In Uncategorized on 11/06/2018 at 16:14

STJ Panuthos has a designated hitter today, examining the fine line between deductible damages and nondeductible fines. Here’s Edwin L. Gage & Elaine R. Gage, Docket No. 23874-17, filed 11/6/18 (and I do hope you US persons voted today).

The problem was a nursing home where Ed & Elaine personally guaranteed a HUD-insured refi. Of course there was a regulatory agreement, which HUD claims Ed & Elaine and partners violated, making away with assets and cash.

This Ed & Elaine strenuously denied, but settled the litigation HUD brought by paying HUD $875K. IRS had sued for double damages per 12 U.S.C. §1715z-4a, as well as “federal common law” damages for wrongful use of the project assets and income.

“The settlement agreement also contained a provision that nothing in the agreement constituted a representation or agreement by the government concerning the characterization of the settlement amount for purposes of the Internal Revenue Code.” Order, at p. 2.

Ed & Elaine took the $875K they paid HUD as a deduction per Section 162(a) “ordinary and necessary.”

IRS says no, it’s a fine.

STJ Panuthos: “Section 162(f), however, proscribes a deduction under section 162(a) for any fine or similar penalty paid to a government for the violation of any law. Section 1.162-21(b)(1)(iii)), Income Tax Regs., defines fine or similar penalty to include an amount paid in settlement of the taxpayer’s actual or potential liability for a civil or criminal fine or penalty. Section 1.162-21(b)(2) of the regulations, on the other hand, provides that compensatory damages paid to a government do not constitute a fine or penalty.” Order, at p. 2.

Awarding double damages is permissible and punishes or deters wrongdoing, but that’s within the trial court’s discretion; this trial court didn’t say anything about that.  And damages for wrongful use (which is unjust enrichment by another name) is compensatory, not punitive or deterrent.

Both Ed & Elaine, and IRS, wants summary J. Neither side is getting it.

“Among other things, upon reviewing the motion papers and materials offered in the instant case by petitioners and respondent, the Court concludes that genuine issues of material fact exist, including as to: (1) the characterization and purpose of the $875,000 settlement payment made by petitioners to the government; (2) whether that $875,000 payment represented compensation to the government or double damages; and (3) if that $875,000 payment represents double damages, whether the parties to the settlement agreement intended the payment to compensate the government for its losses or to deter and punish defendants for their conduct.” Order, at p. 3 (Citations omitted, but one is important.)

In  Frensius [sic; should be “Fresenius”] Medical Care Holdings, Inc. v. United States, 763 F.3d 64, at pp. 69-70 (1st Cir. 2014), 1 Cir blew off IRS’ argument that, absent explicit agreement on tax characterization, the payment is not deductible. If the parties leave the question open, it’s our old friend “what did the parties really settle, not what they say (or didn’t say) they settled.”

See my blogpost “An Unsettling Settlement,” 10/3/11

No summary J.

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