The opinion of the court was delivered by: Patel, Chief Judge.
In 1995, plaintiffs Leonard Adkerson, Merrilyn Barker and others
(collectively "plaintiffs"), brought these actions against defendant
United States of America ("government") alleging that the government
collected tax penalties from plaintiffs under 26 U.S.C. § 6621 (c)
without proper authority.*fn1 Now before the court is the government's
motion for summary judgment. Having considered the parties arguments and
submissions, and for the reasons set forth below, the court enters the
following memorandum and order.
Gold Depository and Loan Company, Inc. ("GD & L") devised and operated
a tax shelter called the Dry Cargo Marine Container Purchase Program ("GD
& L program") under which a typical investor might buy $100,000 worth of
marine cargo containers with just $4,000 down.*fn2 GD & L arranged for
financing of the unpaid balance. GD & L advised investors that they could
then take an investment tax credit of 10% or $10,000, as well as a
depreciation deduction of $15,000, on their tax return for the year of
As described in the court's memorandum and order of July 22, 1996
denying the government's motion to dismiss for failure to state a claim,
plaintiffs were limited partners in either Sunshine Transportation Systems
("Sunshine"), Stanley Transport Services ("Stanley"), STS Trucking
Service ("STS"), Shamrock Transport Service ("Shamrock"), H.V.
Enterprises ("H.V."), or in a combination of these partnerships.
Sunshine, Stanley, STS, and Shamrock (collectively "the trucking
partnerships") were formed in 1982. H.V. was formed in 1983. Plaintiffs
invested in the trucking partnerships and H.V. predominantly for economic
profit rather than for tax savings.
Under the control of general partner Harold Coffin ("Coffin"), the
trucking partnerships invested approximately half their funds in the GD &
L program, with the understanding that GD & L would facilitate the
trucking partnerships' purchase and lease of dry cargo marine
containers. The trucking partnerships invested the remaining portion of
their funds in heavy trucks and trailers, a venture related to
plaintiffs' goal of purchasing and leasing cargo containers. H.V. invested
approximately half its funds in GD & L and half in a company that
manufactured and sold tape recorders.
In their 1982 tax returns, plaintiffs who had invested in the trucking
partnerships claimed tax credit and losses pursuant to information
received from the trucking partnerships regarding investments in the GD &
L program. Some of the plaintiffs carried back investment tax credits to
1979, 1980 and 1981. In their 1983 tax returns, those plaintiffs who
invested in H.V. claimed tax credits and deductions pursuant to
information received from H.V. regarding investments in the GD & L
program. Some of these plaintiffs carries back investment tax credits to
1980, 1981 and 1982.
In 1984, pursuant to 26 U.S.C. § 6221, 6223, the Commissioner of
the Internal Revenue Service ("I.R.S.") began an audit of the trucking
partnerships. The next year, under the same authority, the I.R.S. began an
audit of H.V. After discovering that the entire GD & L program was a
fraud, namely because GD & L never purchased any cargo containers, the
I.R.S. disallowed all the tax credits and many of the losses claimed by
plaintiffs in connection with GD & L. The I.R.S. also assessed penalties
pursuant to former Internal Revenue Code ("I.R.C.") section 6621(c),
codified at 26 U.S.C. § 6621 (c).*fn3 In making the penalty
assessments, the I.R.S. calculated interest on the disallowed credits and
losses at the increased rate reserved for tax-motivated investments.
Plaintiffs paid the penalties in full but thereafter filed claims with
the I.R.S. for a refund of the payments. The I.R.S. denied those claims.
Plaintiffs admit that no dry cargo containers ever existed, but claim
that they were victims of GD & L's fraud, not knowing participants.
Plaintiffs contend that on Coffin's advice they invested in the trucking
partnerships and H.V. in good faith, and only subsequently learned that
the containers did not exist. As evidence of their good faith and profit
motive, plaintiffs who invested in the trucking partnerships maintain
that these partnerships actually purchased trucks and semi-trailers and
operated a trucking business. These plaintiffs claim that this part of the
partnerships' business operated at a profit for approximately two years.
In November 1995, plaintiffs filed these actions pursuant to
26 U.S.C. § 7422, which permits certain actions "for the recovery
. . . of any penalty claimed to have been collected without authority."
26 U.S.C. § 7422 (a). Plaintiffs claim that the government had no
authority to assess the tax penalties because plaintiffs did not invest
in the trucking partnerships or H.V. to achieve tax savings.
The I.R.C. provides that if a "tax imposed by [the Code] is not paid on
or before the last date prescribed for payment, interest on such amount
at the underpayment rate established under section 6621 shall be paid for
the period from such last date to the date paid." 26 U.S.C. § 6601
(a). 26 U.S.C. § 6621 (c) imposes an increased rate of interest for
"any substantial underpayment attributable to tax motivated
transactions." 26 U.S.C. § 6621 (c)(1) (imposing interest rate of
"120 percent of the underpayment rate established under this
subsection"). The statute defines "substantial underpayment attributable
to tax motivated transactions" as "any underpayment of taxes for any
taxable year which is attributable to 1 or more tax motivated
transactions if the amount of the underpayment for such year so
attributable exceeds $1,000." 26 U.S.C. § 6621 (c)(2). Tax motivated
transactions include "any sham or fraudulent transaction."
26 U.S.C. § 6621 (c)(3)(A)(v).
"A transaction is a sham if it has no purpose or economic effect other
than the creation of a tax deduction." Bail Bonds by Marvin Nelson v.
Commissioner, 820 F.2d 1543, 1548 (9th Cir. 1987); see also Sochin v.
Commissioner, 843 F.2d 351, 354 (9th Cir. 1988) (to find that a
transaction was a sham, court must determine "whether the transaction had
any practical economic effects other than the creation of income tax
losses"). In this inquiry, courts "typically focus on the subjective
aspect of whether the taxpayer intended to do anything other than acquire
tax deductions, and the objective aspect of whether the transaction had
any economic substance other than creation of tax benefits." Sacks v.
Com1missioner, 69 F.3d 982, 987 (9th Cir. 1995); see also Casebeer v.
Commissioner, 909 F.2d 1360, 1363 (9th Cir. 1990) (quoting Bail Bonds,
820 F.2d at 1549) (in determining whether transaction is a sham court
asks: 1) has the taxpayer shown that it had a business purpose for
engaging in the transaction other than tax avoidance? 2) has the taxpayer
shown that the transaction had economic substance beyond the creation ...