GUY R. BAXTER; LONNIE C. BAXTER, Petitioners - Appellants,
COMMISSIONER OF INTERNAL REVENUE SERVICE, Respondent - Appellee.
Argued: October 31, 2018
from the United States Tax Court. (Tax Ct. No. 016835-08)
Decoursey Aughtry, CHAMBERLAIN, HRDLICKA, WHITE, WILLIAMS
& AUGHTRY, Atlanta, Georgia, for Appellants.
Jennifer Marie Rubin, UNITED STATES DEPARTMENT OF JUSTICE,
Washington, D.C., for Appellee.
D. Hanson, CHAMBERLAIN, HRDLICKA, WHITE, WILLIAMS &
AUGHTRY, Atlanta, Georgia, for Appellants.
Richard E. Zuckerman, Principal Deputy Assistant Attorney
General, Gilbert S. Rothenberg, Arthur T. Catterall, Tax
Division, UNITED STATES DEPARTMENT OF JUSTICE, Washington,
D.C., for Appellee.
KING, DUNCAN, and WYNN, Circuit Judges.
Lonnie Curtis Baxter ("Ms. Baxter") and her husband
Guy R. Baxter (collectively, with Ms. Baxter,
"Taxpayers") appeal an opinion and decision of the
United States Tax Court imposing back taxes and penalties
attributable to Taxpayers' use of what appellee
Commissioner of Internal Revenue (the
"Commissioner") deemed to be an unlawful tax
shelter. See Curtis Inv. Co., LLC v. Comm'r, 114
T.C.M (CCH) 141, 2017 WL 3314283 (2017). On their 2000 tax
return, Taxpayers claimed substantial capital losses
attributable to a Custom Adjustable Rate Debt Structure
("CARDS") transaction, which Taxpayers relied on to
offset capital gains attributable to the sale of their family
business. The Commissioner argued-and the Tax Court
agreed-that the CARDS transaction lacked "economic
substance" and therefore that the Taxpayers improperly
relied on the transaction to offset their capital gains.
After careful review, we affirm the Tax Court's order and
decision in its entirety.
Baxter is the great-granddaughter of Henry Russell Curtis,
the founder of American Business Products, Inc.
("ABP"), a successful printing company. Prior to
the transactions giving rise to the present dispute, Ms.
Baxter directly held several shares of ABP stock. In 1961,
the family formed Curtis Investment Company, LLC
("Curtis Investment"), to hold the family's ABP
stock as well as to engage in other investments. Ms. Baxter
also held a beneficial interest in ABP stock by virtue of her
ownership interest in Curtis Investment. In 1986, Ms. Baxter
became the managing member of Curtis Investment. Ms.
Baxter's son, Henry J. Bird ("Bird"), succeeded
Ms. Baxter as managing member of Curtis Investment in 1998,
and formed an investment committee- on which Ms. Baxter
continued to serve-to oversee Curtis Investment's
February 2000, Curtis Investment and Ms. Baxter sold their
ABP stock as part of the sale of ABP. Ms. Baxter's sale
of her ABP stock generated a $2, 444, 383 long-term capital
gain and a $18, 895 short-term capital gain. Faced with the
prospect of a sizable tax bill attributable to this sale, Ms.
Baxter and Curtis Investment's investment committee
considered multiple approaches to sheltering the gain. One of
Taxpayers' accountants, Barbara Coats, learned of the
CARDS shelter and met with Roy Hahn, founder of Chenery
Associates, Inc. ("Chenery Associates"), who
marketed the CARDS shelter.
and another accountant at her firm, Matt Levin, presented the
CARDS transaction to Bird. Bird asked Coats and Levin and two
lawyers, Thomas Rogers and Ann Watkins, to review the
transaction and its promoters. To that end, the advisers
hired a private investigator to investigate Chenery
Associates and Hahn. As part of its CARDS package, Chenery
Associates marketed a model tax opinion letter prepared by
R.J. Ruble of Brown & Wood LLP, who also served as a
reference for Hahn. Taxpayers' advisers spoke with Ruble
on several occasions regarding the model opinion letter.
After reviewing many, but not all, of the authorities cited
in the letter, but without conducting additional research,
Taxpayers' accountants "independent[ly]"
advised the Taxpayers that they "thought the tax effects
were as outlined in the tax opinion letter." J.A. 2914.
Neither Taxpayers' accountants nor their tax lawyers
provided Taxpayers with separate opinion letters, however.
Rogers walked through the tax effects of the CARDS
transaction with Bird, who then conveyed his understanding of
those effects to Ms. Baxter. Based on this review, Taxpayers
decided to move forward with the CARDS transaction.
CARDS transactions-like all CARDS transactions, see
Kerman v. C.I.R., 713 F.3d 849, 853 (6th Cir.
2013)-proceeded in the following stages: origination,
assumption, operation, and unwinding, Curtis Inv.,
2017 WL 3314283, at *4-6.
origination stage, two residents of the United Kingdom (and,
therefore, not subject to U.S. tax law)-Elizabeth Sylvester
and Michael Sherry-organized a Delaware, LLC: Caledonian
Financial Trading, LLC ("Caledonian"). Sylvester
and Sherry participated in a similar manner in several other
CARDS transactions. On December 14, 2000, Caledonian entered
into a credit agreement with Hypo-Und Vereinsbank, AG
("HVB")-a German bank that regularly facilitated
CARDS transactions-pursuant to which HVB loaned Caledonian
€2.9 million. Caledonian's credit agreement with HVB
had a 30-year term, but HVB retained the right to call the
loan at the end of each year. Interest accrued annually at a
rate equal to 12-month euro LIBOR plus 0.5 percent. Under the
credit agreement, the €2.9 million loan was
more-than-fully collateralized-if Caledonian's collateral
consisted of cash, the agreement obliged Caledonian to
deposit 102% of its loan obligations with HVB, and if
Caledonian's collateral consisted of other assets, the
agreement obliged Caledonian to deposit assets valued at 108%
of its obligations.
deposited eight-five percent (85%) of the proceeds of the
loan in an HVB time-deposit account with a one-year term that
HVB established for Caledonian. Under the then-applicable
dollar-to-euro exchange rate, eighty-five percent of the
€2.9 million loan closely approximated Taxpayers'
approximately $2.4 million expected capital gain from Ms.
Baxter's sale of her ABP stock. HVB dispersed the
remaining loan proceeds- which amounted to fifteen percent
(15%) of the loaned funds-in the form of a one-year
promissory note to Caledonian. Caledonian then pledged the
promissory note and the time deposit-i.e. the entire
proceeds it received from the loan-as collateral. Interest on
both the time deposit and the promissory note accrued at a
rate equal to 12-month LIBOR, meaning that interest accrued
on the time deposit and the promissory note- Caledonian's
entire proceeds from the loan-at a lower rate than
Caledonian paid to borrow those proceeds (4.885% interest
rate on time deposit and promissory note versus 5.335%
interest on Caledonian loan). The loan agreement barred
Caledonian from making withdrawals from its newly-form HVB
account without providing substitute collateral. Caledonian
further contracted not to request release of the collateral.
assumption stage, in late December 2000, Ms. Baxter acquired
the promissory note HVB issued to Caledonian, which
promissory note amounted to fifteen percent (15%) of the loan
proceeds. As part of her acquisition of the promissory note,
Ms. Baxter further agreed to assume 100% of Caledonian's
liability under its loan with HVB on a joint and several
basis. The parties agreed that the funds in Caledonian's
time deposit at HVB would serve as the first source of
payment for Caledonian's obligations under the loan. On
December 28, 2000, Ms. Baxter-who had no prior relationship
with HVB-redeemed the promissory note she purchased from
Caledonian, depositing €435, 000 into a newly formed HVB
account in her name. Ms. Baxter then asked HVB to change the
denomination of the funds in her account from euros to
dollars, at the then-applicable dollar-to-euro exchange rate
of 0.924, yielding approximately $401, 000.
Baxter further entered into a forward exchange contract with
HVB, pursuant to which she was obligated to exchange
approximately $442, 000 for approximately €469, 000
slightly less than one-year later, on December 14, 2001, the
first-year call date for HVB's loan to Caledonian. That
approximately €469, 000 figure was nearly identical to
the amount Caledonian, and therefore Ms. Baxter, would have
to repay HVB if it exercised its contractual right to recall
the loan after one year.
taxpayer's currency exchange and note redemption are
taxable events. Relying on Ms. Baxter's assumption of
joint and several liability with Caledonian for 100% of the
loan proceeds, Taxpayers claimed a $2, 277, 660 loss
(€2.9 million in assumed liability less the €435,
000 in loan proceeds she obtained, converted to dollars at
the then-applicable exchange rate) on their 2000 tax return,
offsetting nearly all their capital gain resulting from Ms.
Baxter's sale of her ABP stock.
operational phase, Canadian Imperial Bank of Commerce
("CIBC")-with which Taxpayers had a long-standing
relationship-issued to Curtis Investment a $6.7 million
letter of credit, with a stated termination date of December
27, 2001. Pursuant to the terms of the agreement, Curtis
Investment was obliged to keep at least $6.7 million in its
accounts at CIBC, meaning that the letter of credit was fully
collateralized. CIBC charged Curtis Investment $241, 000 for
the letter of credit. Ms. Baxter then substituted the letter
of credit as collateral for Caledonian's loan-pledging to
HVB a first priority lien and security interest in the letter
of credit-and in return HVB dispersed $401, 940 to Ms.
Baxter. Notwithstanding that Taxpayers had business
relationships with CIBC and several other banks before they
considered engaging in the CARDS transaction, Taxpayers did
not approach any of those banks about obtaining a loan.
the process to unwind the transaction began on November 13,
2001, when HVB notified Ms. Baxter of its intent to call its
loan to Caledonian. Caledonian's time deposit at HVB
covered most of the outstanding loan balance, with Ms. Baxter
required to pay to HVB approximately €470, 000 to retire
Caledonian's loan. On December 14, 2001, pursuant to her
forward exchange contract, Ms. Baxter exchanged approximately
$442, 000 for approximately €469, 000, which she then
applied against her obligation under the loan and assumption
agreement. That exchange covered all but approximately
€826 of Ms. Baxter's obligation to retire
Caledonian's loan. Taxpayers unsuccessfully sought
replacement loans from several other banks. Ms. Baxter paid
Chenery Associates $154, 375 in fees to facilitate her CARDS
transaction. Put differently, aggregating CIBC's and
Chenery Associates' fees, the Tax Court found that
Taxpayers paid approximately forty-five percent (45%) of the
loan proceeds in fees.
April 8, 2008, the Commissioner issued a notice of deficiency
to Taxpayers for tax years 2000 and 2001, asserting,
inter alia, that Taxpayers could not claim a taxable
capital loss deduction as a result of the CARDS transaction
because, in the Commissioner's view, the transaction
lacked economic substance. The Commissioner further stated
that Taxpayers were liable for forty-percent accuracy-related
penalties for making gross valuation misstatements. Taxpayers
timely filed a petition with the Tax Court.
a four-day trial, during which the parties introduced lay and
expert testimony and evidence, Tax Court Chief Judge L. Paige
Marvel held that Ms. Baxter's CARDS transaction lacked
"economic substance." Curtis Inv., 2017 WL
3314283, at *9-12. In particular, the Tax Court found that
the transaction did not provide Taxpayers "with a
reasonable possibility of profit" and that
Taxpayers' purported investment motive was "not
credible." Id. at *10-11. The Tax Court further
concluded that the Commissioner properly imposed the
accuracy-related penalty because Taxpayers failed to show
that there was a "reasonable cause" for their