The opinion
T.C. Memo. 2009-124
UNITED STATES TAX COURT
LARRY L. HARTMAN, ET AL.,1 Petitioners v.
COMMISSIONER OF INTERNAL REVENUE, Respondent2
Docket Nos. 1371-85, 48690-86, Filed June 1, 2009.
4116-87, 15673-87,
16761-87, 18551-88,
29429-88.
Robert Alan Jones and Declan J. O’Donnell, for petitioner
Larry L. Hartman in docket Nos. 1371-85, 4116-87, and 16761-87
and for petitioners Jesse M. and Lura L. Lewis in docket Nos.
15673-87, 18551-88, and 29429-88.
1
Cases of the following petitioners are consolidated
herewith: Wilbert L.F. and Valarie W. Liu, docket No. 48690-86;
Larry L. Hartman, docket Nos. 4116-87 and 16761-87; and Jesse M.
and Lura L. Lewis, docket Nos. 15673-87, 18551-88, and 29429-88.
2
This opinion supplements and amends Hartman v.
Commissioner, T.C. Memo. 2008-124, reconsidering and superseding
Lewis v. Commissioner, T.C. Memo. 2005-205.
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Matthew K. Chung, for petitioners Wilbert L.F. and Valarie
W. Liu in docket No. 48690-86.
Henry E. O’Neill, for respondent.
SUPPLEMENTAL MEMORANDUM OPINION
BEGHE, Judge: Pursuant to Rule 161,3 respondent and
petitioners Larry L. Hartman (Mr. Hartman) and Jesse M. and Lura
L. Lewis (the Lewises) have filed motions for reconsideration of
our prior Memorandum Opinion Hartman v. Commissioner, T.C. Memo.
2008-124 (Hartman I), reconsidering and superseding Lewis v.
Commissioner, T.C. Memo. 2005-205.
Respondent’s motion or motions for reconsideration comprise
four items under two headings: The first and fourth items
concern issues of implementation and timing of the sanction
against respondent that we held in Hartman I would lead to
vacating stipulated decisions in Kersting project cases and
giving taxpayers in those cases the benefit of the “Thompson
settlement”; the second and third items embody respondent’s
objections to the Court’s characterizations of the actions of
respondent’s management in formulating and proffering
respondent’s posttrial settlement offer to Kersting project
3
Unless otherwise indicated, Rule references are to the Tax
Court Rules of Practice and Procedure, and section references are
to the Internal Revenue Code of 1986 as amended.
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petitioners and the Court’s use of evidence in connection
therewith.
The motion of Mr. Hartman and the Lewises for
reconsideration reflects partial agreement with respondent’s
motion or motions regarding implementation of the sanction; their
motion also requests extension of the sanction to Kersting tax
shelter cases that were settled without being docketed in the Tax
Court.
No motion objects to the Court’s overall conclusion that
stipulated decisions should be vacated to allow the taxpayers to
obtain the benefits of the Thompson settlement.
In Hartman I we granted petitioners’ motions to vacate the
decisions entered in their cases, because of the misconduct of
respondent’s attorneys in implementing the test case procedure
used by the Court and the parties in the Kersting tax shelter
project. See Dixon v. Commissioner, T.C. Memo. 1991-614 (Dixon
II), vacated and remanded sub nom. DuFresne v. Commissioner, 26
F.3d 105 (9th Cir. 1994), on remand Dixon v. Commissioner, T.C.
Memo. 1999-101 (Dixon III), supplemented by T.C. Memo. 2000-116
(Dixon IV), revd. and remanded 316 F.3d 1041 (9th Cir. 2003)
(Dixon V), culminating with our disposition of the second remand
in Dixon v. Commissioner, T.C. Memo. 2006-90 (Dixon VI),
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supplemented by T.C. Memo. 2006-190 (Dixon VIII), on appeal (9th
Cir., Dec. 28, 2006, and Jan. 3, 2007).4
In Dixon V the Court of Appeals for the Ninth Circuit held
that the misconduct of the Government attorneys in the test case
proceedings was a fraud on the Tax Court that violated the rights
of all Kersting project petitioners who had agreed to be bound by
the outcome of the test cases to be tried in the Tax Court. As a
sanction against respondent for the misconduct, the Court of
Appeals mandated that “terms equivalent to those provided in the
settlement agreement with * * * [the Thompsons] and the IRS” be
extended to “Appellants [test case petitioners] and all other
taxpayers properly before this Court”. Dixon V at 1047.
In Hartman I, applying the rationale and holding of the
Court of Appeals in Dixon V, we held that the fraud on the Court
committed by respondent’s trial attorney and his supervisor in
the test case proceedings constituted fraud on the Court in every
4
In Dixon v. Commissioner, T.C. Memo. 2006-97 (Dixon VII)
and Young v. Commissioner, T.C. Memo. 2006-189, we responded to
the supplemental mandate of the Court of Appeals for the Ninth
Circuit in Dixon v. Commissioner, 316 F.3d 1041 (9th Cir. 2003)
(Dixon V), revg. T.C. Memo. 1999-101 (Dixon III), to determine
the appellate legal fees to which Kersting project petitioners
and their counsel in Dixon V were entitled. In Dixon v.
Commissioner, 132 T.C. __ (2009) (Dixon IX), and Gridley v.
Commissioner, T.C. Memo. 2009-89, we have acted on motions for
attorney’s fees and expenses incurred in the Dixon V remand
proceedings by or on behalf of petitioners represented by
attorneys of the law firm of Porter & Hedges LLP and by Robert
Alan Jones. Similar motions by petitioners represented by
Michael Lewis Minns and Joe Alfred Izen, Jr., are pending.
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case bound by the outcome of the test cases and that respondent
had an obligation to fully disclose the misconduct, not only to
the Court and the test case petitioners, but also to all
petitioners who had been bound by the outcome of the Kersting
project test cases. We held further that respondent’s posttrial
settlement offer did not adequately disclose the Government
attorneys’ misconduct to the offerees and did not remedy or purge
the fraud from the Kersting project cases. We held that the
sanction mandated by the Court of Appeals in Dixon V should be
imposed in the cases of all Kersting project petitioners in which
stipulated decisions were entered on or after June 10, 1985, the
commencement date of implementing the test case procedure in the
Kersting project. Our reference to Government attorneys in
Hartman I and in this supplemental opinion is to respondent’s
trial counsel and his supervisor, and reference to the fraud on
the Court is to the misconduct of those Government attorneys
throughout the test case proceedings.
We believed that the most efficient way to implement the
sanction would be to allow respondent to adjust administratively
the accounts of all Kersting project petitioners, other than Mr.
Hartman, the Lewises, and petitioners Wilbert L. F. and Valarie
W. Liu (the Lius), without requiring further action from the
Kersting project petitioners. It appeared to the Court that
respondent could make such administrative adjustments as
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evidenced by the fact that, after stipulated decisions became
final in the cases of Kahle v. Commissioner, docket Nos. 24558-84
and 38976-84, respondent administratively had partially abated
Mr. Kahle’s agreed deficiencies by giving him the benefit of the
7-percent reduction in deficiencies provided in respondent’s
posttrial settlement offer. In Hartman I we set forth a
procedure to be implemented after the decisions in these cases
become final that would give respondent 9 months thereafter to
adjust administratively the accounts of all Kersting project
petitioners against whom stipulated decisions had been entered on
or after June 10, 1985.
Background
For purposes of this supplemental opinion, we incorporate
our findings in Hartman I. For convenience and clarity, we
repeat here the facts necessary to understand the discussion that
follows, and we supplement those facts as appropriate.
Respondent determined deficiencies and additions to tax
against petitioners and other taxpayers who participated in tax
shelter programs promoted by Henry F.K. Kersting. Respondent’s
determinations resulted in more than 1,800 cases in this Court
arising from the disallowance of interest deductions claimed by
Kersting program participants. Most petitioners signed
stipulations with respondent that their cases would be resolved
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in accordance with the Court’s opinion and decisions in the test
cases (piggyback agreements).
After the trial of the test cases, the Court issued its
opinion in Dixon II sustaining virtually all of respondent’s
adjustments. After the Court had issued Dixon II and entered
decisions in the test cases, respondent’s management discovered
and disclosed to the Court and counsel for other test case
petitioners that before the test cases were tried respondent’s
trial attorney Kenneth McWade and his supervisor had entered into
secret settlements with test case petitioners John R. and Maydee
Thompson (the Thompsons) and John R. and E. Maria Cravens (the
Cravenses). The Thompson settlement provided for reduction of
more that 60 percent of the Thompsons’ originally determined
deficiencies, as well as elimination of all Kersting-related
penalties and additions, as a means of creating refunds to be
paid to the Thompsons’ counsel for providing the appearance of
independent representation in the trial of the test cases. The
Cravens settlement provided for reduction of about 6 percent of
the Cravenses’ originally determined deficiencies.
In July 1992 respondent’s National Office began in-house
discussions about offering Kersting project petitioners who were
bound by the test cases through piggyback agreements a 7-percent
reduction settlement along the lines of respondent’s pretrial
Kersting project settlement offer. The Department of Justice
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informed respondent’s management that the Department wished to
offer the Kersting project petitioners whose cases were on appeal
the same settlement that the Thompsons had received, estimated to
be a 65-percent reduction in deficiencies (a rough approximation
of the reduction of the Thompsons’ originally determined
deficiencies from $79,293.52 to the $30,000 figure finally agreed
upon). Respondent’s management was opposed to settling the
appealed cases on that basis, and no settlement offer on that
basis was made to the test case petitioners on appeal.
The first draft of the proposed settlement offer explained
that the Tax Court had issued Dixon II disallowing the interest
deductions, imposing additions to tax for negligence under
section 6653 and substantial understatement of tax under section
6661, and finding that the increased interest rate under section
6621(c) applied. The first draft stated that five of the test
case petitioners (Dixon, DuFresne, Hongsermeier, Owens, and
Young) were appealing their cases in the Ninth Circuit, but that
the appeals had not yet been resolved. The first draft further
stated that respondent had moved to vacate the decisions in the
Cravens, Rina, and Thompson test cases because settlement
agreements had been reached with the Cravenses and the Thompsons,
who were test case petitioners, before the test cases were tried.
The first draft stated that the Tax Court had (1) granted motions
to vacate the decisions in the Thompson and Cravens cases, (2)
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entered agreed decisions in the Cravens cases reflecting the
Cravenses’ pretrial acceptance of the standard Kersting
settlement offer, (3) in the Thompson cases, where the parties
were unable to agree on the decisions, entered decisions
requested by the Thompsons, and (4) denied a motion to vacate the
decision in the Rina case because the testimony and evidence
offered by Thompson and Cravens had no material effect on Dixon
II as it related to Rina and therefore the Court’s findings,
analyses, and conclusions relating to Rina would remain the same.
The first draft stated that the Internal Revenue Service (IRS)
believed that the Court’s disallowance of interest deductions and
the imposition of the additions to tax would be upheld on appeal.
The first draft then stated that the IRS had decided to renew its
previous offer of the 7-percent settlement including the
“burnout”5 and enclosed a form on which the taxpayer could
indicate his/her acceptance of the offer. The first draft stated
5
The burnout was a change, beneficial to taxpayers, adopted
by respondent’s trial attorney in giving effect to respondent’s
pretrial settlement offer for the Kersting project. The burnout
applied in cases involving more than 1 tax year. Under the
burnout, the interest on a taxpayer’s total unpaid
Kersting-related deficiencies for the first and second years of
tax liability would not begin to accrue until the return due date
for the second year. This was accomplished by zeroing out the
taxpayer’s agreed deficiency for the first year and adding it to
the agreed deficiency for the second year. The burnout thus
postponed for a year the accrual of interest on the first year’s
deficiency, thereby reducing the total interest accrued on the
taxpayer’s Kersting-related deficiencies. Variations of the
burnout were used in cases involving more than 2 tax years.
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that the offer applied only to adjustments resulting from
participation in the Kersting programs and that any other
adjustments raised in the case would be settled or litigated item
by item.
A second shorter draft of a settlement proposal gave much
less detail than the first draft. The second draft (1) referred
to the Tax Court’s decision but did not name the case or cite
Dixon II, (2) identified the Cravens case as one of two test
cases in which “some irregular and undisclosed agreements” had
been reached, (3) stated that the Tax Court had concluded that
the outcome of the trial was unaffected by the irregular activity
and that decisions had been entered in the two test cases
enforcing the undisclosed agreements, and (4) did not identify
any of the other test cases or mention that some of test cases
were being appealed. The second draft stated:
We believe that the Cravens situation is
indistinguishable from your own.
* * * * * * *
We have determined that the Cravens [sic] in good faith
believed that they had a valid settlement agreement
prior to the trial. Because they were not represented
by counsel, they could not be expected to have detected
any irregularity on our part. Because the Cravens
[sic] received the benefit of this offer even after
trial, we believe that fundamental fairness compels
that you should receive the same treatment. Therefore,
we will apply the benefits of that treatment to your
case.
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The second draft stated that the adjustments to the taxpayer’s
account with the IRS would be made administratively and required
no further action by the taxpayer.
A third draft, also less detailed than the first (1) cited
Dixon II, (2) stated that two of the test case petitioners had
entered into settlement agreements that had not been disclosed to
the other test case petitioners or the Tax Court, (3) did not
identify the test case petitioners who had entered into the
undisclosed settlement agreements or any of the test cases other
than citing Dixon II, (4) stated that the Tax Court had concluded
that the outcome of the trial was unaffected by the testimony of
the test case petitioners who had settled their cases and that
“the opinion of the Tax Court, as it affects you, remains
unchanged”, (5) did not disclose that the Dixons and some of the
other test case petitioners had filed appeals with the Court of
Appeals for the Ninth Circuit. The third draft stated that
“fundamental fairness dictates that you be afforded an
opportunity to settle your case on similar grounds”. The third
draft, like the second draft, indicated that if the taxpayer’s
case had been settled, the adjustments would be made
administratively without requiring further action from the
taxpayer. If the case was still pending in the Tax Court, the
taxpayer had 60 days to accept the offer. The third draft stated
that acceptance of the offer would “preclude any further
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challenges or appeal with respect to the merits of the Dixon
opinion as applied to your case(s).”
In January 1993 respondent made mass mailings extending a
global settlement proposal to all known Kersting project non-
test-case petitioners and their counsel (posttrial settlement
offer). The posttrial settlement offer informed the non-test-
case petitioners that the Court had issued its opinion sustaining
all the adjustments and cited Dixon II. It explained that, after
the trial of the test cases:
It subsequently came to our attention that two of
the test case petitioners had entered into settlement
agreements with the Service prior to the trial, and
that these agreements were not disclosed to the Tax
Court or the other test case petitioners. The
settlement agreements provided that these particular
test case petitioners could proceed to trial, but would
receive the benefit of the better of their pretrial
settlement agreement or the results of the trial. The
Tax Court has since been advised of this situation and
has concluded that the outcome of the trial was not
affected by the testimony of these test case
petitioners. This means that the Tax Court opinion, as
it pertains to other Kersting cases, remains unchanged.
However, in light of these recent developments, we have
concluded that in fairness all petitioners be afforded
an opportunity to settle their cases.
In general, the posttrial settlement offer represented a
revival of the official project settlement that respondent had
offered during 1982-88. It permitted taxpayers to resolve their
cases by agreeing to pay deficiencies that were 7 percent less
than those determined in their deficiency notices. Respondent
would impose no penalties or additions to tax, and taxpayers
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would pay interest only at the generally applicable (i.e., non-
tax-motivated) rate under section 6621(a). The posttrial
settlement offer did not include the burnout. The posttrial
settlement offer further stated: “Acceptance of this settlement
offer will preclude any further challenge or appeal with respect
to the Kersting programs or the merits of the Dixon opinion. Any
other issues involved in this case will be resolved separately.”
Taxpayers were given 60 days within which to accept or reject the
posttrial settlement offer.
Mr. Hartman had settled his cases with respondent, and
stipulated decisions had been entered in his cases in January
1989 before the test cases were tried. The Lewises, through
their counsel, and the Lius, pro sese, accepted respondent’s
posttrial settlement offer, and stipulated decisions were entered
in their cases in March and June 1993, respectively.
In Dixon V at 1046, the Court of Appeals held that the
misconduct of the Government attorneys in the test case
proceedings was a fraud on the Court that violated the rights of
all Kersting project petitioners who had agreed to be bound by
the outcome of the Tax Court proceeding, a fraud on both the
Kersting project petitioners and the Tax Court “plainly designed
to corrupt the legitimacy of the truth-seeking process”. The
Court of Appeals ordered this Court to sanction respondent by
entering decisions in the cases of the remaining test case
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petitioners and other Kersting project petitioners before the
Court of Appeals on terms equivalent to those provided in the
Thompson settlement.
During the Dixon V remand proceedings, in an order issued
October 12, 2004 (the Dixon order), the Court allowed the
taxpayers’ discovery requests for the limited purpose of
ascertaining respondent’s understanding of the origins and nature
of the Thompson settlement. Evidence of the conduct of
respondent’s management after Dixon II was excluded because it
was not relevant to that purpose.
As part of the limitations on discovery in the Dixon V
remand proceedings, the Court took custody of three boxes for in
camera inspection. Two boxes described in item 123 of
respondent’s privilege log consisted of a chronological file of
16 volumes comprising more than 1,200 items and 5,000 pages
created and maintained by respondent’s counsel Henry E. O’Neill.
The three drafts of the posttrial settlement offer were included
in item 123.
After we completed the inspection, we ordered respondent to
produce more than 200 items from the third box (all documents
encompassed by respondent’s privilege log except item 123) as
relevant to the origins and nature of the Thompson settlement.
We denied the taxpayers access to the item 123 materials because
they provided no guidance on the scope of the Thompson settlement
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and were not relevant to the Dixon V remand. In note 2 of the
Dixon order, however, we noted that materials in item 123 raised
questions regarding the adequacy of respondent’s disclosure of
the Government attorneys’ misconduct and that we might require
production of those materials later in connection with motions to
vacate decisions in which stipulated decisions had been entered.
See also Dixon VIII n.9. The Court retained custody of the
materials encompassing item 123 of the privilege log.
In Dixon VI and Dixon VIII we responded to the directions
and primary mandate of the Court of Appeals in Dixon V to
determine how the Thompson settlement would be imposed against
respondent in favor of the test case petitioners and all parties
properly before the Court. Kersting project petitioners filed
notices of appeal of Dixon VI and Dixon VIII in the test cases of
Hongsermeier v. Commissioner, docket No. 29643-86, Young v.
Commissioner, docket Nos. 4201-84, 22783-85, and 30010-85, and
Owens v. Commissioner, docket No. 40159-84, and in the nontest
cases of Rogers v. Commissioner, docket No. 17993-95, Huber v.
Commissioner, docket No. 20119-84, Titcomb v. Commissioner,
docket No. 17992-95, and Adair v. Commissioner, docket Nos.
17642-83, 38965-84, 35608-86, 479-89, and 8070-90 (collectively
the Hongsermeier appeal).
After the Court of Appeals issued Dixon V, petitioners and
others filed motions for leave to file motions to vacate the
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stipulated decisions entered by this Court in their cases.
Petitioners premised their motions to vacate the decisions in
their cases on two grounds. First, petitioners argued that the
decisions in their cases were obtained by fraud on the Court
because, inasmuch as petitioners were bound by the decisions in
the test cases, the fraud committed by the Government attorneys
in the test cases necessarily affected and corrupted their cases,
and their settlement agreements did not address the fraud or
foreclose the imposition of sanctions against respondent for the
fraud. Second, petitioners argued that there was misconduct of
respondent’s management in making the posttrial settlement offer,
that such misconduct constituted a new fraud on the Court or
continued the fraud on the Court determined by the Court of
Appeals in Dixon V, and that respondent obtained the stipulated
decisions through that misconduct.
In Lewis v. Commissioner, T.C. Memo. 2005-205, we focused on
the legal consequences of the Lewises’ acceptance of respondent’s
posttrial settlement offer, applying general principles of
contract law. We denied the Lewises’ motions for leave to file
motions to vacate their stipulated decisions on the grounds that
they and their counsel had become aware of the Government
attorneys’ misconduct and of the pending appeals by test case
petitioners when they stipulated the decisions.
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The Lewises filed motions for reconsideration, which we
granted because we had come to believe that in Lewis we had
applied the wrong law, as the Court of Appeals in Dixon V held we
had in Dixon III and Dixon IV, and that we failed to appreciate
and apply the full scope of the holding of Dixon V in accordance
with its rationale. We also granted the motions for leave to
file motions to vacate decisions in the Lewis, Hartman, and Liu
cases. We consolidated the cases because they would all be
appealable to the Court of Appeals for the Ninth Circuit.
When we granted petitioners leave to file motions to vacate
the decisions in these cases we thought that further proceedings
might be necessary to decide whether respondent’s conduct
following the trial of the test cases constituted a fraud on the
Court warranting additional sanctions against respondent. We
ordered respondent to show cause in writing why the matter should
not be set for evidentiary hearing.
Respondent filed a response to the Court’s order to show
cause, opposing the scheduling of an evidentiary hearing on this
matter; respondent took the position that the Court had before it
the entire evidentiary record in Dixon III and Dixon VI upon
which to decide the merits of the motions to vacate. Respondent
asserted that petitioners’ motions could be decided on the Dixon
VI record and that another evidentiary hearing would yield only a
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rehash of the evidence already before the Court and unnecessarily
delay bringing the Kersting project to a close.
In considering the parties’ positions regarding further
discovery and an evidentiary hearing, we took counsel from the
Court of Appeals in Dixon V at 1047, where it said:
“Enormous amounts of time and judicial resources have been
wasted. * * * The taxpayers should not be forced to endure
another trial and the IRS should be sanctioned for this extreme
misconduct.” We believed that another hearing, including full
discovery, in these cases should be avoided if possible.
In an order of the Court dated October 31, 2006 (the October
31 order), we informed the parties that we had considered
petitioners’ arguments and agreed that the Court of Appeals in
Dixon V has determined that the fraud the Government attorneys
committed on the Court in the test case proceedings affected and
corrupted every case that was bound by Dixon II, whether by
piggyback agreement or otherwise. However, a holding to that
effect alone would not resolve the pending motions. We expressed
concern that respondent’s current counsel and some of
petitioners’ counsel would be witnesses and would have to
withdraw from the proceedings if an evidentiary hearing were
necessary. We asked the parties to address whether petitioners’
motions could be decided without a hearing and posed several
questions to the parties, including:
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1. Once the Government trial attorneys had committed fraud
on the Court, could respondent “purge” the fraud from any cases
bound by the test cases and, if so, what action was respondent
required to take in order to do so?
2. Did respondent have a duty to notify petitioners, fully
disclose the misconduct to them, and inform them that Dixon II
was being appealed and the taxpayers were asserting fraud on the
Court? By holding that the remedy for the fraud on the Court was
to entitle all Kersting project petitioners with open cases to
the benefits of the Thompson settlement, did the Court of Appeals
in effect require the IRS to make the same disclosure to the
Kersting project petitioners that this Court had required the IRS
to make in Fisher v. Commissioner, T.C. Memo. 1994-434?
3. When making the posttrial settlement offer, did
respondent continue the fraud on the Court or commit a new fraud
by failing to disclose fully to petitioners the Government
attorneys’ misconduct in the test case proceedings and the
taxpayers’ allegations, on appeal, of fraud on the Court?
4. If such disclosures were required, did respondent’s
filing with the Court of the stipulated decisions obtained
without the disclosures constitute a fraud on the Court? See
e.g., Toscano v. Commissioner, 441 F.2d 930, 935 (9th Cir. 1971)
(“the original fraud was not upon the Tax Court * * * When * * *
Toscano petitioned the Tax Court for redetermination, he carried
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the fraud into the Tax Court. Thus he was continuing to defraud
the Commissioner * * * But he was doing more; he was also
perpetrating a fraud upon the Tax Court”), vacating 52 T.C. 295
(1969). Did respondent have an obligation to file the form of
settlement offer letter with the Tax Court when he asked the
Court to enter the stipulated decisions obtained through that
offer?
5. Was our holding in Lewis v. Commissioner, T.C. Memo.
2005-205, analogous to requiring taxpayers to show prejudice as a
result of the misconduct such that, under the holding of Dixon V,
we applied the wrong law?
6. Respondent acknowledged that Kersting project
petitioners whose stipulated decisions were procured and entered
after the publication of Dixon II and before the discovery and
disclosure to the Court of the misconduct of respondent’s
attorneys are entitled to have their decisions vacated, thereby
conceding that stipulated decisions should be vacated because of
fraud on the Court. Are stipulated decisions entered before the
publication of Dixon II also subject to being vacated for fraud
on the Court? Were petitioners who settled their cases before
the publication of Dixon II entitled in so doing to assume that
the test cases would be tried properly?
We stated that we believed that the answers to the questions
might eliminate the need for a hearing to establish facts
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concerning the posttrial conduct of respondent’s management. The
Court sought the views of the parties and their counsel on the
questions posed and ordered petitioners and respondent to file
responses to the order addressing the Court’s questions with
legal reasoning and citations and discussions of legal
authorities to support their views.
In the October 31 order we also quoted the posttrial
settlement offer that led to most of the stipulated decisions
that petitioners sought to vacate and commented on material facts
that had been omitted. We stated that there was no need to hold
an evidentiary hearing to conclude that in a number of respects
respondent’s settlement offer constituted less than full
disclosure and was misleading.
In the October 31 order we also pointed out that evidence of
alleged continuing misconduct by respondent’s management and
representatives following the trial of the test cases had been
excluded from all evidentiary hearings. We specifically noted
our prior Dixon order and stated: “Footnote 2 of the Dixon order
clearly indicates that the Court believed that item 123 was
relevant to allegations of respondent’s misconduct raised by
petitioners in the pending motions.”
In an order dated November 15, 2006 (the November 15 order),
we posed an additional question, arising from respondent’s
concession in Kahle v. Commissioner, docket Nos. 24558-84 and
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38976-84, where the stipulated decisions entered in the cases had
been negotiated after the trial of the test cases, been executed
after Dixon II was issued, and become final before respondent
discovered and disclosed to the Court the misconduct of the
Government attorneys. In response to an earlier order to show
cause, respondent stated that respondent did not oppose vacating
the stipulated decisions entered in the Kahle cases, conceding
that the decisions in those Kahle cases were arguably obtained by
a fraud on the Court. In the November 15 order, the Court
ordered petitioners and respondent to address the implications of
that concession insofar as it affected stipulated decisions that
were entered and/or became final before the Cravenses and the
Thompsons settled their cases, (2) after the Cravenses and the
Thompsons settled their cases but before the trial of the test
cases, and (3) after the trial of the test cases but before
publication of Dixon II.
The parties timely filed their responses to the October 31
and November 15 orders. Although respondent and petitioners took
opposing positions on every question, we still wished to avoid
another expensive and lengthy hearing that might require
respondent’s and petitioners’ counsel to withdraw.
After considering the parties’ positions, we concluded that
admitting into evidence the three drafts of the posttrial
settlement offer, which spoke for themselves, would eliminate the
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need for a hearing. Because we had indicated to respondent in
the Dixon order and the October 31 order that documents in item
123 were relevant to the issues in these cases, we ordered that
the three drafts of the posttrial settlement offer be marked for
identification and received into evidence in these cases as the
Court’s Exhibits 1-A, 2-B, and 3-C.
In Hartman I we held that the fraud on the Court committed
by the Government attorneys in the test case proceedings was a
fraud on the Court in all cases bound by the outcome of the test
cases and granted the motions to vacate filed by the Lewises, Mr.
Hartman, and the Lius. We held further that all Kersting project
petitioners against whom stipulated decisions were entered on or
after June 10, 1985, are entitled to the benefits of the Thompson
settlement, thereby imposing on respondent in all Kersting
project cases the sanctions mandated by the Court of Appeals in
Dixon V. We concluded Hartman I by describing a procedure for
implementing our holding.
Respondent moves the Court to reconsider Hartman I in the
following respects, which we have regrouped to reflect the order
in which we will address them: (1) Reverse all factual findings
that were based on item 123 concerning communication of the
posttrial settlement offer, (2) strike from the Court’s opinion
findings of continuing fraud on the Court beyond the original
misconduct of the Government attorneys in the test case
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proceedings, (3) delay implementation of any sanctions in these
cases until after the Court of Appeals issues its mandate in the
Hongsermeier appeal (the Hongsermeier mandate), and (4)
substitute respondent’s alternative plan for implementing the
sanction.
Petitioners move the Court to reconsider the method of
implementing the sanctions and to extend the sanction to
participants in the Kersting tax shelters who never filed a
petition in the Tax Court to contest the deficiencies determined
against them.
Discussion
The granting of a motion for reconsideration rests within
the Court’s discretion. Estate of Quick v. Commissioner, 110
T.C. 440, 441 (1998); see Lucky Stores, Inc. & Subs. v.
Commissioner, T.C. Memo. 1997-70, affd. 153 F.3d 964 (9th Cir.
1998). A motion for reconsideration will be denied absent a
showing of unusual circumstances or substantial error. Estate of
Quick v. Commissioner, supra; Alexander v. Commissioner, 95 T.C.
467, 469 (1990), affd. without published opinion sub nom. Stell
v. Commissioner, 999 F.2d 544 (9th Cir. 1993).
I. Findings Concerning Formulation and Communication of
Posttrial Settlement Offer
Respondent moves the Court to reconsider Hartman I to
reverse all factual findings that were based on item 123
concerning formulation and communication of the posttrial
- 25 -
settlement offer. Respondent asserts that the Court’s actions in
making drafts of the pretrial settlement offer part of the record
without allowing respondent an opportunity to challenge the
evidence or present evidence in opposition are inconsistent with
due process and the fundamental rights of litigants.
The three drafts of the proposed posttrial settlement
agreement were documents in respondent’s records and were
received into evidence in these cases as the Court’s Exhibits 1-
A, 2-B, and 3-C. In our view, the progression of the three
drafts of the proposed posttrial settlement agreement included in
item 123 evidenced efforts by respondent’s management to provide
Kersting project petitioners with less rather than more
information. That progression was relevant to (1) our
consideration of whether and to what extent respondent had an
obligation to disclose to non-test-case petitioners the facts
surrounding the Government attorneys’ misconduct during the test
case proceedings, (2) whether respondent’s management misled
petitioners or concealed from them facts concerning the
misconduct of the Government attorneys during the test case
proceedings, and (3) whether the actions taken by respondent’s
management after discovery of the Government attorneys’
misconduct might have mitigated the harm caused by the
misconduct.
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In our view, the mitigating effect of the posttrial
settlement offer could not be properly evaluated without
consideration of the three drafts. The drafts were documents in
respondent’s records subject to discovery that were properly
includable in the record in these cases. We had indicated to
respondent in the Dixon order and the October 31 order that
documents in item 123 were relevant to the issues in the motions
to vacate. Because the drafts speak for themselves, we ordered
them received into evidence as the Court’s exhibits, rather than
setting the matter for a hearing and commencing discovery
procedures. In so doing, we avoided the need for additional
discovery and an evidentiary hearing, which respondent vehemently
opposed. Petitioners, who had requested a hearing, have no
objections to the exhibits.
Respondent’s request that the Court reverse all factual
findings that were based on item 123 on the issue of respondent’s
intent in formulating and communicating the posttrial settlement
offer is denied.
II. Continuing Misconduct Beyond the Fraud on the Court of the
Government Attorneys During the Test Case Proceedings
Petitioners premised their motions to vacate the stipulated
decisions in their cases on two alternative grounds: First, that
those decisions were obtained by fraud on the Court because
petitioners were bound by the decisions in the test cases, the
fraud committed by the Government attorneys in the test cases
- 27 -
necessarily affected and corrupted their cases, and their
settlement agreements did not address the fraud or foreclose the
imposition of sanctions against respondent for the fraud; second,
that there was misconduct of respondent’s management in making
the posttrial settlement offer, that such misconduct constituted
a new fraud on the Court or continued the fraud on the Court
determined by the Court of Appeals in Dixon V, and that
respondent obtained the stipulated decisions through that
misconduct.
We emphasize that we did not decide Hartman I on the second
ground advanced by petitioners. We would not have done so
without affording respondent’s management a further hearing. We
decided Hartman I on the first ground on the basis of the
existing record in the Dixon cases supplemented with the drafts
of the posttrial settlement offer without further discovery or an
evidentiary hearing. We held that the Government attorneys in
the test case proceedings had committed a fraud on the Court in
every case that was bound by the Kersting project test cases,
under the rationale and holding of the Court of Appeals in Dixon
V. The only fraud committed on the Court was the fraud committed
by respondent’s trial attorneys in the test cases in soliciting,
entering into, and concealing the settlement of the Thompson and
Cravens cases.
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In Hartman I we focused on whether respondent’s posttrial
disclosure and settlement offer could purge from these cases the
fraud committed on the Court by respondent’s trial attorneys or
otherwise rectify the harm caused by the fraud on the Court. We
noted that, once a fraud is committed, subsequent voluntary
disclosure of the fraud does not purge the fraud. Badaracco v.
Commissioner, 464 U.S. 386, 394 (1984). The fraud on the Court
committed by respondent’s attorneys was completed once the test
cases were tried. We held that, regardless of respondent’s
disclosures to the Court, all Kersting project cases that were
bound by the test cases during the test case proceedings remain
cases of fraud on the Court, and respondent remains subject to
sanction for that fraud in every such case.
In deciding whether the sanction mandated by the Court of
Appeals in Dixon V should be applied in the cases of Kersting
project petitioners who accepted respondent’s posttrial
settlement offer, we considered whether respondent’s posttrial
actions mitigated the harm done by the fraud. For that purpose,
we identified respondent’s obligations to such petitioners and
found (1) that respondent was obligated to inform Kersting
project non-test-case petitioners of the existence and terms of
the Thompson settlement and that Dixon II was being appealed and
(2) that respondent intentionally omitted those material facts in
the posttrial settlement offer.
- 29 -
In the motion for reconsideration respondent argues that
section 6103 prohibited respondent from disclosing the terms of
the Thompson settlement agreement to non-test-case petitioners.
We disagree. Section 6103(h)(4) permits disclosure of return
information in judicial and administrative tax proceedings. The
Thompsons were petitioners (parties) in test cases that
determined their civil tax liabilities, see sec. 6103(h)(4)(A),
and the treatment of the disallowed Kersting deductions claimed
on the Thompsons’ returns was directly related to the resolution
of that issue in every case bound by the outcome of the test
cases. The section 6103(h)(4) exception to nondisclosure
permitted disclosure of the Thompson settlement to petitioners
whose cases were bound by the Thompsons’ cases. Moreover, the
decision documents in the Thompsons’ cases disclosed the
settlement. The decision documents in a Tax Court case are
public records, open for inspection by the public. Respondent
had an obligation to fully disclose the agreement to the non-
test-case petitioners.
In Hartman I we observed that (1) willful concealment or
omission of material facts or intentional statements of
half-truths will support a finding of fraud, (2) respondent,
having disclosed some of the facts concerning the irregularities
in the test case procedure, was obliged to disclose all facts
that would materially qualify the limited facts that were
- 30 -
disclosed, and (3) the Court has held that a settlement
stipulation may be set aside for excusable, damaging reliance
upon a false or untrue representation of the other party. Again,
we made those observations in deciding whether respondent’s
posttrial settlement offer somehow mitigated the harm done by the
fraud committed by respondent’s attorneys in the test case
proceedings. We did not hold that respondent’s failure to
satisfy respondent’s obligation to inform or omission of material
facts was a fraud on the Court. Nor did we hold or conclude that
respondent’s omissions in formulating and proffering the
posttrial settlement offer evidenced a “scheme of secrecy” to
hide the Thompson settlement; we limited our use of that term,
see Hartman I, slip op. at 119-120, to the concealment of the
Thompson settlement that constituted the fraud on the Court by
respondent’s trial attorney and his supervisor.
We also found that the stipulated decisions and the
posttrial settlement agreement did not specifically release
respondent from liability for matters arising from the
misconduct.
In Hartman I we held that sanctions should be imposed in the
cases of all Kersting project petitioners in which stipulated
decisions were entered on or after June 10, 1985, the date the
Kersting project test case proceedings began, by extending the
benefit of the Thompson settlement to all such petitioners.
- 31 -
Since we did not find a continuing fraud on the Court beyond
that committed by respondent’s trial counsel during the test case
proceedings, there are no findings to strike from Hartman I.
Respondent’s request is moot.
III. Modification and Delay of Implementation of Sanctions
In Hartman I we recognized that “Enormous amounts of time
and judicial resources have been wasted” and hoped to relieve
other Kersting project non-test-case petitioners who had
stipulated decisions entered in their cases on or after June 10,
1985, of the burden of filing motions for leave to file motions
to vacate decisions. It appeared to the Court that respondent
could adjust administratively such petitioners’ accounts, as had
been done in the Kahle cases after those decisions had become
final. We believed that the most expeditious and efficient means
of implementing the sanction would be to allow respondent to
adjust administratively the accounts of all Kersting project
petitioners, other than Mr. Hartman, the Lewises, and the Lius,
without requiring further action from the Kersting project
petitioners.
To facilitate the implementation of the sanction, we
proposed to issue an order (the implementation order) directing
respondent to send a copy of Hartman I and the implementation
order to all taxpayers who had filed petitions in this Court
contesting the adjustments at issue in Dixon II and who had
- 32 -
stipulated decisions entered in their cases (closed cases) on or
after June 10, 1985. That notification action by respondent was
to be completed within 60 days after the decisions entered in
these cases become final, i.e., after the Court of Appeals for
the Ninth Circuit renders its decision, if and when the decisions
herein should be appealed. Respondent would have 9 months after
the date the decisions in these cases become final to adjust
administratively the accounts of all Kersting project petitioners
who had stipulated decisions entered in their cases on or after
June 10, 1985.
Respondent asks the Court to delay entry of decisions in
these cases and the implementation of sanctions in the closed
cases until the Court of Appeals for the Ninth Circuit has issued
the Hongsermeier mandate and to modify the implementation of
sanctions.
We first address respondent’s request that we delay
implementation of the sanctions.
A. Delay of Entry of Decisions in the Hartman, Lewis, and
Liu Cases
Respondent first requests that the Court delay entry of
decisions in these cases, the Hartman, Lewis, and Liu cases,
until after the Court of Appeals issues the Hongsermeier mandate.
We held in Hartman I that the administrative adjustment
procedure would not be implemented until the decisions in these
cases are final. These cases will not become final until any
- 33 -
appeal by petitioners or respondent is complete, presumably after
or simultaneously when the Court of Appeals issues the
Hongsermeier mandate. We do not believe the decisions in these
cases should be postponed; a postponement would unnecessarily
delay any appeal in one or more of these cases. The Court will
order decisions in these cases to be submitted under Rule 155
within 30 days after the filing of this supplemental opinion. If
respondent and petitioners in any of these cases agree that
neither party will file an appeal in the case and that both
parties want to delay entry of decision until after the Court of
Appeals has decided the appeal of any of the other of these
consolidated cases and the Hongsermeier appeal, the Court will
extend the date for filing the Rule 155 computation until that
time.
B. Delay of Implementation of Sanctions in Closed Cases
Until After Court of Appeals Has Decided Cases
Currently on Appeal From Dixon VI and Dixon VIII
Implementation of the sanctions in other cases was to begin
by notification from respondent to affected Kersting project
petitioners. The notification was to be completed within 60 days
after the decisions entered in these cases had become final;
i.e., after the Court of Appeals for the Ninth Circuit renders
its decision, if and when the decisions herein should be
appealed. Respondent asks the Court to delay implementation of
- 34 -
the sanction until after the Court of Appeals has decided the
cases currently on appeal from Dixon VI and Dixon VIII.
In setting the deadlines for implementing the sanction, we
did not expect that the decisions in the cases at hand might
become final before the Court of Appeals decided the Hongsermeier
appeal. Upon reconsideration, we believe that implementation of
sanctions in closed cases other than these cases should not
commence until the later of (1) the last date a decision in any
of these cases become final, (2) the date the Court of Appeals
for the Ninth Circuit renders its mandate in any of these cases,
if and when the decisions herein should be appealed, and (3) the
date of the Hongsermeier mandate.
C. Modification of Implementation of Sanctions
Respondent asks the Court to modify the Court’s method of
implementing the sanction. Respondent, citing section 6512,
argues that the Court “lacks jurisdiction to order overpayment
refunds with respect to closed cases when the final decisions
have not been vacated”. In Hartman I we did not hold that we
would order respondent to make the administrative adjustments--
we held that we would issue the implementation order giving
respondent the opportunity to adjust administratively the
accounts of the petitioners in closed cases before acting on any
motions to vacate decisions in other closed cases or accepting
any new motions in closed cases where motions had not as yet been
- 35 -
filed. Respondent asserts that the adjustment to Mr. Kahle’s
account in the Kahle cases did not result in a refund of an
overpayment of tax and that section 6512(a) prohibits respondent
from making a refund in the closed cases by adjusting
administratively the accounts of the petitioners in closed cases.6
Respondent argues that the Court has made no determinations
of overpayment of tax with respect to the approximately 800
closed cases and section 6512(a) prohibits respondent from
issuing refunds administratively. Instead, in order for
respondent to comply, the Court must vacate the decisions and
determine the amounts of the overpayments.
To facilitate implementation of the sanction, we shall
issue the following implementation order.
1. Status Reports Identifying Affected Closed Cases
a. On or before 90 days after the date this
supplemental opinion is filed, respondent shall file with the
Court a status report (the first status report) listing all cases
6
If the Commissioner has mailed a notice of deficiency to a
taxpayer for a tax year and the taxpayer has filed a timely
petition with the Court, sec. 6512(a) prohibits the Commissioner
from making a refund or credit for that taxable year except as
to, inter alia, an overpayment determined by a decision of the
Tax Court which has become final. The Court has jurisdiction to
determine the amount of an overpayment of tax for a taxable year,
and the amount so determined by the Court shall, when the
decision of the Court becomes final, be credited or refunded to
the taxpayer. See sec. 6512(b)(1). Sec. 6512(b)(3) limits the
amount of any such credit or refund to the portion the Court
determines was paid after the mailing of the notice of deficiency
or within the applicable look-back period.
- 36 -
of the petitioners who filed petitions in this Court contesting
the adjustments at issue in Dixon II who had stipulated decisions
entered in their cases on or after June 10, 1985, that became
final before the Court filed Dixon VI and Dixon VIII (the
affected closed cases) by caption and docket number and, if then
known to respondent, the current addresses of the petitioners in
the cases and any counsel of record. In the first status report
respondent shall identify those cases in which respondent agrees
the sanctions may be applied and those in which respondent
contends the sanctions may not be applied with a brief
explanation of respondent’s basis for excluding each case to be
excluded;
b. Respondent shall continue to search for the
current addresses for the petitioners in the affected closed
cases. In each affected closed case where the petitioners were
represented by counsel, respondent shall contact the counsel of
record in an attempt to verify that the representation is
current. On or before 30 days after filing the first status
report, respondent shall file a second status report, providing
the current addresses of those petitioners and the names and
addresses of any counsel of record not provided in the first
status report. Respondent shall submit additional status reports
on respondent’s continuing efforts to identify the petitioners’
current addresses and counsel of record in the affected closed
- 37 -
cases every 30 days until all addresses and counsel of record
have been identified and provided to the Court;
2. Sanction Notice to Petitioners in Affected Closed
Cases
On or before 60 days after the later of (1) the last date a
decision in any of these cases becomes final, (2) the date the
Court of Appeals for the Ninth Circuit renders its mandate in any
of these cases, if and when the decisions herein should be
appealed, and (3) the date of the Hongsermeier mandate,
respondent shall send a notice to the petitioners in all the
affected closed cases of the imposition of a sanction in cases
bound by the Kersting project test cases (sanction notice). In
the sanction notice, respondent shall:
a. Provide the petitioners with a brief synopsis
of the background and opinions imposing the sanction on
respondent.
b. Rather than providing copies of Hartman I and
this supplemental opinion, provide links to the Opinions search
file on the Court’s Web site.6
c. When possible, respondent shall compute the
proposed adjustments to tax in the petitioners’ case(s) and
inform the petitioners of the result (i.e., the estimated amount
of overpayment or balance due).
6
For example, the link to Hartman I is
http://www.ustaxcourt.gov/InOpHistoric/Hartm8an.TCM.WPD.pdf.
- 38 -
d. Inform the petitioners that the sanction need
not be applied in their case if it would be detrimental to them.
e. Inform the petitioners that, if they wish to
have the sanction applied in their case, respondent will file
with the Tax Court a motion for leave to file a motion to vacate
the decision(s) in their case(s) and a motion to vacate the
decision(s).
f. Request that the petitioners inform respondent
within 60 days of their decisions either to have the sanction
applied in their case or to waive the sanction.
g. Include the name of IRS contact personnel who
can answer any questions the petitioners may have concerning the
imposition of the sanction in their cases.
3. Status Reports on Responses to Sanction Notice
On or before 90 days after respondent sends the sanction
notice to the petitioners in the affected closed cases,
respondent will file a status report with the Court reporting on
the responses received, listing those case in which sanctions are
expected to be applied, those in which the petitioners waived
application of the sanctions, and those in which no response was
received. Respondent shall attach to the status report for the
Court’s records all responses where the petitioners waived the
sanction and requested that it not be applied to their cases.
- 39 -
D. Motions for Leave To File Motions To Vacate Decisions
in Affected Closed Cases
In each case in which the petitioners have requested that
the sanction be applied in their affected closed case, respondent
shall file a motion for leave to file a motion to vacate the
decision in the case and a motion to vacate the decision.
Respondent shall attach the petitioners’ request to the motion
for leave. Upon receipt of the motion, the Court will grant the
motion and order the decision in the case vacated.
The parties shall work expeditiously to prepare and execute
new decisions (and overpayment stipulations, as appropriate)
reflecting the revised liabilities after application of the
Thompson settlement and, within 90 days after the order to
vacate, shall submit the new decision for the Court’s review and
entry. If the parties are unable to reach agreement with respect
to the new decision documents, the parties will submit their
respective positions to the Court for resolution within 120 days
of the order to vacate.7 See Rule 155.
In addition to motions filed in these cases, motions for
leave to file motions to vacate stipulated decisions have been
filed in 66 other affected closed cases. In Hartman I we held
that we would not act on those motions, so that respondent could
7
Respondent cautions that disputes might arise if the
existing records are incomplete, creating uncertainty as to the
computation of the revised deficiencies and/or payment history.
- 40 -
have an opportunity to adjust the accounts administratively.
Because respondent cannot adjust the accounts administratively
and the Court must vacate the decisions in the affected closed
cases, the Court will grant leave to file the motions to vacate
decisions in cases where motions for leave have been filed and
will accept for filing and grant any motions for leave to file
motions to vacate the decisions in other affected closed cases.
E. Cases That Will Remain Closed
The Court will not take any action in any cases in which
the petitioners either did not respond or sent a negative
response; those cases will remain closed.
IV. Petitioners’ Motion
In Hartman I we held that the fraud on the Court committed
by respondent’s attorneys in the Kersting project test cases
violated the rights not only of the test case petitioners but of
every petitioner whose case was bound by the outcome of the test
cases. The fraud committed by the Government attorneys was a
fraud on the Court in every one of the more than 1,800 Kersting
project cases filed in this Court. Extending the benefit of the
Thompson settlement to all Kersting project petitioners who were
part of the Kersting project test case procedure is the sanction
that in Dixon V the Court of Appeals deemed appropriate and
necessary to restore the confidence of future litigants who may
become involved in test case proceedings. In Hartman I we held
- 41 -
that the Dixon V sanction should be applied to give the same
relief to all Kersting project petitioners whose cases were part
of the Kersting project test case proceedings.
In petitioners’ motion for reconsideration, petitioners’
counsel, in essence, ask the Court to extend the sanction to
taxpayers who participated in the Kersting tax shelters and had
deficiencies arising from the disallowance of their claimed
deductions and who either never filed a petition in this Court or
filed a petition in this Court but settled their cases before the
test case proceedings began. We cannot do so because (1) the
fraud committed on the Court did not extend the time for filing a
petition after a notice of deficiency had been issued, and the
Court never acquired jurisdiction over those taxpayers or their
deficiencies, (2) a taxpayer who did not file a petition in this
Court did not have a case in this Court to which the fraud on the
Court committed by the Government attorneys in the test case
proceeding could have attached, (3) the Court invoked its
inherent power to impose a sanction against respondent for the
harm done to the judicial process, namely the test case
proceedings in this Court, which did not involve taxpayers who
were not part of those proceedings, and (5) the Court’s inherent
power is limited to imposing the sanction in those cases in which
a fraud on the Court was committed and does not extend to cases
in which no fraud was committed--i.e., those cases that settled
- 42 -
before the test case proceedings began--or where there was no
case.
Petitioners’ motion for reconsideration will be denied.
To give effect to the foregoing,
Appropriate orders will be
issued, and decisions will be
entered under Rule 155.