NORMA L. SLONE, Transferee, Petitioner-Appellee, v. COMMISSIONER OF INTERNAL REVENUE, Respondent-Appellant. SLONE FAMILY GST TRUST, UA Dated, August 6, 1998, Transferee, D. Jack Roberts, Trustee, Petitioner-Appellee, v. COMMISSIONER OF INTERNAL REVENUE, Respondent-Appellant. JAMES C. SLONE, Transferee, Petitioner-Appellee, v. COMMISSIONER OF INTERNAL REVENUE, Respondent-Appellant. SLONE REVOCABLE TRUST, UA Dated September 20, 1994, Transferee, James C. Slone and Norma L. Slone, Trustees, Petitioner-Appellee, v. COMMISSIONER OF INTERNAL REVENUE, Respondent-Appellant.
Nos. 16-73349, 16-73351, 16-73354, 16-73356
United States Court of Appeals, Ninth Circuit
July 24, 2018
Tax Ct. Nos. 6629-10, 6630-10, 6631-10, 6632-10
OPINION
Appeal from a Decision of the United States Tax Court
Argued and Submitted February 13, 2018 San Francisco, California
Filed July 24, 2018
Before: Mary M. Schroeder and Paul J. Watford, Circuit Judges, and William K. Sessions III,* District Judge.
Opinion by Judge Schroeder
SUMMARY**
Tax
The panel reversed a decision of the Tax Court, and remanded with instructions to enter judgment in favor of the Commissioner of Internal Revenue, on a petition for redetermination of federal income tax deficiency challenging Petitioners’ liability for taxes in connection with an asset and stock sale.
Slone Broadcasting Co. sold its assets to Citadel Broadcasting Co. and its shares to Berlinetta, Inc. The stock sale to Berlinetta involved the payment of funds obtained through a loan, plus the assumption of a tax liability generated by the asset sale. Slone Broadcasting and Berlinetta then merged into a company called Arizona Media Holdings, Inc. After paying off the loan used to buy the stock, Arizona Media had no assets with which to pay the tax liability from the asset sale. The Internal Revenue Service then sent notices of tax liability to Petitioners, the former shareholders of Slone Broadcasting, claiming that they were liable as “transferees” for taxes owed on the asset sale, under
In an earlier appeal, this court considered the Tax Court‘s original ruling in favor of Petitioners, and remanded to the Tax Court because it had not applied the correct test to determine whether Petitioners were transferees under section 6901. On remand, the Tax Court again ruled for Petitioners.
In this appeal, applying Arizona‘s Uniform Fraudulent Transfer Act, the panel held that the transaction was constructively fraudulent as to the creditor (the IRS) because the debtor (Slone Broadcasting) did not receive a reasonably equivalent value in exchange for the transfer to the shareholders and was left unable to satisfy its tax obligation. The panel explained that the sale to Berlinetta was a cash-for-cash exchange lacking independent economic substance beyond tax avoidance, and that reasonable actors in Petitioners’ position would have been on notice that Berlinetta never intended to pay Slone Broadcasting‘s tax obligation.
Because the transaction lacked independent economic substance apart from tax avoidance, and because Petitioners were liable for the tax obligation under applicable state law, the panel held Petitioners liable for Slone Broadcasting‘s federal tax obligation as “transferees” under
COUNSEL
Arthur T. Catterall (argued), Francesca Ugolini, and Gilbert S. Rothenberg, Attorneys; David A. Hubbert, Acting Assistant Attorney General; Tax Division, United States Department of Justice, Washington, D.C.; for Respondent-Appellant.
Stephen E. Silver (argued) and Jason M. Silver, Silver Law PLC, Scottsdale, Arizona, for Petitioners-Appellees.
SCHROEDER, Circuit Judge:
These consolidated appeals by the Commissioner of Internal Revenue from the Tax Court involve the Commissioner‘s efforts to hold Petitioners, the former shareholders of a close corporation, Slone Broadcasting Co. (“Slone Broadcasting“), responsible for taxes owed on the proceeds of its 2001 sale of assets to another broadcasting company, Citadel Broadcasting Co. (“Citadel“), for $45 million. This generated an estimated tax liability of $15.3 million. This is the second time the Commissioner has appealed to this Court. The background is described in more detail in our first opinion, Slone v. C.I.R., 810 F.3d 599 (9th Cir. 2015). We only summarize here.
The Petitioners followed up the asset sale to Citadel by selling Slone Broadcasting‘s stock to another company, Berlinetta, Inc. (“Berlinetta“), an affiliate of Fortrend International, LLC (“Fortrend“). See id. at 602. Berlinetta assumed Slone Broadcasting‘s income tax liability. Id. Berlinetta, using borrowed funds, paid the Petitioners an amount representing the net value of the company after the asset sale plus a premium representing almost two-thirds of the amount of Slone Broadcasting‘s tax liability. The Petitioners thus received two-thirds of the amount Slone Broadcasting should have paid in taxes after the asset sale.
In the first appeal we considered the Tax Court‘s original ruling in favor of the Petitioners. We remanded to the Tax Court because it had not applied the correct test to determine whether the Petitioners were “transferees” under
On remand to the Tax Court, the Commissioner argued that the Petitioners received, in substance, a liquidating distribution from Slone Broadcasting, and that the form of the stock sale to Berlinetta should be disregarded. Petitioners emphasized that the proceeds they received came from Berlinetta, not Slone Broadcasting. The Tax Court chose to address only state law issues. It correctly looked to the Uniform Fraudulent Transfer Act (“UFTA“) that Arizona has adopted, but the Tax Court concluded it could disregard the form of the stock sale to Berlinetta and look to the entire transactional scheme only if Petitioners knew that the scheme was intended to avoid taxes. The Tax Court concluded Petitioners had no such knowledge and ruled once again for the Petitioners.
On appeal the Commissioner argues that the Tax Court misinterpreted the Arizona statute to require actual or constructive knowledge, but that even if the statute requires such a showing, the Commissioner satisfied its burden. We do not reach the issue of statutory interpretation because the record contains ample evidence that Petitioners were at the very least on constructive notice that the entire scheme had no purpose other than tax avoidance.
This record, as described in our earlier opinion and in the Tax Court‘s opinion below, shows that the purpose of Petitioners’ transaction with Berlinetta was tax avoidance, and that reasonable actors in Petitioners’ position would have been on notice that Berlinetta never intended to pay Slone Broadcasting‘s tax obligation. It is not disputed that Slone Broadcasting, following its asset sale to Citadel, was not engaged in any business activities. It held only the cash proceeds of the sale and receivables, plus the accompanying $15 million tax liability. When Petitioners sold the stock to Berlinetta, along with that tax
The financing transactions further demonstrate that the deal was only about tax avoidance. Berlinetta borrowed the funds to make the purchase. After the merger with Slone Broadcasting into Arizona Media, that entity, had it been intended to be a legitimate business enterprise, could have repaid the loan over time and retained sufficient capital to sustain its purported debt collection enterprise and cover the tax obligation. Instead, the financing was structured so that, after the merger, Slone Broadcasting‘s significant cash holdings went immediately out the door to repay the loan Berlinetta used to finance its purchase of the Slone Broadcasting stock and tax liability. In the first appeal, Judge Noonan observed that this case bears a striking resemblance to Owens v. Commissioner, 568 F.2d 1233 (6th Cir. 1977), in which a similar cash-for-cash purchase was held to be a liquidating distribution to the shareholder. See Slone, 810 F.3d at 608-09 (Noonan, J., concurring in part and dissenting in part). The analogy is apt.
While the majority of the panel in the first appeal declined to reach the issue of economic substance under federal law, it is appropriate to do so now. The Petitioners’ sale to Berlinetta was a cash-for-cash exchange lacking independent economic substance beyond tax avoidance. See Feldman v. C.I.R., 779 F.3d 448, 455-57 (7th Cir. 2015). Indeed Petitioners’ own advisors expressed surprise over this transaction; one of Petitioners’ lawyers testified that in his nearly twenty years of private practice he “had never seen a transaction like this.”
We therefore turn to whether, under Arizona law, the Petitioners are liable to the government for Slone Broadcasting/Arizona Media‘s tax liability. See Slone, 810 F.3d at 604-05. As the Tax Court recognized, this question must be resolved under Arizona‘s Uniform Fraudulent Transfer Act. The Commissioner argues in this appeal that Petitioners are liable under that statute‘s constructive fraud provisions. See
(a) Was engaged or was about to engage in a business or a transaction for which the remaining assets of the debtor were unreasonably small in relation to the business or transaction.
(b) Intended to incur, or believed or reasonably should have believed that he would incur, debts beyond his ability to pay as they became due.”
The Tax Court held that Petitioners had no actual or constructive knowledge of Berlinetta‘s tax avoidance scheme, and thus concluded it had to consider merely the rigid form of the deal. According to the Tax Court, because the Petitioners received their money from Berlinetta, and not formally from Slone Broadcasting/Arizona Media, there was no transfer from the “debtor” for purposes of
In this appeal, the Commissioner contends that we should look to the substance of the transactional scheme to see that Berlinetta was merely the entity through which Slone Broadcasting passed its liquidating distribution to Petitioners. We agree, because the Tax Court, without adequate explanation, viewed itself bound by the form of the transactions rather than looking to their substance. Its concern was apparently that the Commissioner had not established the requisite knowledge on the part of the participants in the scheme to render Petitioners accountable. This, however, is belied by the record.
Reasonable actors in Petitioners’ position would have been on notice that Berlinetta intended to avoid paying Slone Broadcasting‘s tax obligation. Berlinetta communicated its intention to eliminate that tax obligation, and Slone‘s leaders and advisors, despite their suspicions surrounding the transaction, asked no pertinent questions. In Berlinetta‘s earliest solicitations to Slone Broadcasting, Berlinetta marketed its ability to pay the shareholders a premium on account of its ability to eliminate the company‘s tax liabilities. Berlinetta‘s affiliate company, Fortrend, wrote in a letter to Jack Roberts, Petitioners’ longtime accountant, that Fortrend could pay a premium purchase price because of its ability to “resolve liabilities at the corporate level.” This proposal raised justified suspicions in Slone Broadcasting‘s leadership. Mr. Slone, the company‘s president, testified that upon learning that an entity wanted to purchase Sloan Broadcasting, after it had already been effectively sold to Citadel, he asked Jack Roberts, “can that be done?” Unsure, Roberts replied, “well, I‘m going to find out.”
That Berlinetta provided little information regarding how it would eliminate Slone Broadcasting‘s tax liability, coupled with the structuring of the transactions, provided indications that would have been hard to miss. Slone Broadcasting‘s advisors understood that the transaction made sense from Berlinetta‘s perspective only if Slone Broadcasting‘s tax liability were eliminated. This deal was, after all, an uneven cash-for-cash exchange in which Berlinetta paid Petitioners most of what Slone Broadcasting should have paid in taxes. Yet Petitioners’ retained counsel testified that when he and Jack Roberts asked for details, Berlinetta told them “it was proprietary, it was a secret, and it was theirs, and we weren‘t going to be a party to it, and I said fine.” And in a lengthy memo retained counsel prepared in November of 2001 analyzing the subject of potential transferee liability, counsel wrote that Berlinetta would distribute almost all of Slone Broadcasting‘s cash to repay the loan used to finance the deal. The memo
The Tax Court misinterpreted Petitioners’ suspicions and Berlinetta‘s reassurances to mean Petitioners lacked actual or constructive knowledge of the tax avoidance purpose of the scheme. This record establishes that the Petitioners were, at the very least, on constructive notice of such a purpose. In reaching a contrary conclusion, the Tax Court confused actual and constructive notice, in effect allowing Petitioners to shield themselves through “the willful blindness the constructive knowledge test was designed to root out.” Diebold, 736 F.3d at 189-90; see Salus Mundi, 776 F.3d at 1020. It is clear that Petitioners’ stock sale to Berlinetta, in which Berlinetta assumed Slone Broadcasting‘s tax liability, and Berlinetta paid Petitioners an amount representing the net value of the company after the asset sale and most of the amount that should have been paid in taxes on that asset sale, operated in substance as a liquidating distribution by Slone Broadcasting to Petitioners, but in a form that was designed to avoid tax liability. Slone Broadcasting‘s distribution to Petitioners was thus a constructively fraudulent transfer under the Arizona UFTA. Petitioners are liable to the government for Slone Broadcasting‘s federal tax obligation as “transferees” under
REVERSED and REMANDED for entry of judgment in favor of the Commissioner.