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Khan v. United States

November 20, 2008

SHAHID R. KHAN AND ANNC. KHAN, ET AL., PETITIONERS-APPELLEES,
v.
UNITED STATES OF AMERICA, RESPONDENT-APPELLANT.



Appeals from the United States District Court for the Northern District of Illinois, Eastern Division. Nos. 07 CV 2570, 07 CV 2571, 07 CV 2573, 07 CV 2575, 07 CV 2583 & 07 CV 2574-Ruben Castillo, Judge.

The opinion of the court was delivered by: Flaum, Circuit Judge.

ARGUED OCTOBER 31, 2008

Before FLAUM, ROVNER and WOOD, Circuit Judges.

Section 7602(d)(1) of the Internal Revenue Code states: "No summons may be issued under this title, and the Secretary may not begin any action under section 7604 to enforce any summons, with respect to any person if a Justice Department referral is in effect with respect to such person." Interpreting this statute, the district court quashed an IRS summons seeking the testimony of Robert Greisman, CPA in connection with an investigation and audit of petitioners' tax returns. The IRS would not reveal whether it had referred Greisman to the Department of Justice because of his involvement in petitioners' matter.

On appeal, we consider whether § 7602(d)(1) only bars the IRS from summoning taxpayers whose liabilities are at issue and who have been referred to the Justice Department, or whether it also bars the IRS from summoning a third party witness referred to Justice. The IRS Commissioner issued a regulation interpreting the statute as quashing summonses only when there is a Justice Department referral of the person whose tax liability is at issue. Because the IRS Commissioner promulgated this regulation, we evaluate the statute within the Chevron framework. For the reasons explained below, we conclude that the statute is ambiguous and the Treasury Regulation is reasonable, and we reverse the district court's holding.

I. Background

The IRS is examining Shahid and Ann Khan's federal tax returns for the 1999 through 2003 tax years. It also is examining the tax returns of five entities in which Shahid Khan was a common partner, member, or owner: Uviado, LLC; SRK Wilshire Partners, LLC; KPASA, LLC; Jonction, LLC; and SRK Wilshire Investors, LLC ("the entities"). In an affidavit provided by the government, the IRS revenue agent assigned to the case, Larry Weinger, attested that it appeared that the Khans and their entities engaged in at least five transactions that the IRS identified as potentially abusive tax shelters. Weinger stated that "taxpayers appeared to have sheltered approximately $250 million in income over the years at issue, reducing their federal income tax liability by approximately $85 million."

Robert Greisman was an accountant and attorney at the BDO Seidman accounting firm ("BDO"). He was a member of BDO's Tax Solutions Group and an expert in tax shelters. In his affidavit, Weinger stated that Greisman had met with the Khans, provided them with accounting and professional services, and "may have been involved with the execution of the tax shelter transactions during the periods under examination." He said that the petitioners paid BDO $8.5 million in fees that they claimed as expenses on their returns, but that during an interview Shahid Khan was unable to identify what services BDO provided. Khan also was unable to answer many of Weinger's other questions, and he directed Weinger to ask BDO for responsive information.

Based on Weinger's investigation, the IRS issued six summonses to Greisman on April 16, 2007. The summonses sought Greisman's testimony in connection with the IRS investigation of the tax liability of the Khans and their five entities. They required that Greisman appear before Weinger on May 22, 2007.

On May 7, 2007, the petitioners filed petitions to quash the summonses. The petitions were consolidated into one case. Petitioners initially argued that the summonses should be quashed for seven reasons: (1) Greisman's testimony was protected on the grounds of the work product, attorney-client, and tax practitioner privileges; (2) the summonses were barred under res judicata or collateral estoppel; (3) the IRS already possessed all of Greisman's unprotected information; (4) Greisman's testimony was irrelevant because the IRS had reached its audit conclusion already; (5) the summonses improperly sought to circumvent an order in a separate case involving the same parties; (6) the summonses were overly broad and onerous; and (7) the summonses lacked a good faith basis.

The government filed an opposition to the petition to quash, and the United States also moved to enforce the summonses. This motion was accompanied by Weinger's affidavit. Weinger stated that the purpose of the IRS's examination was "to ascertain the correctness of the Khans' tax returns and to determine the Khans' correct federal tax liabilities for the periods in issue." He said Greisman's testimony might shed light on the losses reported on taxpayers' 1999-2003 tax returns and the $8.5 million in fees deducted from taxpayers' income for those years. He combated the various arguments that petitioners made in their petition to quash.

Petitioners, with their reply to the United States' opposition to the petition to quash, filed an opposition to the United States' motion for enforcement of the summonses. They reiterated many of the same arguments addressed in their opening petition. They also argued for the first time that the summonses violated 26 U.S.C. § 7602(d)(1) because the declaration of the revenue agent supporting the United States' motion for enforcement did not state whether the IRS had referred Greisman to the Justice Department. A Justice Department referral is in effect "[w]ith respect to any person if (i) the Secretary has recommended to the Attorney General a grand jury investigation of, or the criminal prosecution of, such person for any offense connected with the administration or enforcement of the internal revenue laws, or (ii) any request is made under section 6103(h)(3)(B) for the disclosure of any return or return information (within the meaning of section 6103(b)) relating to such person." 26 U.S.C. § 7602(d)(2)(A). Petitioners argued that a criminal referral might be in effect for Greisman. In the absence of a statement from the IRS that Greisman was not the subject of a referral, they argued that § 7602(d)(1) barred the IRS from summoning Greisman, a third party witness. Petitioners requested that the district court require the government to disclose Greisman's referral status.

The government, focusing on the language of § 7602(d)(1), responded that the referral provision only bars the IRS from summoning a person whose tax liability is being examined and who has been referred to the Justice Department. The government also pointed to the federal regulation to argue that the IRS Commissioner interpreted the statute to apply to the taxpayer under examination only, and not to a third party. See 26 C.F.R. § 301.7602-1(c)(1).

Additionally, the government stated that 26 U.S.C. ยง 6103 prohibited it from disclosing whether a Justice Department referral was ...


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