Fifth Circuit Partially Reverses Lower Court; Partners Entitled to Refund of Penalty Interest. (Parker Tax Publishing October 2013)

Because no determination was made that transactions a partnership engaged in were tax-motivated transactions, three partners in that partnership were entitled to receive a refund of penalty interest paid after settlements had been reached; however, with respect to taxes paid, the statute had expired and they were not entitled to a refund of those taxes. Irvine v. U.S., 2013 PTC 270 (5th Cir. 9/5/13).

In 1980, American Agri-Corp (AMCOR) organized limited partnerships for which it acted as general partner. The partnerships acquired agricultural land, invested in agricultural ventures and grew crops. AMCOR solicited investments in these partnerships from high-income individuals. Each partner in an AMCOR partnership received a projected tax loss from crops planted in the first years of twice the partner's investment. In 1987, the IRS audited the AMCOR partnerships to determine if they were impermissible tax shelters.

John Irvine, Billy White, and Kenneth Kraemer invested as partners in AMCOR limited partnerships from 1984 through 1986 and reported their proportionate share of their respective partnership losses in the relevant tax years. In 1990 and 1991, the IRS issued a Notice of Final Partnership Administrative Adjustment (FPAA) for the tax years in issue to the tax matters partner (TMP) for each of the partnerships and disallowed 100 percent of the partnerships' expenses and other deductions. All the partners filed suit in the Tax Court contesting the FPAA and in July 2001, a settlement was reached. In 1999 and 2000, before the partnership-level settlements were entered, John, Billy, and Kenneth individually settled with the IRS. After accepting the individual settlements, the IRS assessed additional tax liability and penalty interest under Code Sec. 6621 against each of them. John, Billy, and Kenneth paid the additional taxes and filed an administrative claim for refund in a district court. They argued that the IRS had no authority to assess additional taxes and interest because the statute of limitations had expired and that Code Sec. 7422(h) did not bar jurisdiction since the statute of limitations related to a nonpartnership item based on the facts of each partner's situation.

The question before the court was whether the claim that the additional tax assessments were time-barred was a claim for a refund attributable to partnership or nonpartnership items. If the refund claim is attributable to partnership items, Code Sec. 7422(h) would apply to deprive the district court of jurisdiction. If, on the other hand, the refund is attributable to nonpartnership items, then Code Sec. 7422(h) is irrelevant, and the general grant of jurisdiction would be effective. The claim also involved the significant interplay between the statute of limitations provision in Code Sec. 6501(a) and Code Sec. 6229(a), a separate provision that can extend the statute of limitations period for partnership items. The district court concluded that, because the Code Sec. 6501 statute of limitations period applicable to an individual partner cannot be determined without reference to the asserted bases for extensions of the statute under Code Sec. 6229, which is a partnership item, it lacked jurisdiction over the statute of limitations claim under Code Sec. 7422(h) and granted summary judgment to the IRS. Because the taxpayers claims were untimely, the district court also granted summary judgment on the issue of refunding the penalty interest. John, Billy, and Kenneth appealed.

The Fifth Circuit affirmed the district court on the grant of summary judgment on the statute of limitations claim but reversed the district court on the penalty interest claim. The court looked to case law in Prati v. U.S., 603 F.3d 1301 (Fed.Cir. 2010), which found that when an assessment of tax involved a partnership item, Code Sec. 6229 extended the time period that the IRS had under Code Sec. 6501 to make an assessment. The court stated that the partners were required to raise the statute of limitations issue in the partnership-level proceeding before settlement and were barred from raising it in their refund suit. The court also looked to Weiner v. U.S., 389 F. 3d 152 (5th Cir. 2004), which held that the assessment period was not converted into a nonpartnership item by a taxpayer's settlement with the IRS when it is not specifically stated in the settlement. The settlement agreements made by John, Billy, and Kenneth with the IRS did not mention Code Sec. 6229 and, thus, did not convert the assessment period into a nonpartnership item.

With respect to the penalty interest claim, the Fifth Circuit found that there was no determination made in the partnership-level proceeding or individual settlements that any of the partnership transactions were tax motivated transactions and, therefore, the district court was not barred from considering the partners' claim that there was no tax-motivated determination to support the imposition of penalty interest under Code Sec. 6621(c). The court rejected the IRS's argument that the partners' claims for refund of the penalty interest were untimely. The court found that since their refund claims were dependent upon a sufficient tax-motivated determination, and that determination did not occur, the penalty interest is a substantive affected item rather than computational, and the refund claims were timely filed. The Fifth Circuit held in favor of the taxpayers on the penalty interest refund claim.

For a discussion of the rules for TEFRA audit procedures, see Parker Tax ¶28,505. (Staff Editor Parker Tax Publishing)

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