Opposition — Morton-Norwich Products, Inc. v. United States

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No. 79-980 i «-REB 27 1980 ‘|

OCTOBER TERM, 1979

MorTon-NorwWIcH PRODUCTs, INC., PETITIONER

Vv.

UNITED STATES OF AMERICA

ON PETITION FOR A WRIT OF CERTIORARI TO

THE UNITED STATES COURT OF_CLAIMS

BRIEF FOR THE UNITED STATES

IN OPPOSITION

WapE H. McCree, Jr.

Solicitor General

M. CarR FERGUSON

Assistant Attorney General

GarY R. ALLEN

ANTHONY ILARDI, JR.

Attorneys

Department of Justice

Washington, D.C. 20530

In the Supreme Court of the United States

OcTOBER TERM, 1979

{ No. 79-980

MorTOn-NoRWICH PRODUCTS, INC., PETITIONER

Vv.

UNITED STATES OF AMERICA

ON PETITION FOR A WRIT OF CERTIORARI TO

THE UNITED STATES COURT OF CLAIMS

BRIEF FOR THE UNITED STATES

IN OPPOSITION

OPINION BELOW

The opinion of the Court of Claims (Pet. App. la-22a)

is reported at 602 F. 2d 270.

JURISDICTION

The judgment of the Court of Claims was entered on

July 18, 1979 (Pet. App. la). The Court of Claims denied

a petition for rehearing en banc on September 28, 1979

(Pet. App. Ib; Pet. 1). The petition for a writ of

certiorari was filed on December 21, 1979. The

jurisdiction of this Court is invoked under 28 U.S.C.

1255(1).

QUESTION PRESENTED

Whether interest on a federal income tax deficiency

resulting from an adjustment made under Section 482 of

the Internal Revenue Code of 1954 runs from the date

the return was due to be filed, or from the date of

notice and demand for payment of the deficiency.

(1)

2

- STATEMENT

Petitioner is the parent of an_-affiliated group of

corporations. During its taxable years ended June 30,

1965 through 1973, petitioner made interest-free loans to

‘its wholly-owned foreign subsidiaries. On audit, the

Commissioner of Internal Revenue adjusted petitioner's

gross income for each of these years by imputing interest

on the loans it had made to its subsidiaries at the rate

of five percent per annum. This adjustment, as well as

correlative adjustments with respect to the wholly-owned

subsidiaries, was made pursuant to the Commissioner’s

authority to allocate income and deductions among

related entities in order clearly to reflect their income

(Pet. App. 3a).

Petitioner filed a petition in the United States Tax

Court seeking the redetermination of the deficiencies

determined for the years 1965-1967. That proceeding was

thereafter dismissed by stipulation in accordance with a

settlement agreement reached by the parties as to the

proper amount of adjustment for each year in issue. The

parties also agreed as to the proper amount of

adjustments for 1968-1973. The settlement agreements,

however, did not resolve the question of petitioner’s

liability for interest with respect to the deficiencies for

any of the years in question (Stip. in Ct. Cl., para. 4 and

Ex. A). The Commissioner assessed interest on the

deficiencies computed from the dates that petitioner's

returns for the years involved were due to be filed.

Petitioner paid these assessments of interest and brought

this refund suit, contending that the interest on the

deficiencies should be computed only from the date of

notice and demand for payment (Pet. Appr’ 3a). The

Court of Claims upheld the Commissioner's position that

the interest ran from the date the returns were due to be

filed (Pet. App. 3a-1 1a).

ARGUMENT

The Court of Claims correctly held—in this case of

first impression (see Pet. App. 2a)—that interest on an

income tax deficiency resulting from an adjustment to

gross income under Section 482 runs from the date the

return for the year in question was due to be filed and

not from the date of the notice and demand for

payment.

Under Section 6601(a) of the Internal Revenue Code

of 1954, interest on a deficiency runs from the last date

prescribed for payment of the tax to the date of

payment. Payment of the tax is due on the date the

return is required to be filed. Section 6151(a) of

the Code. If, on the other hand, no return is required

and no other date is specified, then the last date for the

payment of the tax, for purposes of computing interest,

is the date the liability arises, not later, in any event,

than the date of notice and demand for payment. Section

6601(b)(4) of the Code. Section 6601(e)3) similarly

provides that interest in respect of any “assessable

penalty, additional amount, or addition to the tax” runs

only from the date of notice and demand.

Here, petitioner made interest-free loans to its wholly-

owned subsidiaries. On audit, the Commissioner

determined that, if petitioner had conducted the

transactions at arm’s length, it would have charged

interest on these loans. The Commissioner therefore

made the necessary adjustments to petitioner's gross

income reflecting interest from these loans in accordance

with Section 482. That provision permits the Com-

missioner “to deny [to taxpayers] the power to shift

income * * * arbitrarily among controlled corporations,

and to place such corporations rather on a parity with

uncontrolled concerns.” Central Cuba Sugar Cv. v. Com-

4

missioner, 198 F. 2d 214, 216 (2d Cir.), cert. denied,

344 U.S. 874 (1952). See also B. Bittker & J. Eustice,

Federal Income Taxation of Corporations, para. 15.06,

at 15-16 (¢1979 ed.). In applying Section 482, the

Commissioner employs an arm’s-length standard to

- reconstruct the transaction. See Treasury Regulations on

_ Income Tax, Section 1.482-1(b)(1) (26 C.F.R.).

As this Court observed in Manning v. Seeley Tube &

Box Co., 338 U.S. 561, 566 (1950), interest is assessed

against the taxpayer on underpayments on the theory

that, until actual payment, he “had the use of funds

which rightfully should have been in the possession of

the United States.” See also United States v.

Northwestern Mutual Ins. Co., 315 F. 2d 723, 725-726

(9th Cir. 1963). The adjustments made by the Com-

missioner pursuant to his authority under Section 482

simply put petitioner and its subsidiaries in the same

position as if the transactions within the controlled

group had been at arm’s length. The Commissioner

thereby placed these controlled taxpayers on a parity

with uncontrolled taxpayers.

“As in the case of any other audit adjustment, etc.,”

the Section 482 adjustment is designed to reflect the

proper amounts of gross income, deductions, allowances

and credits on which petitioner’s income tax should be

computed. Since that tax was due to be paid on the date

the return for each of the years in question was due to

be filed, the resulting deficiency does not fall within the

terms of any of the provisions of Section 6601 that

would delay the accrual of interest until notice and

demand for payment occur. Indeed, as the court below

noted (Pet. App. 7a-8a), the adoption of any other rule

with respect to interest on deficiencies resulting from a

Section 482 adjustment not only would allow the

taxpayer the interest-free use of funds that properly

belong to the government but would undermine the -

purpose of Section 482 by giving controlled groups an

unfair advantage over unrelated businesses. Cf. Central

Cuba Sugar Co. v. Commissioner, supra.

5

2. In seeking review by this Court, petitioner

acknowledges that the case presents a “novel” issue (Pet.

7), but nevertheless contends that the decision below

conflicts in principle with Motor Fuel Carriers, Inc. v. .

United States, 420 F. 2d 702 (Ct. Cl: 1970); Ray E.

Loper Lumber Co. v. United States, 444 F. 2d 301 (6th

Cir. 1971); and Bardahl Mfg. Corp. v. United States, 452

F. 2d 604 (9th Cir. 1971). Those cases, however, involved

the wholly different question whether interest on

accumulated earnings taxes assessed under Section 531

of the Code should run from the date of notice and

demand, or from the date that the return was due for the

year in question. Those decisions hold that the

accumulated earnings tax is an “addition to the tax” or

“additional amount” with respect to which interest runs

only from notice and demand under the specific

provisions of Section 6601(f)(3) of the Code (now

Section 6601(e)(3)). In so ruling, both the Court of

Claims and the Sixth Circuit alternatively relied on the

fact that the accumulated earnings tax,.imposed by

Section 531 is payable only on notice and demand

because it is not self-assessing (it is not reportable on the

corporate tax return form). Hence, interest on a Section

531 assessment would begin to run only from the date of

notice and demand in any event under the general rule of

Section 6601(a).

Here, the Court of Claims correctly noted (Pet. App.

5a) that income tax assessments resulting from Section

482 adjustments and Section 531 accumulated earnings

tax assessments are not truly comparable. The ac-

cumulated earnings tax is a separate and distinct

additional tax that has been characterized as a “penalty”

imposed on corporations for failing to distribute earnings

accumulated beyond the reasonable needs of the

business. On the other hand, a Section 482 adjustment

to gross income, deductions, allowances or credits does

not result in the imposition of a separate, additional tax,

but simply increases the amount of the ordinary income

tax that was due and payable when the return was filed.

Nor can an adjustment under Section 482 be considered

a “penalty” in any sense. It merely operates to place the

controlled group on a parity with uncontrolled tax-

payers, thereby precluding a controlled group of

taxpayers from obtaining a tax advantage through

intercompany transactions at less than arm’s length.

The resulting deficiency thus simply represents an

underpayment of the income tax that would have been

due in the first instance had the parties been dealing at

arm’s length.

In sum, petitioner errs in contending (Pet. 17-21) that

a Section 482 adjustment differs from other adjustments

in income taxes because the taxpayer may not invoke

Section 482 to amend its prior returns. See /nterstate

Fire Ins. Co. v. United States, 215 F. Supp. 586 (E.D.

Tenn. 1963), affd, 339 F. 2d 603 (6th Cir. 1964). This

circumstance does not transform the adjustment into a

separate tax, imposition of which mus* be initiated by

the government. Apart from the somewhat broader

discretion granted to the Commissioner under Section

482, his authority to make such adjustments necessary to

prevent evasion of taxes or clearly to reflect the income

of the members of the controlled group is not

substantially different from the other means available to

the Commissioner to adjust income and deductions as

reported by the taxpayer in order to determine proper

income tax liability. See Eustice, Tax Problems Arising

from Transactions between Affiliated or Controlled

Corporations, 23 Tax L. Rev. 451, 452-463 (1968).

Indeed, the principle that the taxpayer may be bound to

the form in which he chose to cast his transactions (even

7

though the Commissioner is not) is in no way unique to

Section 482. As this Court observed in Commissioner v.

Nat. Alfalfa Dehydrating, 417 U.S. 134, 149 (1974)—

while a taxpayer is free to organize his affairs as he

chooses, nevertheless, once having done so, he must

accept the tax consequences of his choice, whether

contemplated or not, * * * and may not enjoy the

benefit of some other route he might have chosen to

follow but did not.

CONCLUSION

The petition for a writ of certiorari should be denied.

Respectfully submitted.

Wape H. McCree, Jr.

Solicitor General

M. CARR FERGUSON

Assistant Attorney General

GarRY R. ALLEN

ANTHONY ILARDI, JR.

Attorneys ;

FEBRUARY 1980

DO}-1980-02