Before discussing the case, I offer this description of tax shelters from my Federal Tax Procedure Book (footnotes omitted):
Abusive tax shelters are many and varied. Some are outright fraudulent, usually wrapped in a shroud of paper work designed to present the shelter as a real deal. The more sophisticated are often without substance but do have some at least attenuated, if superficial, claim to legality. Some of the characteristics that I have observed for tax shelters that the Government might perceive as abusive are that (i) the transaction is outside the mainstream activity of the taxpayer, (ii) the transaction is incredibly complex in its structure and steps so that not many (including specifically IRS auditors) will have the ability, tenacity, time and resources to trace it out to its illogical conclusion (this feature is often included to increase the taxpayer’s odds of winning the audit lottery); (iii) the transaction costs of the arrangement and risks involved, even where large relative to the deal, still have a favorable cost benefit/ratio only because of the tax benefits to be offered by the audit lottery, (iv) the promoters of the adventure make a lot more than even an hourly rate even at the high end for professionals (the so-called value added fee, which is often insurance type compensation to mediate shift potential penalty risks to the tax professional or the netherworld between the taxpayer and the tax professional) and (v) the objective indications as to the taxpayer's purpose for entering the transaction are a tax savings motive rather than any type of purposive business or investment motive. More succinctly, Michael Graetz, a Yale Law Professor, has described an abusive tax shelter as “[a] deal done by very smart people that, absent tax considerations, would be very stupid.” Other thoughtful observers vary the theme, e.g. a tax shelter “is a deal done by very smart people who are pretending to be rather stupid themselves for financial gain.”Blum fits the pattern.
Mr. Blum was a very successful businessman. He was apparently very capable in assessing risks and rewards of financial ventures. Mr. Blum retained KPMG who sold him one of its tax shelter products which it marketed in the 1990s and early 2000s. This particular product was OPIS, a basis enhancement strategy. The abusive basis enhancement strategies claimed to create large amounts of basis without the taxpayer having to incur a cost for the basis. The taxpayer would then use the artificial basis to offset otherwise taxable gain, thereby artificially reducing the tax liability. Mr. Blum got into the deal when he had a large gain that would otherwise be taxed.
When KPMG's representative made the pitch, Mr. Blum "claims he saw an investment opportunity; the Commissioner claims Mr. Blum saw a tax evasion opportunity." (Emphasis supplied.) Mr. Blum bought the pitch and made a representation to KPMG that he was doing the deal for a legitimate nontax business or investment purpose. (That representation was essential to KPMG's participation in implementing the transaction.) Bottom-line, the Tax Court concluded and the Tenth Circuit concluded that the representation was false.