and voluntarily filed amended returns based on professional advice
received in 2003 and 2004 and at the request of the IRS. As part of the Voluntary Compliance
Initiative, the Nances worked with the Service to formulate a Closing Agreement. Carney met with
Cunningham on July 2, 2004, during which they discussed the remaining and amended returns that
would be required. Carney took notes at the meeting that reflected his clients would need to file a
Form 3520-A for the years 1997 through 2004, and that 2004 would be the final return. In a
November 4, 2004 letter to Cunningham, Carney submitted, among other things, a Form 3520-A for
the years 1997 through 2003. He stated therein that the submission was "[i]n response to [her]
request at [their] last conference for additional information and reporting returns . . ." (Id. at 35.)
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Otherwise, the Nances would have been required, pursuant to the 2003 Form 3520-A's filing
instructions, to mail the form to the IRS Center located in Philadelphia, Pennsylvania.
On February 23, 2006, Plaintiffs executed a Closing Agreement with the IRS, pursuant to
which they filed Forms 3520, 3520-A, 5472 and TD F 99-22.1 for the years 1999 through 2002.
Under the terms of the Closing Agreement, Plaintiffs paid $1,245,396.52 in taxes due and
$446,344.50 in penalties for 1999, along with interest. The Closing Agreement was signed by the
Commissioner of Internal Revenue on April 12, 2006. The document provided in part that "[t]his
agreement is final and conclusive except . . . if it relates to a tax period ending after the date of this
agreement, it is subject to any law, enacted after the agreement date, that applies to that tax period."
(Id. at 9.)
On September 11, 2006, the Service issued Notice Number CP15 to the Plaintiffs, assessing
an additional penalty in the amount of $156,478.00 for the 2003 tax year based on their failure to
timely file the Form 3520-A due March 15, 2004. In subsequent notices, numbered CP503 and
CP504, dated October 16, 2006 and November 20, 2006, respectively, the Nances were advised of
interest added to the penalty, bringing the total balance to $158,897.00. Plaintiffs filed a Request
for Penalty Waiver with the Taxpayer Advocate on June 1, 2007, citing reasonable cause for late
filing of Form 3520-A. The request was denied on June 26, 2007.
On August 8, 2007, the Nances filed a Written Protest Appeal, requesting reconsideration
of the determination based on reasonable cause. A conference was held with an appeals officer on
March 11, 2008. The appeal was denied on October 20, 2009. A month later, the Plaintiffs filed
a claim for credit for the period ending December 31, 2003, which the IRS disallowed on March 29,
2010.
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The Plaintiffs submit that they are entitled to relief on the following grounds:
(a)
The penalty assessed against Plaintiffs by Defendant is improper because
Plaintiffs filed Forms 3520, 3520-A, 5472 and TD 99-22.1 for tax years 1999-2002
after receiving notice regarding the Voluntary Compliance Initiative dated November
25, 2003; however, Plaintiffs received a late filing fee for 2003 Form 3520-A.
(b)
The 2003 Form 3520-A return was filed with the understanding that it was
part and parcel of a Voluntary Compliance Initiative under which the Plaintiffs over
a couple of years worked with an assigned Revenue Officer to determine what
returns were required, to file such returns, and to pay back taxes associated with
foreign bank accounts.
(c)
The Letter 3679 and the Voluntary Compliance Initiative had assured the
Plaintiffs that a civil fraud penalty and a civil penalty for failing to file an FBAR
would be assessed for only one year, and the Plaintiffs paid such penalties for 1999
as stated in the Closing Agreement. Letter 3679 further assured Plaintiffs that the
offer contained therein pertained to years ending after December 31, 1998.
(d)
The Closing Agreement, executed by the Plaintiffs and the Commissioner,
included the penalties assessed with respect to tax year ending December 31, 1999
and further stated that it was conclusive as to all tax periods except "if it relates to
a tax period ending after the date of this agreement" and such Closing Agreement
was last executed by the Commissioner on April 12, 2006.
(e)
Plaintiff's attorney, Mr. Carney, first contacted Ms. Elysia A. Wilcox by letter
dated March 24, 2004, about the Plaintiffs' participation in the Voluntary
Compliance Initiative, which was within the 150-day period permitted by Letter
3679.
(f)
Mr. Carney's and the Plaintiffs' understanding was that the Service would
determine what, if any, information returns and amended returns were required and
would notify Mr. Carney and the Plaintiffs, at which time the Plaintiffs would file
such returns. In fact, Plaintiffs filed such returns upon the instruction of the Service's
agent, including returns for 2003, in finalizing the Voluntary Compliance Initiative.
All information returns, including the 2003 Form 3520-A, were mailed as one single
packet to the agent to conclude the Voluntary Compliance Initiative.
(g)
Under the Plaintiffs' reasonable reliance on Letter 3679, the Closing
Agreement, and the Voluntary Compliance Initiative, no assessment should ever
have been made for 2003 because the Plaintiffs' understanding was that any penalties
for late filing of all necessary information returns related to the Plaintiffs' offshore
transactions were covered by such Letter 3679, the Closing Agreement, and the
Voluntary Compliance Initiative.
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(h)
Alternatively, the Plaintiffs should be granted the requested relief because
they had reasonable cause for failing to timely file the 2003 Form 3520-A, which
was not due to willful neglect.
(D.E. 20 at 13-15.)
ASSERTIONS OF THE PARTIES AND ANALYSIS
The Government first submits that the tax period ending December 31, 2003 and, by
extension, the 2003 Form 3520-A, the late filing of which was the basis for the penalty at issue, was
not, as Plaintiffs claim, part of any agreement between the Nances and the IRS. Under 26 U.S.C.
§ 7121, the Service "is authorized to enter into an agreement in writing with any person relating to
the liability of such person . . . in respect of any internal revenue tax for any taxable period." 26
U.S.C. § 7121(a). Closing agreements under the statute are "final and conclusive," except on a
showing of "fraud or malfeasance, or misrepresentation of a material fact[.]" 26 U.S.C. § 7121(b).
Accordingly, "closing agreements are binding on the parties as to the matters agreed upon and may
not be modified or disregarded in any proceeding unless there is a showing of fraud, malfeasance,
or misrepresentation of a material fact." In re Spendthrift Farm, Inc., 931 F.2d 405, 407 (6th Cir.
1991); see also In re Crowell, 258 B.R. 885, 888 (E.D. Tenn. 2001) (same), aff'd, 305 F.3d 474 (6th
Cir. 2002).
Closing agreements under § 7121(a) "are contracts and generally are interpreted under
ordinary contract principles." Roach v. United States, 106 F.3d 720, 723 (6th Cir. 1997). "An
ambiguous closing agreement will be interpreted in accord with the surrounding circumstances."
Id. "[I]f the essential terms of an agreement are deemed unambiguous, a court will not look beyond
the four corners of the document to determine the parties' intent." Rink v. Comm'r of Internal
Revenue, 47 F.3d 168, 171 (6th Cir. 1995).
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The Defendant points out that the Closing Agreement entered into by the Plaintiffs referred
only to the tax years 1997 through December 31, 2002 and that, while the Nances could have
requested inclusion of the 2003 tax year within the agreement's terms, they did not do so. Although
they do not dispute that the Closing Agreement did not specifically mention 2003 returns, the
Plaintiffs insist that, at a minimum, there is some ambiguity as to whether it applied only to years
1997 through 2002 or to all tax years other than those ending after the date of the agreement. Thus,
they submit that the Court is permitted to consider parol evidence -- in this case, the parties' conduct
and Letter 3679 -- in construing the Closing Agreement.
Even if the Court agreed with the Government that the 2003 Form 3520-A filing did not fall
within the ambit of the Closing Agreement, 26 U.S.C. § 6677, which provides for the imposition of
penalties for failure to file information with respect to foreign trusts and under which the penalty
here was assessed, states that "[n]o penalty shall be imposed . . . on any failure which is shown to
be due to reasonable cause or not due to willful neglect." 26 U.S.C. § 6677(d). "Reasonable cause"
requires the taxpayer to demonstrate that he "exercised ordinary business care and prudence but
nevertheless was unable to file the return within the prescribed time." United States v. Boyle, 469
U.S. 241, 246, 105 S. Ct. 687, 690, 83 L. Ed. 2d 622 (1985) (internal quotation marks omitted).
"Willful neglect" is defined in this context as "conscious, intentional failure or reckless
indifference." Id. at 245, 105 S. Ct. at 690. The taxpayer is charged with the "heavy burden" of
showing both reasonable cause and absence of willful neglect.2 Id., 105 S. Ct. at 689-90; Shafmaster
2
The Government does not argue that the Nances' failure to file the form at issue was the
result of willful neglect and nothing currently in the record raises an inference thereof. Thus, for
purposes of the instant motion, the Court will assume Plaintiffs did not willfully neglect their tax
liability and will focus on whether they have passed muster under Rule 12(b)(6) on the issue of
reasonable cause.
8
v. United States, 707 F.3d 130, 137 (1st Cir. 2013).
In attempting to meet their burden, the Nances argue that (1) Bly did not indicate to them that
they needed to report any transactions to the IRS or take other action in connection with prior
offshore transactions, advice upon which they relied, and that (2), upon receipt of Letter 3679 and
knowledge of filing requirements relating to the offshore transactions, Plaintiffs immediately sought
advice from their accountant and new attorney, who opened a dialogue with the IRS, which
constituted the exercise of ordinary business care. The Government discounts the first of the
proffered bases, contending that Plaintiffs could not have relied upon advice regarding when a 2003
tax form should have been filed when Bly ceased representing them in 1999. However, it is not
clear from the record before the Court when Bly's representation ceased. Further, "[a]lthough
relying on an expert for the ministerial task of filing a tax return does not constitute reasonable
cause, relying on an expert's advice concerning substantive questions of tax law, such as whether
a liability exists in the first instance, may constitute reasonable cause." Estate of Liftin v. United
States, 101 Fed. Cl. 604, 608 (Fed. Cl. 2011) (citing Boyle, 469 U.S. at 250, 105 S. Ct. 687) (internal
quotation marks omitted); see also McMahan v. Comm'r of Internal Revenue, 114 F.3d 366, 369 (2d
Cir. 1997) ("reliance on a mistaken legal opinion of a competent tax adviser -- a lawyer or
accountant -- that it was unnecessary to file a return constitutes reasonable cause"). The Nances may
be able to prove facts demonstrating that they relied in good faith on Bly's failure to advise them of
the need to file a Form 3520-A for tax year 2003 and that they did not otherwise know during the
period of his representation that such a filing was required.
When they received Letter 3679, Plaintiffs became aware of their obligation to make certain
filings with the Service. As noted above, their subsequent counsel, Mr. Carney, met with revenue
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officer Cunningham in July 2004, four months after the Form 3520-A's March 2004 due date.
According to the amended complaint, "Mr. Carney and Ms. Cunningham discussed the remaining
returns and amended returns that would be required. Mr. Carney took notes from such meeting,
noting that the Plaintiffs would need to file a Form 3520-A for the years 1997 through 2004 (stating
that 2004 would be the final return)." (D.E. 20 ¶ 42.) Carney provided the form to Cunningham
directly pursuant to her request in November 2004.
"Reasonable cause may exist when a taxpayer files a return after the due date, but does so
in reliance on an expert's erroneous advice." Estate of Liftin, 101 Fed. Cl. at 608. Reliance on the
erroneous advice of an IRS officer or employee may also constitute reasonable cause. See
McMahan, 114 F.3d at 369; Tesoriero v. Comm'r of Internal Revenue, No. 18959-10, 2012 WL
3964976, at *4 (U.S. Tax Ct., Sept. 11, 2012). Viewing the facts alleged in the light most favorable
to the Plaintiffs, the Court finds they have stated a plausible claim that their failure to timely file the
2003 Form 3520-A was due to reasonable cause, based on Mr. Carney's communications with Ms.
Cunningham.
CONCLUSION
For the reasons set forth herein, the Defendant's motion to dismiss is DENIED.
IT IS SO ORDERED this 11th day of April 2013.
s/ J. DANIEL BREEN
UNITED STATES DISTRICT JUDGE
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