Taxpayers Can't Introduce New Issues through Rule 155 Computations

(Parker Tax Publishing February 2019)

The Tax Court held that taxpayers could not raise new issues in a Rule 155 proceeding and denied their motion to reopen the record to consider such issues. As a result, the court entered decisions consistent with the IRS's Rule 155 computations. Vento v. Comm'r, 152 T.C. No. 1 (2019).

Background

In a prior Tax Court case involving the 2001 federal income tax liabilities of sisters Renee Vento, Gail Vento, and Nicole Mollison, all U.S. citizens, the Tax Court held that the taxpayers were not entitled to foreign tax credits under Code Sec. 901 for amounts paid to the U.S. Virgin Islands. In that case, the taxpayers did not file federal income tax returns for 2001 with the IRS. Rather, in an effort to reduce the tax on their U.S.-source income, they filed territorial income tax returns with the Virgin Islands Bureau of Internal Revenue (VIBIR). They did so purporting to be bona fide residents of the Virgin Islands. Subsequently, each taxpayer stipulated that she was not in fact a bona fide resident of the Virgin Islands during 2001. Those stipulations were consistent with the conclusion reached by the U.S. District Court for the District of the Virgin Islands and affirmed by the Third Circuit in Vento v. U.S., 2013 PTC 71 (3d Cir. 2013).

At issue in these cases were two categories of payments received by VIBIR on the taxpayers' behalf during 2001 and 2002. The first category consisted of payments made directly to VIBIR along with the taxpayers' territorial tax returns filed with VIBIR in October 2002 and their requests for extensions of time to file those returns. The second category of payments consisted of amounts that were "covered into" the Treasury of the Virgin Islands pursuant to Code Sec. 7654(a). Code Sec. 7654(a) generally provides that the net collection of federal income tax for each tax year with respect to an individual who is a bona fide resident of a U.S. possession "shall be covered into the Treasury of the specified possession of which such individual is a bona fide resident." Before filing their territorial income tax returns with VIBIR in October 2002, the taxpayers had made estimated tax payments to the IRS and had federal income tax withheld from their wages. After the taxpayers filed their territorial returns, the IRS "covered into," or transferred to VIBIR, these amounts, as well as certain credits carried forward to 2001 from prior years.

In November 2014, the parties executed stipulations that resolved all but one of the issues involved in these cases. Shortly thereafter, they filed, and the Tax Court granted, a motion for leave to submit the cases for decision without trial. In that motion, the taxpayers agreed that the only unresolved issue was whether the taxpayers were entitled to a foreign tax credit for any payments made to the U.S. Virgin Islands for 2001. It was agreed that a trial was not necessary for the submission of evidence because the parties had stipulated all evidence needed to resolve that one remaining issue.

In their briefs, the taxpayers contended that both categories of payments at issue - the payments they made directly to VIBIR and the payments VIBIR received from the IRS pursuant to Code Sec. 7654 - constituted "taxes paid to the U.S. Virgin Islands." They contended that they were entitled to foreign tax credits under Code Sec. 901 for these alleged tax payments. In Vento v. Comm'r, 147 T.C. No. 7 (2016), the Tax Court rejected the taxpayers' argument. First, it held that the taxpayers had failed to show that the amounts in question constituted "taxes paid" under Code Sec. 901(b)(1). Second, the Tax Court held that, even assuming that the taxpayers had paid taxes to the Virgin Islands, the Code Sec. 904 limitation would bar any credit for 2001.

The Tax Court ordered the taxpayers and the IRS to submit computations of the final tax liability for each taxpayer under Tax Court Rule 155. Their computations were not in agreement. The taxpayers took the position that the amounts at issue, which were not deducible as "taxes paid" for purposes of Code Sec. 901, were deductible as state or local taxes under Code Sec. 164(a)(3), an argument they had not advanced at any prior point in the litigation. The taxpayers moved for leave to amend their petitions under Tax Court Rule 41(b)(1), setting forth a second new legal argument - that payments "covered into" VIBIR by the IRS should be credited dollar-for-dollar against their federal income tax liabilities under Code Sec. 31 - and asserting that both new issues had been tried by consent. The taxpayers then filed a motion to reopen the record to permit the introduction of new evidence relating to their second new legal theory. Specifically, they asserted that their proposed evidence would show that (1) the cover over of tax payments to the Virgin Islands did not preclude them from being credited against their U.S. income tax liabilities and that (2) there was evidence of secret agreements between the IRS and VIBIR.

Tax Court's Analysis

The Tax Court held that the taxpayers could not raise new issues in a Rule 155 proceeding, and their motion to reopen the record was denied. Further, the court held that decisions would be entered that were consistent with the IRS's Rule 155 computations.

According to the court, in asserting that they should be allowed deductions for these VIBIR payments as state or local taxes, the taxpayers were necessarily asserting that Code Sec. 164(a)(3) allows deductions for payments that a taxpayer has no legal obligation to make. That argument, the court said, was unquestionably a "new issue" since the taxpayers had not advanced this contention at any prior point in the litigation, and none of the parties addressed it, in any fashion, before the date on which the taxpayers filed their Rule 155 computations.

With respect to the taxpayers' contention that the payments the IRS had "covered into" VIBIR should be credited dollar-for-dollar against their federal income tax liabilities, the court found that this position contradicted the position the taxpayers had taken throughout the instant litigation, viz., that the amounts "covered into" VIBIR constituted payments of Virgin Islands income tax eligible for foreign tax credits. The taxpayers' new position, the court said, would require the Tax Court to address at least two subsidiary legal questions, neither of which the parties addressed or even mentioned in their briefs. The first concerned the Tax Court's jurisdiction to determine overpayments on the basis of the withholding and other credits the taxpayers were now seeking. The second question would be whether the payments "covered into" VIBIR, once removed from the taxpayers' 2001 accounts, remained available to offset their 2001 U.S. income tax liabilities.

Besides requiring that the Tax Court to address novel legal questions, the taxpayers' current position, the court stated, would require the court to reopen the record to admit new evidence concerning (among other things) alleged "secret agreements" between the IRS and VIBIR. This contradicted the taxpayers' representation, the court said, that the cases did not require a trial for the submission of evidence. The court noted that its established policy is to try all issues raised in a case in one proceeding and to avoid piecemeal and protracted litigation. The court concluded that, because the taxpayers' position would require the court to address novel legal questions and consider new evidence, it constituted a "new issue" within the meaning of Rule 155(c) and the court declined the taxpayers' request to consider a new issue introduced through Rule 155 computations.

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

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