Herrmann v. United States
132 Fed. Cl. 459
| Fed. Cl. | 2017Background
- Mina Herrmann worked for Paulson & Co. in New York, moved to London in Jan 2008 and became a member of Paulson Europe LLP (PELLP) by deed of adherence and small capital contribution; her duties and compensation formula (2% of net incentive fee) remained substantively unchanged.
- On December 31, 2008 PELLP ordered an $18,748,838 payment (the "$18M payment") to Mina; funds were wired from Paulson & Co. to PELLP but the Herrmanns did not receive and have bank-credited the payment until January 5–6, 2009.
- PELLP did not provide Mina a 2008 Schedule K-1 or W-2 until 2011; PELLP filed a 2008 Form 1065 but attached a K-1 only for Paulson Ltd.; an erroneous 2008 K-1 showing the $18M distribution was produced to the Herrmanns in 2011 and later corrected.
- The IRS audited PELLP and the Herrmanns, issued a Notice of Computational Adjustment treating the $18M as 2008 partnership income, determined $7,860,434.87 tax+interest due for 2008, and the Herrmanns paid and sued for refund asserting (a) payment was for services (taxable when received in 2009) under I.R.C. §707(a)(2)(A), (b) alternatively they should be allowed an accrual-method foreign tax credit for 2008, and (c) TEFRA procedural defects.
- The Court assumed, without deciding, that Mina was a PELLP member but analyzed whether the $18M constituted a partnership distribution or disguised payment for services; on the facts the court found the payment was for services outside partner capacity and therefore taxable in 2009 and ordered a full refund of the 2008 tax+interest.
Issues
| Issue | Plaintiff's Argument | Defendant's Argument | Held |
|---|---|---|---|
| 1. Nature and timing of $18M payment: partnership distribution (2008) vs payment for services (taxable when received 2009) under I.R.C. §707(a)(2)(A) | Herrmann: payment was a partnership distribution and properly includable in 2009 when received (or alternatively not a disguised payment); taxable when received if not a distribution. | U.S.: payment was a partnership distribution to Mina in 2008 and taxable in 2008. | Court: payment was a disguised payment for services under §707(a)(2)(A), not a partnership distribution; taxable in 2009; refund awarded. |
| 2. Bona fide partner status: was Mina a partner for U.S. tax purposes? | Herrmann: Mina was not a bona fide partner (limited rights, small capital interest, compelled membership to avoid UK taxes). | U.S.: treated the $18M as partnership distribution (implicitly that she was partner for tax purposes). | Court: assumed membership for analysis but found disguised payment regardless; did not decide bona fide partner status definitively. |
| 3. Election to use accrual method for foreign tax credit for 2008 | Herrmann: if payment deemed partnership distribution, they should be allowed to elect accrual method so UK taxes paid in 2009 could be credited to 2008. | U.S.: Herrmanns were cash-basis taxpayers and bound by prior treatment; disallowed switching to accrual method. | Court: unnecessary to decide because full refund granted on Issue 1; did not reach merits of accrual-election claim. |
| 4. TEFRA procedural challenge to Notice of Computational Adjustment | Herrmanns argued IRS violated TEFRA partner-notice and audit procedures during PELLP audit, invalidating adjustment. | U.S.: audit and notices were adequate; disallowance proper. | Court: TEFRA claim is supplementary and not independently dispositive; not necessary to resolve because refund granted on the substantive §707 issue. |
Key Cases Cited
- Helvering v. Taylor, 293 U.S. 507 (Sup. Ct.) (general burden and principles on tax refund suits)
- Lewis v. Reynolds, 284 U.S. 281 (Sup. Ct.) (standards for refund suits and burden of proof)
- Rockwell v. Commissioner, 512 F.2d 882 (9th Cir.) (tax refund burden and preponderance standard)
- Sara Lee Corp. v. United States, 29 Fed. Cl. 330 (Ct. Cl.) (precedent on tax refund litigation procedures)
- Gingerich v. United States, 77 Fed. Cl. 231 (Fed. Cl.) (tax refund claim burden and de novo review)
- Herrmann v. United States, 124 Fed. Cl. 56 (Fed. Cl.) (prior opinion addressing procedural issues in this dispute)