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Kroner v. Commissioner (T.C. Memo. 2020-73)

On June 1, 2020, the Tax Court issued a Memorandum Opinion in the case of Kroner v. Commissioner (T.C. Memo. 2020-73). The issues before the court in Kroner were (1) whether transfers of funds to petitioner during the years at issue constitute gifts that petitioner properly excluded from gross income under IRC § 102 and (2) whether petitioner is liable for accuracy-related penalties under IRC § 6662.

How Many Kroners does it Take to Pay off a Kroner’s Tax Liability?

There are just under 9 Norwegian kroner to every dollar (at the time this post was written), and so it would take approximately 53m kroner to pay of Mr. Kroner’s deficiency for 2006 alone. Mr. Kroner created a Nevis trust in 2004, the beneficiaries of which were Kroner and his son. Kroner formed a Bahamian trust in 2007 to which he transferred substantial liquid assets.

In 2005, 2006, and 2007, Kroner, the Nevis Trust, the Bahamian trust, and two closely held business (held by said trusts), received $4.4m, $15.4m, and $5m, respectively, from a wealthy British gentleman, whose counsel, Mr. Bernstein, also advised Kroner. Mr. Bernstein advised Kroner create the offshore trusts, and with respect to the amounts transferred by the Brit, to not report them as they were excludable under IRC § 102.

In Mr. Bernstein’s defense, he did advise Kroner to file a Form 3520 (Annual Return to Report Transactions with Foreign Trusts and Receipt of Certain Foreign Gifts), for each year that petitioner received a transfer from Mr. Haring into an account titled in his name. With respect to transfers routed to petitioner’s trusts or related entities, however, Mr. Bernstein advised petitioner that no reporting was required.

Burden of Proof When Deficiency is Amended in Answer

The taxpayer generally bears the burden of proving that the IRS’s determination of a deficiency is incorrect. Tax Court Rule 142(a); Welch v. Helvering, 290 U.S. 111, 115 (1933). The burden shifts, however, if a taxpayer produces credible evidence with respect to any factual issue relevant to ascertaining the taxpayer’s liability for any income, estate, or gift tax and satisfies the requirements of IRC § 7491(a)(2). Kroner’s evidence as to the original deficiencies was, well, deficient and thoroughly self-serving. Thus, the burden to disprove the correctness of the original deficiencies remained on Kroner.

The IRS, however, amended the deficiencies for 2006 in his amended answer. Because of the timing of the assertion of additional deficiency amounts, the IRS bears the burden of proof with respect to the increase in the deficiency for 2006. See Tax Court Rule 142(a). The parties do not dispute the amount of funds Kroner received in 2006. As a consequence, the IRS has met its burden of proof – unless Kroner was able to prove that the transfers were nontaxable gifts under IRC § 102. See Commissioner v. Glenshaw Glass Co., 348 U.S. 426, 431 (1955).

Thag and Thog Revisited – What is a Gift under IRC § 102?

Unless otherwise excluded, gross income is income from “whatever source derived.” IRC § 61(a). One such exclusion from gross income is the value of property acquired by gift. IRC § 102(a). A gift under IRC § 102 is a transfer that “proceeds from a detached and disinterested generosity,” and which is made due to “affection, respect, admiration, charity or like impulses.” Commissioner v. Duberstein, 363 U.S. 278, 285 (1960).

The watershed consideration in ascertaining whether a gift has been made is the intention of the donor. Id. The courts do not care what the donor says so much as what he did, and why he did it. Stated more like Justice Brennan, the donor’s “characterization of his action” is not controlling or “determinative.” Thus, the Tax Court concludes, the responsibility to make an objective inquiry into whether what is characterized as a gift in fact meets the Duberstein definition of a gift under IRC § 102 rests on the Tax Court’s collective shoulders. Duberstein, 363 U.S. at 286.

A “common law gift” must be distinguished from an IRC § 102 gift. A common law gift requires only a voluntarily executed transfer without consideration. Duberstein, 363 U.S. at 285. So long as the donor had no legal obligation to pay, a transfer is a gift at common law. An IRC § 102 gift, on the other hand, is more narrowly defined and requires more–it requires detached and disinterested generosity. Id. When a donee has rendered services to a donor, a payment for the services is not a gift even if the transferor had no legal compulsion to pay the remuneration. Id.

Although Mr. Haring’s intent, properly testified to by Mr. Haring, could have carried the day for Kroner, and although the Tax Court warned Kroner about the importance of hearing from Mr. Haring himself, Mr. Haring did not show, nor did he testify as to his donative intent. Petitioner instead relies primarily on his own testimony, and that of Mr. Bernstein and Mr. Mitchell, Mr. Haring’s “associate,” to establish Mr. Haring’s intent.

Credibility and Self-Serving Testimony – Not Always Mutually Exclusive (Except in Practice)

Ultimately, the court is a factfinder. United States v. Gainey, 380 U.S. 63, 88 (1965) (Black, J., dissenting) (St. Amand, paraphrasing). Testimonial evidence must first be evaluated for credibility, before it can be evaluated for facts. The leading Tax Court case on the determination of credibility of a witness is the oft-cited Neonatology Assocs., P.A. v. Commissioner, 115 T.C. 43, 84 (2000), aff’d, 299 F.3d 221 (3d Cir. 2002). The Tax Court noted in such case that the Tax Court will not accept the testimony of witnesses at face value if it finds that the outward appearance of the facts in their totality conveys an impression contrary to the spoken word.

When testimony is self-serving, the Tax Court will require corroboration of such testimony. See Stein v. Commissioner, 322 F.2d 78 (5th Cir. 1963), aff’g T.C. Memo. 1962-19. The Tax Court’s determinations of credibility will not be overturned absent clear error. Anderson v. City of Bessemer City, N.C., 470 U.S. 564, 573-74 (1985); United States v. Yellow Cab Co., 338 U.S. 338, 342 (1949); United States v. U.S. Gypsum Co., 333 U.S. 364, 395 (1948). After listening to tales of Mr. Haring’s generosity, the Tax Court found (rather bluntly, though accurately) that Kroner’s testimony was self-serving, and Mr. Mitchell’s and Mr. Bernstein’s testimony was simply not credible.

Further, none of the testimony was supported by credible documentary evidence. In an attempt to corroborate his story, Kroner sought to introduce a note dated January 2005, that purports to be from Mr. Haring regarding his desire to transfer funds to petitioner as a “gift.” Somehow, Kroner was able to get the letter admitted through a hearsay exception, though the court was a bit generous with the application of the rule. See Fed. R. Evid. 803(3) (exception for statements of declarant’s then existing state of mind).

A Hard Pill to Swallow – Effect of Noncompliance by IRS with IRC § 6751(b)(2)

No penalty under the code (failure to file, pay, or deposit being exceptions) may be assessed unless the initial determination of such assessment is personally approved in writing by the immediate supervisor of the individual making such determination or such higher level official as the Secretary may designate. See Graev v. Commissioner, 149 T.C. 485, 492-493 (2017); see also Clay v. Commissioner, 152 T.C. 223, 249 (2019).

Subsequent to trial, but before the opinion was issued, the Tax Court published its opinion in Belair Woods, LLC v. Commissioner, 154 T.C. No. 1, *24-*25) (Jan. 6, 2020), in which it held that the “initial determination” of a penalty assessment is embodied in the document by which the Examination Division formally notifies the taxpayer, in writing, that it has completed its work and made an unequivocal decision to assert penalties.

The Tax Court, after much briefing on the subject, concluded that the IRS made its “initial determination” no later than August 6, 2012, when it delivered the Letter 915, which was the first letter provided to Kroner proposing the accuracy-related penalties and providing Kroner with the opportunity to file a protest to the adjustments with the Appeals Office. See Clay v. Commissioner, 152 T.C. at 249.

Because the initial determination to impose the IRC § 6662 accuracy-related penalties was made no later than August 6, 2012, before the Civil Penalty Approval form was signed on October 31, 2012, the IRS did not satisfy the prior written supervisory approval requirement of IRC § 6751(b)(1), and the substantial penalties assessed against Kroner were unenforceable.

(T.C. Memo. 2020-73) Kroner v. Commissioner

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