Menard, Inc. v. Commissioner , 130 T.C. No. 4 ( 2008 )

130 T.C. No. 4UNITED STATES TAX COURT
MENARD, INC., Petitioner v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
JOHN R. MENARD, Petitioner v.
COMMISSIONER OF INTERNAL REVENUE, Respondent*
Docket Nos. 673-02, 674-02. Filed February 19, 2008.
MI is an accrual basis taxpayer with a fiscal year
ending Jan. 31. S is a cash basis taxpayer who was the
president, CEO, and 89-percent shareholder of MI during
MI’s TYE 1998.
In an earlier opinion, the Court concluded that a
portion of the compensation that MI paid to S during
TYE 1998 was unreasonable and represented a disguised
dividend, and consequently MI was liable for an income
tax deficiency to the extent S’s compensation was not
deductible as an ordinary and necessary business
expense.
*
This Opinion supplements our previously filed opinions in
Menard, Inc. v. Commissioner, T.C. Memo. 2004-207, and Menard,
Inc. v. Commissioner, T.C. Memo. 2005-3.
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The Court also concluded that S was liable for an
income tax deficiency to the extent MI’s payment of
certain expenses was unreasonable in amount and
constituted a constructive dividend to S and S
constructively received interest income on loans he
made to MI.
R filed computations for entry of decision
pursuant to Rule 155, Tax Court Rules of Practice and
Procedure. S and MI objected to R’s computations
because they did not reflect an offset against their
income tax deficiencies equal to the amount of hospital
taxes that S and MI overpaid under secs. 3101(b) and
3111(b), I.R.C., in respect of the portion of S’s
compensation that the Court recharacterized as a
disguised dividend.
After the submission of the computations and
related objections, Congress passed the Pension
Protection Act of 2006 (PPA), Pub. L. 109-280, sec.
858, 120 Stat. 1020, which amended sec. 6214(b),
I.R.C., to provide that the Tax Court may apply the
doctrine of equitable recoupment, effective for any
action or proceeding in the Court with respect to which
a decision has not become final as of Aug. 17, 2006.
Sec. 6214(b), I.R.C., as amended by PPA sec. 858,
provides that the Court has jurisdiction to apply the
doctrine of equitable recoupment to the same extent
that the doctrine is available in civil tax cases
before the District Courts of the United States and the
U.S. Court of Federal Claims.
Held: Where, as here, the Court has original
jurisdiction to redetermine a deficiency pursuant to
sec. 6213(a), I.R.C., the Court may apply the equitable
recoupment doctrine even if the Court lacks subject
matter jurisdiction over the type of tax to which the
equitable recoupment claim is directed.
Held, further: The requirements for establishing
a claim of equitable recoupment are satisfied in this
case, and S and MI are entitled to an offset against
their income tax deficiencies equal to the hospital
taxes that S and MI paid on the portion of S’s
compensation that the Court recharacterized as a
disguised dividend.
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Held, further: Before MI’s income tax deficiency
may be offset by the hospital tax in question, MI must
eliminate or back out the deduction for such hospital
tax that it claimed on its tax return for 1998.
Robert E. Dallman, Vincent J. Beres, and Robert J. Misey,
Jr., for petitioners.
Christa A. Gruber, J. Paul Knap, and Michael Calabrese, for
respondent.
SUPPLEMENTAL OPINION
MARVEL, Judge: This matter is before the Court on
petitioners’ objection to respondent’s proposed Rule 1551
computations submitted in response to our holdings in Menard,
Inc. v. Commissioner, T.C. Memo. 2004-207 (Menard I), and Menard,
Inc. v. Commissioner, T.C. Memo. 2005-3 (Menard II). As
discussed in greater detail below, in Menard I we held that
petitioners are liable for income tax deficiencies for the
taxable year ended (TYE) 1998. In Menard II we denied
petitioners’ motion for reconsideration.
The issue we must decide is whether, under the equitable
recoupment doctrine, petitioners are entitled to an offset
against their income tax liabilities for TYE 1998 equal to the
1
Unless otherwise indicated, all Rule references are to the
Tax Court Rules of Practice and Procedure, and all chapter,
subtitle, and section references are to the Internal Revenue
Code.
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amount of so-called hospital insurance taxes that they overpaid
pursuant to sections 3101(b) and 3111(b) on the portion of
petitioner John R. Menard’s compensation recharacterized in
Menard I as a disguised dividend.
Background
We adopt the findings of fact set forth in Menard I. For
convenience and clarity, we repeat below the facts necessary for
the disposition of this matter, and we supplement those findings
with additional facts as appropriate.
Menard, Inc. (Menards), was incorporated in Wisconsin in
1962 and is engaged primarily in the retail sale of hardware,
building supplies, paint, garden equipment, and similar items.
As of the trial date, Menards had approximately 160 stores in
nine Midwestern States and was one of the nation’s top retail
home improvement chains.
John R. Menard (Mr. Menard) served as president and chief
executive officer of Menards and has been a controlling
shareholder of Menards since its incorporation. During the
period in question, Mr. Menard owned approximately 89 percent of
Menards’s voting and nonvoting stock.
Menards is an accrual basis taxpayer and has a fiscal year
ending January 31 for tax and financial reporting purposes. On
October 15, 1998, Menards timely filed Form 1120, U.S.
Corporation Income Tax Return, for TYE 1998. On October 12,
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2001, respondent sent to Menards a notice of deficiency with
respect to its TYE 1998. Menards timely petitioned this Court
seeking a redetermination of the deficiency.
Mr. Menard is a cash basis taxpayer with a taxable year
ending December 31. Between March 30 and April 15, 1999, Mr.
Menard timely filed Form 1040, U.S. Individual Income Tax Return,
for 1998. On October 12, 2001, respondent sent a separate notice
of deficiency to Mr. Menard with respect to 1998. Mr. Menard
timely petitioned this Court seeking a redetermination of the
deficiency.
The two cases were consolidated for trial, briefing, and
opinion. Following a trial and the submission of posttrial
briefs, we issued our opinion in Menard I holding, among other
things, that Menards was not entitled to a business expense
deduction for a significant portion of the compensation it paid
to Mr. Menard for 1998 because the compensation was unreasonable,
was not paid entirely for personal services, and was properly
characterized as a disguised dividend to Mr. Menard. Separately,
we sustained respondent’s determination that Mr. Menard was
liable for an income tax deficiency to the extent that Menards’s
payment of certain expenses on Mr. Menard’s behalf was
unreasonable and constituted a constructive dividend to Mr.
Menard.
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After we issued our opinions in Menard I and Menard II, we
received and filed respondent’s computation for entry of decision
pursuant to Rule 155 in each of these consolidated cases.
Respondent concluded that (1) Menards owed an income tax
deficiency of $5,720,334 and a penalty of $188,295.60, and (2)
Mr. Menard owed an income tax deficiency of $921,491 and a
penalty of $184,298.20. Petitioners filed a notice of objection
to respondent’s Rule 155 computations in which they alleged that
Menards’s correct income tax deficiency and penalty amounts were
$5,523,488.20 and $188,295.60, respectively, and that Mr.
Menard’s correct income tax deficiency and penalty amounts were
$724,645 and $184,298.20, respectively.2
The parties’ deficiency computations for both Menards and
Mr. Menard differ by $196,845.81, which is the amount of hospital
insurance tax (hospital tax) that Mr. Menard and Menards contend
they overpaid pursuant to sections 3101(b) and 3111(b),
respectively.3 Petitioners contend that, consistent with our
2
We also received and filed respondent’s response to
petitioners’ objection, petitioners’ reply to respondent’s
response, and supplements from both parties.
3
Petitioners’ counsel first raised the question whether
respondent would permit petitioners to offset the amount of any
hospital tax overpayments against any income tax deficiencies
determined by the Court at a meeting in November 2002 and in
correspondence that followed the meeting. At that time,
respondent’s counsel agreed that the matter was purely
computational and it would not be necessary for petitioners to
file an amended petition raising the issue. Under the
(continued...)
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holding in Menard I recharacterizing a portion of the
compensation that Menards paid to Mr. Menard as a constructive
dividend, they overpaid so much of the hospital tax that they
remitted to the Commissioner during 1998 as was attributable to
the constructive dividend. Petitioners argue that, under the
doctrine of equitable recoupment, they are entitled to offset the
amount of their hospital tax overpayments against their
respective income tax deficiencies for TYE 1998 and that they
have met all of the requirements necessary to establish their
equitable recoupment defense.4
Respondent maintains that the Court lacks the authority
under the equitable recoupment doctrine to offset petitioners’
income tax deficiencies by the amounts of their overpaid hospital
taxes because we lack jurisdiction over hospital tax deficiencies
and overpayments. Respondent contends that hospital taxes play
no role in the determination of a deficiency within the meaning
of section 6211 and that neither additional hospital tax
liabilities nor hospital tax overpayments are included in a
3
(...continued)
circumstances, the Court does not consider petitioners’ equitable
recoupment claim to be a “new issue” within the meaning of Rule
155, and respondent does not contend otherwise.
4
Petitioners also asserted that respondent should be
equitably estopped from refusing to consider their overpayments
of hospital tax in the course of computing their correct tax
liabilities. However, petitioners failed to develop this
argument with any specificity, and we decline to address it.
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computation for entry of decision because we lack jurisdiction
over hospital taxes. According to respondent, applying equitable
recoupment in this case “would allow petitioners to slip through
a back door to challenge a tax they could not directly petition
the Court to review.”
Respondent does not dispute the amount by which petitioners
contend they overpaid their hospital taxes, nor does respondent
dispute that the elements necessary for an equitable recoupment
claim are present in this case.5
Neither Menards nor Mr. Menard filed a claim for a refund of
the hospital taxes that they overpaid. The period of
limitations for filing a refund claim has now expired with
respect to both petitioners.
We have not yet entered decisions in these cases, and
consequently no decision has become final within the meaning of
section 7481.
Discussion
These cases present an issue of first impression regarding
the scope of our authority to apply the doctrine of equitable
5
Respondent did not raise any specific challenge to Mr.
Menard’s computations. Respondent does assert, however, that
assuming equitable recoupment is available in this case,
petitioner Menard, Inc., erred in computing the amount of its
income tax deficiency, after accounting for the offset of
hospital tax. We shall discuss this issue in greater detail
below.
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recoupment. Specifically, we must decide whether the tax that is
the subject of a litigant’s equitable recoupment defense must be
one over which we have deficiency and overpayment jurisdiction
under sections 6211 and 6212.
I. Jurisdiction of the Tax Court
A. Deficiency and Overpayment Jurisdiction
Like other Federal courts, the Tax Court is a court of
limited jurisdiction, and it may exercise its jurisdiction only
to the extent authorized by Congress. Naftel v. Commissioner, 85
T.C. 527, 529 (1985). Section 7442 expressly provides that the
Court and its divisions shall have such jurisdiction as is
conferred on them by the Internal Revenue Code and by laws
enacted after February 26, 1926. See Adams v. Commissioner, 70
T.C. 446, 447 (1978); Chatterji v. Commissioner, 54 T.C. 1402,
1406 (1970).
Petitioners each received a notice of deficiency, and they
invoked our jurisdiction by filing a petition for redetermination
of a deficiency under section 6213(a). Section 6214(a) grants us
jurisdiction to redetermine the correct amount of a deficiency
and to determine whether any additional amounts or any additions
to tax should be assessed. Section 6211(a) in relevant part
defines the term “deficiency” as the amount by which the tax
imposed by subtitle A (sections 1 through 1563) or subtitle B
(sections 2001 through 2704), or chapter 41 (sections 4911 and
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4912), chapter 42 (sections 4940 through 4963), chapter 43
(sections 4971 through 4980E), or chapter 44 (sections 4981 and
4982) exceeds the amount shown as the tax by the taxpayer on a
return. Section 6212(a), which authorizes the Commissioner to
issue a notice of deficiency, likewise is limited to a deficiency
in respect of any taxes imposed by subtitle A or B or chapter 41,
42, 43, or 44.
Pursuant to section 6512(b)(1), we also have jurisdiction to
determine the amount of an overpayment6 of tax in limited
circumstances. Our jurisdiction to determine whether there has
been an overpayment is limited to the same taxable year or years
for which the Commissioner has issued a notice of deficiency and
with regard to which the taxpayer has timely filed a petition for
redetermination of the deficiency. Sec. 6512(b)(1). In
addition, our overpayment jurisdiction is limited to determining
an overpayment of income, gift, estate, or excise taxes (and
related interest) imposed by chapter 41, 42, 43, or 44. Sec.
6512(b)(1) and (2). Once we have determined that there is no
deficiency but that the taxpayer has made an overpayment of tax,
or that there is a deficiency but the taxpayer has made an
overpayment of such tax, we have jurisdiction to determine the
6
An “overpayment” of tax is “‘any payment in excess of that
which is properly due.’” See Winn-Dixie Stores, Inc., & Subs. v.
Commissioner, 110 T.C. 291, 295 n.5 (1998) (quoting Jones v.
Liberty Glass Co., 332 U.S. 524, 531 (1947)).
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amount of the overpayment and order a refund of the overpayment,
or to credit the overpayment against the deficiency, if the
requirements of section 6512(b) are satisfied. Sec. 6512(b)(1)
and (2).
B. Jurisdiction Over Hospital Tax
Petitioners’ equitable recoupment defense pertains to
hospital tax imposed by the Federal Insurance Contributions Act,
codified as chapter 21 (sections 3101-3128). Section 3101(b)
imposes a 1.45-percent hospital tax on the wage income of all
employees, which the employer must withhold from the employees’
wages and pay to the Secretary. See secs. 3102(a), 3501. In
addition, section 3111(b) requires employers to pay to the
Secretary a corresponding 1.45-percent hospital tax on all wages
paid to employees. See sec. 3501.
Our deficiency and overpayment jurisdiction (described
above) does not extend to hospital tax imposed under sections
3101 and 3111. Nevertheless, Congress has recently expanded our
jurisdiction with respect to employment tax. In 1997, Congress
passed the Taxpayer Relief Act of 1997, Pub. L. 105-34, sec.
1454(a), 111 Stat. 1055, adding section 7436, which confers
jurisdiction on the Court to review certain determinations made
by the Commissioner regarding employment status (worker
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classification) and the proper amount of employment tax7 under
such determinations.8 Charlotte’s Office Boutique, Inc. v.
Commissioner, 121 T.C. 89, 102-103 (2003), affd. 425 F.3d 1203(9th Cir. 2005); Ewens & Miller, Inc. v. Commissioner, 117 T.C.
263, 267-268 (2001). However, our jurisdiction under section
7436(a) depends upon, and only arises after, a determination of
worker classification by the Secretary. Charlotte’s Office
Boutique, Inc. v. Commissioner, supra at 103. The Secretary has
not made such a determination in this case, and therefore we do
not have original jurisdiction under section 7436 over
petitioners’ claims for hospital tax offsets against their income
tax deficiencies.9
7
Sec. 7436(e) defines the term “employment tax” as any tax
imposed by subtit. C, which encompasses secs. 3101 to 3510. Sec.
7436(a) was amended to give the Court authority to determine the
proper amount of employment tax by the Consolidated
Appropriations Act, 2001, Pub. L. 106-554, app. G, sec. 314(f),
114 Stat. 2763A-643 (2000).
8
Sec. 7436(d)(1) provides that “The principles of
subsections (a), (b), (c), (d), and (f) of section 6213, section
6214(a), section 6215, section 6503(a), section 6512, and section
7481 shall apply to proceedings brought under this section in the
same manner as if the Secretary’s determination described in
subsection (a) were a notice of deficiency.”
9
We also have jurisdiction in a deficiency proceeding to
make a determination under sec. 31, which allows a credit against
income tax for the withholding of excess employment tax as a
result of the taxpayer’s having received wages from more than one
employer. See Chatterji v. Commissioner, 54 T.C. 1402, 1405-1406
(1970); Else v. Commissioner, T.C. Memo. 1984-36; Purdy v.
Commissioner, T.C. Memo. 1982-652. However, sec. 31 is not at
issue in this case and provides no basis for asserting original
(continued...)
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Ordinarily, a taxpayer asserting an overpayment of hospital
tax must file a claim for refund or credit with the Secretary.
See secs. 6402(a), 6413(a); sec. 31.6402(a)-1, Employment Tax
Regs. If the Secretary denies the taxpayer’s claim for refund or
credit, the taxpayer may file suit in Federal District Court or
the Court of Federal Claims to recover any tax alleged to have
been erroneously or illegally assessed or collected. Sec.
7422(a); 28 U.S.C. sec. 1346(a) (2000). In addition, any claim
for a refund or credit must be made within 3 years from the time
the return was filed or 2 years from the time the tax was paid,
whichever of such periods expires later. Sec. 6511(a). No
credit or refund shall be allowed or made after the period of
limitations for filing such a claim expires. Sec. 6511(b)(1).
II. The Equitable Recoupment Doctrine
A. Generally
The doctrine of equitable recoupment is a judicially created
doctrine that, under certain circumstances, allows a litigant to
avoid the bar of an expired statutory limitation period. United
States v. Dalm, 494 U.S. 596, 605 (1990); Bull v. United States,
295 U.S. 247, 262 (1935). The doctrine prevents an inequitable
windfall to a taxpayer or to the Government that would otherwise
result from the inconsistent tax treatment of a single
9
(...continued)
jurisdiction over petitioners’ hospital tax overpayments.
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transaction, item, or event affecting the same taxpayer or a
sufficiently related taxpayer. Estate of Mueller v.
Commissioner, 101 T.C. 551, 552 (1993) (Mueller II);10 see also
United States v. Dalm, supra at 605-606 n.5; Bull v. United
States, supra. Equitable recoupment operates as a defense that
may be asserted by a taxpayer to reduce the Commissioner’s timely
claim of a deficiency, or by the Commissioner to reduce the
taxpayer’s timely claim for a refund. O’Brien v. United States,
766 F.2d 1038, 1049 (7th Cir. 1985); Estate of Mueller v.
Commissioner, supra at 552; Estate of Orenstein v. Commissioner,
T.C. Memo. 2000-150. When applied for the benefit of a taxpayer,
the equitable recoupment doctrine allows a taxpayer to recoup the
amount of a time-barred tax overpayment by allowing the
overpayment to be applied as an offset against a deficiency if
certain requirements are met. Bull v. United States, supra at
259-263; Crop Associates-1986 v. Commissioner, 113 T.C. 198, 200
(1999).
10
In Estate of Mueller v. Commissioner, T.C. Memo. 1992-284,
we redetermined the increased value of certain shares of stock
included in the decedent’s gross estate. In Estate of Mueller v.
Commissioner, 101 T.C. 551 (1993), we denied the Commissioner’s
motion to dismiss for lack of jurisdiction in respect of the
taxpayer’s partial affirmative defense of equitable recoupment.
In Estate of Mueller v. Commissioner, 107 T.C. 189 (1996), affd.
on other grounds 153 F.3d 302 (6th Cir. 1998), we rejected the
taxpayer’s equitable recoupment claim on the ground that
equitable recoupment is restricted to use as a defense against an
otherwise valid claim for a deficiency and the doctrine may not
be used to increase the amount of a tax overpayment where it is
determined that no deficiency exists.
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As a general rule, the party claiming the benefit of an
equitable recoupment defense must establish that it applies. See
Estate of Mueller v. Commissioner, supra at 556. In order to
establish that equitable recoupment applies, a party must prove
the following elements: (1) The overpayment or deficiency for
which recoupment is sought by way of offset is barred by an
expired period of limitation; (2) the time-barred overpayment or
deficiency arose out of the same transaction, item, or taxable
event as the overpayment or deficiency before the Court; (3) the
transaction, item, or taxable event has been inconsistently
subjected to two taxes; and (4) if the transaction, item, or
taxable event involves two or more taxpayers, there is sufficient
identity of interest between the taxpayers subject to the two
taxes that the taxpayers should be treated as one. United States
v. Dalm, supra at 604-605; Estate of Branson v. Commissioner, 113
T.C. 6, 15 (1999), affd. 264 F.3d 904 (9th Cir. 2001); Estate of
Orenstein v. Commissioner, supra.
B. Tax Court Jurisdiction To Apply Equitable Recoupment
We addressed the question of our authority to consider a
claim of equitable recoupment in Mueller II. In that case, we
held that our authority to apply equitable recoupment was
inherent in the jurisdiction conferred on us by statute to
redetermine a tax deficiency. Estate of Mueller v. Commissioner,
supra at 556. We concluded that exercising jurisdiction over the
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taxpayer’s equitable recoupment claim did not require us to
exercise jurisdiction that was beyond the scope of the taxpayer’s
primary claim for redetermination of the deficiency, explaining
that “When a taxpayer raises an affirmative defense to a
deficiency determination, we need no additional source of
jurisdiction to render a decision with respect to the defense.
It is part of the entire action over which we have jurisdiction.”
Id.
In several cases following Mueller II, we reaffirmed our
jurisdiction to consider equitable recoupment as an affirmative
defense in resolving a deficiency proceeding. Estate of Branson
v. Commissioner, supra; Estate of Bartels v. Commissioner, 106
T.C. 430 (1996); Estate of Orenstein v. Commissioner, supra.
The Courts of Appeals that considered whether this Court may
entertain an equitable recoupment claim split on the question.
In Estate of Mueller v. Commissioner, 153 F.3d 302 (6th Cir.
1998), affg. on other grounds 107 T.C. 189 (1996), the Court of
Appeals held that this Court lacked jurisdiction to consider a
claim of equitable recoupment. In contrast, in Estate of Branson
v. Commissioner, 264 F.3d 904 (9th Cir. 2001), the Court of
Appeals reached the opposite conclusion.
For present purposes, any uncertainty regarding the Court’s
authority to apply the equitable recoupment doctrine was
eliminated with the enactment of the Pension Protection Act of
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2006 (PPA), Pub. L. 109-280, sec. 858(a), 120 Stat. 1020, which
amended section 6214(b) by adding a second sentence to the
provision. Section 6214(b) now provides as follows:
SEC. 6214(b). Jurisdiction Over Other Years and
Quarters.--The Tax Court in redetermining a deficiency
of income tax for any taxable year or of gift tax for
any calendar year or calendar quarter shall consider
such facts with relation to the taxes for other years
or calendar quarters as may be necessary correctly to
redetermine the amount of such deficiency, but in so
doing shall have no jurisdiction to determine whether
or not the tax for any other year or calendar quarter
has been overpaid or underpaid. Notwithstanding the
preceding sentence, the Tax Court may apply the
doctrine of equitable recoupment to the same extent
that it is available in civil tax cases before the
district courts of the United States and the United
States Court of Federal Claims.
Section 6214(b), as amended, is effective for any action or
proceeding before the Court with respect to which a decision has
not become final (as determined under section 7481) as of August
17, 2006. PPA sec. 858(b), 120 Stat. 1020. Because no decisions
have been entered in these cases, section 6214(b), as amended,
applies in determining the scope of our authority to apply the
doctrine of equitable recoupment.
There is very little in the way of legislative history
underlying the amendment to section 6214(b). The most complete
statement concerning the amendment is contained in S. Rept. 109-
336, at 97 (2006), which states in pertinent part:
REASONS FOR CHANGE
The Committee believes that it is important to
resolve the conflict among the circuit courts by
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eliminating the uncertainty or confusion of differing
results in differing circuits. The Committee also
believes that the provision will provide simplification
benefits to both taxpayers and the IRS.
EXPLANATION OF PROVISION
[The bill does not include the provision as
approved by the Committee because an identical or
substantially similar provision was enacted into law in
the Pension Protection Act of 2006 (Pub. L. No. 109-
280, sec. 858) subsequent to Committee action on the
bill. The following discussion described the provision
as approved by the Committee.]
The provision confirms that the Tax Court may
apply the principle of equitable recoupment to the same
extent that it may be applied in Federal civil tax
cases by the U.S. District Courts or the U.S. Court of
Claims. * * * [11]
III. Analysis
A. The Scope of the Court’s Jurisdiction To Consider
Equitable Recoupment Claims
Section 6214(b) provides that this Court “may apply the
doctrine of equitable recoupment to the same extent that it is
available in civil tax cases before” other Federal trial courts.
The limited legislative history underlying the recent amendment
to section 6214(b) indicates Congress intended to eliminate
confusion over the Court’s authority to apply the doctrine
11
S. Rept. 109-336 (2006) pertained to S. 1321, 109th Cong.,
2d Sess. (2006) (titled “Telephone Excise Tax Repeal and Taxpayer
Protection and Assistance Act of 2006”). As explained in the
bracketed material contained in the above-quoted portion of the
report, after the Senate Finance Committee’s action on S. 1321,
sec. 6214(b) was amended by the Pension Protection Act of 2006,
Pub. L. 109-280, sec. 858, 120 Stat. 1020. Nevertheless, S.
Rept. 109-336, supra at 97, correctly describes the substance of
the amendment to sec. 6214(b).
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created by conflicting Court of Appeals opinions and to provide
simplification benefits to both taxpayers and the Commissioner.
S. Rept. 109-336, supra at 97; see Staff of Joint Comm. on
Taxation, Technical Explanation of H.R. 4, The Pension Protection
Act of 2006, at 203 (J. Comm. Print 2006).
Respondent acknowledges that section 6214(b) grants the
Court authority to apply the doctrine of equitable recoupment in
appropriate cases. Nevertheless, respondent asserts that we may
not apply the doctrine in this case because our authority is
limited to taxes over which we have deficiency or overpayment
jurisdiction; i.e., income, estate, and gift taxes and excise
taxes imposed under chapters 41, 42, 43, and 44. In support of
his position, respondent attempts to draw parallels between the
first and second sentences of section 6214(b). Specifically,
while the first sentence of section 6214(b) permits us to
consider facts with relation to other taxable years and calendar
quarters in determining the correct amounts of the deficiencies
for the taxable years properly before us, the provision expressly
bars us from exercising jurisdiction to determine whether the tax
for those other taxable years or calendar quarters has been
overpaid or underpaid. As respondent sees it, just as the first
sentence of section 6214(b) limits our jurisdiction, the second
sentence of section 6214(b), which grants us authority to apply
the doctrine of equitable recoupment, should be narrowly
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construed so that our jurisdiction is restricted in all events to
taxes within our original jurisdiction.
Petitioners assert that respondent is attempting to add
words of limitation to the otherwise plain language of section
6214(b). Petitioners maintain that section 6214(b) is broadly
worded and clearly expresses Congress’s intent to put this Court
on equal footing with other Federal trial courts vested with
jurisdiction over civil tax disputes. Petitioners argue that to
the extent other Federal trial courts with jurisdiction over
civil tax cases may apply the doctrine of equitable recoupment in
respect of hospital tax, the Tax Court may do so as well.
As explained below, we reject respondent’s narrow
construction of section 6214(b). Respondent’s position regarding
our authority to apply the doctrine of equitable recoupment
conflicts with the plain language of section 6214(b), its
legislative history, and the policies underlying the doctrine.
When Congress recently amended section 6214(b), it confirmed
in the broadest of terms our authority to apply the doctrine of
equitable recoupment. The plain language of section 6214(b)
offers no justification or support for the narrow construction
that respondent advocates. Section 6214(b) simply states that
the scope of the Court’s authority to apply the doctrine of
equitable recoupment is equal to that of other Federal trial
courts with jurisdiction over civil tax cases. If, as respondent
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suggests, Congress intended to limit the scope of the Court’s
equitable recoupment authority to taxes that normally fall within
the Court’s deficiency and/or overpayment jurisdiction, we are
convinced that Congress would have drafted section 6214(b) to say
so in clear and unambiguous terms.
Nor does the legislative history underlying the amendment to
section 6214(b) provide any support for respondent’s position.
To the contrary, S. Rept. 109-336, supra at 97, indicates that
Congress viewed the amendment to section 6214(b) as a means to
provide clarity and simplification for taxpayers and the
Commissioner alike. The literal interpretation of section
6214(b) that petitioners advocate, under which the Court is
authorized to apply the doctrine of equitable recoupment in
respect of all internal revenue taxes, offers clarity and a
meaningful measure of simplification in that both parties can be
confident that the Court may provide a complete remedy for a
given taxable year. In contrast, respondent’s narrow
construction of the provision would add uncertainty to litigation
and create a category of cases in which equitable recoupment
would not be available in the Tax Court.
Respondent’s narrow construction of section 6214(b) is also
inconsistent with the central policy underlying the doctrine of
equitable recoupment; i.e., to prevent an inequitable windfall to
a taxpayer or the Government that would otherwise result from the
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inconsistent tax treatment of a single transaction, item, or
event. We assume that if the roles were reversed and petitioners
had filed timely refund suits in Federal District Court alleging
that they overpaid their hospital tax, respondent would assert
equitable recoupment and seek to offset some or all of the
claimed refunds by the amount of any income tax petitioners might
owe in connection with the same transaction. Just as a Federal
District Court may apply the doctrine of equitable recoupment in
favor of the Commissioner in the scenario described above,
fundamental fairness suggests that this Court likewise may apply
the doctrine in favor of petitioners under the facts presented in
the instant case. Otherwise, respondent will enjoy an
inequitable windfall due to the inconsistent tax treatment of a
single transaction under two different internal revenue taxes.
As a final matter, we reject respondent’s argument that we
are allowing petitioners to use the doctrine of equitable
recoupment to expand our jurisdiction and introduce hospital tax
into the case “through the back door”. We have consistently held
that “‘While we cannot expand our jurisdiction through equitable
principles, we can apply equitable principles in the disposition
of cases that come within our jurisdiction.’” Woods v.
Commissioner, 92 T.C. 776, 784-785 (1989) (quoting Berkery v.
Commissioner, 90 T.C. 259, 270 (1988) (Hamblen, J., concurring));
see also Estate of Branson v. Commissioner, 113 T.C. at 12;
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Estate of Mueller v. Commissioner, 101 T.C. at 557. In Mueller
II, and in each of the subsequent cases in which we have applied
equitable recoupment, we held that our jurisdiction to
redetermine the disputed deficiency provided the basis for the
Court to consider affirmative defenses, including equitable
recoupment. See Estate of Branson v. Commissioner, supra at 12;
Estate of Bartels v. Commissioner, 106 T.C. 430 (1996); Estate of
Orenstein v. Commissioner, T.C. Memo. 2000-150. In this light,
our authority to consider a claim of equitable recoupment is
merely ancillary to our jurisdiction to redetermine a tax
deficiency and does not unduly expand upon that jurisdiction.
In sum, we conclude there is no requirement in section
6214(b) that, in applying the doctrine of equitable recoupment,
we have original or subject matter jurisdiction over the tax that
the Commissioner or the taxpayer seeks to apply as an offset
against a claimed deficiency or refund. We hold that, if our
jurisdiction is properly invoked upon the filing of a petition
for redetermination of a deficiency, we may apply the doctrine in
respect of any tax imposed under the Internal Revenue Code so
long as the elements necessary to support a claim of equitable
recoupment are established.
B. Application of the Equitable Recoupment Doctrine to the
Facts of This Case
Respondent does not dispute that the elements of equitable
recoupment are present in these cases. See supra p. 8.
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Consequently, we need not discuss the individual elements in any
detail.
We are required, however, to address respondent’s contention
that Menards improperly computed its income tax liability in
connection with the offset of its share of the hospital tax.
Specifically, respondent asserts that, since Menards deducted its
share of the hospital tax on its income tax return for 1998,
Menards must first eliminate or back out that particular
deduction, then recompute its income tax liability in accordance
with the Court’s earlier opinions, and finally offset the
resulting income tax deficiency by the amount of the hospital tax
that it paid under section 3111(b).
Menards disagrees with respondent and cites section 1.461-
2(a)(1), Income Tax Regs., which provides the general rule that
if an asserted liability is contested, the taxpayer transfers
money to satisfy the asserted liability, and, if but for the
contest of the asserted liability, a deduction is otherwise
allowed with regard to the asserted liability, the deduction is
allowed for the taxable year of the transfer. In conjunction
with this provision, section 1.461-2(a)(3), Income Tax Regs.,
provides in pertinent part that the refund of a contested amount
is includable in gross income for the taxable year of receipt, or
for an earlier taxable year if properly accruable for such
earlier year. Although Menards relies on the regulation for the
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proposition that there should be no adjustment to the deduction
for hospital tax that it claimed in 1998, Menards fails to
elaborate on what it considers the “year of receipt” for purpose
of including the “refund” in its income. Menards cites no case
in which the above-referenced regulation was applied in respect
of a claim for equitable recoupment, and we are not aware of any
such precedent.
We conclude that section 1.461-2, Income Tax Regs., is not
dispositive in the particular circumstances of this case, and we
shall adopt respondent’s approach for purposes of completing the
computations in this matter. The effect of our holding
sustaining Menards’s equitable recoupment claim is that Menards
will enjoy the benefit of an otherwise time-barred overpayment
credit in the taxable year 1998. Considering that such relief is
available to Menards only by way of the application of an
equitable principle, we believe that all matters related to the
overpayment credit, including the proper treatment of the
previously claimed hospital tax deduction, should be resolved in
a final decision for the taxable year 1998. In short, the
parties will be directed to provide the Court with correct
computations in accordance with respondent’s position as
described above.
We have considered the remaining arguments of both parties
for results contrary to those expressed herein and, to the extent
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not discussed above, we find those arguments to be irrelevant,
moot, or without merit.
To reflect the foregoing,
An appropriate
order will be issued.