Cheshire v. CIR ( 2002 )

Revised March 25, 2002
IN THE UNITED STATES COURT OF APPEALS
FOR THE FIFTH CIRCUIT
_____________________
No. 00-60855
_____________________
KATHRYN CHESHIRE
Petitioner - Appellant
v.
COMMISSIONER OF INTERNAL REVENUE
Respondent - Appellee
_________________________________________________________________
Appeal from the Decision of the United States Tax Court
_________________________________________________________________
February 8, 2002
Before KING, Chief Judge, DAVIS, Circuit Judge, and VANCE,
District Judge.*
KING, Chief Judge:
The Commissioner of Internal Revenue assessed a tax
deficiency and associated penalties against Petitioner -
Appellant Kathryn Cheshire. In the United States Tax Court,
Cheshire asserted claims for innocent spouse relief from the tax
deficiency and penalties under § 6015(b), (c), and (f) of the
*
District Judge of the Eastern District of Louisiana,
sitting by designation.
Internal Revenue Code. 26 U.S.C. § 6015 (Supp. 2001). The Tax
Court denied Cheshire’s request for innocent spouse relief, and
Cheshire appeals that denial. For the following reasons, we
AFFIRM the judgment of the Tax Court.
I. Factual History
The facts in this case are undisputed. Kathryn Cheshire
(“Appellant”) married David Cheshire in 1970. More than twenty
years later, Mr. Cheshire retired from Southwestern Bell
Telephone Company effective January 1, 1992, and received the
following retirement distributions in 1992:
Lump sum distribution $199,771
LESOP for salaried employees 5,919
Savings plan for salaried
employees 23,263
ESOP 971
TOTAL $229,924
Of the $229,924 total distribution, $42,183 was rolled over into
a qualified account and is not subject to federal income tax.
Mr. Cheshire deposited $184,377 of the retirement distributions
into the Cheshires’ joint checking account, which earned $1168 in
interest for 1992.1 Appellant knew of Mr. Cheshire’s receipt of
$229,924 in retirement distributions and of the $1168 in interest
earned on the distributions.
1
The amounts rolled over into the qualified account
($42,183) and deposited in the joint checking account ($184,377)
account for only $226,560 of the retirement distributions. The
unaccounted-for remainder ($3364), although mysterious, is not
significant enough to affect our analysis of the case.
2
The Cheshires made several large disbursements from the
retirement distributions in their joint checking account. They
withdrew $99,425 from this account to pay off the mortgage on
their marital residence, and they withdrew an additional $20,189
to purchase a new family car, a 1992 Ford Explorer. Mr. Cheshire
also used the retirement proceeds to provide start-up capital for
his new business, to satisfy loans taken out to acquire a family
truck and an automobile for the Cheshires’ daughter, to pay
family expenses, and to establish a college fund for the
Cheshires’ daughter. Appellant knew of all these expenditures.
Appellant and Mr. Cheshire filed a joint federal income tax
return, prepared by Mr. Cheshire, for 1992. On line 17a of this
return, they reported the $199,771.05 in retirement
distributions2 but claimed only $56,150.12 of this amount as
taxable. Before signing the return, Appellant questioned Mr.
Cheshire about the tax consequences of the retirement
distributions. Mr. Cheshire replied that John Daniel Mican, a
certified public accountant, advised Mr. Cheshire that retirement
proceeds used to pay off a mortgage are nontaxable. Appellant
accepted this answer and made no further inquiries prior to
signing the return on March 14, 1993. In fact, Mr. Cheshire had
not consulted Mican, and all retirement proceeds that are not
2
This number corresponds to the amount of the lump sum
distribution and excludes the LESOP, ESOP, and savings plan
distributions.
3
rolled over into a qualified account are taxable. Because of Mr.
Cheshire’s persistent problems with alcohol, the Cheshires
permanently separated on July 13, 1993, and they divorced
seventeen months later. The divorce decree awarded Appellant
unencumbered title to the marital residence and to the Ford
Explorer.
The Commissioner of Internal Revenue (the “Commissioner”)
audited the Cheshires’ 1992 return and determined that Mr.
Cheshire had received taxable retirement distributions of
$187,741 – the difference between the total distributions
($229,924) and the rollover ($42,183). Thus, the Cheshires had
understated the amount of their taxable distributions by
$131,591. The Commissioner also determined that the Cheshires
had underreported the interest income earned on the retirement
distributions by $717. Because of these inaccuracies, the
Commissioner imposed a penalty under § 6662(a) of the Internal
Revenue Code.3
II. Procedural History
3
Section 6662(a) provides:
If this section applies to any portion of an
underpayment of tax required to be shown on a
return, there shall be added to the tax an
amount equal to 20 percent of the portion of
the underpayment to which this section
applies.
26 U.S.C. § 6662(a) (Supp. 2001).
4
Appellant commenced this action in the Tax Court. She
conceded that $131,591 of the retirement distributions and the
corresponding earned interest were improperly excluded from
taxable income. She claimed, however, that she was entitled to
relief as an innocent spouse under § 6015(b),4 § 6015(c),5 or
4
Section 6015(b)(1) provides:
[I]f–
(A) a joint return has been made for a
taxable year;
(B) on such return there is an
understatement of tax attributable to
erroneous items of one individual filing
the joint return;
(C) the other individual filing the
joint return establishes that in signing
the return he or she did not know, and
had no reason to know, that there was
such understatement;
(D) taking into account all the facts
and circumstances, it is inequitable to
hold the other individual liable for the
deficiency in tax for such taxable year
attributable to such understatement; and
(E) the other individual elects . . .
the benefits of this subsection not
later than the date which is 2 years
after the date the Secretary has begun
collection activities with respect to
the individual making the election,
then the other individual shall be relieved
of liability for tax (including interest,
penalties, and other amounts) for such
taxable year to the extent such liability is
attributable to such understatement.
26 U.S.C. § 6015(b)(1) (Supp. 2001).
5
Section 6015(c)(1) provides:
[I]f an individual who has made a joint
return for any taxable year elects the
application of this subsection, the
individual’s liability for any deficiency
which is assessed with respect to the return
shall not exceed the portion of such
5
§ 6015(f)6 of the Internal Revenue Code. 26 U.S.C. § 6015.
Prior to trial, the Commissioner conceded that Appellant
qualified for innocent spouse relief with respect to the LESOP
distribution ($5919), the savings plan distribution ($23,262),
and the ESOP distribution ($971). Consequently, the taxable
income from the retirement distributions and the corresponding
earned interest remaining in dispute totaled $101,438 and $691,
respectively. These amounts roughly correspond to the improperly
deducted amounts that the Cheshires used to pay off their
mortgage.
deficiency properly allocable to the
individual under subsection (d).
26 U.S.C. § 6015(c)(1) (Supp. 2001). The general rule under
subsection (d) is that:
[A]ny item giving rise to a deficiency on a
joint return shall be allocated to
individuals filing the return in the same
manner as it would have been allocated if the
individuals had filed separate returns for
the taxable year.
26 U.S.C. § 6015(d)(3)(A) (Supp. 2001).
6
Section 6015(f) provides:
[I]f–
(1) taking into account all the facts
and circumstances, it is inequitable to
hold the individual liable for any
unpaid tax or any deficiency (or any
portion of either); and
(2) relief is not available to such
individual under subsection (b) or (c),
the Secretary may relieve such individual of
such liability.
26 U.S.C. § 6015(f) (Supp. 2001).
6
The Tax Court majority, consisting of twelve judges, denied
Appellant relief under § 6015(b), (c), and (f). Cheshire v.
Comm’r, 115 T.C. 183 (2000). The Tax Court found that Appellant
failed to establish that she “did not know, and had no reason to
know” of the tax understatement as required for relief under
§ 6015(b)(1)(C). Id. at 193. The Tax Court also found that
Appellant was not entitled to relief under § 6015(c) because she
had “actual knowledge . . . of any item giving rise to a
deficiency” within the meaning of § 6015(c)(3)(C).7 Id. at 197.
Finally, the Tax Court held that the Commissioner did not abuse
his discretion in denying Appellant equitable relief under
§ 6015(f) with respect to the retirement distributions and the
interest income, as well as the § 6662(a) penalty associated with
the interest income.8 Id. at 198.
7
Section 6015(c)(3)(C) provides:
If the Secretary demonstrates that an
individual making an election under this
subsection had actual knowledge, at the time
such individual signed the return, of any
item giving rise to a deficiency (or portion
thereof) which is not allocable to such
individual under subsection (d), such
election shall not apply to such deficiency
(or portion).
26 U.S.C. § 6015(c)(3)(C) (Supp. 2001).
8
The Tax Court granted Appellant equitable relief with
respect to the portion of the § 6662(a) penalty associated with
the retirement distributions, however. Id. at 198-99.
7
III. The Statutory Scheme
Generally, spouses who choose to file a joint return are
subject to joint and several liability for tax deficiencies under
the Internal Revenue Code. 26 U.S.C. § 6013(d)(3) (Supp. 2001).
Recognizing that joint and several liability may be unjust in
certain circumstances, Congress authorized relief from such
liability under the “innocent spouse” provision, 26 U.S.C.
§ 6015. Section 6015 provides three distinct types of relief for
taxpayers who file joint returns.9 First, § 6015(b) provides
relief for all joint filers who satisfy the five requirements
listed in that section.10 Second, § 6015(c) allows a spouse who
filed a joint tax return to elect to limit her income tax
liability for that year to her separate liability amount.11
Section 6015(c) applies only to taxpayers who are no longer
married, are legally separated, or do not reside together over a
twelve-month period. 26 U.S.C. § 6015(c)(3)(A)(i). Furthermore,
a spouse who had actual knowledge of an item giving rise to a
9
Relief under the former innocent spouse statute,
§ 6013(e), was difficult to obtain, so Congress repealed
§ 6013(e) and enacted a new provision, § 6015, in 1998. See S.
REP. NO. 105-174, at 55 (1998); H.R. REP. NO. 105-364(I), at 61
(1998). New § 6015(b)(1) provides similar relief to that
available under former § 6013(e). New § 6015(c) and (f),
however, are new forms of relief.
10
See supra note 4 for complete text of 26 U.S.C.
6015(b)(1).
11
See supra note 5 for complete text of 26 U.S.C.
6015(c)(1).
8
deficiency at the time that spouse signed the return may not seek
relief under § 6015(c). 26 U.S.C. § 6015(c)(3)(C).12
Finally, a taxpayer may seek relief as an “innocent spouse”
under § 6015(f), which authorizes the Secretary of the Treasury
(the “Secretary”) or his delegate to grant equitable relief from
joint and several liability when relief is unavailable under
§ 6015(b) and (c).13 Except for the knowledge requirement of
§ 6015(c)(3)(C) (the provision disallowing election of separate
liability to a spouse with actual knowledge of the item giving
rise to the deficiency), the taxpayer bears the burden of proving
that she has met all the prerequisites for innocent spouse
relief. See Reser v. Comm’r, 112 F.3d 1258, 1262-63 (5th Cir.
1997). Section 6015(c)(3)(C) explicitly places the burden of
proof on the Secretary.
IV. Standard of Review
This court reviews decisions of the Tax Court “in the same
manner and to the same extent as decisions of the district courts
in civil actions tried without a jury.” 26 U.S.C. § 7482(a)(1)
(1989 & Supp. 2001). Thus, we review issues of law de novo and
findings of fact for clear error. Park v. Comm’r, 25 F.3d 1289,
12
See supra note 7 for complete text of 26 U.S.C.
6015(c)(3)(C).
13
See supra note 6 for complete text of 26 U.S.C.
6015(f).
9
1291 (5th Cir. 1994). The Tax Court’s determination that a
spouse is not entitled to innocent spouse relief is a finding of
fact that this court reviews for clear error. Reser, 112 F.3d at
1262.
V. Section 6015(b) Relief
Section 6015(b)(1) provides innocent spouse relief if the
taxpayer satisfies all of the five requirements listed in that
section.14 In this case, the parties concede that Appellant
satisfied the requirements of subsections (A), (B), and (E) of
§ 6015(b)(1). Thus, the § 6015(b) issue presented by this case
is whether Appellant satisfied the requirements of subsections
(C) and (D). We conclude that Appellant has not satisfied the
requirement of subsection (C) and thus is not entitled to relief
under § 6015(b).
Subsection (C) allows for innocent spouse relief only if the
spouse “establishes that in signing the return he or she did not
know, and had no reason to know, that there was such
understatement.”15 26 U.S.C. § 6015(b)(1)(C). Originally, the
innocent spouse provision (formerly codified at § 6013(e)(1))
14
See supra note 4 for complete text of 26 U.S.C.
6015(b)(1).
15
Because current subsection (C) of § 6015(b)(1) is
virtually identical to former subsection (C) of § 6013(e)(1), we
may look to cases construing § 6013(e)(1)(C) for help in
construing § 6015(b)(1)(C). See Butler v. Comm’r, 114 T.C. 276,
283 (2000).
10
granted relief only in cases involving omitted income, i.e.,
cases in which the tax return failed to report taxable income.
Since the enactment of the original provision, courts have agreed
that in omitted income cases, the spouse’s actual knowledge of
the underlying transaction that produced the income is sufficient
to preclude innocent spouse relief (the “knowledge-of-the-
transaction test”). Reser, 112 F.3d at 1265.16 In 1984, the
innocent spouse provision was expanded to include relief in
erroneous deduction cases, i.e., cases in which an incorrect
deduction results in an understatement of taxable income. Park,
25 F.3d at 1292. The Tax Court applies the knowledge-of-the-
transaction test to both types of cases, see Bokum v. Comm’r, 94
T.C. 126, 151 (1990), though some circuits have adopted an
alternate test for erroneous deduction cases.17 See, e.g., Price
v. Comm’r, 887 F.2d 959, 965 (9th Cir. 1989); Reser, 112 F.3d at
1267 (Fifth Circuit case).
16
The knowledge-of-the-transaction test conflicts with
the plain meaning of § 6015(b)(1)(C), which limits relief to
spouses with no knowledge of the understatement. Along with
other courts, this court has concluded that this deviation from
plain meaning is justified because it avoids “acceptance of an
ignorance of the law defense.” Sanders v. United States, 509
F.2d 162, 169 n.14 (5th Cir. 1975); see also Price v. Comm’r, 887
F.2d 959, 963 n.9 (9th Cir. 1989).
17
The Tax Court has suggested that if the case is
appealable to a circuit that has adopted a different knowledge
test for erroneous deduction cases, it will apply that circuit’s
knowledge test rather than the knowledge-of-the-transaction test.
See Bokum, 94 T.C. at 151 (declining to follow the Ninth
Circuit’s knowledge standard in erroneous deduction cases “except
in those instances where appeal lies to that Court of Appeals”).
11
The Ninth Circuit was the first circuit to adopt an
alternative knowledge test for erroneous deduction cases. In
Price, the Ninth Circuit established that a spouse fails to
satisfy the § 6015(b)(1)(C) knowledge requirement in erroneous
deduction cases if “a reasonably prudent taxpayer in her position
at the time she signed the return could be expected to know that
the return contained the substantial understatement.” 887 F.2d
at 965. The Ninth Circuit reasoned that since erroneous
deductions are necessarily reported on a tax return, any spouse
who signs the joint return is thereby put on notice that an
income-producing transaction occurred. Id. at 963 n.9. Thus, in
erroneous deduction cases, it would be illogical to bar recovery
for spouses with mere knowledge of the transaction as this would
preclude any spouse from obtaining relief under § 6015(b). Id.
The Ninth Circuit noted that “adoption of such an interpretation
would do violence to the intent Congress clearly expressed when
it expanded coverage of the provision to include relief for
spouses from deficiencies caused by deductions for which there is
no basis in fact or law.” Id.
Thus, under the Price approach, actual knowledge of the
underlying transaction, standing alone, is not enough to preclude
innocent spouse relief under § 6015(b)(1)(C) in erroneous
deduction cases. However, Price notes that if the spouse knows
“virtually all of the facts pertaining to the transaction which
underlies the substantial understatement,” then her defense “is
12
premised solely on ignorance of law,” and “she is considered as a
matter of law to have reason to know of the substantial
understatement.” Id. at 964 (emphasis added).
This court adopted the Price approach and reasoning in
Reser.18 See 112 F.3d at 1267. Accordingly, in erroneous
deduction cases, this court questions whether the spouse “knew or
had reason to know that the deduction in question would give rise
to a substantial understatement of tax on the joint return.” Id.(emphasis in original). However, if the spouse knows enough
about the underlying transaction that her innocent spouse defense
rests entirely upon a mistake of law, she has “reason to know” of
the tax understatement as a matter of law. See Park, 25 F.3d at
1293-94 (noting that ignorance of the law cannot establish an
innocent spouse defense to tax liability); Sanders v. United
States, 509 F.2d 162, 169 & n.14 (5th Cir. 1975). If “reason to
know” cannot be determined as a matter of law, the proper factual
inquiry is “whether a reasonably prudent taxpayer in the spouse’s
position at the time she signed the return could be expected to
know that the stated liability was erroneous or that further
investigation was warranted.” Reser, 112 F.3d at 1267.
18
The Second, Seventh, Eighth, and Eleventh Circuits have
also followed the Ninth Circuit’s decision in Price. See Resser
v. Comm’r, 74 F.3d 1528, 1535-36 (7th Cir. 1996); Bliss v.
Comm’r, 59 F.3d 374, 378 n.1 (2d Cir. 1995); Kistner v. Comm’r,
18 F.3d 1521, 1527 (11th Cir. 1994); Erdahl v. Comm’r, 930 F.2d
585, 589 (8th Cir. 1991).
13
In this case, the Cheshires reported the receipt of
$199,771.05 in retirement distributions on line 17a of their
joint tax return. On line 17b, they reported $56,150.12 as the
taxable amount of those retirement distributions. Mr. Cheshire
led Appellant to believe that he calculated this amount of
taxable income by properly deducting the money placed in a
qualified account ($42,183) and the money used to pay off the
mortgage on their home ($99,425). In fact, only the money placed
in a qualified account was properly excludable from the
Cheshires’ taxable income. Appellant argues that these facts
present a case of erroneous deduction and that the knowledge-of-
the-incorrect-deduction standard is therefore applicable. The
Commissioner argues that this is a case of omitted income and
that the knowledge-of-the-transaction test is therefore
applicable.
This court has not previously determined if such facts
present a case of omitted income or of erroneous deduction, and
we need not do so here because the outcome under either standard
is the same: Appellant knew or had reason to know of the tax
understatement.19 Under the knowledge-of-the-transaction test
applied in omitted income cases, Appellant fails to satisfy
19
This court took the same approach in Park. See Park,
25 F.3d at 1298-99. Because the result in Park was the same
under the knowledge-of-the-transaction test and the new erroneous
deduction test set forth in the Ninth Circuit’s opinion in Price,
this court declined to determine which test applied. Id.14
§ 6015(b)(1)(C) because she had actual knowledge of the
retirement distributions and of the corresponding earned interest
at the time she signed the return.20 In erroneous deduction
cases, this court asks whether Appellant “knew or had reason to
know” that the deduction in question would give rise to a tax
understatement at the time she signed the return. The parties
agree that Appellant did not have actual knowledge that the
deduction was improper. However, because Appellant knew all the
facts surrounding the transaction that gave rise to the
understatement, including the amount of the retirement proceeds,
the account where the proceeds were deposited and drawn upon, the
amount of interest earned on the proceeds, and the manner in
which the proceeds were spent, Appellant had “reason to know” of
the improper deduction as a matter of law. Appellant’s defense
consists only of her mistaken belief that money spent to pay off
a mortgage is properly deductible from retirement distributions.
Ignorance of the law cannot establish an innocent spouse defense
to tax liability. Park, 25 F.3d at 1293-94; Sanders, 509 F.2d at169 & n.14.
Because Appellant “knew or had reason to know” of the
understatement under both the omitted income standard and the
erroneous deduction standard, she fails to establish the
requirement of § 6015(b)(1)(C). This conclusion bars relief
20
This is the result reached by the Tax Court. Cheshire,
115 T.C. at 193.
15
under § 6015(b)(1), obviating the need for this court to decide
whether Appellant satisfied the requirement of § 6015(b)(1)(D).
The Tax Court’s determination that Appellant is not entitled to
innocent spouse relief under § 6015(b)(1) is not clearly
erroneous.
VI. Section 6015(c) Relief
Section 6015(c)(1) allows any divorced (or separated)
individual to elect to assume responsibility for only that
portion of a joint tax deficiency that is properly allocable to
that individual.21 The parties agree that Appellant falls within
the class of taxpayers permitted to make a § 6015(c) election
since she and Mr. Cheshire were divorced when she filed her
petition with the Tax Court. Moreover, neither party in this
case disputes that the deficiency attributable to the retirement
distributions is properly allocable to Mr. Cheshire. Thus, if
this election is available to Appellant, she can avoid liability
for the tax deficiency caused by the retirement distributions.
However, the benefit of the § 6015(c) election is not available
to an individual with actual knowledge of “any item giving rise
to a deficiency.” 26 U.S.C. § 6015(c)(3)(C).22 In order to
21
See supra note 5 for complete text of 26 U.S.C.
6015(c)(1).
22
See supra note 7 for complete text of 26 U.S.C.
6015(c)(3)(C).
16
preclude relief under § 6015(c), the Commissioner must prove by a
preponderance of the evidence that Appellant had actual knowledge
of “any item giving rise to a deficiency.” Culver v. Comm’r, 116
T.C. 189, 196 (2001). Whether the Commissioner satisfied this
burden is the § 6015(c) issue in this appeal.
The debate between the parties focuses on the meaning of the
term “item” in § 6015(c)(3)(C). Appellant argues that “item”
means “incorrect tax reporting of an item of income, deduction,
or credit” so that § 6015(c)(3)(C) only bars relief for spouses
with actual knowledge that an entry on the joint tax return is
incorrect. The Commissioner argues that “item” means “an item of
income, deduction, or credit” so that § 6015(c)(3)(C) bars relief
for all spouses with actual knowledge of the income-producing
transaction, even if they lacked knowledge of the incorrect tax
reporting of that transaction.
The term “item” appears fifteen times in § 6015. Most of
these appearances are uninformative, but the uses of the term
“item” in § 6015(b)(1)(B) and (d)(4) support the Commissioner’s
definition. Section 6015(b)(1)(B) refers to “an understatement
of tax attributable to erroneous items of one individual filing
the joint return.”23 If “item” refers to the “incorrect tax
reporting of an item,” as Appellant asserts, then the reference
to an “erroneous item” is redundant. Thus, § 6015(b)(1)(B)
23
See supra note 4 for the complete text of 26 U.S.C.
§ 6015(b)(1).
17
suggests that “item” means “an item of income, deduction, or
credit,” as the Commissioner asserts. Furthermore, § 6015(d)(4)
refers to “an item of deduction or credit.”24 This use of the
term “item” suggests that the term refers to an actual item of
income, deduction, or credit, rather than the incorrect reporting
of such an item.
Other sections of the Internal Revenue Code define the term
“item” without reference to tax consequences. For example,
§ 61(a) defines “gross income” to include such “items” as
compensation for services, interest, rents, and royalties. 26
U.S.C. § 61(a) (1988 & Supp. 2001). Thus, in this context,
“item” means an item of income. Section 6231(a)(3) defines the
term “partnership item” as “any item required to be taken into
account for the partnership’s taxable year under any provision of
subtitle A . . . .” 26 U.S.C. § 6231(a)(3) (1989 & Supp. 2001).
These uses of the term “item,” as well as those uses appearing in
§ 6015, suggest that “item” means “an item of income, deduction,
or credit.” See Comm’r v. Lundy, 516 U.S. 235, 250 (1996)
(stating that “identical words used in different parts of the
24
Section 6015(d)(4) provides:
If an item of deduction or credit is
disallowed in its entirety solely because a
separate return is filed, such disallowance
shall be disregarded and the item shall be
computed as if a joint return had been filed
and then allocated between the spouses
appropriately. A similar rule shall apply
for purposes of section 86.
26 U.S.C. § 6015(d)(4) (Supp. 2001).
18
same act are intended to have the same meaning”) (internal
citations and quotations omitted). This interpretation supports
the Commissioner’s position that § 6015(c)(3)(C) bars relief for
all spouses with actual knowledge of the income-producing
transaction, even if they lacked knowledge of the incorrect tax
reporting of that transaction.
Furthermore, Appellant’s claim that § 6015(c)(3)(C)
precludes relief only if the spouse has knowledge of incorrect
tax reporting runs afoul of the general rule that ignorance of
the tax laws is not a defense to a tax deficiency. See Park, 25
F.3d at 1293-94 (noting that ignorance of the law cannot
establish an innocent spouse defense to tax liability). In
Sanders, a case applying the predecessor innocent spouse statute,
we noted that the statute “seemingly makes ignorance of the fact
that known receipts constitute taxable income a valid
justification for not knowing or having reason to know of
omissions from gross income.” 509 F.2d at 169 n.14. Rather than
establish an ignorance of the law defense, however, in Sanders we
decided to apply a statutory interpretation that “is difficult to
square with a literal reading of the statutory language” because
“the practical problems that have always prevented acceptance of
an ignorance of the law defense in the criminal law area . . .
arguably apply just as forcefully here.” Id. Unlike the court
in Sanders, we need not overlook the literal meaning of the
statute at issue in this case. As the above discussion
19
illustrates, the plain meaning of § 6015(c)(3)(C) suggests that a
spouse with actual knowledge of the income-producing transaction
cannot receive innocent spouse relief even if she lacks knowledge
of the incorrect tax reporting of that transaction. This reading
of the plain meaning of § 6015(c)(3)(C) is compelling in light of
the general principle that ignorance of the law is not a defense.
To support the theory that “item” means “incorrect tax
reporting of an item,” Appellant and amici curiae point to the
legislative history of § 6015(c)(3)(C). We decline to defer to
this legislative history for two reasons. First, when
interpreting a statute, this court “must presume that a
legislature says in a statute what it means and means in a
statute what it says there.” Conn. Nat’l Bank v. Germain, 503
U.S. 249, 253-54 (1992). Unless the text of a statute is
ambiguous on its face, this court adheres to that statute’s plain
meaning. Id. As the above analysis demonstrates, the text of
§ 6015 and other sections of the Internal Revenue Code strongly
suggests that “item” refers to “an item of income, deduction, or
credit.” Section 6015(c)(3)(C) is not facially ambiguous.
Second, the legislative history of § 6015(c)(3)(C) is
ambiguous. Some portions of the history appear to support the
Commissioner’s position. See S. REP. NO. 105-174, at 55-56, 59;
H.R. CONF. REP. NO. 105-599, at 253 (1998); 144 CONG. REC. 56, S4473
(1998). Other parts of the history, however, suggest that the
§ 6015(c)(3)(C) exception is intended to cover spouses with
20
knowledge of the transaction giving rise to the deficiency in
addition to spouses with knowledge that the tax return is
incorrect. See H.R. CONF. REP. NO. 105-599, at 253; S. REP. NO.
105-174, at 58. We decline to allow inconclusive legislative
history to affect our interpretation of the plain meaning of
§ 6015(c)(3)(C). See Hubbard v. United States, 514 U.S. 695, 708
(1995) (noting that “[c]ourts should not rely on inconclusive
statutory history as a basis for refusing to give effect to the
plain language of an Act of Congress”). Thus, we conclude that
“item” means “an item of income, deduction, or credit,” as
asserted by the Commissioner.25
The Tax Court adopted this definition of “item” and
indicated that the knowledge standard under § 6015(c)(3)(C) in an
omitted income case is “actual and clear awareness” of an item of
income.26 Cheshire, 115 T.C. at 195. Since Cheshire, the Tax
25
This determination is in line with an unpublished Ninth
Circuit opinion holding that the taxpayer’s “actual knowledge of
items of income that were unreported” precluded relief under
§ 6015(c) even though the taxpayer had no knowledge that the tax
return was incorrect. Wiksell v. Comm’r, No. 99-70643, 2000 WL
340130, at *2 (9th Cir. Mar. 28, 2000) (unpublished).
26
Contrary to Appellant’s contention, the Tax Court’s
interpretation of § 6015(c) does not ignore its remedial nature
by improperly substituting the knowledge requirement from
§ 6015(b)(1)(C) (and former § 6013(e)(1)(C)) for the stricter
knowledge requirement of § 6015(c)(3)(C). The knowledge standard
of § 6015(c)(3)(C) requires “actual knowledge.” The Tax Court
interpreted this to mean “actual and clear awareness . . . of the
existence of an item.” Cheshire, 115 T.C. at 195. Unlike former
§ 6013(e)(1)(C) and current § 6015(b)(1)(C), a mere “reason to
know” is not enough to preclude tax relief under § 6015(c).
21
Court has interpreted the knowledge standard in the context of an
erroneous deduction to be “actual knowledge of the factual
circumstances which made the item unallowable as a deduction.”
King v. Comm’r, 116 T.C. 198, 204 (2001). As Appellant is liable
under either standard, we need not determine which standard
applies in this case. Appellant had “actual and clear awareness”
of Mr. Cheshire’s retirement distributions and earned interest.
Thus, she satisfies the § 6015(c)(3)(C) knowledge requirement for
omitted income cases. Furthermore, Appellant was aware of how
the retirement distributions were spent. None of these
expenditures qualifies for proper deduction, so Appellant had
“actual knowledge of the factual circumstances which made the
item unallowable as a deduction.” In such circumstances,
Appellant satisfies the § 6015(c)(3)(C) knowledge requirement for
erroneous deduction cases. Thus, § 6015(c)(3)(C) bars relief
under either the omitted income or the erroneous deduction
knowledge standard, even though Appellant was unaware of the tax
consequences of the deduction. The Tax Court’s determination
that Appellant is not entitled to innocent spouse relief under
§ 6015(c) is not clearly erroneous.
VII. Section 6015(f) Relief
Section 6015(f) confers power upon the Secretary and his
delegate, the Commissioner, to grant equitable relief where a
22
taxpayer is not entitled to relief under § 6015(b) or (c), but
“taking into account all the facts and circumstances, it is
inequitable to hold the individual liable for any unpaid tax or
any deficiency (or any portion of either).”27 In this case,
Appellant argues that the Commissioner improperly denied her
equitable relief with respect to the retirement distributions and
the interest income.28 This court reviews the Commissioner’s
decision to deny equitable relief for abuse of discretion. See
Butler, 114 T.C. at 291-92.29
This court has stated that “[t]he most important factor in
determining inequity is whether the spouse seeking relief
‘significantly benefitted’ from the understatement of tax.”
Reser, 112 F.3d at 1270 (quoting Buchine v. Comm’r, 20 F.3d 173,
27
See supra note 6 for complete text of 26 U.S.C.
6015(f).
28
The Commissioner also denied Appellant equitable relief
with respect to the entire § 6662(a) accuracy-related penalty.
The Tax Court affirmed the denial of equitable relief with
respect to the § 6662(a) penalty associated with the interest
income. Cheshire, 115 T.C. at 198-99. However, the Tax Court
granted equitable relief to Appellant for the portion of the
§ 6662(a) penalty that relates to the retirement distributions.
Id. Neither party appeals these findings.
29
Because the wording of § 6015(f)(1) is virtually
identical to that of former § 6013(e)(1)(D), case law construing
former § 6013(e)(1)(D) is helpful in determining whether the
Commissioner abused his discretion in denying equitable relief to
Appellant under current § 6015(f)(1). See Butler, 114 T.C. at
291 (applying the § 6013(e)(1)(D) standard to a § 6015(f) inquiry
because “the language of section 6015(f)(1) does not differ
significantly from the language of former section
6013(e)(1)(D)”).
23
181 (5th Cir. 1994)). This benefit can be indirect, such as “a
spouse’s receipt of more than she otherwise would as part of a
divorce settlement.” Reser, 112 F.3d at 1270. In the instant
case, Appellant received as part of the divorce settlement the
Cheshires’ marital residence, the value of which was enhanced by
the use of $99,425 in untaxed retirement distributions to pay off
the mortgage. Appellant also received the family car, which was
purchased with retirement distributions. The Commissioner could
have reasonably concluded upon these facts that Appellant
received significant benefit from the tax understatement. Thus,
the Commissioner’s decision to deny equitable relief to Appellant
is sufficiently supported and not an abuse of discretion.
Accordingly, the Tax Court correctly determined that the
Commissioner did not abuse his discretion when he denied
equitable relief to Appellant under § 6015(f) with respect to the
retirement distributions and the interest income.
VIII. CONCLUSION
For all the foregoing reasons, we AFFIRM the judgment of the
Tax Court.
24