Townsend Article on Burden of Proof and Valuation in Tax Cases (12/9/19)

Caveat:  The ABA Tax Lawyer publication has published my article:  John A. Townsend, Burden of Proof in Tax Cases: Valuation and Ranges—An Update, 73 Tax Lawyer 389 (2020).  I have posted the article as published to SSRN where it can be reviewed or downloaded in pdf format.  The suggested citation on SSRN and the link for review or downloading is:  Townsend, John A., Burden of Proof in Tax Cases: Valuation and Ranges — An Update (2020). 73 Tax Lawyer 389, 2020. Available at SSRN: https://ssrn.com/abstract=3599481.  The final published article supersedes the draft and should be the one consulted going forward.

I have posted on SSRN a draft of an article, titled  Burden of Proof in Tax Cases: Valuation and Ranges - an Update, I have submitted to the ABA Tax Lawyer for publication.  The SSRN posting where the draft can be downloaded is here.

The SSRN Abstract is:

In this article, I update a previous article, John A. Townsend, Burden of Proof in Tax Cases: Valuations and Ranges, 2001 TNT 187-37 (2001). I discuss the difficulty in many valuation cases of determining a finite valuation point by the required degree of persuasion (more likely than not in most civil cases). This point was made cogently in a frequently cited opinion of by the Delaware Court of Chancery (which I quote in the next paragraph): 

It is one of the conceits of our law that we purport to declare something as elusive as the fair value of an entity on a given date. Valuation decisions are impossible to make with anything approaching complete confidence. Valuing an entity is a difficult intellectual exercise, especially when business and financial experts are able to organize data in support of wildly divergent valuations for the same entity. For a judge who is not an expert in corporate finance, one can do little more than try to detect gross distortions in the experts' opinions. This effort should, therefore, not be understood, as a matter of intellectual honesty, as resulting in the fair value of a corporation on a given date. The value of a corporation is not a point on a line, but a range of reasonable values, and the judge’s task is to assign one particular value within this range as the most reasonable value in light of all the relevant evidence and based on considerations of fairness.

Sometimes where ranges are identified, arbitrary conventions (such as the midpoint as in the case of publicly traded stock) can be used to determine the issue in litigation. But where there is no such convention that should be applied, the burden of persuasion can resolve the case by identifying the range. The party bearing the burden of persuasion (or risk of nonpersuasion) then has persuaded only as to the end of the range that does not favor that party and the value, based on persuasion, is determined accordingly. 

The party bearing the burden of persuasion in tax cases is usually the taxpayer. In the article, I discuss interesting features of the burden and how, at least in the Tax Court, the burden of persuasion might shift to the Commissioner under Helvering v. Taylor, 293 U.S. 507 (1935), which I think is often misunderstood. 

Another benefit of identifying the range is that, if it is determined on appeal that the trier of fact misapplied the burden of persuasion but did identify the range, the court of appeals can resolve the case by picking the other end of the range (unless a successful attack is made on the choice of the ends of the range).

The purpose of the advance publication on SSRN is to advised the community of the article and solicit comments for those wishing to make them.  I find that comments will help me make final revisions that make the final publication better.  Thanks in advance.

The SSRN listing for all of my articles is here.

Good Discussion of the Burden of Proof When the Trier of Fact Bases Decision on a Preponderance of the Evidence (12/17/15)

A case decided yesterday by the Fifth Circuit has a pretty good discussion on the effect of § 7491's shift of the burden of proof when the Tax Court may have improperly assigned the burden of proof under that section but had decided the case based on a preponderance of the evidence.  Brinkley v. Commissioner, ___ F.3d ___, 2015 U.S. App. LEXIS 21838 (5th Cir. 2015), here.

This is cumulative to what I state in the text book, but is probably a good reminder for students and new practitioners.  I incorporate the entire discussion on that subject:

A. The Allocation of the Burden of Proof 

"The allocation of the burden of proof [under I.R.C. § 7491] is a legal issue reviewed de novo." Whitehouse Hotel Ltd. P'ship v. Comm'r, 615 F.3d 321, 332 (5th Cir. 2010) (quoting Marathon Fin. Ins., Inc., RRG v. Ford Motor Co., 591 F.3d 458, 464 (5th Cir. 2009)). 

As a general rule, the Commissioner's determination of a tax deficiency is presumed correct, and the taxpayer has the burden of proving the determination to be erroneous. See Tax Ct. R. 142(a); Welch v. Helvering, 290 U.S. 111, 115 (1933). However, I.R.C. §§ 6201(d) and 7491(a) set forth exceptions to this rule. Under § 6201(d), "if a taxpayer asserts a reasonable dispute with respect to any item of income . . . and the taxpayer has fully cooperated with the Secretary . . ., the Secretary shall have the burden of producing reasonable and probative information concerning such deficiency." Similarly, under § 7491(a), if "a taxpayer [(1)] introduces credible evidence with respect to any factual issue relevant to ascertaining the liability of the taxpayer for any tax," n7 (2) complies with certain substantiation requirements, (3) "maintain[s] all records required under this title," and (4) "cooperate[s] with reasonable requests by the Secretary for witnesses, information, documents, meetings, and interviews," then "the Secretary shall have the burden of proof with respect to such issue." Nevertheless, this Court has held that the operation of this burden-shifting scheme is irrelevant when both parties have met their burdens of production and the preponderance of the evidence supports one party. See Whitehouse Hotel, 615 F.3d at 332; Knudsen v. Comm'r, 131 T.C. 185, 189 (2008) ("[A]n allocation of the burden of proof is relevant only when there is equal evidence on both sides.").
   n7 Although this Court has yet to speak on what constitutes "credible evidence," the Eighth and Tenth Circuits have defined the term to mean "the quality of evidence, which after critical analysis, the court would find sufficient upon which to base a decision on the issue if no contrary evidence were submitted. . . ." Blodgett v. Comm'r, 394 F.3d 1030, 1035 (8th Cir. 2005) (quoting Griffin v. Comm'r, 315 F.3d 1017, 1021 (8th Cir. 2003)); accord Rendall v. Comm'r, 535 F.3d 1221, 1225 (10th Cir. 2008) (citing Blodgett, 394 F.3d at 1035). 

Here, the tax court initially found that Brinkley "did not introduce credible evidence regarding the tax character of the income in issue that merited a shifting of th[e] burden [of proof] to [the Commissioner]" under §§ 6201(d) and 7491(a). But the court ultimately declined to hold Brinkley to his burden, concluding instead that "[t]he preponderance of the evidence, without regard to burden of proof, is that [under letter agreement II] petitioner received the value of his stock and compensation for service previously rendered or to be rendered in the future." Accordingly, the resolution of this issue turns on the tax court's finding that the preponderance of the evidence supports the Commissioner's position that the $3.1 million payout in letter agreement II amounted to compensation for both his stock and his services to Zave and/or Google -- and therefore was properly characterized as ordinary income. 

We agree with the tax court's finding that the preponderance of the evidence favors the Commissioner's deficiency determination, so any error in the court's allocation of the burden of proof is harmless. See Whitehouse Hotel, 615 F.3d at 332; Blodgett v. Comm'r, 394 F.3d 1030, 1039 (8th Cir. 2005).

Addendum 12/18/15 9:00am: