45 F.4th 1312
11th Cir.2022Background
- In 2001 Raghunathan Sarma participated in a marketed tax-avoidance plan called FOCus that used three-tiered partnership vehicles: Nebraska (upper), Lincoln (middle, later a "small partnership"), and Kearney (lower, a TEFRA partnership).
- Kearney entered offsetting FX forward contracts (straddles) that produced realized gain legs (funds placed in CDs) and unrealized loss legs; Lincoln claimed an inflated outside basis in its Kearney interest based on Kearney’s reported gains.
- Lincoln reported a $78.4 million short-term capital loss for a December 2001 short year and allocated $77.6 million of that loss to Sarma, who claimed the deduction on his 2001 return.
- The IRS issued FPAAs to Kearney and related partnerships; the district court held the FOCus transactions were sham/abusive and eliminated Kearney’s gains and losses; that partnership-level judgment was affirmed on appeal and became final Jan. 11, 2016.
- The IRS then issued an affected-item notice of deficiency to Petitioners on Sept. 9, 2016 disallowing the $77.6 million loss; the Tax Court held Lincoln’s outside basis in Kearney was an "affected item," the 2016 notice was timely and valid, Lincoln’s basis was zero, and Petitioners’ deemed-ownership/asset-sale recharacterization and due-process claims failed.
Issues
| Issue | Petitioners' Argument | Respondent's Argument | Held |
|---|---|---|---|
| Whether Lincoln’s outside basis in Kearney is an "affected item" for §6229 tolling of the limitations period | Lincoln’s outside basis in a small partnership is not an affected item, so §6501(a) expired before the 2016 notice | Kearney’s sham determination is a partnership item that affects Lincoln’s outside basis, so the item is an affected item and §6229 tolls the period | Held: Lincoln’s outside basis is an affected item; §6229 tolling applied and the 2016 notice was timely |
| Whether the 2016 notice was an invalid multiple notice of deficiency under §6212(c)(1) | The 2016 notice was barred because Petitioners already received prior notices for the same years | An exception in §6230(a)(2)(C) permits affected-item deficiency notices notwithstanding the general bar | Held: 2016 notice valid under §6230(a)(2)(C) exception for affected-item notices |
| Whether the Tax Court should have treated Lincoln’s sale of its Kearney interest as a sale of Kearney’s assets (deemed ownership/asset-sale recharacterization) | Because Kearney was a sham, it should be treated as an agent/nominee and Lincoln deemed owner of Kearney’s CDs—so the sale should be treated as an asset sale yielding a large deductible loss | TEFRA vested jurisdiction over Kearney’s partnership items in the partnership-level proceeding; Lincoln’s reported transaction was a sale of a partnership interest and taxpayers are bound by that form | Held: Recharacterization denied; Lincoln had zero outside basis in Kearney and the Tax Court correctly refused to treat the transaction as an asset sale |
| Whether Petitioners were denied due process by not being able to directly challenge Lincoln’s disallowed loss | Petitioners asserted they lacked a direct opportunity to challenge the Lincoln loss | Petitioners and Lincoln received notice/participation rights in the partnership-level proceeding as required; they had opportunity to be heard | Held: No due process violation; Petitioners had notice and opportunity to participate |
Key Cases Cited
- United States v. Woods, 571 U.S. 31 (U.S. 2013) (partnership sham/economic-substance determination is a partnership item and affects partners’ bases)
- Kearney Partners Fund LLC v. United States, 803 F.3d 1280 (11th Cir. 2015) (affirming district court that FOCus partnerships were abusive tax shelters)
- Rhone-Poulenc Surfactants & Specialties, L.P. v. Comm’r, 114 T.C. 533 (2000) (§6229 holds open §6501 limitations for partnership and affected items)
- Greenberg v. Comm’r, 10 F.4th 1136 (11th Cir. 2021) (TEFRA/limitations principles and interplay of §§6501/6229)
- Meruelo v. Comm’r, 923 F.3d 938 (11th Cir. 2019) (taxpayers are bound by the form of the transaction and ordinarily cannot assert an alternative substance-based characterization)
- Shockley v. Comm’r, 872 F.3d 1235 (11th Cir. 2017) (explaining narrow, exceptional application of substance-over-form doctrine)
- Gregory v. Helvering, 293 U.S. 465 (U.S. 1935) (foundational statement of substance-over-form doctrine)