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Veg Corp., Inc. v. United States

United States District Court, D. Nevada

July 30, 2018

VEG CORP, INC., Petitioners,
v.
UNITED STATES OF AMERICA, Respondents.

          ORDER (DOCKET NOS. 1, 26)

          NANCY J. KOPPE UNITED STATES MAGISTRATE JUDGE.

         Pending before the Court is Petitioner Veg Corp. Inc.'s motion to quash formal document request and Respondent United States' counter motion to compel compliance with formal document request. Docket Nos. 1, 26. The Court has considered Petitioner's motion, Respondent's response, Petitioner's reply, Respondent's counter motion to compel, Petitioner's response, and Respondent's reply. Docket Nos. 1, 13, 30, 26, 31, 33. The Court finds the motions properly resolved without a hearing. See Local Rule 78-1. For the reasons discussed below, the Court DENIES Petitioner's motion to quash and GRANTS Respondent's counter motion to compel. Docket Nos. 1, 26.

         I. Background

         The instant case involves a formal document request (“FDR”) issued by Respondent, through the Internal Revenue Service (“IRS”), to Petitioner, on August 21, 2017. See generally Docket No. 1; see also Docket No. 1 at 16-37. The IRS is examining the income tax liabilities of William T. and Susan B. Walters for the years 2012-2015. Docket No. 13 at 3. Based on its investigation, the IRS believes that the Walterses, through Petitioner, engaged in offshore sports betting with various contractors, sub-contractors, foreign subsidiaries, and foreign gaming institutions, in an attempt to unlawfully avoid or improperly report their taxable income in the United States. Id. at 3-5. Between November 9, 2016, and June 19, 2017, the IRS issued numerous information document requests (“IDR”) to Petitioner and the Walterses. Docket No. 1 at 3, 18-33. The IRS found that Petitioner's responses to the IDRs were insufficient and, therefore, issued the FDR at issue. Docket No. 13 at 6. Petitioner filed the instant motion to quash the FDR on November 17, 2017, alleging that the FDR is flawed and, therefore, should be quashed. Docket No. 1.

         II. Standards

         The IRS is “authorized and required to make the inquiries, determinations, and assessments of all taxes…” imposed by the Internal Revenue Code (“IRC”). 26 U.S.C. § 6201(a);[1] see also U.S. v. Clarke, 134 S.Ct. 2361, 2365 (2014). To facilitate these examinations, the IRS issues IDRs to obtain information related to a taxpayer's tax liability. See generally Internal Revenue Manual (“IRM”) 4.46.4.1, 4.61.2. An IDR is a written request for information, books, and records, issued at the beginning of an IRS examination. IRM 4.46.4.1, 4.46.4.5, Exhibit 4.46.4-1; see also Maddox v. Commissioner, 76 T.C.M. (CCH) 1040, at *11 (1998).

         If the taxpayer fails to provide the requested documents or to substantially answer an IDR, the IRS may issue an FDR. IRM 4.61.4.7, Exhibit 4.61.4-1; see also 26 U.S.C. 982(c)(1) (An FDR can only be issued “after the normal request procedures have failed to produce the requested documentation”). Given this prerequisite, an FDR is not considered a routine information gathering tool to be used early in the examination but, instead, a pre-trial discovery tool. IRM Exhibit 4.61.4-1(1); see also Lee v. U.S., 2015 U.S. Dist. LEXIS 73399, at *21 (D. Nev. 2015) (citing Chris-Marine USA v. U.S., 892 F.Supp. 1437, 1442 (M.D. Fla. 1995) (“Although [an] FDR is a discovery device, Congress intended that it not be used as a routine beginning of a tax examination)); Yujuico v. U.S., IRS, 818 F.Supp. 285, 286 (N.D. Cal. 1993) (“Congress enacted Section 982 as a pretrial discovery tool….”).

         Unlike an IDR, an FDR is limited to foreign-based documents, such as books or records, “outside the United States … which may be relevant or material to the tax treatment of the examined item.” 26 U.S.C. § 982(d). An FDR consists of a letter, mailed by registered or certified mail to the taxpayer at his or her last known address, which includes: the time and place for production of documents, why previously submitted documentation is not sufficient, a description of the documents requested, and consequences of the failure to comply. IRM Exhibit 4.61.4-1(4), (9); see also 26 U.S.C. § 982(c)(1). The IDRs with which the taxpayer failed to comply must also be included with the letter. IRM 4.61.4-1(4). Although an FDR cannot request testimony, a summons may be issued to request unanswered testimony. IRM 4.61.4.7, Exhibit 4.61.4-1(5)(e). Failure to substantially comply with an FDR triggers the statute's exclusionary rule, which prohibits the taxpayer from introducing any foreign-based documents not produced during the information gathering process in “a civil proceeding in which the tax treatment of the examined item is an issue….” 26 U.S.C. § 982(a); see also IRM 4.61.4-1(9). The severity of the exclusionary rule encourages the IRS and taxpayer to fulfill the purpose of an FDR, which is to promote cooperation between the two parties in securing the voluntary disclosure of tax documents. See e.g., IRM 4.46.4.1; see cf. IRM 4.46.4.10(1) (“…the [IRS] uses penalties to encourage voluntary compliance”).

         A taxpayer who is issued an FDR “shall have the right to begin a proceeding to quash such request not later than the 90th day after the day such request was mailed” in the United States district court for the district where the taxpayer resides. 26 U.S.C. § 982(c)(2). In response to a motion to quash, the IRS may seek to compel compliance with the FDR. Id. While courts are generally silent on the standards to enforce an FDR, the Supreme Court's decision on the standards to enforce an IRS summons in U.S. v. Powell was extended to FDRs by the Ninth Circuit in Yujuico v. U.S., IRS. 818 F.Supp. at 287 (citing 379 U.S. 48, 57-58 (1964)); see also Lee, 2015 U.S. Dist. LEXIS 73399, at 21-22 (“Although there are few published decisions discussing the standard for enforcing [an] FDR, the legislative history of [26 U.S.C.] § 982 contains the same four requirements for enforcement the Supreme Court establish in [Powell]…”).

         The IRS must make a prima facie case that it has met the four requirements in Powell: “(1) the investigation is conducted for a legitimate purpose; (2) the inquiry may be relevant to that purpose; (3) the information requested is not already in the possession of the IRS; and (4) the administrative steps required by the IRC have been followed.”[2] 379 U.S. at 57-58. In essence, the IRS must show that it issued the FDR in good faith. See Clarke, 134 S.Ct. at 2364-365; see also Crystal v. U.S., 172 F.3d 1141, 1144-145 (9th Cir. 1999) (acknowledging that the Powell requirements are not “an exhaustive elaboration of what good faith means, ” and that the “‘dispositive question in each case' is ‘whether the [IRS] is pursuing the authorized purposes in good faith'”) (internal citation omitted).

         In an action seeking to quash an FDR, and the subsequent request by the IRS to compel compliance, the burden is initially placed on the IRS to show that it has met the Powell requirements. See e.g., Clarke, 134 S.Ct. at 2367. This is a minimal burden, and is generally satisfied by a declaration or affidavit from the investigating IRS agent. See Lidas, Inc. v. U.S., 238 F.3d 1076, 1082 (9th Cir. 2001) (“Courts have consistently recognized that declarations or affidavits by IRS directors or agents generally satisfy the Powell requirements”); see also Crystal, 172 F.3d at 1144 (citing U.S. v. Dynavac, Inc., 6 F.3d 1407, 1414 (9th Cir. 1993)); Liberty Financial Services v. U.S., 778 F.2d 1390, 1393 (9th Cir. 1985) (“To establish a need for judicial enforcement, this showing need only be minimal … because the statute must be read broadly in order to ensure that the enforcement powers of the IRS are not unduly restricted … Assertions by affidavit of the investigating agent that the requirements are satisfied are sufficient to make the prima facie case”) (internal citations omitted).

         Once the IRS shows that it has met the Powell requirements, the burden shifts to the petitioner, who may contest the FDR “on any appropriate ground.” See Clarke, 134 S.Ct. at 2365. Of the few defenses available, a petitioner may show that: enforcement would be an abuse of the Court's processes; the IRS failed to satisfy one of the Powell requirements (including the administrative steps under 26 U.S.C. § 982); or a lack of good faith. See Andrade v. U.S., 2006 U.S. Dist. LEXIS 64825, at *5 (D. Nev. June 2, 2006); see also Vento v. U.S., 2006 U.S. Dist. LEXIS 69916, at *4-6 (D. Nev. Sept. 26, 2006). The petitioner “must allege specific facts, ” or “offer some credible evidence supporting its charge.” Lee, 2015 U.S. Dist. LEXIS 73399, at 24.; see also Liberty, 778 F.2d at 1392 (internal citation omitted). The petitioner's burden is heavy, especially in light of the minimal showing required of the IRS. See e.g. Crystal, 172 F.2d at 1144. If the petitioner fails to meet its burden, the IRS is entitled to a court order enforcing compliance with the FDR at issue.

         III. Discussion

         A. IDR Number 7

         Petitioner submits that the FDR should be quashed because it includes an IDR that was issued to the Walterses, “a party other than the Taxpayer” and, therefore, violates the required administrative steps in issuing an FDR. Docket No. 1 at 7. In response, Respondent submits that “[w]hile the Walterses and not [Petitioner] are listed as the taxpayers at the top of the IDR Form 4564, VEG-IE-7 (“IDR 7”) was clearly directed by the IRS to [Petitioner] and responded to by [Petitioner's power of attorney].” Docket No. 13 at 14. Respondent further submits that the numbering format of the IDR at issue “indicates that it was directed to [Petitioner]” and was a “follow up request to a prior IDR, VEG-IE-2.” Id. In reply, Petitioner submits that, because it is a corporation and, therefore, “a separate taxable entity from the Walterses, ” “the doctrine of corporate entity and the separateness of a corporation from its owners must be respected.” Docket No. 30 at 3-4. Petitioner further submits that IDR 7 “may well have been intentionally addressed to [the Walterses], as they were also under audit.” Id. at 4. In reply, Respondent submits that, inter alia, IDR 7 was issued to the Walterses because Mr. Walters filed certain IRS forms on behalf of Petitioner's foreign subsidiaries and, therefore, “the IRS's computer system automatically associated those controlled foreign subsidies [at issue in IDR 7], (and populated [IDR 7]) with Mr. Walters[' address], not [Petitioner's].” Docket No. 33 at 5. Respondent further submits that Petitioner “must have clearly understood” that IDR 7 was intended for it because the parties discussed the content of the IDR and Petitioner's “[c]ounsel did not voice any concern regarding [IDR 7] or any confusion regarding to whom it was issued….” Id. at 6.

         IDR 7 was issued to the Walterses' home address. Docket No. 1 at 24. The remaining IDRs at issue, however, were addressed to Petitioner's address. Docket Nos. 1 at 22, 26, 29. 26 U.S.C. § 982(c)(1) requires that an FDR be “mailed by registered or certified mail to the taxpayer at his last known address….” Additionally, IRM Exhibit 4.46.4-1 requires the IRS to “[e]nsure that the IDR is customized to the taxpayer….” The Court, however, does not analyze this issue in a vacuum and, instead, relies on numerous examples of the parties' clear understanding that IDR 7 was intended for Petitioner.

         First, IDR 7's request number is formatted as “VEG-IE-7, ” which is consistent with the remaining IDRs at issue that were mailed to Petitioner. Compare Docket No. 1 at 24 with Docket No. 1 at 18-20, 22, 26, 29. IDRs intended for the Walterses were consistently labeled and referred to by both parties with a different request number. Docket Nos. 24-3 at 2 (response to IDR 10 from Petitioner's power of attorney, Barbara Kaplan, referencing “WALT” and “VEG-IE” IDRs), 24-5 at 2 (“IDR Walt 6”); see e.g., Docket No. 30 at 36, 41, 57, 60. In these instances, documents related to the Walterses and to Petitioner were simultaneously discussed, but distinctively referred to, indicating that neither party was confused as to which IDR was issued to whom. Id.

         Second, the parties discussed IDR 7 both prior to its issuance, on March 7, 2017, and again on May 1, 2017 (after Petitioner submitted a response), when they discussed the purported inadequacies of Petitioner's response to IDR 7. Docket No. 13-1 at 6-7. Petitioner never indicated that it believed IDR 7 was issued to the wrong taxpayer, until it filed the motion to quash.[3]Seegenerally Docket No. 13-1. ...


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