U.S. Tax Court Rules Against Taxpayer Who Received Multiple Tax Opinions
In Gustashaw v. Comm’r, T.C. Memo 2011-195 (T.C. 2011), the Tax Court held that the taxpayers who conceded deficiencies in tax attributable to participation in a Custom Adjustable Rate Debt Structure (CARDS) transaction are liable for accuracy-related penalties for gross valuation misstatements or, for 1 year, negligence, on account of resulting underpayments in tax.
The relevant facts are fairly straightforward. The Taxpayer exercised certain stock options, sold the stock and realized approximately $8M of income. The Taxpayers financial planner knew about the CARDS transaction, and the taxpayer consulted with a CPA who promoted and arranged the CARDS transaction. However, the taxpayers return preparer refused to prepare the income tax return without a tax opinion letter supporting the CARDS transaction and the related loss used to offset capital gains on the sale of the stock (the $8M gain).
The CPA provided a model tax opinion letter to the taxpayer from a major law firm. The opinion letter concluded that CARDS transaction would more likely than not withstand an Internal Revenue Service examination and would protect the Taxpayer from substantial tax penalties if the transaction was ultimately disregarded for Federal tax purposes. The Taxpayer subsequently received a formal tax opinion letter from the same major law firm, which arrived at the same "more likely than not" conclusions as the model tax opinion letter.
The Tax Court, in addressing the Taxpayers penalty defense based on reasonable cause, found that “[the Taxpayers] reliance on [the law firms] tax opinion letter was unreasonable because they should have known about the law firm’s inherent conflict of interest. [The CPA], the promoter of CARDS, both referred [the law firm] to [the Taxpayer] and supplied him with the law firm’s model tax opinion letter, which described a CARDS transaction that was not unique to [the Taxpayers] situation. [The Taxpayer] proffered no evidence that [the Taxpayer] had an engagement letter with [the law firm] spoke to any attorney at the law firm, or directly compensated [the law firm] for either tax opinion letter. On the facts presented, [the Taxpayer] could not have reasonably believed that [the law firm] was an independent adviser.”
A full copy of the opinion can be found here.
The teaching of Gustashaw is that a tax opinion must be tailored to the facts and circumstances of each taxpayer and “model” opinions can be problematic. Likewise, penalty defenses based on tax opinions must be well developed and factually based in order to be successful in Tax Court litigation.
The attorneys at Fuerst Ittleman have experience in providing tax opinions and defending against penalties based on tax opinion reliance. You can contact an attorney by emailing us at contact@fidjlaw.com.