                             T.C. Memo. 2017-217



                       UNITED STATES TAX COURT



 BILLY F. HAWK, JR., GST NON-EXEMPT MARITAL TRUST, TRUSTEE,
TRANSFEREE, NANCY SUE HAWK AND REGIONS BANK, CO-TRUSTEES,
                       ET AL.,1 Petitioners v.
        COMMISSIONER OF INTERNAL REVENUE, Respondent



      Docket Nos. 30024-09, 30025-09,            Filed November 6, 2017.
                 30026-09, 30515-09.



      Dale C. Allen, J. Eric Butler, Ashley H. Morgan, and Katherine S. Goodner,

for petitioners in docket Nos. 30024-09, 30025-09, and 30026-09.

      John P. Konvalinka and William L. Konvalinka, for petitioner in docket No.

30515-09.

      Rebecca Dance Harris and W. Benjamin McClendon, for respondent.


      1
       Cases of the following petitioners are consolidated herewith: Estate of
Billy F. Hawk, Jr., Trustee, Transferee, Nancy Sue Hawk and Regions Bank, Co-
Executors, docket No. 30025-09; Billy F. Hawk, Jr., GST Exempt Marital Trust,
Trustee, Transferee, Nancy Sue Hawk and Regions Bank, Co-Trustees, docket No.
30026-09; and Nancy Sue Hawk, Transferee, docket No. 30515-09.
                                          -2-

[*2]         MEMORANDUM FINDINGS OF FACT AND OPINION


       GOEKE, Judge: In four statutory notices of liability, respondent determined

that the Estate of Billy F. Hawk, Jr. (estate), the Billy F. Hawk, Jr., GST Exempt

Marital Trust (exempt trust), the Billy F. Hawk, Jr., GST Non-Exempt Marital

Trust (nonexempt trust), and Nancy Sue Hawk (Mrs. Hawk) are liable as

transferees for assessed Federal income tax, a penalty, and interest of Holiday

Bowl, Inc. (Holiday Bowl).2 The Court has issued two prior opinions in these

cases: T.C. Memo. 2012-154, denying petitioners’ motion for summary judgment

and respondent’s motion to stay the instant proceedings, and T.C. Memo. 2012-

259, denying petitioners’ motion for reconsideration.

       The issue for decision is whether petitioners are liable as transferees under

section 6901 for Holiday Bowl’s unpaid 2003 Federal income tax, penalty, and

interest.3 We find that petitioners are liable to the extent set out herein.




       2
        For simplicity we refer to Holiday Bowl’s former shareholders, the estate
and Mrs. Hawk, as petitioners. The marital trusts are successive transferees from
the estate.
       3
       Unless otherwise indicated, all section references are to the Internal
Revenue Code (Code) in effect for the year at issue, and all Rule references are to
the Tax Court Rules of Practice and Procedure.
                                         -3-

[*3] At the time the petitions were filed, Mrs. Hawk resided in Tennessee.4 Mrs.

Hawk and AmSouth Bank (now Regions Bank) were coexecutors of the estate and

cotrustees of the two marital trusts. At the time the petitions were filed, Regions

Bank had a mailing address in Tennessee. Mrs. Hawk’s husband, Billy F. Hawk,

Jr., died in February 2000. At the time of his death, Mr. Hawk owned and

managed two bowling alleys in Tennessee through Holiday Bowl. He had been in

the bowling alley business for approximately 40 years. At the time of the

transactions at issue in these cases, the estate owned 81.25% of Holiday Bowl,

including 100% of the voting stock; Mrs. Hawk owned the remaining 18.75%.

      Respondent’s assertion of transferee liability arises from a series of

transactions involving Holiday Bowl that occurred after Mr. Hawk’s death. First,

Holiday Bowl sold its primary assets, the two bowling alleys, to an unrelated third

party. Next, Holiday Bowl distributed unimproved real property to the estate and

Mrs. Hawk in a stock redemption. The same day as the redemption, the estate and

Mrs. Hawk sold their remaining shares to an unrelated third party, MidCoast

Investment, Inc., and its related entities (collectively MidCoast), a familiar entity

in recent transferee liability cases before this Court (MidCoast transaction).


      4
       Some of the facts have been stipulated, and the stipulated facts are
incorporated by this reference. All amounts are rounded to the nearest dollar.
                                        -4-

[*4] MidCoast immediately resold the stock to yet another third party. The estate

subsequently distributed the proceeds from the MidCoast transaction to the two

marital trusts. Petitioners saved approximately $300,000 in tax by engaging in the

MidCoast transaction. The tax savings represent an approximately 15% premium

above Holiday Bowl’s book value. Respondent now seeks to recover

approximately $1.3 million in tax and a penalty plus interest from petitioners.

I.    Decision To Sell the Bowling Alleys

      After her husband’s death, Mrs. Hawk served as Holiday Bowl’s president

and sole director, receiving compensation of $200,000 in 2002 and $214,000 in

2003. Mrs. Hawk depended on her two sons, William and Robert, to operate the

bowling alleys. She had no business experience. During her nearly 50-year

marriage, she was a mother and housewife. She had never helped her husband

manage the bowling alleys. Before Mr. Hawk’s death, neither son had been

involved with the bowling alleys’ management because of discord within the

family. By 2002, two years after Mr. Hawk’s death, the family disagreed over

how to operate the bowling alleys. Mrs. Hawk decided to sell them because she

did not want to rely on anyone to run them and lacked the experience to manage

them herself. Mrs. Hawk did not want to sell the bowling alleys to a family

member because of the disagreement within the family. AmSouth Bank
                                        -5-

[*5] (AmSouth), as coexecutor of the estate, was not involved in the decision to

sell the bowling alleys, but AmSouth’s trust officer assigned to the estate agreed

with Mrs. Hawk’s decision to sell because it would diversify the estate’s holdings.

Holiday Bowl relied on Mr. Hawk’s longtime attorney Wayne Thomas of

Chambliss, Bahner, & Stophel, P.C. (Chambliss Bahner), for advice on the asset

sale. Mr. Thomas also represented the estate in probate. Chambliss Bahner is one

of the largest law firms in Chattanooga, Tennessee. Holiday Bowl also retained

Dan Johnson of the accounting firm Johnson, Hickey & Murchinson, P.C.

(Johnson Hickey), to assist with the asset sale.

      In November 2002 Mrs. Hawk hired a broker, Sandy Hansell, who

specialized in buying and selling bowling alleys nationwide. Mr. Hansell’s

engagement letter acknowledged Mrs. Hawk’s instruction not to sell to a family

member. It also specified that the transaction would be structured as an asset sale.

There was no explanation for the decision to structure the transaction as an asset

sale. Holiday Bowl also owned two parcels of real property: (1) unimproved real

property on Snow Hill Road in Hamilton County, Tennessee (Snow Hill Road)

that the family used as part of a horse farm and wanted to retain and (2) a building

leased as a Russell Stover Candy store that was offered for sale separately from

the bowling alleys. The advisers expected that Holiday Bowl would be liquidated
                                        -6-

[*6] after the asset sale; however, no formal action to liquidate was taken. When

Mrs. Hawk decided to sell the bowling alleys, petitioners and their advisers did not

raise any concerns about the tax implications of the asset sale or seek out any

strategies to reduce Holiday Bowl’s income tax on the gain from the asset sale.

      In December 2002 the Hawks’ son William instituted legal action in

chancery court objecting to the sale of the bowling alleys because it restricted his

ability to purchase them. He also sought to remove his mother as coexecutor of

the estate. By March 2003 Holiday Bowl had received several offers for the

bowling alleys and had accepted an offer from New England Bowl, Inc., and

Corley Family Realty, L.P. (Corley family), for $6.2 million. In April 2003 the

chancery court issued an order prohibiting the sale to the Corley family, finding

that Mrs. Hawk had breached her fiduciary duties by restricting the potential

purchasers. The chancery court held that the estate could offer the bowling alleys

for sale on terms that did not exclude any potential purchaser but did not remove

Mrs. Hawk as coexecutor. Holiday Bowl reoffered the bowling alleys for sale in

late May 2003 and received four offers, including a second offer from the Corley

family for $6.5 million and a lower offer from William. In June 2003 Holiday

Bowl accepted the Corley family’s offer, and the asset sale closed on July 1, 2003.

The Corley family also purchased the Russell Stover Candy store property.
                                         -7-

[*7] Holiday Bowl received net proceeds of approximately $4 million, realized

gain of approximately $2.7 million, and owed approximately $1 million in Federal

income tax. After the asset sale, Holiday Bowl’s assets consisted of cash, prepaid

taxes, and Snow Hill Road. It had no operating assets and ceased to engage in any

business activity.

II.   MidCoast Proposal To Purchase Holiday Bowl Stock

      Petitioners first learned about MidCoast from Mr. Hansell in March 2003

shortly after Holiday Bowl had accepted the Corley family’s first purchase offer.

Mr. Hansell presented petitioners’ advisers with the idea of selling Holiday Bowl’s

stock to MidCoast after the asset sale as an alternative to a liquidating distribution

of the sale proceeds. Mr. Hansell is unrelated to petitioners’ attorneys and

accountants. Mr. Hansell explained that MidCoast would pay a premium for the

stock because it would use loss carryforwards from its assets recovery business to

avoid the gain realized on the asset sale and would pass a portion of the tax saving

on to petitioners. He admitted that he did not fully understand MidCoast’s tax

strategy and wrote: “I know the old adage that, if it seems too good to be true, it

probably is. But maybe this is the exception.” At that time none of Holiday

Bowl’s attorneys or accountants had heard of MidCoast. Petitioners had not

previously sought out a tax strategy to minimize their tax from the asset sale and
                                         -8-

[*8] had not considered selling their Holiday Bowl stock to MidCoast or any other

entity. AmSouth’s trust officer initially did not want to pursue the MidCoast

proposal but believed he had a fiduciary duty to have Mr. Thomas investigate the

proposal as it could provide a financial benefit to the estate. Mr. Hansell had

learned about MidCoast in 2001, two years before the asset sale, from a MidCoast

acquisition representative, Graham Paul Wellington, who had identified Mr.

Hansell as being in a position to identify potential target corporations. MidCoast

had offered Mr. Hansell a referral fee for finding target corporations that fit

MidCoast’s business model, i.e., a corporation that held cash and had realized

taxable gain from an asset sale. Holiday Bowl was Mr. Hansell’s first and only

referral to MidCoast.

III.   MidCoast Representations to Petitioners and Their Advisers

       In March 2003 Mr. Wellington contacted Holiday Bowl’s accountant, Mr.

Johnson, to express MidCoast’s interest in purchasing Holiday Bowl stock. Mr.

Wellington sent promotional materials to Mr. Johnson, who shared them with Mr.

Thomas. The materials identified MidCoast as interested in purchasing the stock

of corporations that had sold their assets and had taxable gain and proposed a

stock sale to MidCoast as an alternative to the target’s liquidation to maximize the

target shareholders’ after-tax proceeds. In the materials, MidCoast represented
                                          -9-

[*9] that it had been in the financial services business since 1958 and in the asset

recovery business since 1996 and was among the top 25 largest purchasers of

delinquent consumer receivables in the United States. The materials described the

typical aspects of a target corporation: a company wants to sell its business, a

potential third-party purchaser wants to purchase the company’s assets and not the

stock, and the asset sale triggers gain. The materials also listed benefits of

engaging in a transaction with MidCoast: the shareholders maximize after-tax

profit, the target is not dissolved, liquidated, or consolidated, the target enters the

asset recovery business and operates on a go-forward basis, and MidCoast causes

the target to satisfy any tax liability due. MidCoast also provided sample

computations that compared the tax advantages of a stock sale to MidCoast versus

a corporate liquidation, labeling the tax saving an “asset recovery premium”.

      A.     MidCoast Communications With Accountants

      After his initial discussion with Mr. Wellington, Mr. Johnson asked Rayleen

Colletti, a certified public accountant with 20 years’ experience, to assume

primary responsibility at Johnson Hickey for assisting with the MidCoast

proposal. In May 2003, before the sale of the bowling alleys closed, Ms. Colletti

began communicating with Mr. Wellington regarding MidCoast’s possible

purchase of Holiday Bowl stock. Ms. Colletti questioned MidCoast’s business
                                           - 10 -

[*10] model and postclosing activities. MidCoast represented that it had an asset

recovery business in which it bought delinquent credit card debt and other

receivables and attempted to collect on those debts. Mr. Wellington represented

that MidCoast acquired corporations with cash assets to develop its asset recovery

business and the target is not dissolved after the stock purchase. He explained that

by using cost recovery accounting, MidCoast could frontload expenses incurred in

its asset recovery business (including skip tracing, collection expenses, and

uncollectible debt writeoffs) during the first 18 to 24 months of operations to

offset Holiday Bowl’s taxable gain and thereafter the business would begin to

generate income. MidCoast provided its acquisition representatives with a list of

talking points for discussions with potential target corporations that corresponded

with Mr. Wellington’s representations, including that MidCoast acquired targets to

develop its asset recovery business, each transaction was a stand-alone acquisition,

the targets would continue in existence after the acquisition, and MidCoast had

sufficient capital to satisfy the target’s tax liability.

       Ms. Colletti researched loss or shell corporation rules applicable to tax-

avoidance transactions but did not conduct any research on listed transactions.

Handwritten notes from Johnson Hickey identify “downsides” to the MidCoast

transaction including “headaches and griefs”, “pursuit by the IRS”, “substance
                                       - 11 -

[*11] over form”, “no control on payment of tax”, and “technically responsible--

‘have IRS’ go after.” She did not request documentation from MidCoast of its

postclosing business plan or business model, did not request documentation to

substantiate MidCoast’s claim that it could offset gain with losses from an asset

recovery business, and did not independently verify MidCoast’s representations of

its business model. She conducted internet research on MidCoast with the

secretary of state and the Better Business Bureau.5 In late May 2003 Ms. Colletti

provided MidCoast with Holiday Bowl’s balance sheet and a pro forma tax return

for its 2003 income tax. She calculated petitioners’ potential tax saving from the

MidCoast transaction using three different premium percentages (10%, 12% and

15% premiums) and shared this information with Chambliss Bahner.

      B.    MidCoast Communications With Attorneys

      Petitioners sought legal advice on the MidCoast transaction from Mr.

Thomas. Mr. Thomas had limited experience with corporate transactions during

his nearly 30-year legal career and sought assistance from other attorneys at

Chambliss Bahner, including Kirk Snouffer, a tax attorney, and Mark Turner, a

transactional attorney. Mr. Snouffer passed away in March 2008 before these


      5
       It is not clear which State’s records Ms. Colletti researched. MidCoast was
incorporated in the State of Florida.
                                       - 12 -

[*12] cases began. AmSouth did not participate in the negotiations with

MidCoast. Throughout the entire process, AmSouth relied on petitioners’

accountants and attorneys for advice on the tax consequences of the MidCoast

transaction. On the basis of discussions with petitioners’ advisers, AmSouth’s

trust officer understood that MidCoast would use expenses from its asset recovery

business to defer Holiday Bowl’s 2003 tax to future years and MidCoast would

cause Holiday Bowl not to pay income tax for 2003.

IV.   MidCoast Letter of Intent

      In June 2003 MidCoast presented a letter of intent to purchase Holiday

Bowl stock for a price equal to Holiday Bowl’s cash less 64.25% of its estimated

2003 tax liability. The final stock purchase agreement used this same price

formula. In conjunction with the letter of intent, MidCoast provided a

computation that petitioners would receive a $454,396 premium above Holiday

Bowl’s book value from the MidCoast transaction, resulting from tax saving on

both the asset sale and the stock redemption. Ms. Colletti determined that

petitioners would receive an after-tax benefit from the MidCoast transaction of

$386,237, taking into account capital gains tax that petitioners would pay on the

$454,396 premium. The letter of intent indicated that MidCoast would pay
                                        - 13 -

[*13] Holiday Bowl’s 2003 tax to the extent due on the basis of postclosing

business activities.

V.    Communications Between MidCoast and Petitioners’ Advisers

      Over the next several months, petitioners’ advisers had several

conversations with MidCoast representatives regarding the MidCoast proposal.

MidCoast representatives explained that MidCoast would use expenses from its

asset recovery business to offset Holiday Bowl’s gain from the asset sale. At Mr.

Snouffer’s request, MidCoast provided five references. The references were

attorneys with prior experience on MidCoast transactions. Petitioners’ attorneys

understood that MidCoast’s tax strategy meant that Holiday Bowl would not pay

income tax for 2003. The attorneys expressed concern that the Internal Revenue

Service (IRS) would challenge MidCoast’s tax strategy and would assert

transferee liability against petitioners. Mr. Snouffer was aware of and considered

the impact of Notice 2001-16, 2001-1 C.B. 730, Intermediary Transactions Tax

Shelter, relating to listed transactions involving intermediary corporations.6 He


      6
        In Notice 2001-16, 2001-1 C.B. 730, the IRS announced that it would
challenge the reported tax results of certain intermediary transactions identified as
“listed transactions” that the IRS considered to be tax shelters. A listed
transaction included the sale of corporate stock to one corporation (the
intermediary) and the sale of assets to a different entity with a motive of avoiding
tax on the long-term gain on the asset sale.
                                        - 14 -

[*14] reviewed an article concerning IRS pronouncements on intermediary

transactions, Thomas W. Avent & Patricia M. Rubirosa, “Not All Three-Party

Transactions Are Created Equal”, Corp. Bus. Tax’n Monthly 17 (May 2003), and

had a discussion with Mr. Avent. The article reviewed the risks of engaging in

specific intermediary transactions and the risks of transferee liability and indicated

that the IRS intended to use substance over form, economic substance, and other

theories against such listed transactions. The article described a situation similar

to Holiday Bowl’s where the sale of a target’s assets occurred first and was

followed by a sale of the target’s stock and stated:

      In that case, MidCo would have the benefit of the monies paid by
      Buyer for some of Target’s assets, once it acquires Target’s stock.
      While the ultimate benefits of such transaction may resemble those of
      the MidCo transactions described above, this type of transaction
      clearly fails to satisfy the criteria for the transactions the IRS has set
      its sights on in the pronouncements.

This portion of the article was marked by someone who read the article. Mr.

Avent had worked at KPMG and was one of the references provided by MidCoast.

Mr. Snouffer knew that KPMG had been an adviser to MidCoast in similar

transactions. The record relating to Mr. Snouffer’s legal research, analysis, and

conclusions with respect to the MidCoast transaction is minimal and consists

primarily of handwritten notes and billing records. The billing records indicate he
                                       - 15 -

[*15] researched listed transactions and reviewed IRS announcements, chief

counsel advice documents, and the above-quoted article. He contacted three

references; one reference confirmed that MidCoast closed the transactions that it

started. There is no other evidence in the record with respect to Mr. Snouffer’s

communications with these references. Nor is there evidence that petitioners’

advisers contacted any references with respect to MidCoast’s business practices or

contacted any one in the asset recovery business about MidCoast.

VI.   Advice From Accountants and Attorneys

      In August 2003 petitioners met with their advisers to discuss the MidCoast

transaction. The trust officer’s notes from this meeting indicate that MidCoast

would “keep shell of corp open for 7 years” and that MidCoast “has been doing

this transaction for 6-7 years”. Mrs. Hawk requested that the advisers provide

their advice in writing. Both Chambliss Bahner and Johnson Hickey did so in

August 2003 in letters to Mrs. Hawk and the trust officer.

      A.    Attorney Advice Letter

      Mr. Thomas signed the attorney letter. It stated that the attorneys had

reviewed MidCoast, its history, and its business plan and practices and had

reviewed Federal tax law. In the letter Mr. Thomas advised that MidCoast had a

profit motive for purchasing Holiday Bowl stock and planned to operate Holiday
                                        - 16 -

[*16] Bowl for several years. The letter referred to MidCoast’s tax strategy as a

deferral of tax. The attorneys wrote of MidCoast’s business purpose:

      In essence, they plan to leverage their profits by purchasing Holiday
      Bowl’s cash at a discount based on its tax liability and then deferring
      the actual payment of tax since they have heavy expenses in the early
      months after a loan portfolio purchase. They have more cash
      available to purchase loans this way, so they end up making a greater
      profit in the end.

The letter stated that MidCoast had engaged in similar transactions for several

years “apparently without difficulty” with the IRS. It also mentioned MidCoast’s

indemnity for Holiday Bowl’s 2003 Federal income tax. The attorneys advised

that the MidCoast transaction would be a reasonable exercise of the executors’

discretion if MidCoast provided financial information to establish its ability to pay

the 2003 tax in the event the IRS challenged MidCoast’s tax strategy. The letter

did not address or analyze Notice 2001-16, supra.

      B.     Accountant Advice Letter

      Ms. Colletti initially drafted the accountant letter; it was signed by Mr.

Johnson. The accountant letter described the stock redemption and MidCoast

transaction and provided specific advice concerning the redemption and the

distribution of Snow Hill Road. In the letter the accountants advised distributing

Snow Hill Road as a partial redemption followed by a stock sale to MidCoast,
                                        - 17 -

[*17] characterizing the two events as a complete liquidation of petitioners’

interests in Holiday Bowl because of concerns with State tax. With respect to the

MidCoast transaction, the accountants indicated concern that the IRS could

challenge the MidCoast transaction as a tax-avoidance strategy, stating:

      Since MidCoast will be paying a premium based on the net asset
      value, the potential area of concern is the assertion by the IRS that the
      subsequent expenses are disallowable under the “shell” or “loss”
      corporation rules. The “shell” corporation rule provides for the
      disallowance of deductions and other tax benefits when tax avoidance
      is the principal purpose of acquisition of control of a corporation. If
      the IRS is successful in this assertion, the corporation would not be
      eligible to reduce its pre-acquisition tax liability with subsequent
      losses generated after acquisition by MidCoast. However, it is our
      understanding * * * the prior shareholders (the Hawks) are
      indemnified against any subsequent assessments made by the IRS or
      other taxing authorities.

The letter indicated that the indemnity “secured a minimal level of risk” to

petitioners. In the letter, the accountants stated that MidCoast had a “clear

business purpose and profit motive” for acquiring Holiday Bowl, briefly described

MidCoast’s plan to generate net operating losses, and concluded that the tax

strategy “can be supported upon scrutiny by the IRS”.

      C.     Parent Guaranty

      After the two letters, petitioners’ attorneys attempted, without success, to

obtain financial information from MidCoast to ensure that it had sufficient capital
                                       - 18 -

[*18] to pay Holiday Bowl’s tax if its tax strategy failed. Instead, they negotiated

a guaranty from the MidCoast entities’ parent corporation (parent guaranty) for

Holiday Bowl’s 2003 tax. They downplayed MidCoast’s refusal to provide

financial information as a typical policy of privately held companies such as

MidCoast. They believed that the parent guaranty provided adequate protection to

petitioners against transferee liability for Holiday Bowl’s 2003 tax if MidCoast’s

tax strategy did not work. Petitioners did not obtain any financial information

from the parent, however.

      D.     Second Attorney Advice Letter

      Chambliss Bahner issued a second letter, dated September 8, 2003,

addressing MidCoast’s refusal to provide financial information. The second

attorney letter stated:

      [T]he transaction is not one which under current law would allow the
      Internal Revenue Service to assess income tax against the selling
      shareholders.

      If despite this conclusion, the Internal Revenue Service should find a
      way to impose such a tax on the selling shareholders, the indemnity of
      MidCoast Credit Corp. is the second line of defense for the
      shareholders.

Mr. Thomas discussed his legal advice in a telephone call with Mrs. Hawk and

AmSouth’s trust officer following the second letter. He reiterated that while the
                                        - 19 -

[*19] possibility that petitioners would be held liable as transferees was remote,

there was no guaranty that they would not be. The second letter did not address

Notice 2001-16, supra. Mrs. Hawk indicated that she understood there were no

guaranties and believed that the attorneys had done their “homework”. On the

basis of this advice, Mrs. Hawk decided to proceed with the MidCoast transaction.

However, from her testimony it is clear that she did not understand MidCoast’s

business plan or stated tax strategy.

VII. Share Purchase Agreement

      Throughout the months of September through November 2003, Holiday

Bowl’s attorneys communicated with MidCoast’s counsel regarding due diligence

of Holiday Bowl and closing procedures. On November 12, 2003, petitioners

entered into a share purchase agreement with MidCoast for the Holiday Bowl

stock for $3,423,679. The purchase price was calculated using the amount of

Holiday Bowl’s cash and prepaid tax deposits reduced by 64.25% of its estimated

2003 Federal, State, and local tax liability.7 MidCoast also agreed to reimburse

petitioners for legal and accounting fees up to $25,000. At closing petitioners




      7
       The share purchase agreement calculated the $3,423,679 purchase price as
follows: cash of $4,185,389 plus prepaid deposits of $29,980 less tax liability of
$791,690.
                                        - 20 -

[*20] received $3.45 million.8 Ms. Colletti calculated the estimated taxes used in

the share purchase agreement at $1,232,203, referred to as the “Deferred Tax

Liability”.9 The tax liability resulted from both the gain on the asset sale and the

gain on the stock redemption.

      MidCoast acquired the Holiday Bowl stock as follows: 75% to MidCoast

Credit Corp. and 25% to MidCoast Acquisition Corp. The share purchase

agreement provided that MidCoast would prepare and file Holiday Bowl’s 2003

tax return and would pay Holiday Bowl’s 2003 tax to the extent any portion was

“due to post-closing business activities”. It did not contain any representations or

covenants with respect to representations made by MidCoast or contained in its

promotional materials such as using bad debt deductions from an asset recovery

business to offset Holiday Bowl’s tax, reengineering Holiday Bowl into an asset

recovery business, or continuing Holiday Bowl as a going concern.




      8
       After the closing, petitioners returned $1,321 to the escrow agent because
of an overpayment, and petitioners received a net $3,448,679 in purchase price
and fee reimbursement.
      9
      The “Deferred Tax Liability” included $1,017,596 in Federal taxes and
$214,607 in Tennessee franchise and excise taxes.
                                      - 21 -

[*21] VIII. Sequoia Loans

      On November 12, 2003, the same day as the MidCoast transaction,

MidCoast entered into two demand credit agreements with Sequoia Capital, LLC

(Sequoia), an offshore entity, to borrow $3.45 million and agreed to repay

$3,467,250 on demand.10 The parties noted the $17,250 difference between the

amounts advanced and the amounts repayable as a .5% loan fee. The loans

accrued interest charges only upon default. The parties did not execute demand

notes or subsidiary guaranties attached as schedules to the loan agreements. They

executed security agreements granting Sequoia a security interest in Holiday

Bowl’s cash. The record contains an executed copy of one security agreement.

The loans were repayable upon demand by the lender. Ultimately, MidCoast

borrowed and repaid the loans on the same day through a credit on the resale of

Holiday Bowl to Sequoia. Mr. Thomas understood that MidCoast would finance

the purchase of the Holiday Bowl stock with a loan from an offshore entity.




      10
        MidCoast Acquisition Corp. and MidCoast Credit Corp. each entered into
separate demand credit agreements with Sequoia. MidCoast Acquisition borrowed
$862,500 and agreed to repay $866,813; MidCoast Credit borrowed $2,587,500
and agreed to repay $2,600,438.
                                       - 22 -

[*22] IX.   Escrow Agreements

      The share purchase agreement required Holiday Bowl to deposit its cash

into escrow immediately before closing. A prior draft of the share purchase

agreement provided for Holiday Bowl to deposit its cash with its own law firm and

at closing MidCoast would deliver the purchase price to petitioners simultaneously

with Holiday Bowl’s deliverance of its cash to MidCoast via a cashier’s check or

certified check from Chambliss Bahner. The parties revised the share purchase

agreement to require Holiday Bowl to escrow its cash with an escrow agent chosen

by MidCoast. Morris Manning & Martin, LLP (Morris Manning), acted as the

escrow agent. MidCoast was not a party to the escrow agreement. The escrow

agreement required Holiday Bowl to deposit its cash in escrow upon execution of

the escrow agreement, which in effect was immediately before closing of the

MidCoast transaction. The stated purpose of the escrow was for Holiday Bowl’s

cash to become postclosing security for the Sequoia loans. Petitioners’

transactional attorney Mr. Turner inserted a provision in the escrow agreement that

it was the parties’ intention that the escrow agent not release Holiday Bowl’s

escrow funds to MidCoast or Sequoia until petitioners received the purchase price.

      The share purchase and escrow agreements did not require Sequoia or

MidCoast to deposit the purchase price into escrow; rather it required MidCoast or
                                         - 23 -

[*23] its lender to wire the purchase price to petitioners. When negotiating the

escrow and share purchase agreements, Mr. Turner raised concerns about whether

MidCoast was putting money into the deal. On October 26, 2003, Mr. Turner

commented in an email to Mr. Thomas and Mr. Snouffer: “[O]ur firm is required

to open up a trust account into which the closing proceeds will be deposited. I

take it that at closing we will disburse the purchase price to our clients out of that

account and that the remainder will be disbursed to the purchaser.”

X.    Distribution of Holiday Bowl Funds and Purchase Price

      Pursuant to the escrow agreement, Holiday Bowl deposited its cash of

approximately $4.2 million into the escrow agent’s trust account (trust account).

Approximately five minutes later, the escrow agent transferred $3.45 million as

the purchase price and fee reimbursement from the trust account to petitioners

through Chambliss Bahner. Absent the Holiday Bowl funds, the trust account did

not have sufficient cash to pay the purchase price. At the time of the MidCoast

transaction, the escrow agent also held funds for Sequoia in a client escrow

account (client account) separate from the trust account in excess of the amount of

the purchase price. On the day after the MidCoast transaction, the escrow agent

transferred $31 million of the funds held for Sequoia from the client account to the

trust account. Chambliss Bahner subsequently wired a portion of the purchase
                                       - 24 -

[*24] price to the estate and Mrs. Hawk. Chambliss Bahner reserved $100,000 of

the purchase price; $41,062 was credited against petitioners’ legal fees and

expenses including fees not covered by the fee reimbursement. The legal fees

were allocated $7,699 to Mrs. Hawk and $33,363 to the estate. Chambliss Bahner

distributed the remainder of the reserved funds to the estate and Mrs. Hawk. In

total Mrs. Hawk received $608,640 from the MidCoast transaction, and the estate

received $2,840,661.

      At closing the escrow agent also transferred $80,057 and $240,170 to the

MidCoast entities from the trust account. Two days later, the escrow agent

transferred $192,452 to a newly opened bank account in the name “MidCoast

Credit Corp. FBO Holiday Bowl Inc.” Five days after closing, the escrow agent

transferred $3,990,000 from the trust account to an offshore account in the name

of Delta Trading Partners, LLC (Delta Trading account), pursuant to the

instructions of Holiday Bowl’s newly appointed president.

XI.   Escrow Agent’s Account Ledgers

      On November 3, 2003, before closing, the trust account received a deposit

of approximately $35 million that the escrow agent transferred into the client

account that same day. The escrow agent recorded the deposit as attributable to

Sequoia Capital/General in its account ledger. The Sequoia Capital/General
                                       - 25 -

[*25] account ledger also recorded the payment of the $3.45 million purchase

price and the two transfers to the MidCoast entities that occurred on the closing

date. The escrow agent maintained a separate account ledger in the name of

Sequoia Capital & Affiliates that recorded receipt of Holiday Bowl’s escrowed

cash, the $192,452 transfer to the newly opened bank account, and the $3,990,000

transfer to the Delta Trading account. The escrow agent’s ledgers contain dates

that are inconsistent with bank records, including inconsistencies with respect to

entities not related to these cases.

XII. Sequoia Purchase of Holiday Bowl

      On the same day it purchased the Holiday Bowl stock, MidCoast resold the

stock to Sequoia for a slightly higher purchase price. Sequoia paid for the Holiday

Bowl stock through a credit against the Sequoia loans. Petitioners and their

advisers were not aware of MidCoast’s plan to immediately resell the Holiday

Bowl stock to Sequoia. Neither Sequoia or MidCoast placed Holiday Bowl into

an asset recovery business.

XIII. Redemption of Snow Hill Road

      At the time of Mr. Hawk’s death, Holiday Bowl owned unimproved real

property, Snow Hill Road, valued at $770,000. The Hawk family wanted to retain

Snow Hill Road and had not offered it for sale with the bowling alleys. Ms.
                                        - 26 -

[*26] Colletti recommended that Holiday Bowl distribute Snow Hill Road through

a partial stock redemption to occur on the same day as the MidCoast transaction.

The share purchase agreement acknowledged the redemption. Ms. Colletti had

asked Mr. Wellington for advice regarding the distribution of Snow Hill Road, and

he referred her to two revenue rulings and a court case. Ms. Colletti advised that

petitioners treat the redemption as part of an overall plan of a complete corporate

liquidation to avoid unfavorable State tax consequences. She advised that there

was no Federal tax impact from distributing Snow Hill Road as a redemption

versus a dividend. She further advised that petitioners distribute Snow Hill Road

in a liquidating distribution, not a stock redemption, if the parties did not engage

in the MidCoast transaction.

      On November 12, 2003, Holiday Bowl redeemed a total of 2,770 shares in

exchange for Snow Hill Road, including 692 class A voting shares and 1,559

class B nonvoting shares from the estate and 519 class B nonvoting shares from

Mrs. Hawk, and a nominal amount of cash in lieu of fractional shares. On the

basis of their respective ownership interests, Mrs. Hawk and the estate received

real property valued at $144,375 and $625,625, respectively, in the stock

redemption, plus the nominal cash. The redemption did not affect the ownership

percentages of Holiday Bowl. Holiday Bowl realized gain on the distribution of
                                       - 27 -

[*27] Snow Hill Road of approximately $368,000 and incurred $141,000 in

Federal income tax. MidCoast assumed this tax liability in the share purchase

agreement. After the stock redemption, Holiday Bowl’s assets consisted solely of

cash and prepaid tax deposits. Holiday Bowl reported the stock redemption on its

2003 return as a sale of appreciated property with a sale price of $770,000.

XIV. Successive Transfers to Marital Trusts

      In total Mrs. Hawk received $753,015 in the MidCoast transaction and

redemption. The estate received $3,466,286. On November 18, 2003, the estate

transferred $1,912,665 to the nonexempt trust and $511, 976 to the exempt trust

from the proceeds.

XV. Holiday Bowl Tax Returns

      Holiday Bowl filed its corporate income tax return for 2003, reporting no

tax liability. Holiday Bowl reported ordinary and capital gain from the asset sale

and stock redemption and deducted losses generated through transactions

described as interest rate swap options and DKK/USD binary options sufficient to

offset the reported gain. Petitioners and their advisers were not involved in

preparing or reviewing Holiday Bowl’s 2003 return. Holiday Bowl filed returns

for 2004 and 2005 and marked the 2005 return as its final return. In 2004 Holiday

Bowl organized as a Nevada corporation and dissolved its Tennessee corporate
                                       - 28 -

[*28] status. The State of Nevada revoked Holiday Bowl’s corporate status in July

2006. Respondent filed notices of tax lien against Holiday Bowl in Tennessee and

Nevada.

XVI. Examination of Holiday Bowl Returns

      In 2005 the IRS began an examination of MidCoast relating to transactions

it promoted from 2000 through 2004 and identified MidCoast’s acquisition of

Holiday Bowl as part of that examination. Respondent issued a notice of

deficiency to Holiday Bowl for 2003, 2004, and 2005, dated July 11, 2007.11

Respondent determined an income tax deficiency for Holiday Bowl’s 2003 tax

year of $965,358 and an accuracy-related penalty under section 6662 of $378,107.

Holiday Bowl did not file a petition to challenge the notice. The 2003 deficiency

determination resulted primarily from the disallowance of loss deductions relating

to the disposition of the interest rate swap options and offsetting DKK/USD binary

options executed after the MidCoast transaction. In December 2007 respondent

assessed tax and a penalty against Holiday Bowl for 2003 as determined in the

notice of deficiency, plus interest. Holiday Bowl has not paid any portion of the




      11
       Respondent has not asserted transferee liability against petitioners for
2004 and 2005. The deficiencies in those years were $599 and $2, respectively.
                                         - 29 -

[*29] assessment. Respondent investigated Holiday Bowl’s financial status and

determined that it did not have assets to pay the deficiency.

      The IRS assigned the Holiday Bowl case to a revenue officer in October

2006 to determine collection potential against Holiday Bowl and Mrs. Hawk. The

revenue officer issued a report on the collection potential for Mrs. Hawk in

December 2006, referring to Mrs. Hawk’s transferee liability in error, and for

Holiday Bowl in February 2007. Both reports were completed before respondent

issued the 2003 notice of deficiency to Holiday Bowl and before he assessed tax

against Holiday Bowl for 2003. The revenue officer did not investigate collection

potential with respect to Sequoia or MidCoast.

      In September 2009 respondent issued the four statutory notices of liability at

issue here, determining that petitioners are liable as initial and/or successive

transferees for Holiday Bowl’s 2003 unpaid tax and section 6662 penalty. The

notices assert that the estate and the exempt trust are liable for the full amount of

Holiday Bowl’s 2003 tax, penalty, and interest and assert that the nonexempt trust

and Mrs. Hawk are liable for $511,976 and $734,396, respectively, of the

deficiency and penalty, plus interest.
                                         - 30 -

[*30]                                 OPINION

        Section 6901(a)(1) addresses transferee liability and provides that the

Commissioner may proceed against a transferee of property to assess and collect

Federal income tax, penalties, and interest owed by the transferor. Section

6901(a) does not create or define a substantive liability but merely provides a

procedural mechanism for the Commissioner to collect the transferor’s existing

unpaid tax liability. Coca-Cola Bottling Co. v. Commissioner, 334 F.2d 875, 877

(9th Cir. 1964), aff’g 37 T.C. 1006 (1962); Mysse v. Commissioner, 57 T.C. 680,

700-701 (1972); Kreps v. Commissioner, 42 T.C. 660, 670 (1964), aff’d, 351

F.2d 1 (2d Cir. 1965). The Commissioner may collect unpaid taxes of a transferor

from either an initial transferee or a successive transferee. Sec. 6901(a), (c)(2);

Commissioner v. Stern, 357 U.S. 39, 42 (1958); Stansbury v. Commissioner, 104

T.C. 486, 489 (1995), aff’d, 102 F.3d 1088 (10th Cir. 1996).

        Under section 6901(a) the Commissioner may establish transferee liability if

an independent basis exists under applicable State law or equity principles for

holding the transferee liable for the transferor’s debts. Sec. 6901(a);

Commissioner v. Stern, 357 U.S. at 42-47. State law determines the elements of

transferee liability, and section 6901 provides the remedy or procedure that the

Commissioner employs as the means of enforcing that liability. Ginsberg v.
                                         - 31 -

[*31] Commissioner, 305 F.2d 664, 667 (2d Cir. 1962), aff’g 35 T.C. 1148 (1961).

Respondent bears the burden of proving that petitioners are liable as transferees

but not of proving that the transferor is liable for tax. See secs. 6902(a), 7454(c);

Rule 142(d). To impose transferee liability, the Court must determine whether

three conditions exist: (1) the taxpayer (transferor) is liable for the unpaid tax,

(2) petitioners are liable as transferees within the meaning of section 6901, and

(3) petitioners are subject to substantive liability as transferees under applicable

State law or State equity principles. See Diebold Found., Inc. v. Commissioner,

736 F.3d 172, 183-184 (2d Cir. 2013), vacating and remanding T.C. Memo. 2010-

238; Starnes v. Commissioner, 680 F.3d 417, 427 (4th Cir. 2012), aff’g T.C.

Memo. 2011-63; Swords Tr. v. Commissioner, 142 T.C. 317, 336 (2014). The

determinations of petitioners’ substantive liability under State law and transferee

status under Federal law are separate and independent determinations. See

Feldman v. Commissioner, 779 F.3d 448, 458 (7th Cir. 2015), aff’g T.C. Memo.

2011-297; Salus Mundi Found. v. Commissioner, 776 F.3d 1010, 1012 (9th Cir.

2014), rev’g and remanding T.C. Memo. 2012-61; Sawyer Tr. of May 1992 v.

Commissioner, 712 F.3d 597, 605 (1st Cir. 2013), rev’g and remanding T.C.

Memo. 2011-298; Starnes v. Commissioner, 680 F.3d at 429. We will consider
                                        - 32 -

[*32] whether petitioners are liable as transferees under State law before

determining the application of section 6901.

I.    State Law Liability Requirement

      The applicable State law is the law of the State where the transfer occurred,

in these cases Tennessee. See Commissioner v. Stern, 357 U.S. at 45; Rubenstein

v. Commissioner, 134 T.C. 266, 270 (2010). Tennessee has adopted the Uniform

Fraudulent Transfer Act (TUFTA), which protects creditors when a debtor makes

a fraudulent transfer. Tenn. Code Ann. sec. 66-3-301 through sec. 66-3-313 (West

2004). Under TUFTA a creditor can recover judgment against a transferee for the

value of the property transferred or, if less, the amount of the creditor’s claim. Id.

sec. 66-3-309(b).

      A.     Constructive Fraud Under State Law

      TUFTA imposes transferee liability on the basis of both actual and

constructive fraud. See id. sec. 66-3-305(a)(1) (actual fraud), secs. 66-3-305(a)(2),

66-3-306(a) (constructive fraud). TUFTA provides three definitions for

constructive fraud that apply regardless of the transferor’s or transferee’s actual

intent. Respondent argues that petitioners are liable as transferees on the basis of
                                        - 33 -

[*33] actual fraud and each of the three definitions of constructive fraud.12

Respondent’s primary argument is the constructive fraud provision applicable to

present creditors. Accordingly, we will address that provision first. A transfer is

fraudulent as to a present creditor if the debtor did not receive a reasonably

equivalent value for the transfer and the debtor was insolvent at the time of the

transfer or became insolvent as a result of the transfer. Id. sec. 66-3-306(a).

Tennessee courts use a three-part test to determine whether a constructively

fraudulent transfer has occurred: (1) the claim arose before the transfer, (2) the

debtor did not receive a reasonably equivalent value, and (3) the debtor was

insolvent or rendered insolvent by the transfer. See Stoner v. Amburn, 2012 WL

4473306, at *10 (Tenn. Ct. App. Sept. 28, 2012); Stone v. Smile, 2009 WL

4893563, at *4 (Tenn. Ct. App. Dec. 18, 2009). This provision applies regardless

of the transferee’s or transferor’s actual intent. A debtor is insolvent if the sum of

its debts exceeds all of its assets at a fair valuation. Tenn. Code Ann. sec. 66-3-

303(a).

      The threshold requirement for liability under TUFTA is that a transfer has

occurred. Accordingly, we first must determine whether petitioners received a


      12
         Respondent also argues that petitioners are liable under the Tennessee
trust fund doctrine.
                                       - 34 -

[*34] transfer from Holiday Bowl under State law. Next, if we find that

petitioners received a transfer, we must determine whether that transfer was

fraudulent as defined in the constructive or actual fraud provisions of TUFTA.

Respondent contends that petitioners received two transfers from Holiday Bowl:

(1) the stock in the redemption for Snow Hill Road and (2) a cash transfer from

Holiday Bowl of the $3.45 million purchase price in the MidCoast transaction as a

disguised liquidating distribution. Petitioners do not dispute that they received

Snow Hill Road from Holiday Bowl but argue that the redemption was not

fraudulent under TUFTA. They do dispute that they received a transfer from

Holiday Bowl in the MidCoast transaction. They argue that they received the

purchase price from MidCoast through the Sequoia loans, not from Holiday Bowl.

According to petitioners, a transfer from MidCoast does not subject them to State

fraudulent transfer liability.13 Respondent argues that we should recharacterize the

MidCoast transaction as a transfer from Holiday Bowl to petitioners.




      13
         The Court directed the parties to address on brief whether petitioners are
liable as successive transferees of MidCoast or Sequoia under the reasoning of
Sawyer Tr. of May 1992 v. Commissioner, 712 F.3d 597 (1st Cir. 2013), rev’g and
remanding T.C. Memo. 2011-298. Respondent failed to address this issue on
brief, and we conclude that he has conceded this basis for petitioners’ transferee
liability.
                                       - 35 -

[*35] B.     Recharacterization of a Transaction Under State Law

      Respondent contends that Tennessee law would recharacterize the

MidCoast transaction as a transfer from Holiday Bowl under two theories: (1) the

Sequoia loans were shams, and petitioners received Holiday Bowl cash as payment

of the purchase price or (2) the MidCoast transaction was in substance a disguised

corporate liquidation and petitioners received a $3.45 million liquidating

distribution from Holiday Bowl. A transferee’s substantive liability is determined

solely by reference to State law, and any decision to recast the MidCoast

transaction is made under State law. Salus Mundi Found. v. Commissioner, 776

F.3d at 1020; cf. Shockley v. Commissioner, T.C. Memo. 2015-113 (noting that

Wisconsin courts used the substance over form doctrine in the same manner as

Federal courts). State law governing creditor rights generally applies to determine

the substance of the transaction. Sawyer Tr. of May 1992 v. Commissioner, 712

F.3d at 605 n.2; Starnes v. Commissioner, 680 F.3d at 420; Ewart v.

Commissioner, 814 F.2d 321, 324 (6th Cir. 1987). But see Shockley v.

Commissioner, T.C. Memo. 2015-113. Respondent must establish constructive

fraud under TUFTA using the legal theories available to any creditor.

      Tennessee courts have long recognized equitable principles that disregard

the form of a transaction and look to its substance. “Equity looks not to the
                                       - 36 -

[*36] outward form, but to the inward substance, of every transaction.” Bond v.

Jackson, 4 Tenn. 189, 191 (1817); see Still v. Fuller (In re Sw. Equip. Rental,

Inc.), 1992 WL 684872, at *14 (E.D. Tenn. July 9, 1992) (predecessor of

Tennessee UFCA at issue); Halco Fin. Serv., Inc. v. Foster, 770 S.W.2d 554, 555

(Tenn. Ct. App. 1989);. Respondent cites Tennessee caselaw predating TUFTA

that applies substance over form principles or treats a transaction as a sham.14 See

Dillard & Coffin Co. v. Smith, 105 Tenn. 372 (1900) (holding that the sale of

property to a family member was fraudulent because it was entered into with intent

to defraud creditors); St. John v. Hodges, 68 Tenn. 334 (1878) (setting aside the

compromise of debt because of a lack of authority to enter into the compromise);

Harris v. Smith, 42 Tenn. 306 (1865) (refusing to enforce a fraudulent contract);

Bond v. Jackson, 4 Tenn. 189 (1817) (granting equitable relief from a contract

entered into by mutual mistake); Halco Fin. Serv., Inc. v. Foster, 770 S.W.2d 554

(Tenn. Ct. App. 1989) (disregarding the form of a transaction because the parties

used a lease as the form to avoid usury laws where the substance of the transaction

was a loan); Warren v. Hinson, 52 S.W. 498 (Tenn. Ct. App. 1899) (upholding an

      14
       TUFTA effectively replaced similar provisions contained in Tennessee’s
Uniform Fraudulent Conveyance Act (TUFCA). See Paris v. Walker (In re
Walker), 2017 WL 1239561 (Bankr. E.D. Tenn. Apr. 3, 2017). Tennessee first
enacted a verison of a uniform fraudulent conveyance law in 1919. 1919 Tenn.
Pub. Acts ch. 125 sec. 2.
                                       - 37 -

[*37] assignment of an insurance policy as not fraudulent). These cases

demonstrate the principles codified in the uniform fraudulent transfer laws but do

not set forth a specific analysis used to determine whether to disregard the form of

a transaction. Respondent also cites Tennessee tax cases that considered equitable

principles to recharacterize the transactions at issue. In CAO Holdings, Inc. v.

Trost, 333 S.W.3d 73 (Tenn. 2010), the Tennessee Supreme Court denied both

parties’ summary judgment motions and reserved for trial the issue of whether a

lease was illusory and entered into for the purpose of avoiding State sales and use

tax. In Odd Fellows Benevolent & Charitable Ass’n v. City of Nashville, 173

Tenn. 55 (1938), the Tennessee Supreme Court disregarded the form of the

transaction because it was used, without substance, to achieve tax-exempt status.

In Rosewood, Inc. v. Garner, 476 S.W.2d 273 (Tenn. Ct. App. 1971), a Tennessee

appellate court rejected the form of a corporation as a tax-exempt entity because

the corporation operated for the member’s financial benefit.

      Petitioners argue that we should not rely on equitable principles such as the

economic substance doctrine because TUFTA does not expressly incorporate the

economic substance doctrine and no Tennessee court has applied the doctrine in

determining transferee liability under TUFTA. Respondent notes that the Court of

Appeals for the Sixth Circuit treats a transaction as having economic substance for
                                       - 38 -

[*38] Federal tax purposes only if the transaction has practical economic effects

other than tax consequences and the taxpayer had a profit motive. Dow Chem. Co.

v. United States, 435 F.3d 594, 599 (6th Cir. 2006). The economic substance

doctrine as defined by the Court of Appeals for the Sixth Circuit involves a

subjective analysis of the taxpayer’s intent in the second prong. See Winn-Dixie

Stores, Inc. & Subs. v. Commissioner, 113 T.C. 254, 280 (1999), aff’d, 254 F.3d

1313 (11th Cir. 2001). However, if the Court determines that a transaction is a

sham, i.e., lacking economic substance, the transaction is disregarded for Federal

tax purposes and the subjective inquiry into the taxpayer’s motive is not made.

Dow Chem. Co. v. United States, 435 F.3d at 599; see Owens v. Commissioner,

568 F.2d 1233, 1237 (6th Cir. 1977), aff’g in part, rev’g in part 64 T.C. 1 (1975).

Similarly, the substance over form doctrine is concerned with the parties’

intentions and the economic realities contemplated by the parties. Groetzinger v.

Commissioner, 87 T.C. 533, 542 (1986).

      In Niuklee v. Commissioner, 2015 WL 6941593 (Tenn. Ct. App. Nov. 9,

2015), cited by petitioners, a Tennessee court of appeals considered the statutory

interpretation of a State tax law for an exemption to State sales tax. The court

declined to apply the economic substance doctrine to the transaction at issue,

stating: “No Tennessee court has applied the economic substance doctrine.”
                                        - 39 -

[*39] Id. at *7. The case involved the construction of the statutory term “bona

fide” sale. The court found that under the statute a lease made for a legitimate

business purpose other than tax avoidance and for valuable consideration

constitutes a “bona fide” sale. Id. As the statute was clear, the court did not

consider the economic substance doctrine. Id. Petitioners argue that we should

not rely on the economic substance doctrine here on the basis of the reasoning in

Niuklee. They argue that TUFTA does not expressly incorporate the economic

substance doctrine, no Tennessee court has applied the doctrine to TUFTA, and

the Niuklee decision indicates the State’s highest court would not apply the

economic substance doctrine to these cases.15 They contend that the form of the

MidCoast transaction should be respected--they sold their stock to MidCoast,

received payment from MidCoast, received nothing from Holiday Bowl in the

stock sale, and are not transferees of Holiday Bowl with respect to the stock sale.

Cf. Nashville Clubhouse Inn v. Johnson, 27 S.W.3d 542 (Tenn. Ct. App. 2000)

(relying on substance over form principles in sales tax case).

      15
        A Federal court must follow the decisions of the State’s highest court
when that court has addressed the relevant issue. Meridian Mut. Ins. Co. v.
Kellman, 197 F.3d 1178, 1181 (6th Cir. 1999). Where no State court has decided
the point at issue, a Federal court must predict or anticipate how that State’s
highest court would rule. Bear Stearns Gov’t Sec. v. Dow Corning Corp. (In re
Dow Corning Corp.), 419 F.3d 543, 549 (6th Cir. 2005); Allstate Ins. Co. v.
Thrifty Rent-A-Car Sys., Inc., 249 F.3d 450, 454 (6th Cir. 2001).
                                        - 40 -

[*40] We have not found any State court case that applies judicial doctrines of

economic substance, substance over form, or sham transaction with respect to

transfers governed by TUFTA. The Court of Appeals for the Sixth Circuit has not

considered a case involving a MidCoast transaction or a similar intermediary

transaction. However, we find that it is appropriate to consider equitable

principles to determine whether to recast the MidCoast transaction. TUFTA

expressly incorporates equitable principles. Tenn. Code Ann. sec. 66-3-311.

Furthermore, TUFTA broadly defines the term “transfer” as “every mode, direct or

indirect, absolute or conditional, voluntary or involuntary, of disposing of or

parting with an asset or an interest in an asset”. Id. sec. 66-3-302(12).

             1.    Whether the Sequoia Loans Were Shams

      Respondent argues that the Sequoia loans were shams and that MidCoast

paid the purchase price using Holiday Bowl’s cash. He argues that Holiday Bowl

transferred its cash to the escrow agent, petitioners received the purchase price

from Holiday Bowl’s escrowed funds, and then the escrow agent distributed the

remaining Holiday Bowl funds to MidCoast as a premium. The escrow agent’s

trust account did not have sufficient funds to pay the purchase price without

Holiday Bowl’s money.
                                         - 41 -

[*41] We find that the Sequoia loans were shams.16 We make this decision

irrespective of whether the escrow agent held Sequoia funds in a separate client

account as petitioners suggest. Assuming Sequoia provided funds to MidCoast, it

did so not as a bona fide lender but to create the appearance of a loan and to

disguise the true nature of the transaction as a liquidating distribution. A loan is

an extension of credit; the Sequoia loans were not true extensions of credit. First,

Sequoia and MidCoast failed to execute loan documents such as demand notes.

Second, the loans were extended and repaid on the same day through a credit on

the resale of Holiday Bowl to Sequoia. The parties contemplated immediate

repayment as the loans were payable on demand and did not bear interest except

upon default. Third, the loans included a $17,250 loan fee. As the Sequoia loans

remained outstanding for one day, the $17,250 fee would represent an annual

interest of over $6.2 million, nearly twice the amount of the Sequoia loans. We

find that the loan fee compensated Sequoia for its participation in the tax scheme

to disguise a liquidating distribution to petitioners.

      Another indication that the Sequoia loans were shams and not true

extensions of credit is that the parties intended to use Holiday Bowl’s cash to fully


      16
       For simplicity we use the term “loan” irrespective of our decision that the
Sequoia loans were shams.
                                        - 42 -

[*42] secure the loans. The escrow agreement required Holiday Bowl to deposit

its cash into escrow before the stock sale and identified the purpose of the escrow

as security for the Sequoia loans. The escrow agreement gave Sequoia control

over Holiday Bowl’s cash at closing. Sequoia did not bear any risk. MidCoast

was not required to escrow the purchase price. By the terms of the escrow

agreement, only Holiday Bowl was required to infuse capital into the deal. The

fact that petitioners were unaware of MidCoast’s plan to allegedly resell Holiday

Bowl though a credit against the loans is not significant because petitioners knew

the Holiday Bowl cash secured the Sequoia loans. MidCoast’s representation that

it needed a loan to purchase a corporation holding only cash and then would use

the cash to purchase delinquent debt should have caused petitioners’ advisers

serious concern. For these reasons we find that the Sequoia loans were shams.

Sequoia was not a bona fide lender. It joined the MidCoast transaction to create

the form of a loan and to disguise the liquidating distribution.

      Petitioners contend that the Sequoia loans were funded and point to the

escrow agent’s account ledgers. They argue that even though the purchase price

was paid from the trust account, the escrow agent held the Sequoia loans in a

separate client account. The trust account lacked sufficient funds to pay the

purchase price unless the escrow agent used Holiday Bowl’s cash. The parties
                                        - 43 -

[*43] stipulated that Sequoia deposited nearly $35 million with the escrow agent

on November 2, 2003, and the escrow agent retained those funds on the date of the

MidCoast transaction, albeit in a different account. The record does not establish

the purpose for the $35 million deposit. Petitioners speculate that the escrow

agent held a portion of those funds to pay the Holiday Bowl purchase price. The

escrow agent recorded the payment of the purchase price on its account ledgers as

paid from the $35 million deposit. However, we have found that the account

ledgers are inconsistent and not reliable.

      Petitioners also contend that the terms of the share purchase agreement and

the escrow agreement support a finding that Holiday Bowl cash was not used to

pay the purchase price. As originally drafted, the share purchase agreement

provided for the simultaneous exchange of money: delivery of Holiday Bowl’s

cash to MidCoast and MidCoast’s payment of the purchase price. In the final

version, however, neither the share purchase nor the escrow agreement required

MidCoast or Sequoia to deposit funds with the escrow agent. Revisions to the

share purchase agreement allowed MidCoast to purportedly acquire Holiday Bowl

with the mere appearance of a loan and without an inflow of cash. The contract

terms did not prevent petitioners from receiving Holiday Bowl’s cash back as

payment of the purchase price. The share purchase agreement stated that it was
                                         - 44 -

[*44] the parties’ intention that petitioners would receive the purchase price before

Holiday Bowl’s escrowed funds were paid over to MidCoast. Similarly, the

escrow agreement stated that the escrow agent would not release Holiday Bowl’s

funds to Sequoia or MidCoast until petitioners received the purchase price.

Neither of these provisions prevented MidCoast from using Holiday Bowl’s cash

to pay the purchase price. Rather, the agreements required only that the escrow

agent pay petitioners before it paid any excess Holiday Bowl cash over to

MidCoast. Conversely, in Alterman Tr. v. Commissioner, T.C. Memo. 2015-231,

decided in favor of the transferee, both parties to the stock sale were contractually

obligated to deposit funds into escrow. Id. at *23. The contract in Alterman Tr.

also required the target corporation to maintain a certain net worth. Id. at *18.

The terms of the share purchase agreement and the escrow agreement do not

dissuade us from our finding that the Sequoia loans were shams. Nor does the

stipulated $35 million deposit. Accordingly, we find that the Sequoia loans were

shams, for the reasons stated above, and petitioners received a transfer from

Holiday Bowl in the MidCoast transaction. We will address respondent’s

alternative argument for petitioners’ transferee liability.
                                        - 45 -

[*45]         2.    De Facto Liquidation of Holiday Bowl

        Respondent alternatively argues that the Court should recharacterize the

MidCoast transaction as a complete liquidation of Holiday Bowl and a liquidating

distribution to petitioners equal to the purported purchase price. He argues that

the Court should apply the sham transaction or substance over form doctrine rather

than the standard for collapsing transactions as this Court and the Courts of

Appeals have done in other transferee liability cases that involve the Uniform

Fraudulent Transfer Act (UFTA) from other States with provisions similar to

TUFTA’s. In other such UFTA cases, we have collapsed the transactions at issue

where the transferee had actual or constructive knowledge of the entire scheme

that rendered the transfer fraudulent under State law. Salus Mundi Found. v.

Commissioner, 776 F.3d at 1020 (NY UFCA at issue); Diebold Found., Inc. v.

Commissioner, 736 F.3d at 187 (NY UFCA); Starnes v. Commissioner, 680 F.3d

at 433 (North Carolina UFTA); Slone v. Commissioner, T.C. Memo. 2016-115

(Arizona UFTA); Alterman Tr. v. Commissioner, T.C. Memo. 2015-231 (Florida

UFTA); Tricarichi v. Commissioner, T.C. Memo. 2015-201 (Ohio UFTA); cf.

Feldman v. Commissioner, 779 F.3d at 459-460 (finding knowledge of scheme not

required under Wisconsin UFTA). Respondent argues that TUFTA does not

require knowledge of the tax scheme to recharacterize the transaction as a transfer
                                        - 46 -

[*46] subject to TUFTA and argues, in the alternative, that petitioners had the

requisite knowledge. TUFTA does not require the transferee to have knowledge

of the statutory elements of constructive fraud, i.e., the transferor’s insolvency or

the lack of reasonably equivalent value. Accordingly, respondent argues that

knowledge of the entire scheme is not relevant when applying equitable principles

to recharacterize a transaction as a transfer subject to TUFTA.

      TUFTA does not provide any guidance as to whether it is appropriate to

consider a transferee’s knowledge when applying equitable principles to

recharacterize a transaction as a transfer. Tennessee caselaw does not set forth a

specific test or detailed analysis that we can use to apply equitable principles to

recast a transaction under TUFTA or to determine whether knowledge, either

actual or constructive, is required before we recast a transaction for purposes of

TUFTA. We are instructed by cases from other jurisdictions that have enacted the

UFTA. TUFTA instructs the courts to apply its provisions to effect its general

purpose to make uniform the law among the States that have enacted the UFTA.

Tenn. Code Ann. sec. 66-3-312. This Court and Courts of Appeals have imposed

a knowledge requirement under State law before applying equitable principles to

treat an alleged transferee as, in substance, having received a transfer in situations

where there was no transfer in form. Salus Mundi Found. v. Commissioner, 776
                                        - 47 -

[*47] F.3d at 1020; Diebold Found., Inc. v. Commissioner, 736 F.3d at 187;

Starnes v. Commissioner, 680 F.3d at 433; Slone v. Commissioner, T.C. Memo.

2016-115; Alterman Tr. v. Commissioner, T.C. Memo. 2015-231; Tricarichi v.

Commissioner, T.C. Memo. 2015-201; cf. Feldman v. Commissioner, 779 F.3d at

459-460 (finding knowledge of scheme is not required under Wisconsin law);

Weintraut v. Commissioner, T.C. Memo. 2016-142 (finding knowledge is not

required under Indiana law but also holding that the transferee had knowledge

assuming that State law required such knowledge). As we find that petitioners’

advisers had sufficient knowledge for us to recast the MidCoast transaction as a

transfer subject to TUFTA, we do not address respondent’s argument that such

knowledge is not required under State law.

      Assuming knowledge is required to recharacterize the MidCoast transaction

under State law, respondent must prove that petitioners had actual or constructive

knowledge that MidCoast would cause Holiday Bowl to fail to pay its 2003

income tax. Constructive knowledge is either knowledge that ordinary diligence

would have elicited, where the transferee was aware of circumstances that should

have led the transferee to inquire further into the circumstances of the transaction,

sometimes referred to as inquiry knowledge, or a more active avoidance of the

truth. Diebold Found., Inc. v. Commissioner, 736 F.3d at 187. We do not decide
                                         - 48 -

[*48] which of these definition of constructive knowledge is appropriate because

petitioners had constructive knowledge under either standard. Tennessee courts

have considered inquiry notice as a variant of actual notice rather than a type of

constructive notice, or a middle ground between constructive and actual notice.

Blevins v. Johnson County, 746 S.W.2d 678, 683 (Tenn. 1988). Tennessee courts

define inquiry notice as knowledge of facts and circumstances sufficient to put a

reasonable person on notice and to charge that person with knowledge of all the

facts and circumstances that a reasonably diligent and good-faith investigation

would disclose. Id. (considering notice with respect to real property rights);

Eldrige v. Savage, 2012 WL 6757941 (Tenn. Ct. App. Dec. 28, 2012) (considering

notice relating to running of statute of limitations).

      Petitioners knew from the outset that the underlying purpose of the

MidCoast transaction was to obtain a financial benefit from the nonpayment of

Holiday Bowl’s 2003 income tax. Mr. Hansell introduced MidCoast as willing to

pay a premium over Holiday Bowl’s book value because MidCoast would not pay

the tax on the gain from the asset sale and would pass a portion of the saving from

the unpaid tax liability back to petitioners. By that time petitioners had decided to

end their bowling alley business and planned to liquidate and distribute the

proceeds from an asset sale. Instead of liquidating, they pursued the MidCoast
                                       - 49 -

[*49] transaction to increase their after-tax proceeds from the asset sale. When the

asset sale was delayed because of family litigation in chancery court, petitioners

were aware of MidCoast’s proposal and their advisers had begun discussions with

MidCoast. Petitioners made the decision to reoffer the bowling alleys for sale in

late May 2003 and to separately pursue the MidCoast transaction. Petitioners

could have reconsidered the asset sale if their decision had been based on any

purpose other than tax saving. They chose to engage in both transactions as a tax-

avoidance strategy. From the beginning their advisers should have known “it

seems to good to be true”, as Mr. Hansell stated in his written correspondence

introducing the MidCoast transaction. There were numerous red flags that should

have raised the concerns of petitioners’ advisers, including a purchase price above

book value calculated on the basis of tax saving, the issues with the Sequoia loans

discussed above, Notice 2001-16, supra, and using an interest-free demand loan to

purchase a corporation holding only cash and tax liabilities.

      While petitioners claim that MidCoast misrepresented its business plan and

tax strategy, petitioners’ advisers did not attempt to confirm MidCoast’s

representations. Petitioners’ advisers did not request any documentation to verify

MidCoast’s representations. They contacted only references who were advisers

involved in prior MidCoast deals who merely confirmed that MidCoast closed the
                                        - 50 -

[*50] deals it started. They did not contact any references in the asset recovery

business to determine MidCoast’s reputation or whether MidCoast was in fact

engaged in an asset recovery business. Cf. Slone v. Commissioner, at *16

(transferees knew MidCoast had a reputation for “hardball” collection tactics).

Petitioners claim they believed MidCoast would continue Holiday Bowl as a going

concern, but the record shows that they considered Holiday Bowl would exist as a

“shell” for seven years. In addition, MidCoast’s alleged tax strategy should have

raised concerns for petitioners’ advisers, especially in the light of Notice 2001-16,

supra. Petitioners allege that MidCoast represented it would place Holiday Bowl

into an asset recovery business and would employ a tax strategy to frontload

expenses in the first 18 to 24 months of that business to offset Holiday Bowl’s

taxable gain and to defer payment of the 2003 tax. Holiday Bowl’s alleged stand-

alone asset recovery business would have existed for approximately six weeks in

2003 as the MidCoast transaction closed on November 18, 2003. It was not

plausible on the basis of MidCoast’s purported tax strategy that Holiday Bowl

would incur offsetting expenses in an asset recovery business by yearend.

Petitioners’ advisers apparently ignored this fact, however, when they followed

MidCoast’s unverified representations. Petitioners’ advisers should have known

that a six-week asset recovery business would not generate sufficient losses for
                                        - 51 -

[*51] Holiday Bowl to owe no tax in 2003. We also note that petitioners did not

obtain a legal opinion with respect to MidCoast’s purported tax strategy to

frontload expenses in an asset recovery business.

      Moreover, the share purchase agreement expressly stated that petitioners

could not rely on MidCoast’s representations made during the negotiation process.

By contrast, the share purchase agreement in Alterman Tr. contained specific

covenants that MidCoast would not dissolve the target for four years, MidCoast

would reengineer the target into an asset recovery business, the target would invest

a certain dollar amount in delinquent debt and would maintain a certain net worth

for four years, and MidCoast represented it had a net worth over $10 million, an

amount in excess of the target’s tax liability. Alterman Tr. v. Commissioner, at

*17-*18. Through these contractual provisions, the selling shareholders in

Alterman Tr. attempted to ensure the target’s tax would be paid. The transferee in

Alterman Tr. successfully prosecuted a claim against MidCoast on the basis of the

terms of the share purchase agreement. Id. at *32. Petitioners did not seek to

include similar contractual provisions in the share purchase agreement in these

cases. Rather than obtain this type of protection for their clients, petitioners’

advisers relied on the indemnity from MidCoast, the parent guaranty, and the fact
                                         - 52 -

[*52] that MidCoast had previously engaged in similar transactions. The advisers’

due diligence is not sufficient to protect petitioners.

      Irrespective of MidCoast’s claimed tax strategy, we find Notice 2001-16,

supra, a factor determining that petitioners should have known that MidCoast did

not have a legitimate strategy to avoid or defer Holiday Bowl’s 2003 income tax.

Petitioners and their advisers were aware of Notice 2001-16, supra, and knew that

the IRS had identified intermediary transactions similar to the MidCoast

transaction as listed transactions that the IRS considered abusive tax shelters.

Petitioners should have known that the IRS would scrutinize the MidCoast

transaction on the basis of Notice 2001-16, supra. The advice letters from

Chambliss Bahner and Johnson Hickey did not mention Notice 2001-16, supra, or

discuss whether the MidCoast transaction was a listed transaction subject to recent

IRS pronouncements. Mr. Snouffer was aware of Notice 2001-16, supra, and

discussed it with the author of an article that proposed that having the asset sale

occur first was enough of a differentiation from the listed transactions in the IRS

pronouncement. There is nothing in the record to indicate how Mr. Snouffer came

to the conclusion that Notice 2001-16, supra, did not apply or whether he in fact

came to that conclusion. Petitioners did not obtain a tax opinion that analyzed the

IRS pronouncement on listed transactions. Nevertheless petitioners were
                                        - 53 -

[*53] concerned with transferee liability apparently on the basis of Notice 2001-

16, supra. Petitioners’ advisers knew there was a risk that the IRS would

challenge MidCoast’s purported tax strategy and that MidCoast’s purported tax

scheme would not work. The advisers discussed the transferee liability with

petitioners. From the record it is apparent that the advisers’ legal analysis was

minimal and relied on the fact that MidCoast had engaged in similar transactions

for a number of years without problems with the IRS.

      Petitioners should have known that Holiday Bowl would be insolvent after

the MidCoast transaction. MidCoast represented that it needed a loan to purchase

a corporation with only cash and then would use the corporation’s cash to

purchase delinquent debt. Using a loan to purchase cash and tax liability should

have raised serious concerns for petitioners’ advisers. Holiday Bowl had no

operating assets, no employees, and no business operations. Holiday Bowl

decided to sell its assets and was in the process of winding up its affairs before

petitioners learned of MidCoast. When “one purports to sell cash in corporation

solution the burden is * * * particularly severe on the seller to show that the only

purpose served is not tax avoidance.” Owens v. Commissioner, 568 F.2d at 1239

(quoting Owens v. Commissioner, 64 T.C. at 15). Petitioners knew Holiday

Bowl’s cash secured the loans. The purported loans were payable on demand and
                                        - 54 -

[*54] did not charge interest except in default. Holiday Bowl’s cash was required

as security for the loans but could not be used to both purchase the delinquent debt

for an asset recovery business and repay the demand loan.

      Petitioners knew that Holiday Bowl would not pay tax for 2003. We find no

distinction between the nonpayment of the income tax in 2003 and the advisers’

characterization of MidCoast’s stated tax strategy as a deferral of tax as petitioners

knew there was a likelihood that Holiday Bowl would be insolvent after 2003 and

would exist as a shell. The adviser letters show that petitioners’ advisers had

knowledge that the result of the entire scheme of the MidCoast transaction was

nonpayment of Holiday Bowl’s 2003 income tax. MidCoast agreed to cause

Holiday Bowl to pay the 2003 income tax only “[t]o the extent any portion of the

Deferred Tax Liability is due to post-closing business activities”. In the letter of

intent, MidCoast had stated it would covenant to cause Holiday Bowl to pay 2003

tax to the extent due given Holiday Bowl’s postclosing activities. MidCoast

agreed to pay more than book value for Holiday Bowl stock because it planned not

to pay Holiday Bowl’s 2003 income tax and petitioners knew of the intended

nonpayment. This should have raised serious concerns for petitioners’ advisers

especially in the light of the IRS pronouncements on listed transactions.

Petitioners knew there was a risk of transferee liability, and they accepted the risk.
                                         - 55 -

[*55] The knowledge requirement to recharacterize a transaction for purposes of

transferee liability protects innocent creditors and purchasers for value. Diebold

Found., Inc. v. Commissioner, 736 F.3d at 189. Petitioners knew that the

MidCoast transaction was designed to let them avoid the tax due on the asset sale

and to leave only a shell of a corporation without assets to satisfy its liabilities.

Petitioners should have known through a commonsense examination of

MidCoast’s representations that MidCoast was purchasing Holiday Bowl’s tax

liabilities and would pay petitioners a premium above book value because

MidCoast would not pay the tax. We find that the substance of the MidCoast

transaction was a disguised liquidation to petitioners and petitioners knew, or

should have known, that Holiday Bowl would fail to pay its 2003 tax.

      C.     Advisers’ Knowledge Imputed to Petitioners

      Petitioners argue that the knowledge of an adviser is not imputed to

taxpayers where the taxpayer did not have the education or experience to

understand the tax implications of the transaction. We agree with petitioners that

Mrs. Hawk did not have a sophisticated understanding of tax law, had limited

education and business experience, and relied heavily on the expertise of her

advisers, including her husband’s longtime attorney, whom she trusted. Cf.

Tricarichi v. Commissioner, at *12 (transferee was a sophisticated businessman
                                       - 56 -

[*56] who received advice that the tax strategy was a “very aggressive tax-

motivated” strategy). She had no involvement in negotiating the terms of the

MidCoast transaction or with assessing the risks associated with it. However, she

understood that Holiday Bowl’s income tax would not be paid for 2003. While

she did not understand the tax strategy described by MidCoast or the intermediary

structure of the MidCoast transaction, her advisers did. Similarly, AmSouth Bank,

as cotrustee and coexecutor, relied on Chambliss Bahner and Johnson Hickey,

deferred to Mrs. Hawk’s decisions, and was not involved in negotiating with

MidCoast or assessing the legitimacy of the MidCoast transaction.

      To hold a transferee liable for unpaid tax, courts have looked to the

knowledge of the selling shareholders’ representatives rather than that of the

shareholders’ See Diebold Found., Inc. v. Commissioner, 736 F.3d at 188-189;

Estate of Marshall v. Commissioner, T.C. Memo. 2016-119; Alterman Tr. v.

Commissioner, T.C. Memo. 2015-231. In their argument against imputed

knowledge, petitioners cite Alexander v. Commissioner, T.C. Memo. 2013-203.

The Alexander case involved the 75% penalty for fraud under section 6663. In

Alexander we held that a taxpayer’s limited understanding of tax laws and reliance

upon his or her attorney is a factor weighing against the finding of fraudulent

intent for purposes of the 75% penalty. There is no legal basis to extend the
                                        - 57 -

[*57] reasoning of Alexander with respect to imputed knowledge, as it relates to

the fraud penalty, to the question of whether transferee liability exists. Moreover,

petitioners’ substantive liability for tax as transferees is determined under State

law, not the Federal tax law at issue in Alexander. Accordingly, we impute the

advisers’ knowledge to Mrs. Hawk and the other petitioners.

      D.     TUFTA Application to Stock Redemption and MidCoast Transaction

      Petitioners received transfers from Holiday Bowl in the MidCoast

transaction and the stock redemption for purposes of applying TUFTA.

Accordingly, we must determine whether the transfers were fraudulent under

TUFTA. A transfer is constructively fraudulent as to present creditors if: (1) the

transferor did not receive reasonably equivalent value in the exchange and (2) the

transferor became insolvent as a result of the transfer. Tenn. Code Ann. sec. 66-3-

306(a).

             1.     Present Creditor at Time of Transfer

      Petitioners argue that the IRS was not a present creditor at the time of the

MidCoast transaction and stock redemption because Holiday Bowl’s 2003 income

tax did not accrue until the end of the tax year, citing Hagaman v. Commissioner,

100 T.C. 180 (1993). We have held that the Commissioner becomes a creditor for

Federal income tax liabilities when taxable gain is realized. Kreps v.
                                         - 58 -

[*58] Commissioner, 42 T.C. at 670-671. Gain from the sale of corporate assets

arises at the time the assets were sold; and the IRS claim for income tax on the

gain from the sale of corporate assets arises at the time of the asset sale. Id; see

Feldman v. Commissioner, 779 F.3d at 457-460 (discussing Wisconsin’s UFTA).

The decision in Hagaman does not require a different result. The transfers in

Hagaman v. Commissioner, 100 T.C. at 185, occurred after the tax years at issue.

The Court’s holding assumed for purposes of the case that income tax is deemed

due and owing at the end of the year regardless of whether the tax is assessed. The

Court did not consider whether the IRS may become a creditor at an earlier time.

Id. at 185. We have previously held that income tax liability arising from the sale

of corporate assets is a claim arising at the time of the asset sale. Estate of

Marshall v. Commissioner, T.C. Memo. 2016-119; Cullifer v. Commissioner, T.C.

Memo. 2014-208. Petitioners further argue the enactment of section 6151 requires

us to reconsider this legal conclusion. Section 6151 establishes that tax is due

upon filing of a return. It defines a payment due date, not the existence of a claim.

Section 6151 is not relevant to determining whether respondent is a present

creditor in these cases.

      Income tax liability is a claim as defined by TUFTA. TUFTA defines the

term “claim” broadly as any “right to payment, whether or not the right is reduced
                                       - 59 -

[*59] to judgment, liquidated, unliquidated, fixed, contingent, matured,

unmatured, disputed, undisputed, legal, equitable, secured, or unsecured”. Tenn.

Code Ann. sec. 66-3-302(3). A claim includes tax liabilities arising from an asset

sale even if payment is not yet due. Estate of Marshall v. Commissioner, T.C.

Memo. 2016-119.

      Holiday Bowl’s 2003 tax liability arose, in substantial part, from two

events: the asset sale and the stock redemption. Respondent’s claim arose on the

dates of the asset sale, July 1, 2003, and the stock redemption, November 12,

2003. Respondent became a creditor on those dates and thus was a present

creditor on the date of the MidCoast transaction, November 12, 2003.17

             2.    Reasonably Equivalent Value

      TUFTA does not define the phrase “reasonably equivalent value”. The

Court of Appeals for the Sixth Circuit has instructed that the Court should first

determine whether the debtor received any value and, if so, whether the value

received was reasonably equivalent to that of the transferred asset. Stoats v.

Butterworth Props, Inc. (In re Humble), 19 F. App’x 198, 200 (6th Cir. 2001).

Whether Holiday Bowl received reasonably equivalent value is a question of fact.

      17
       Petitioners also received a transfer with respect to the portion of the
purchase price used to pay their attorney’s and accountant’s fees. See Tenn. Code
Ann. sec. 66-3-309(b)(1); Fibel v. Commissioner, 44 T.C. 647, 658 (1965).
                                         - 60 -

[*60] See Shockley v. Commissioner, T.C. Memo. 2015-113, aff’d, 872 F.3d 1235

(11th Cir. 2017); Hirsch v. Steinberg (In re Colonial Realty Co.), 226 B.R. 513,

523 (Bankr. D. Conn. 1998). Value is determined from the perspective of a

creditor. Stoner v. Amburn, 2012 WL 4473306, at *11. The Court of Appeals for

the Sixth Circuit has addressed the meaning of “reasonably equivalent” as that

phrase is used in the Bankruptcy Code, 11 U.S.C. sec. 548(a)(1)(B)(i). TUFTA is

substantially similar to the relevant parts of the Bankruptcy Code. See 11 U.S.C.

sec. 548(a)(1)(B). The Bankruptcy Code does not define the phrase. See

Congrove v. McDonald’s Corp. (In re Congrove), 222 F. App’x 450, 454 (6th Cir.

2007). The Court of Appeals for the Sixth Circuit Bankruptcy Appellate Panel has

stated that value is viewed on the basis of the consideration received by the debtor

and the net effect of the transfer on the value of the debtor’s estate, i.e., the funds

available to creditors after the transfer, rather than the value given by the

transferee. Id. The unsecured creditor should be no worse off. Id. The test used

to determine reasonably equivalent value compares the value of the property

surrendered with the value of the property received. Corzin v. Fordu (In re

Fordu), 201 F.3d 693, 707-708 (6th Cir. 1999); Webb v. Exec. Realty P’ship, L.P.

(In re Webb Mtn., LLC), 420 B.R. 418, 433 (Bankr. E.D. Tenn. 2009).
                                        - 61 -

[*61] Petitioners contend that Holiday Bowl received its own stock in exchange

for Snow Hill Road. Respondent argues that the redeemed shares had no value

because Holiday Bowl was insolvent on the redemption date. When a corporation

is insolvent at the time of a stock redemption, the corporation generally receives

nothing of value from the return of the stock as the stock is valueless to the

corporation. Consove v. Cohen (In re Roco Corp.), 701 F.2d 978, 982 (1st Cir.

1983). However, courts will look to other value that a corporation may receive in

conjunction with the stock redemption when the corporation is insolvent, such as

release of a claim or waiver of rights, to find reasonably equivalent value.

Corporate Jet Aviation, Inc. v. Vantress (In re Corporate Jet Aviation, Inc.), 57

B.R. 195, 199 (Bankr. N.D. Ga.1986) (a minority shareholder’s waiver of his right

to dissent to a proposed sale of the corporation’s assets may constitute reasonably

equivalent value); Shaps v. Just Enough Corp. (In re Pinto Trucking Serv. Inc.), 93

B.R. 379, 388 (Bankr. E.D. Pa. 1988) (release of legal claims against corporation

and other shareholders may constitute reasonably equivalent value). The

redemption here was not for reasonably equivalent value. Petitioners have not

identified anything of value that Holiday Bowl received in the redemption. The

redemption did not change the respective ownership interests in Holiday Bowl.

Furthermore, as the MidCoast transaction was a disguised liquidating distribution
                                         - 62 -

[*62] from Holiday Bowl to petitioners, we find that Holiday Bowl did not receive

any value in the transaction.

             3.     Insolvency

      The TUFTA constructive fraud provision at issue requires the debtor to be

insolvent at the time of the transfer or to become insolvent as a result of the

transfer. Tenn. Code Ann. sec. 66-3-306(a). A debtor is insolvent under TUFTA

if the sum of its debts is greater than its assets at a fair valuation. Id. In addition,

a debtor that fails to pay its debts as they become due is presumed to be insolvent.

Id. sec. 66-3-303(b). Insolvency may be measured after a series of related

transfers that in total leave the transferor insolvent. Botz v. Helvering, 134 F.2d

538, 543 (8th Cir. 1943), aff’g 45 B.T.A. 970 (1941); Still v. Fuller (In re Sw.

Equip. Rental, Inc.), 1992 WL 684872; see Hagaman v. Commissioner, 100 T.C.

180; Gumm v. Commissioner, 93 T.C. 475, 480 (1989), aff’d without published

opinion, 933 F.2d 1014 (9th Cir. 1991).

      The stock redemption rendered Holiday Bowl insolvent only if considered

in conjunction with the MidCoast transaction. After the stock redemption, without

considering the MidCoast transaction, Holiday Bowl would have held

approximately $4.2 million in assets and $1.2 million in tax liabilities with a net

asset value of $3 million. However, the stock redemption was part of a series of
                                        - 63 -

[*63] transactions that led to Holiday Bowl’s insolvency. The redemption and the

MidCoast transaction are sufficiently related that we can measure the effect of

both events on Holiday Bowl’s solvency together. Petitioners treated the

redemption and the MidCoast transaction as one event for purposes of State tax

law. The share purchase agreement deemed the MidCoast transaction and the

redemption to occur simultaneously. They were planned to occur together and in

fact occurred on the same day. See Weintraut v. Commissioner, T.C. Memo.

2016-142. Petitioners would not have engaged in the redemption if the MidCoast

transaction had not closed. Rather Ms. Colletti advised distributing Snow Hill

Road in a liquidating distribution if the MidCoast transaction did not take place.

The redemption and the MidCoast transaction were part of the same event: a

distribution of assets in complete liquidation.

      Respondent did not concede that Holiday Bowl was solvent after the stock

redemption, as petitioners argue, on the basis of the stipulation of Holiday Bowl’s

balance sheet dated November 7, 2003, that did not list Snow Hill Road as a

corporate asset. Petitioners suggest that Holiday Bowl was not insolvent on the

basis of the funds held in the Delta Trading account, arguing that either Holiday

Bowl retained ownership of the money held in this account or the transfer repaid

the Sequoia loans. The MidCoast transaction paid out $3.45 million of Holiday
                                       - 64 -

[*64] Bowl’s assets to petitioners, leaving Holiday Bowl with approximately

$700,000 in cash and $1.2 million in Federal and State tax. If we stop here,

Holiday Bowl was insolvent; but additional transfers were made to MidCoast of

approximately $320,000.

      We hold that petitioners are subject to substantive liability under TUFTA on

the basis of constructive fraud because they received Snow Hill Road and a

liquidating distribution from Holiday Bowl without giving reasonably equivalent

value in exchange for the distributions. Those distributions resulted in Holiday

Bowl’s insolvency. Respondent’s claim for the 2003 tax arose before the

distributions. Accordingly, we find that petitioners are liable for Holiday Bowl’s

2003 tax under the constructive fraud provision of Tenn. Code Ann. sec. 66-3-306.

II.   Transferee Liability Under Section 6901

      For purposes of section 6901, the term “transferee” includes a donee, heir,

legatee, devisee, distributee, or shareholder of a dissolved corporation. Sec.

6901(h); sec. 301.6901-1(b), Proced. & Admin. Regs. The principles of substance

over form discussed above apply to determinations of transferee liability under

Federal tax law. The MidCoast transaction served no business purpose other than

to avoid tax and to disguise payment as coming from any entity other than Holiday

Bowl. The financial benefit to petitioners or MidCoast is derived solely from the
                                        - 65 -

[*65] nonpayment of tax. The MidCoast transaction had no economic effect

except for tax saving. The objective economic reality shows that the MidCoast

transaction was a liquidating distribution. Petitioners are transferees of Holiday

Bowl under section 6901. Under section 6902(a) petitioners bear the burden of

proving that Holiday Bowl is not liable for the underlying tax liability or is liable

for a reduced amount. See Rule 142(d). Petitioners have not challenged the

underlying tax liability.

       The marital trusts received transfers from the estate and are liable as

successive transferees under TUFTA and section 6901. The trusts provided no

value to the estate in exchange for the transfers. Judgment may be entered against

successive transferees for the value of the transferred assets or the amount needed

to satisfy the creditor’s claim, whichever is less. Tenn. Code Ann. sec. 66-3-

309(b)(2).

III.   Reasonable Collection Efforts

       Petitioners argue that they are not liable as transferees because respondent

failed to make reasonable efforts to collect the 2003 tax from Holiday Bowl. State

law determines the Commissioner’s obligation to pursue collection efforts against

a transferor before proceeding against a transferee. Hagaman v. Commissioner,

100 T.C. at 183-184; Kardash v. Commissioner, T.C. Memo. 2015-51, at *22.
                                          - 66 -

[*66] TUFTA does not require a creditor to pursue collection efforts against a

transferor as a prerequisite to transferee liability.

      Any additional collection efforts against Holiday Bowl would have been

futile. See Zadorkin v. Commissioner, T.C. Memo. 1985-137. The

reasonableness of collection efforts depends on the facts of each case. Cullifer v.

Commissioner, at *73. Respondent completed his investigation into collection

potential against Mrs. Hawk before completing his investigation of Holiday Bowl

and before issuing a notice of deficiency or assessing tax against Holiday Bowl.

An IRS revenue officer spent only six hours on his initial investigation before

submitting his collection reports. After the tax assessment against Holiday Bowl,

respondent conducted another investigation. The IRS searched property and

corporate records in Tennessee and Nevada (the two States of Holiday Bowl’s

incorporation) for Holiday Bowl assets and found none, obtained a business

report, searched internal databases, visited the last address available for Holiday

Bowl, and filed notices of Federal tax lien in Nevada and Tennessee. The IRS

confirmed with the Corley family that Holiday Bowl had sold its operating assets

in 2003, filed its final return for 2005, and dissolved in 2006. In fact, Holiday

Bowl was insolvent by the end of 2003. Respondent determined that Holiday
                                         - 67 -

[*67] Bowl did not have any assets from which to collect tax and made a

reasonable collection effort.

      Petitioners also argue that respondent cannot pursue transferee liability

against them because respondent did not pursue transferee liability against

MidCoast or Sequoia. They cite no authority for the argument that respondent

must pursue all potential transferees. Transferee liability is several under section

6901. Alexander v. Commissioner, 61 T.C. 278, 295 (1973). We have held that

the Commissioner may proceed against any or all transferees in no particular

order. Cullifer v. Commissioner, at *74.

IV.   Transferee Liability for Penalty

      Respondent assessed a section 6662(h) 40% penalty against Holiday Bowl

for 2003 for a gross valuation misstatement relating to the claimed loss

deductions. Transferee liability under section 6901 can include related additions

to tax, penalties, and interest owed by the transferor. Kreps v. Commissioner, 42

T.C. at 670. Petitioners rely on Stanko v. Commissioner, 209 F.3d 1082 (8th Cir.

2000), rev’g T.C. Memo. 1996-530, to argue that a transferee is not liable for a

penalty on the basis of conduct that occurred after the transfer unless the

Commissioner proves the transferee’s fraudulent intent. Id. at 1088. Petitioners
                                        - 68 -

[*68] argue that the deficiency resulted from option transactions that occurred in

December 2003.

      We have previously rejected similar arguments. See Estate of Marshall v.

Commissioner, T.C. Memo. 2016-119; Tricarichi v. Commissioner, T.C. Memo.

2015-201. Stanko involved pre-UFTA law that defined fraudulent conveyances

and held that because the penalty did not exist at the time of the transfer, the

creditor must prove intent to defraud subsequent creditors. TUFTA’s definition of

“claim” is expansive and includes unmatured and unliquidated claims, including

the penalty here regardless of whether the penalty existed at the time of the

transfer. Furthermore, the facts here would support a finding of constructive fraud

under the two TUFTA provisions applicable to future creditors that were enacted

after Stanko and do not require proof of fraudulent intent.18 See Tenn. Code Ann.

sec. 66-3-305(a)(2).




      18
         Tenn. Code Ann. sec. 66-3-305(a)(2) also imposes transferee liability for
constructive fraud, requires the same evidence of an exchange of reasonably
equivalent value, and applies to both present and future creditors; however,
instead of insolvency, it requires evidence that either: (1) the debtor was engaged
or was about to engage in a business or a transaction for which the debtor’s
remaining assets were unreasonably small in relation to the business or transaction
or (2) the debtor intended to incur, or believed or reasonably should have believed
that the debtor would incur, debts beyond the debtor’s ability to pay as they
became due. Id. sec. 66-3-305(a)(2)(A) and (B).
                                        - 69 -

[*69] We look to State law to determine whether there is a basis to relieve

petitioners of transferee liability for the accuracy-related penalty. Under TUFTA,

a creditor may recover the lesser of: (1) the value of the asset transferred, subject

to adjustments or (2) the amount necessary to satisfy the creditor’s claim. Id. sec.

66-3-309(b). Where transferee liability is based on the value of the asset, value is

determined at the time of the transfer subject to adjustment as equities may

require. Id. sec. 66-3-309(c). The transfers to Mrs. Hawk and the exempt trust

were less than the IRS claim against Holiday Bowl so their liability is limited to

the value of the transferred assets. We have discretion to reduce the judgment

against the exempt trust and Mrs. Hawk as equities warrant. See id. sec. 66-3-

309(c). Such relief is appropriate with respect to the penalty.

      Mrs. Hawk relied on her husband’s longtime attorney. Mrs. Hawk did not

understand the complexity of the tax law applicable to either the asset sale or the

MidCoast transaction. Mrs. Hawk was a homemaker for her nearly 50-year

marriage and did not have business experience. AmSouth’s trust officer also

relied on professionals, initially did not want to pursue the transaction, was not

involved in negotiations, and generally deferred to Mrs. Hawk’s decisions.

Petitioners received only slightly more than Holiday Bowl’s book value. They
                                            - 70 -

[*70] gave up corporate stock with a book value of $3 million and received a

liquidating distribution of $3.45 million.

      When the transferred assets exceed the amount of the creditor’s claim, the

transferee is liable for the full amount of the creditor’s claim, and TUFTA does not

provide for equitable adjustments. Tenn. Code Ann. sec. 66-3-309(a). The estate

and the nonexempt trust received transfers in excess of the amount of the IRS

claim. We do not have discretion to adjust their liability for equitable

considerations. Accordingly, we find the estate and the nonexempt trust are liable

for the accuracy-related penalty against Holiday Bowl. Petitioners also seek to

reduce any transferee liability attributable to their status as beneficiaries of the

estate (the exempt and nonexempt trusts) by their estate tax liabilities on the

transfers from the estate, citing Estate of Cury v. Commissioner, 23 T.C. 305, 341-

342 (1954). Transferee liability is measured by the value of assets received,

reduced by the value of liabilities assumed by the transferee. Id. Respondent did

not object to this computation in his briefs.

V.    Petitioners’ Liability for Interest

      Petitioners argue that we should not hold them liable for prejudgment

interest because prejudgment interest is discretionary under Tennessee law and

depends on the equities of the case. See Tenn. Code Ann. sec. 47-14-123. Under
                                         - 71 -

[*71] Federal tax law, interest in transferee liability cases is calculated in two

separate periods, prenotice and postnotice; the applicable notice is the notice of

transferee liability. Prejudgment interest (a State law term) includes prenotice

interest and a portion of the postnotice interest. The postnotice interest period

begins on the issuance of the notice of transferee liability and ends when the tax is

paid in full. Estate of Stein v. Commissioner, 37 T.C. 945, 959 (1962). Postnotice

interest (including the portion that is prejudgment) is determined under Federal

law and applies regardless of the value of the transferred asset. We hold that each

petitioner is liable for postnotice interest pursuant to section 6601(a).

      A transferee’s liability for prenotice interest depends on the value of the

assets the transferee received. If the transferee received assets valued at less than

the IRS claim, State law governs liability for prenotice interest, including the

applicable rate. Lowy v. Commissioner, 35 T.C. 393, 395 (1960). Interest begins

no earlier than the transfer date. Id. If the transferee received assets valued in

excess of the IRS claim, prenotice interest begins on the due date of the

transferor’s tax and ends upon issuance of the notice of transferee liability, and

Federal law determines the transferee liability for interest. Estate of Stein v.

Commissioner, 37 T.C. at 961.
                                       - 72 -

[*72] A.     Mrs. Hawk’s and the Exempt Trust’s Liability for Prenotice Interest

      Since Mrs. Hawk and the exempt trust received transfers of less than

Holiday Bowl’s 2003 tax, penalty, and interest, Tennessee law determines their

liability for prenotice interest. Under Tennessee law, the award of prejudgment

interest is discretionary and depends upon the equities of the case. Tenn. Code

Ann. sec. 47-14-123; McDonald v. Morgan (In re Morgan), 415 B.R. 644, 651

(Bankr. E.D. Tenn. 2009). The purpose of prejudgment interest is to compensate

the IRS for loss of the use of the funds. Baptist Physician Hosp. Org., Inc. v.

Humana Military Healthcare Serv., 415 F. Supp. 2d 835 (E.D. Tenn. 2006).

Courts may award prejudgment interest where the transferee had full access to and

use of the money pending the case, and the IRS has not otherwise been

compensated for the loss of the use of the funds. Courts have considered other

equitable factors to determine whether prejudgment interest is appropriate

including: whether the amount owed was easily ascertainable before judgment,

whether the transferee had reasonable grounds to dispute transferee liability, and

whether there were unreasonable delays in the case. Myint v. Allstate Ins., 970

S.W.2d 920, 927-928 (Tenn. 1998); Dog House Invs., LLC. v. Teal Props., Inc.,

448 S.W.3d 905 (Tenn. Ct. App. 2014); Wilder v. Tenn. Farmers Mut. Ins. Co.,

912 S.W.2d 722, 727 (Tenn. Ct. App. 1995) (prejudgment interest inequitable
                                        - 73 -

[*73] where the defendant had reasonable defense against claim and lawsuit

extended because of court delays); BancorpSouth Bank v. 51 Concrete, LLC, 2016

WL 1211433 (Tenn. Ct. App. Mar. 28, 2016) (prejudgment interest proper where

there were no reasonable grounds to dispute the debt).

      With respect to Mrs. Hawk and the exempt trust, we must determine

whether prenotice interest is appropriate and if judged appropriate, set a date that

prenotice interest begins to accrue to achieve an equitable result. We find that

Mrs. Hawk and the exempt trust are not liable for prenotice interest on the basis of

the equities. While they had use of the funds and the amount was easily

determinable, delays outside these petitioners’ control factor into our decision to

relieve them from liability for prenotice interest. Petitioners filed informal

discovery in 2010 and interrogatories in 2011. Respondent failed to provide a

significant portion of the documentary evidence that he had in his possession until

2013, and petitioners filed a motion to compel respondent to answer

interrogatories in January 2014. In 2011 respondent sought a stay in these cases

because of a pending criminal case against MidCoast representatives that did not

involve petitioners. As transferees, petitioners had a disadvantage as they did not

control the filing of the tax return, the tax payment, or the tax documentation for
                                        - 74 -

[*74] the underlying tax liability. Under these circumstances, we will not award

respondent prenotice interest with respect Mrs. Hawk and the exempt trust.

      B.     Exempt Trust and the Estate’s Liability for Prenotice Interest

      Federal law controls the liability of the nonexempt trust and the estate for

prenotice interest because both petitioners received assets valued in excess of the

IRS claim. No equitable considerations are available to relieve the estate or the

nonexempt trust of liability for prenotice interest under Federal law. Accordingly

we hold that the nonexempt trust and the estate are liable for prenotice interest.

      In reaching our holdings herein, we have considered all arguments made,

and to the extent not mentioned above, we conclude that they are moot, irrelevant,

or without merit.

      To reflecting the foregoing,

                                                      Decisions will be entered under

                                                 Rule 155.
