Candyce Martin 1999 Irrevocable Trust v. United States, 739 F.3d 1204

Background

The Martin family trusts (14 trusts holding 16.67% of Chronicle Publishing) participated in a multi-tiered partnership scheme (First Ship and 2000-A) and hedging option transactions designed to create an artificial basis and generate ~ $318 million of partnership losses that offset gain from the Chronicle sale.
First Ship (an upper-tier partnership owned 100% by the trusts) reported a $318 million loss on its 2000 return derived from an inflated basis in lower-tier 2000-A; 2000-A reported only about $4 million of actual losses.
The IRS audited 2000-A and First Ship; the parties executed successive Form 872-I extension agreements with restrictive language limiting deficiency assessments to adjustments "directly . . . attributable to partnership flow-through items of First Ship."
In June 2008 the IRS issued an FPAA to 2000-A (2000 tax year) disallowing the transactions (sham/economic substance) and treating the short options as liabilities, which reduced First Ship’s basis and eliminated most of First Ship’s reported loss.
Two Martin trusts sued, arguing the 2000-A FPAA was time-barred by the extension agreements; the district court held the extensions encompassed the 2000-A adjustments and denied relief. The case was appealed.

Issues

Issue	Plaintiff's Argument	Defendant's Argument	Held
Whether the IRS’s extension agreements between the trusts and the IRS covered adjustments in the 2000-A FPAA	The trusts argued the restrictive language limited the extensions to adjustments made directly to First Ship, not to adjustments to lower-tier 2000-A	Government argued the term “adjustment” covers partnership-level adjustments effectuated through an FPAA to related partnerships (including lower-tier 2000-A) so long as they are attributable to First Ship items	Affirmed in part: extensions cover those 2000-A FPAA adjustments that are directly "due to, caused by, or generated by" partnership flow-through items of First Ship (not adjustments unrelated to First Ship)
Whether the FPAA to 2000-A tolled the assessment period for tax attributable to partnership items beyond the extension agreements	Taxpayers argued issuance to 2000-A could not extend assessment period as to trust partners beyond the restrictive extensions	Government contended an FPAA suspends assessment periods for tax attributable to the partnership items affected by that FPAA	Held: issuance of the 2000-A FPAA suspended the assessment period under §6229(d) for tax attributable to 2000-A partnership items (as to the affected items) and—combined with the extensions—permits assessment now for adjustments attributable to First Ship flow-through items
Whether adjustments in the 2000-A FPAA that only affect items originating with 2000-A (and not First Ship) fall within the extensions	Trusts argued such adjustments are outside the scope because they do not stem from First Ship flow-through items	Government argued related adjustments could still be within scope if they bear a connection to First Ship items	Held: adjustments that only affect 2000-A items that do not flow up from First Ship are not covered by the extensions; the district court’s broader holding was overbroad and must be narrowed on remand
Standard to interpret the phrase "attributable to partnership flow-through items of First Ship" in the extension	Trusts urged a narrow reading excluding lower-tier adjustments	Government urged a TEFRA-consistent reading that treats "attributable to" as "due to, caused by, or generated by" and ties it to partnership-level FPAA adjustments	Held: "attributable to" is interpreted as "due to, caused by, or generated by"; under TEFRA, extension language refers to partnership-level adjustments effected by an FPAA and is interpreted by contract principles

Key Cases Cited

United States v. Woods, 134 S. Ct. 557 (Sup. Ct.) (describing TEFRA partnership-level adjustment procedure)
Electrolux Holdings, Inc. v. United States, 491 F.3d 1327 (Fed. Cir.) (interpreting "attributable to" as "due to, caused by, or generated by")
Meruelo v. Commissioner, 691 F.3d 1108 (9th Cir.) (FPAA may be issued anytime but assessment depends on open periods for partners)
Russian Recovery Fund Ltd. v. United States, 101 Fed. Cl. 498 (Ct. Fed. Cl.) (upper-tier reference in an agreement does not automatically cover lower-tier adjustments; distinguished)
Roszkos v. Commissioner, 850 F.2d 514 (9th Cir.) (extension agreements interpreted by contract principles)
Stange v. United States, 282 U.S. 270 (U.S.) (extension agreements are unilateral waivers of limitations periods)
Tigers Eye Trading, LLC v. Commissioner, 138 T.C. 67 (Tax Ct.) (noting that partnership items of income and loss flow through to partners)
Kornman & Associates, Inc. v. United States, 527 F.3d 443 (5th Cir.) (discussing Son of BOSS tax shelters)