Oral argument — Harry Haury v. CIR

Mr. Boxerman Yes, may it please the court. Ms. Oppenheimer. Can you hear me? Yes, I can. Okay. Thank you This this appeal presents two issues. One is the deductibility of the bad debt that mr Howery claimed on his return and the other is with respect to IRA distributions Did he roll over a hundred and twenty thousand of those such that that amount should not have been taxable? I hope I have time for both of these issues I'd really like to start with the bad debt issue and the the standard of review I recognize is for clear error, but I do want to remind the court that under the 8th Circuit Annunciation of what clearly erroneous is all about that Even if there is evidence to support what the tax court did if upon a review of the whole record This court is left with a firm and definite conviction that a mistake was made Then there's clear error and the problem that the tax court has I believe with this Conclusion that it reached is that its conclusion as to mr Howery's dominant motivation for having made the loans to his company was it was very conclusory and it did not go through the Analysis that the courts have set out in terms of the things you have to look at to to find what the dominant Motivation is the issue of course, I know the courts of the courts the judges. You've all read the briefs but when you have a Individual who was both an employee and an owner of a company who loans money to the company and then the debt goes bad The deductibility for the as an ordinary Deduction depends upon the dominant motivation of the taxpayer who who made the loan? Do you do it to protect his interest in employment and salary in which case it's deductible or did he do it to protect? His investment in which case it's only a capital loss. And that's what did the evidence in and what's the what's the evidence in? The record as to what the motive was Well, the the test the taxpayer testified that he did it to provide working capital to the company working cap the company without this funds could not operate and working capital is defined as Essentially liquid assets designed to meet short-term obligations Including by the way wages the mr How are you was able to take a salary? Because he loaned this money from his that he had gotten out of his IRA to the company Was there other evidence besides the debtors testimony? Yes And that gets into the objective factors that the courts say are primarily what the inquiry should be about It's not that the testimony is irrelevant but the objective factors are the size of the investment at the time of the loan the size of the salary and whether The taxpayer had any other income the taxpayer had no other source of it. How would you relate the size of? the loan How would you use that to determine the motive Would larger be more in line with investment or more in line with trying to secure your salary? we have to compare the size of the loan to the salary and you have to compare the size of the loan to the Investment and it at this time at the time that he made these loans 2006 in the first half of 2007 his investment interest was net I would say it was negligible and I know there's been there was a finding by the tax court that there was paid in capital of these two companies of eight million Dollars and he owned about half. So the tax court concludes and the commissioner argues that his investment is Interests is like four million dollars. That's just not the case in the Hutchinson case cited in the brief But what did the district court do what what was concluded as a finding of fact? The tax court did not make a lot of findings of fact But in passing the tax court noted that the paid-in capital What of the two companies was approximately eight or nine million dollars now forget other cases? What's what's the evidence as to the source of the paid-in capital? Well, that's That's the entry on the balance sheet and paid-in capital Must be historic. That's exactly right. All right. Well, what what's the evidence is the history? That's it. I mean there was paid-in capital I know enough about balance sheets to know that doesn't tell you how much an individual investor Contributed to that entry. That's exactly right. That's my point. All right. So what so there's no evidence There's no evidence. Well, I may be missing the point of the question evidence as to what I'm not following the question as to how much this taxpayer well as as it as an originating or as a shareholder and What were his his direct contributions to equity and therefore paid-in capital as a result? I've looked at his investments I've looked at this record I don't believe the there is a record on that but the there is evidence from which this court can find that the fair So what's what's the evidence that that the if paid-in capital is is basically historic retained earnings? What's the what's the evidence that would attribute that those retained earnings to to? Mr. Howery as an investor. Well, the retained earnings were actually negative on these balance sheets So then I know so then what's the source of the paid-in capital? We don't know we don't know from the record these companies were started one was started in 2003 one was started in 1996 I got that off the tax returns and there is no record as There's nothing in the record I don't believe that Establishes who paid in the capital at what time this capital was paid in and that's why it's my argument that that Notation by the tax court is irrelevant to a finding as to what? Mr. Howery's investment interest was what other evidence of his investment is there? It's the fair market value of I'm going to get to evidence but I have to define it the investment interest for these purposes is the fair market value of the Of his investment in the company at the time. The loans were made the loans were made 2006 2007 the the evidence I'm losing the voice I'm sorry What evidence of his investment his personal investment? It's not the fair market value of his stock on on the day that the day the company's failing Well, the record does not what what what is the historic investment? He was Supposedly protecting I don't believe you can I can give you a number based on this record in terms of how much money he paid For his stock for example, then then who had the burden of proof here? You're your client did the taxpayer does but the inquiry for the dominant purpose is what's the value of his? Investment on the day he makes the loans and it and taxpayers don't only make loans To a business when the business is failing sometimes when they first buy in they have to execute a personal guarantee And so there's an investment interest to protect. It doesn't always follow that. All right, so But is there is there evidence of either fair market value on the date of the loans or historic? Investment there is and that and that is from this testimony that the company's inability to meet It's up to operate without the loans is a factor that suggested as investment interest value Was negligible the balance sheets which show paid-in capital on the that's only one component of equity The balance sheet show negative equity for these two companies taken as a whole That's evidence that he didn't have much if any of an investment interest, but I thought he testified He thought he thought the company's at the time of the loans We're gonna bring home these government contracts and do well He was he was hoping that he wasn't valuing his investment as zero. How can you how can you how can you make that argument? Well unclear air review The You have to also compare the fact you have to not lose sight of the fact that he had a salary to protect and That was his only I understand we're talking about the investment component, but he was making a hundred and fifty thousand Just a year from these companies counsel Does the record show whether the loans were the loan money was solicited from him or what? What initiated the the making of the law? I don't I don't believe so other than the fact that he was chief executive officer and it may suggest an inference that he made The judgment that the company's needed these monies to operate So to that extent I would say the record suggests an answer to your question So there's no documentation of any kind of solicitation or not solicitation. I mean the loans were documented there were notes work, right? Documentation is to the purpose for the loans from the not documentation. No, no Common for a company to include in minutes or in some Documentary form its purpose for seeking capital seeking money. I I know companies have done that there was nothing like that in this record There was also evidence getting back to the value benefit does what's what's the Does he get value out of the capital loss deduction? Some but it's very limited. You can only offset it. I know I know though. I know the restrictions, right? I don't know his Situation. Oh, I don't I don't believe that there is as far as I can tell from this record your honor I'm into my my rebuttal time. So I'd like you have to explain to me. How does this on the on the first issue? That 120,000 going in on the being mailed on the 60th day. Yes, certainly Did you read it? Was it was he did he have counsel before the tax court he was pro se he was is there any explanation of whether he was doing anything other than thinking he was rescinding so to speak the the first withdrawal I It's hard for me to I don't think I can answer your question. Yes, I I Think they always talked in terms of the 120 He paid back in as kind of being a return of the 120 that went back out I mean, that's how everyone looked at it from what I can tell on this record and and was Did you research whether there should be a mailbox? But what we would call a mailbox rule We did we we tried it we did and we could not find any authority that would have supported such an IRS allows a mailbox rule for payment of quarterly estimates and And filing your return your final. Yeah your final payment Yeah, we we did not find we wanted to make that argument and we could not find any authority to suggest it to support it And what authority we did do Suggested maybe it wasn't directly on point, but it suggested that the that would not be a viable argument So we we have this issue though that it's a it's a it's a partial rollover of the return of the 168 Which I don't really think is a new issue. I think it's a subset of a Well, it's rather remarkable that it wasn't Argued it is to me because it just sort of stared it just jumped right out at me in the face when I saw the record I'd like to if there are no more questions. I'd like to reserve the rest for rebuttal Ms. Oppenheimer Thank you, your honor. I'd like to express my appreciation for the court for allowing me to argue by phone well, we're sorry that you Circumstances compel you to be at home for a while you heal. Thank you As far as the second issue was concerned the evidence clearly supports the taxpayer that tax courts determination that the Dominant intent of the taxpayer was to protect into his investment and there is evidence in the record Supporting the fact that he put four million dollars into the company first of all on page two of the opinion the tax courts found that The taxpayer owned forty eight point three percent of NPGS and forty nine point two percent of NPS These facts are supported by the tax returns of both entities No, wait, let me just stop you if you're if you're just taking Forty nine percent of of the paid-in capital and saying therefore he put four million in that's that's false You can't do that. Well the balance sheet the balance sheet shows You know what the paid-in capital was and the tax return shows What his percentage of ownership was? I well We we we we went to a different school of accounting I guess but but in any event you you cite your your brief says that that the Tenth Circuit's decision and Litwin is is is Distinguishable on the facts and it and and I read it yesterday it looks to me like the dominant fact is Better for the Commissioner in that case than in this case That is that the taxpayer and Litwin never took any salary out of the company and yet the Tenth Circuit in Elaborate analysis of applying the Supreme Court test, however Fav with however much it favored it comes out the other way So you're gonna have tell me why lit one if we if we were to follow it doesn't Demand a contrary result here well, first of all The the trial court found in favor of the taxpayer there and of course the standard of review Was clearly erroneous Here we have the opposite Determination by the tax court that the with very little analysis Well The opinion doesn't I think but go on with distinguishing. Okay. The second thing is that that Litwin's Loans guarantees and advances to the company were more than three times the value of his investment So when you compare the loans and the value of the investments they were you know Very different here. We have what in our view is a four million investment to the two companies in relation to $435,000 Loan plus, you know, he also guaranteed a half a million dollars Swank is a third-party investor made a loan of a half a million dollars and The third the taxpayer First of all guaranteed repayment of this loan and subordinated his loan to it So why would he make this investment? For a half a million of 439,000 or 435,000 and guarantee a loan of a half a million dollars to to protect the salary of 439,000 it doesn't compute Plus Litwin was the case that there was a lot more evidence on behalf of taxpayer than a self-owned Self-serving testimony his broker his accountant and his long-term friend and co-investor All testified on his behalf Here what basically all we have is taxpayers self-serving testimony And the court looks at the objective evidence I would say that this case is more analogous to the Supreme Court case of the United States versus generous than it is to lit when in generous you have $12,000 annual salary at thirty nine thousand dollar original investment and a taxpayer again claims that This That the loan is made to protect his salary and the court just doesn't buy it the Supreme Court says on page a hundred and six of four or five u.s. What taxpayer was purporting to say was that his twelve thousand dollar annual salary was his sole motivation and that? Is thirty eight thousand dollar original investment the actual value of which prior to it misfortunes of you know? 1962 we do not know plus his loans to the corporation plus his personal interest in the integrity of the Corporation of a source of living for his son-in-law and it's an investment for his son and his other son-in-law were of no Consequence whatever in his thinking the court then concludes that the taxpayers Explanation falls of its own weight and that reasonable minds could not on this record Describe to it on this record ascribed to a dominant motivation of the preservation of his salary as president of the corporation Well, I would submit to this court that generous is the case. It is really closer to what we have here then the Case of that one. We have a case that As far as the evidence showed made very substantial investments in the company even before The working even before he he made the loan It's our view that these investments approached four million dollars the Corporate returns show that he was the shareholder with this percentage of ownership And the courts both Litwin and generous when they're looking Comparing the loans and the salary and the investments. They're looking at the initial investment Rather than the current value of the investment, but even if this court were to say well Whatever he invested, you know initially the question is what is the initial value? What is the value of the investment at the time? He made the loan? The evidence supports the conclusion that his investments at the time He made the loan had substantial value. He made the loans between February and July of 2007 in the interim during that period in June of 2007 DHS awarded Sandia a 15 million time and material contract and then Then Sandia in turn entered into a contract with with NPGS which was to run until June of 2012 I need to talk to you about that first issue at some point You're in the facts that are in the brief. So well, would you like me to turn to it now? If It leaves some time so I because I've got some I've got some difficulties with your position Well, let me just say that as far as the value finished by saying that the value in October of 2007 which was several months after This, you know taxpayer lent money to His corporation swank lent the company and TGS a half a million dollars Which he would not have done if he believed it was a worthless company and at that time taxpayer voluntarily subordinated his loan To the swank loan because he believed it was in a good condition and improving financial condition So it's our position that the tax courts Finding that the dominant motivation was to protect and his investment was well was not clearly erroneous And was supported by the evidence Turning now to the IRA The IRA deduction let me start with a with Sort of where I'd be where I begin and that is it seems to me that it would have been The commissioner has all of the tax records going into this trial and if there had been a Violation of the one-year Rule that that is relied upon rather heavily in your brief that would have been put forward as a defense to the to the The 120,000 not as a partial it would simply no one would have had to worry about The mailbox rule and so forth with 120,000, right? That's correct. All right, so I I put aside frankly your notion that well the record doesn't permit us to know whether that there would have been something disqualifying this partial offset and Then I come to the partial offset itself and it it frankly leaps out. So so directly to me from the statute And and the regs that I it seems to me the tax court had should have particularly for a pro se taxpayer Seen this issue and and and dealt with it Well, I have two responses to that First of all the IRS the commissioner on the court below Had no reason to talk about the This this the rollover the second rollover that this was a second rollover since it had an easy and obvious argument that 60 day requirement wasn't complied with Wait a minute. Wait a minute The the thing is if the tax court is interested in justice and not just making sure every dollar is collected There is an obvious entitlement under the partial Why isn't they should address whether there's an obvious? entitlement under the partial rollover principle based on the hundred and sixty eight thousand dollar Withdrawal and they didn't do that Well, and and I and I don't care whether it's plain error review or not unless you can unless you can tell me why This wasn't a clearly warranted partial Rollover deduction. I think there was plain error and I'm not even sure it should be reviewed for plain error I Well, you're basically saying the tax court instead of just hearing the arguments before him should have reviewed the Statute to see if there was any other basis on which the taxpayer could prevail Read the next subsection. I mean, you know, I mean, this is not exactly combing 26 USC it's sitting it's sitting there leaping out at you particularly if You're a tax court judge and sir has ever seen this problem before And we have a pro se a pro se litigant who has a Plausible mailbox Justification for treating this as a timely hundred and twenty thousand I think this you have to convince me. This isn't so unjust as to cry out for relief Well, I guess The analogy I guess the one case That the opposing counsel the case I'd like to compare this case to the United States Department of Labor versus Rappert Roberts 135 third 345 where this court did in fact Not Apply the rule that new arguments are considered for the first time on appeal because to do so would apply would would be in plain miscarriage of justice or or would be inconsistent with substantial justice and that was the case where an Employer was liable for violation penalties for violation of the employee polygraph Protection Act And he got away with it in the district court because it held that the district court held that the implementing regulations were invalid because they were Promulgated without compliance with the APA and then the employer sought attorney's fees because the government lost Don't review the facts because you're down to about a minute. Okay? Well this this court held that he got a windfall by not having to pay penalties in the district court He wasn't going to get a windfall by getting attorney's fees On appeal so we have a different situation here the taxpayer didn't get any kind of windfall And frankly, yes women the government's getting a windfall. Well And any time this court applies the rule that we don't consider new arguments on appeal It's it's possible in fact probable that the party who advances the new rule would Advances the new argument for the first time on appeal would prevail and that you know justice would require Considering the argument, but but simply the fact that a new argument on appeal would result in reversal Doesn't cause this court to consider the new argument or the this exception would Overcome the rule the general rule It's only unusual circumstances such as rapid robberies that um you know would require You know would that that result in this court's application the exception of the rule and It's our position that if this new argument were in fact raised below We have a defense that a previous rollover Would have been obtained and we would have had the opportunity to produce the tax return to see if no way But but you just agree. You know if you if you've got another reason why this Partial rollover wouldn't apply that's fine But you've agreed that the commissioner would have been all over the one-year rule to defeat the entire case Well, this would not have this would not have been a new a new investigation a new a new fact Well if if the argument that's raised on a few unless the unless the IRS people involved are Incompetent they would have they would have made sure that the one-year rule was was not violated If this argument raised for the first time on appeal were made in the court below yes I assume the IRS would have you know been Presenting facts to show that the one you know I'm saying they already checked that out We can be confident of that because if the one-year rule had applied it would have been used to defeat the entire claim I don't I don't know that and I You got it. I have you got I know we're not we're talking hypothetically, but have you got another reason why? The partial rollover rule if it had been timely raised would have been defeated Well that is simply speculation on our part or or perhaps Wait you you've studied the case. I'm just asking have you got another argument I Understand that you can oh good. Oh good. I'll go. Well. We'll send it back for a new trial. What what what are you gonna? Do um? I'm sorry could you ask me that again? I didn't care at all Well the time is up, but you're just saying well, that would be speculative I'm asking Concretely having studied the case like I certainly haven't is there another reason why the partial rollover rule had had been timely raised would have been defeated by or Could well have been defeated by the commissioner at trial Well Because the one year I said putting aside the one you know, have you got another one? No, I don't okay That's all I want to know. Thank you Well your time's up and I think we understand the issues does Mr. Boxerman have any time council has six minutes for rebuttal or I'm sorry three minutes 48 seconds rebuttal Thank you. Thank you. Thank you. There are two points. I want to make both on the bad debt issue One is I'm kind of surprised to hear the commissioners attorney say that the generis case is a lot like our case It's nothing like our case in generis the taxpayer who made the loans to the company. He had another full-time job He worked a couple days a week for this company and he had a lot of income substantial income Apart from the fairly small income he received from the company that he made the loan to so that's point one point two Has to do with the timing of the taxpayers loans in this case Every single loan that the taxpayer made that he seeks a bad debt deduction for was made Before that Sandia contract was executed except for the very last one, which was $46,000 ten days after approximately ten days after the execution of the contract He didn't make the loans that he's seeking bad debt deduction for after he had the Sandia contract in hand It was all other than that $46,000 one before the Sandia contract and the Litwin case tells us that this Application of these objective factors including the value of the investment. It's not a mechanical Mathematical test. We're just trying to get a sense where these these factors are sort of a proxy for what was the dominant motive? Protecting salary protecting investment. His salary was a hundred and forty something thousand a year and the and the Commissioner says Why would he put all this money in to protect? $140,000 salary that's per year. He he loaned in the in 2006 $107,000 that he that wasn't repaid but he made that back in salary and then some in 2007 he loaned another I believe it's 300 or 400,000 he got a hundred and forty thousand back in salary And if this company could have held on for one or two more years He would have recouped in salary what he had put in through these loans. His dominant motive was protection of salary I'm not used to stopping when there's still time on the clock, but but I will unless there are any more questions Thank you Very good. Thank you counsel. The case has been well briefed and argued We will take it under advisement and as operman we wish you speedy recovery, thank you