Highland Capital Management, L.P. v. United States

14-3852-cv
Highland Capital Management, L.P. v. United States
UNITED STATES COURT OF APPEALS
FOR THE SECOND CIRCUIT
SUMMARY ORDER
Rulings by summary order do not have precedential effect. Citation to a summary order filed
on or after January 1, 2007, is permitted and is governed by Federal Rule of Appellate
Procedure 32.1 and this Court’s Local Rule 32.1.1. When citing a summary order in a
document filed with this Court, a party must cite either the Federal Appendix or an
electronic database (with the notation “summary order”). A party citing a summary order
must serve a copy of it on any party not represented by counsel.
At a stated term of the United States Court of Appeals for the Second Circuit, held at
the Thurgood Marshall United States Courthouse, 40 Foley Square, in the City of New York,
on the 29th day of September, two thousand fifteen.
PRESENT: JOSÉ A. CABRANES,
ROSEMARY S. POOLER,
REENA RAGGI,
Circuit Judges.
HIGHLAND CAPITAL MANAGEMENT, L.P.,
Petitioner-Appellant, 14-3852-cv
v.
UNITED STATES OF AMERICA,
Respondent-Appellee.
FOR PETITIONER-APPELLANT: WILLIAM M. KATZ, JR. and Richard B.
Phillips, Jr., Thompson & Knight LLP,
Dallas, Texas.
FOR RESPONDENT-APPELLEE: SHANE CARGO (Emily E. Daughtry, on the
brief), Assistant United States Attorneys,
for Preet Bharara, United States Attorney
for the Southern District of New York,
New York, New York.
1
Appeal from an October 9, 2014, memorandum decision and order of the United States
District Court for the Southern District of New York (Colleen McMahon, Judge).
UPON DUE CONSIDERATION WHEREOF, IT IS HEREBY ORDERED,
ADJUDGED, AND DECREED that the order of October 9, 2014 of the District Court be and
hereby is AFFIRMED IN PART AND VACATED AND REMANDED IN PART.
Petitioner-Appellant Highland Capital Management, L.P. (“Highland Capital”) challenges a
decision and order of the District Court denying its motion to quash a third-party summons served
by the Internal Revenue Service (“IRS”) on Barclays Bank PLC (“Barclays”) and granting the IRS’s
cross-motion for enforcement. The IRS had issued the summons seeking documents related to its
audit of Highland Capital (the “2008 audit”), and particularly regarding losses claimed for 2008
related to two transactions with Barclays. On appeal, Highland Capital argues that the District
Court erred in refusing to quash the summons because (1) the IRS failed to provide reasonable
notice in advance of issuing the summons, as required by 26 U.S.C. § 7602(c)(1);1 (2) the summons
seeks privileged and irrelevant documents; and (3) the summons was issued in bad faith or for an
improper purpose. Finally, Highland Capital argues that the District Court erred by refusing to grant
an evidentiary hearing on the question of the IRS’s bad faith. “We review the district court’s factual
findings for clear error and its interpretation of the Internal Revenue Code de novo.” Adamowicz v.
United States, 531 F.3d 151, 156 (2d Cir. 2008). We assume the parties’ familiarity with the underlying
facts and the procedural history of the case.
I. Relevance and Reasonable Notice
The standard set forth in United States v. Powell, 379 U.S. 48 (1964), governs motions to quash
an IRS summons. Under Powell, “[t]he IRS must make a prima facie showing that: (1) the
investigation will be conducted pursuant to a legitimate purpose, (2) ‘the inquiry may be relevant to
the purpose,’ (3) ‘the information sought is not already within the Commissioner’s possession,’ and
(4) ‘the administrative steps required by the [Internal Revenue] Code have been followed.’”
Adamowicz, 531 F.3d at 156 (quoting Powell, 379 U.S. at 57-58). “Once the IRS has established its
prima facie case, ‘the burden shifts to the taxpayer to disprove one of the four Powell criteria, or to
demonstrate that judicial enforcement would be an abuse of the court’s process.’” Adamowicz, 531
1
Section 7602(c)(1) of title 26 provides:
An officer or employee of the Internal Revenue Service may not contact any person
other than the taxpayer with respect to the determination or collection of the tax
liability of such taxpayer without providing reasonable notice in advance to the
taxpayer that contacts with persons other than the taxpayer may be made.
2
F.3d at 156 (quoting Mollison v. United States, 481 F.3d 119, 122 (2d Cir. 2007)). Highland Capital
argues that it has disproved the second and fourth Powell factors relating to relevance and notice.
A. Relevance
Highland Capital contends that the summons seeks irrelevant information insofar as it
requests documents related to transactions other than the two being investigated in connection with
the 2008 audit. In determining relevancy, “[t]his court has consistently held that the threshold the
Commissioner must surmount is very low, namely, ‘whether the inspection sought might have
thrown light upon’ the correctness of the taxpayer’s returns.” Adamowicz, 531 F.3d at 158 (quoting
United States v. Noall, 587 F.2d 123, 125 (2d Cir. 1978)). A court properly “defer[s] to the agency’s
appraisal of relevancy . . . so long as it is not obviously wrong.” Mollison, 481 F.3d at 124 (internal
quotation marks omitted).
Here, the IRS agent conducting the 2008 audit has submitted a declaration explaining that
information about the other transactions was necessary to determine how payments made in
connection with a settlement agreement relate to the two transactions being investigated in the audit.
Highland Capital has provided no reason for us to conclude that the IRS’s appraisal of relevancy was
“obviously wrong,” and we accordingly find that Highland Capital has not satisfied its “heavy”
burden to disprove this Powell factor. Mollison, 481 F.3d at 122-23, 124.
B. Reasonable Notice Pursuant to § 7602(c)(1)
Highland Capital argues that the IRS failed to satisfy the administrative requirement that it
give a taxpayer “reasonable notice in advance . . . that contacts with persons other than the taxpayer
may be made” in the course of an investigation. See note 1, ante. The IRS argues that it satisfied this
requirement in three ways: first, by sending Highland Capital a copy of “Publication 1,” also known
as the “Taxpayer Bill of Rights,” which contains a boilerplate notice that “we sometimes talk with
other persons”; second, by orally notifying Highland Capital during a January 2014 meeting that it
would approach Barclays to obtain the firms’ settlement agreement; and finally, by complying with
the notice provisions of 26 U.S.C. § 7609(a)(1).2 Highland Capital argues, inter alia, that these notices
were insufficiently specific and failed to give it an opportunity to forestall the summons.
2
Section 7609(a)(1) of title 26, which prescribes “special procedures for third-party summonses,”
provides:
If any summons to which this section applies requires the giving of testimony on or
relating to, the production of any portion of records made or kept on or relating to,
or the production of any computer software source code … with respect to, any
person (other than the person summoned) who is identified in the summons, then
3
In Adamowicz, this court applied a “totality of the circumstances” approach to review an
alleged violation of the notice requirement of § 7609, looking first to whether “the IRS acted in bad
faith” and whether “any harm or prejudice … resulted from” the alleged violation before ruling on
whether a violation actually occurred. Adamowicz, 531 F.3d at 161-62.
As we explain below, Highland Capital has failed to establish the IRS’s bad faith. Nor has it
shown that any harm resulted from the alleged violation. Highland Capital argues “that when the
IRS contacts a third party about a taxpayer’s audit, that contact can chill the taxpayer’s relationship
with the third party.” Appellant Br. 20-21. Here, however, the IRS first contacted Barclays about the
audit three months before issuing the summons. “Highland Capital [does] not argue that it suffered
any harm from” that initial contact, Appellant Br. 23, and it offers no reason why later contact might
have been less benign.
Even if, as Highland Capital argues, Adamowicz’s focus on bad faith and resulting harm does
not extend to § 7602(c)(1) challenges, it is not entitled to relief. We conclude, as the District Court
did, that regardless of whether Publication 1 satisfies § 7602(c)(1), the oral notice provided to
Highland Capital during the January 2014 meeting was sufficient to satisfy that statutory
requirement. Highland Capital does not dispute that during that meeting, in discussing Highland
Capital’s refusal to provide its settlement agreement with Barclays, the IRS informed Highland
Capital that the IRS would contact Barclays to obtain the agreement. Nor does Highland Capital
dispute that oral notice is sufficient under § 7602(c)(1). See 26 C.F.R. § 301.7602-2(d)(1). Rather,
Highland Capital argues that this notice did not satisfy § 7602(c)(1) because it did not inform
Highland Capital that the IRS would seek from Barclays the specific documents requested in the
third-party summons. Highland Capital, however, points to no language in § 7602(c)(1) requiring
that a taxpayer receive (1) separate notice before each third-party contact, or (2) advance notice of
the specific documents that will be requested from the third-party.3 Rather, § 7602(c)(1) requires
only that a taxpayer receive “reasonable notice in advance . . . that contacts with persons other than
the taxpayer may be made.” See note 1, ante (emphasis added). The IRS satisfied this notice
requirement before issuing the third-party summons to Barclays in May 2014.
notice of the summons shall be given to any person so identified within 3 days of the
day on which such service is made, but no later than the 23rd day before the day
fixed in the summons as the day upon which such records are to be examined. Such
notice shall be accompanied by a copy of the summons which has been served and
shall contain an explanation of the right under subsection (b)(2) to bring a
proceeding to quash the summons.
3
Highland Capital, as the taxpayer identified in the third-party summons, received a copy of the
summons pursuant to § 7609(a)(1)’s notice requirement. See note 2, ante. Highland Capital does not
contend that the IRS failed to comply with that statutory requirement.
4
II. Privilege
Highland Capital asserts that the third-party summons seeks privileged material. In addition
to seeking to quash a summons by disproving one of the Powell factors, a taxpayer may urge that
action “on any appropriate ground,” United States v. Clarke, 134 S. Ct. 2361, 2365 (2014) (internal
quotation marks omitted), including the protection of “attorney-client privilege,” Reisman v. Caplin,
375 U.S. 440, 449 (1964).
We review a District Court’s rulings on claims of privilege for abuse of discretion. United
States v. Adlman, 68 F.3d 1495, 1499 (2d Cir. 1995). “A district court has abused its discretion if it
based its ruling on an erroneous view of the law or on a clearly erroneous assessment of the
evidence, or rendered a decision that cannot be located within the range of permissible decisions.” In
re Sims, 534 F.3d 117, 132 (2d Cir. 2008) (internal quotation marks, alteration, and citation omitted);
see also In re The City of New York, 607 F.3d 923, 943 n.21 (2d Cir. 2010) (explaining that “abuse” is a
nonpejorative “term of art”).
Highland Capital argues that the documents sought from Barclays may contain material
subject to the attorney-client, work-product, or tax-practitioner privileges. The IRS responds that it
is “highly unlikely” that Barclays holds any privileged material, but it does not deny that privileged
materials may exist. Appellee Br. 41.
“[C]ompelled disclosure of privileged attorney-client communications, absent waiver or an
applicable exception, is contrary to well established precedent.” In re Dow Corning Corp., 261 F.3d
280, 284 (2d Cir. 2001).When parties disagree whether a privilege applies, courts often review the
contested material in camera. See, e.g., United States v. Zolin, 491 U.S. 554, 574-75 (1989); In re Grand Jury
Subpoenas Dated Mar. 19, 2002 & Aug. 2, 2002, 318 F.3d 379, 386 (2d Cir. 2003). In contrast,
“requiring a litigant to turn over documents subject to a claim of attorney-client privilege to
opposing counsel, without a judicial ruling on the merits of the claim, will undermine the attorney-client
privilege” and is therefore impermissible. See Chase Manhattan Bank, N.A. v. Turner & Newall, PLC,
964 F.2d 159, 166 (2d Cir. 1992) (emphasis added).
The District Court’s failure to consider and rule expressly on the question of privilege
constitutes error, and we vacate the District Court’s determination on this issue and remand for
reconsideration, see Estate of Fisher v. C.I.R., 905 F.2d 645, 651 (2d Cir. 1990); cf. United States v.
Adlman, 134 F.3d 1194, 1203 (2d Cir. 1998) (vacating and remanding where it was unclear what
standard the district court used in finding the work-product doctrine inapplicable), including
whatever in camera review of the documents at issue may be appropriate in the circumstances
presented.
5
III. The IRS’s Alleged Bad Faith
Courts will not enforce an IRS summons that is “issued for an improper purpose” or in bad
faith. Adamowicz, 531 F.3d at 159-60 (quoting Powell, 379 U.S. at 58). To meet its “heavy” burden of
quashing a subpoena for this reason, a taxpayer must allege “specific facts from which a court might
infer a possibility of some wrongful conduct by the Government.” Id. at 160 (emphasis deleted).
Here, Highland Capital argues bad faith by reference to three specific allegations: (1) that the
IRS contacted Barclays despite knowing of its “acrimonious relationship” with Highland Capital, in
order to damage their relationship; (2) that the IRS breached several agreements regarding the scope
and timing of its audits; and (3) that the IRS failed to communicate with Highland Capital regarding
a Chief Counsel Advice request. The first allegation is unsupported by the record, which suggests
only that the IRS preferred to seek documents from a more cooperative source. Highland Capital
has “failed to show how” its second and third allegations are “tied to the summons[ ] at issue
beyond the fact that they are loosely all part of the same tax investigation.” Id.; cf. Appellant Br. 33
(denying the need to show any nexus between the summons and the IRS’s improper conduct). The
District Court found that Highland Capital failed to meet its burden, and we cannot say that it erred,
much less committed clear error, in doing so. See Adamowicz, 531 F.3d at 160.
IV. The Right to an Evidentiary Hearing
Even if a taxpayer cannot meet the burden of showing bad faith, it is entitled to an
evidentiary hearing on the matter if it “points to specific facts or circumstances plausibly raising an
inference of bad faith.” Clarke, 134 S. Ct. at 2365. We review the court’s decision not to grant a
hearing for “abuse of discretion.” Id. at 2368.
The District Court found that Highland failed to introduce credible evidence raising a
plausible inference of bad faith. In doing so, the court applied the correct legal standard, and we
cannot say it erred in its assessment of the evidence.
CONCLUSION
We have reviewed the parties’ remaining arguments and find them to be without merit. For
the foregoing reasons, we VACATE the District Court’s order insofar as it denied Highland
Capital’s claims of privilege and REMAND the cause to the District Court to consider whether an
in camera hearing is appropriate and, if so, to conduct such a hearing to determine whether the
documents sought from Barclays are privileged. We otherwise AFFIRM the October 9, 2014 order
of the District Court.
FOR THE COURT:
Catherine O’Hagan Wolfe, Clerk
6