                             T.C. Memo. 2019-150



                        UNITED STATES TAX COURT



               BEVERLY CLARK COLLECTION, LLC,
         NELSON CLARK, TAX MATTERS PARTNER, Petitioner v.
         COMMISSIONER OF INTERNAL REVENUE, Respondent



      Docket No. 27538-08.                       Filed November 14, 2019.



      Steven Ray Mather, for petitioner.

      John W. Stevens, for respondent.



                          MEMORANDUM OPINION


      PUGH, Judge: This case is before the Court on petitioner’s Motion for

Summary Judgment. In a notice of final partnership administrative adjustment

(FPAA) dated August 25, 2008, respondent determined that certain transactions in

1999 and 2000 were shams and should not be respected. The specific issue for
                                        -2-

[*2] decision is whether the period for assessment for 2000 was extended to six

years under sections 6501(e)(1)(A) and 6229(c)(2).1

                                    Background

      The following facts are from the parties’ pleadings and other materials in

the record.

      From 1987 to 2000 Nelson and Beverly Clark owned a wedding accessories

business, the Beverly Clark Collection, which they operated as a sole

proprietorship. On March 12, 1999, the Clarks transferred all of the assets and

liabilities of the business to a newly created California limited liability company,

Beverly Clark Collection, LLC (BCC). In exchange they received 100% of BCC’s

equity, with the Clarks each receiving 50% interests.

      BCC’s 1999 Form 1065, U.S. Return of Partnership Income, and the Clarks’

1999 Form 1040, U.S. Individual Income Tax Return, reported what they claimed

to be a sale on December 31, 1999, of an 80.01% interest in BCC to Fausset Trust

in exchange for a $10,401,300 Treasury note. Before that sale the Clarks had

contributed Treasury notes and a small amount of cash to BCC. BCC then sold


      1
        Unless otherwise indicated, all section references are to the Internal
Revenue Code of 1986, as amended and in effect at all relevant times. Rule
references are to the Tax Court Rules of Practice and Procedure. All monetary
amounts are rounded to the nearest dollar.
                                         -3-

[*3] the Treasury notes, recognizing a small loss. Respondent characterized the

Clarks’ acquisition of the notes through a short sale, their contribution to BCC,

and BCC’s disposition for a small loss as a “Son-of-BOSS” transaction that

artificially inflated the Clarks’ outside basis in BCC.2

      On their 1999 Form 1040 the Clarks reported a short-term capital loss of

$26,813 and a long-term capital loss of $3,703 on the sale of the BCC interest to

Fausset Trust. BCC’s 1999 Form 1065 reported capital contributions of

$13,257,425 for the year. The 1999 Schedules K-1, Partner’s Share of Income,

Credits, Deductions, etc., for Mr. Clark, Mrs. Clark, and Fausset Trust showed

end-of-year ownership interests of 9.99%, 10%, and 80.01%, respectively.

      BCC’s Form 1065 and the Clarks’ Form 1040 for 2000 reported what they

claimed to be the tax consequences to BCC and its partners, the Clarks and

Fausset Trust, of the March 2000 liquidation of BCC and sale of its assets to

Maplewood LF Investors, LLC. The Clarks’ 2000 Form 1040 reported $2,083,976

of gross proceeds and $1,406,395 of gain from the postliquidation sale of BCC’s

assets and goodwill. The Clarks also reported gross income of $811,512 for 2000.

BCC’s 2000 Form 1065 reported a $10,527,061 distribution of property and the


      2
     We first described these types of transactions in Kligfeld Holdings v.
Commissioner, 128 T.C. 192 (2007).
                                        -4-

[*4] Clarks’ 2000 Schedules K-1 reported flowthrough losses of $7,284,835 and

$7,284,837, respectively. The Schedules K-1 also reported guaranteed payments

from BCC to the Clarks totaling $150,000; the Clarks did not report this amount

on their 2000 Form 1040, however.

      Respondent issued an FPAA to petitioner on August 25, 2008, challenging

the reported tax consequences described above. The parties agree that the FPAA

was issued more than three but less than six years after the close of the relevant tax

years (plus extensions of time for assessment).3

      Petitioner filed a Motion for Summary Judgment that the applicable

limitations period was three years, not six, and therefore the assessment of any tax

stemming from the adjustments set forth in the FPAA is time barred. Respondent

objected that the applicable period is six years because there was substantial

omitted income within the meaning of section 6501(e)(1)(A). He offered two

theories in support of this argument. First, he argued that substantial omitted

income arose from the Clarks’ overstated bases in their interests in BCC. Second,

he argued that the Clarks’ 1999 sale of 80.01% of their interest in BCC to Fausset

      3
        The parties agree that respondent received from the Clarks a Form 872-I,
Consent to Extend the Time to Assess Tax as Well as Tax Attributable to Items of
a Partnership, as to the 2000 tax year before the expiration of the six-year period
and that the FPAA was issued within that extended period. For simplicity we will
disregard the extension and refer to the six-year period.
                                        -5-

[*5] Trust was a sham and should be disregarded, and, therefore, the Clarks were

required to report the entire $12,990,000 in sale proceeds that respondent

determined arose from the 2000 postliquidation sale of BCC’s assets. Respondent

contends that the omission of 80.01% of the sale proceeds resulted in a substantial

omission of income and triggered the six-year limitations period under section

6501(e) as to the Clarks’ return and, therefore, as to BCC’s return under section

6229(c)(2), making the FPAA timely. See Rhone-Poulenc Surfactants &

Specialties, L.P. v. Commissioner, 114 T.C. 533, 542 (2000).

      We entered an order and decision in this case granting summary judgment to

petitioner, ruling that the period of limitations for assessment was three years and

therefore had expired. We based our decision on the effect of our Opinion in

Bakersfield Energy Partners, LP v. Commissioner, 128 T.C. 207 (2007), aff’d, 568

F.3d 767 (9th Cir. 2009), and did not address respondent’s sham transaction

argument. We specifically noted that Bakersfield “held that an overstatement of

basis is not an omission of gross income triggering application of the 6-year period

of limitations” at issue there. Beverly Clark Collection, LLC v. Commissioner,

T.C. Dkt. No. 27538-08 (Nov. 10, 2010).

      Respondent appealed our decision to the U.S. Court of Appeals for the

Ninth Circuit. He abandoned his overstatement of basis argument after the U.S.
                                        -6-

[*6] Supreme Court decided United States v. Home Concrete & Supply, LLC, 566

U.S. 478 (2012). In an unpublished opinion the Court of Appeals vacated our

order and decision so that we could consider respondent’s remaining argument

that the limitations period remains open because the 1999 sale was a sham.

Beverly Clark Collection, LLC. v. Commissioner, 571 F. App’x 601 (9th Cir.

2014).

                                     Discussion

      Rule 121(b) provides in part that after a motion for summary judgment and

opposing response are filed “[a] decision shall thereafter be rendered if the

pleadings * * * and any other acceptable materials, together with the affidavits or

declarations, if any, show that there is no genuine dispute as to any material fact

and that a decision may be rendered as a matter of law.” The moving party bears

the burden of showing that there is no genuine issue of fact, and factual inferences

will be drawn in the light most favorable to the nonmoving party. Dahlstrom v

Commissioner, 85 T.C. 812, 821 (1985).

      Ordinarily, the limitations period on assessment of tax is three years after

the return was filed. Sec. 6501(a). The period is extended to six years “[i]f the

taxpayer omits from gross income an amount properly includible therein which is

in excess of 25 percent of the amount of gross income stated in the return”. Id.
                                             -7-

[*7] subsec. (e)(1)(A). In determining the amount omitted from gross income, any

amounts “disclosed in the return, or in a statement attached to the return, in a

manner adequate to apprise the Secretary of the nature and amount of such item”

are not taken into account. Id. cl. (ii).4

      With respect to a partnership subject to the Tax Equity and Fiscal

Responsibility Act of 1982 (TEFRA),5 Pub. L. No. 97-248, sec. 402(a), 96 Stat.

at 648, section 6229 provides that “the period for assessing any tax imposed by

subtitle A with respect to any person which is attributable to any partnership item

(or affected item) for a partnership taxable year shall not expire before the date

which is 3 years after” (1) the date on which the partnership return for that taxable

year was filed or (2) the last day for filing the return for that year, whichever was

later. Sec. 6229(a) (repealed 2018). The period can be extended further by

agreement “before the expiration of such period.” Id. subsec. (b)(1); see also

sec. 6501(c)(4)(A).



      4
        In the 2010 amendment to sec. 6501 enacted by the Hiring Incentives to
Restore Employment Act, Pub. L. No. 111-147, sec. 513(a)(1), 124 Stat. at 111
(2010), this provision was moved to sec. 6501(e)(1)(B)(ii).
      5
        Before its repeal, see Bipartisan Budget Act of 2015, Pub. L. No. 114-74,
sec. 1101(a), 129 Stat. at 625, TEFRA governed the tax treatment and audit
procedures for certain partnerships, see Tax Equity and Fiscal Responsibility Act
of 1982, Pub. L. No. 97-248, secs. 401-407, 96 Stat. at 648-671.
                                        -8-

[*8] Section 6229 thus provides an alternative minimum period of limitations to

the one set out in section 6501 and gives the Commissioner a minimum of three

years to challenge items on a TEFRA partnership return. Rhone-Poulenc

Surfactants & Specialties, L.P. v. Commissioner, 114 T.C. at 542. Section

6229(c)(2) provides that the limitations period is extended to six years “[i]f any

partnership omits from gross income an amount properly includible therein”, and

that amount is described in section 6501(e)(1)(A) as “in excess of 25 percent of

the amount of gross income stated in the return”.

      Partnership-level adjustments may result in a substantial omission at the

partner level for purposes of section 6501(e). Rhone-Poulenc Surfactants &

Specialties, L.P. v. Commissioner, 114 T.C. at 551; see also CNT Inv’rs, LLC v.

Commissioner, 144 T.C. 161, 189-191 (2015). And as we explained in Rhone-

Poulenc Surfactants & Specialties, partnerships are not taxable entities; any

income tax attributable to partnership items must be assessed at the partner level.

So if the limitations period was open as to the Clarks when respondent issued the

FPAA, the FPAA was not meaningless, and this case may proceed; if it was

closed, the FPAA is untimely and we must enter decision for petitioner. See CNT

Inv’rs, LLC v. Commissioner, 144 T.C. at 213; see also Rhone-Poulenc

Surfactants & Specialties, L.P. v. Commissioner, 114 T.C. at 534-535.
                                        -9-

[*9] Respondent’s argument is that the so-called omission on the 2000 returns

arose not just from overstated basis generated by the “Son-of-BOSS” transaction

but also because the 1999 sale by the Clarks of 80.01% of BCC to Fausset Trust

was a sham.6 If so, then the Clarks omitted 80.01% of gain on the postliquidation

2000 sale from their 2000 Form 1040 because they received greater gross proceeds

than were reported as allocable to them on BCC’s 2000 Form 1065 or their 2000

Form 1040.

      Because the question of whether the 1999 sale was a sham is a genuine

factual dispute material to respondent’s argument against summary judgment, we

will assume that it was so for purposes of deciding petitioner’s motion. We agree

that, assuming the 1999 sale was a sham, the Clarks should have reported gain on

the full amount of the proceeds of the postliquidation asset sale--$12,990,000.

Respondent contends that this was an omission in excess of 25% of the gross

income the Clarks reported on their 2000 Form 1040 and BCC reported as

attributable to the Clarks on its 2000 Form 1065. Therefore, argues respondent,

the six-year period of limitations applies, and the FPAA issued to petitioner is


      6
       Respondent does not argue that there was an omission of gross income on
the 1999 returns. And as the only adjustment to BCC’s 1999 Form 1065 in the
FPAA was a reduction in the amount of capital contributed to BCC by the Clarks,
we likewise conclude that there was no omission.
                                        - 10 -

[*10] timely. So the first question we must answer is whether the Clarks’ failure

to report the other 80.01% of the gain is an omission for purposes of the six-year

limitations period.

      In considering the application of a prior version of section 6501(e)(1)(A),

the U.S. Supreme Court explained that “the Commissioner is at a special

disadvantage” where a taxpayer fails to report an item of tax and “the return on its

face provides no clue to the existence of the omitted item.” Colony, Inc. v.

Commissioner, 357 U.S. 28, 36 (1958). The Court went on to explain: “On the

other hand, when * * * the understatement of a tax arises from an error in

reporting an item disclosed on the face of the return the Commissioner is at no

such disadvantage. And this would seem to be so whether the error be one

affecting ‘gross income’ or one, such as overstated deductions, affecting other

parts of the return.” Id.

      We recently addressed this question in another “Son-of-BOSS” case, CNT

Inv’rs, LLC. There, the taxpayer argued that under United States v. Home

Concrete & Supply, LLC, 566 U.S. 478 (2012), “the allegedly omitted item--gain

recognized on * * * [a partnership’s] distribution of appreciated property to its

shareholders--d[id] not constitute an omission within the meaning of section
                                        - 11 -

[*11] 6501(e)(1)(A) because it derive[d] entirely from an overstatement of outside

basis.” CNT Inv’rs, LLC v. Commissioner, 144 T.C. at 208.

      In Home Concrete & Supply, LLC, 566 U.S. at 483, the Supreme Court

concluded that its interpretation in Colony, Inc., applied with equal force to the

current version. In both cases the Supreme Court considered and rejected

respondent’s argument here that the phrase “omits * * * an amount” in section

6501(e)(1)(A) should be read to include an understatement of an amount,

concluding that such a reading would give too much weight to “amount” and too

little to “omits”. Home Concrete & Supply, LLC, 566 U.S. at 485-486; Colony,

Inc. v. Commissioner, 357 U.S. at 32-33. In Colony, Inc., the Court rejected the

Commissioner’s argument that the phrase “omits from gross income an amount

properly includible therein” should be read to include an understatement of

income arising from an overstatement of costs. And in Home Concrete & Supply,

LLC, 566 U.S. at 490, the Court expressly rejected the Commissioner’s argument

that “omits” could be construed to include an understatement of income arising

from an overstatement of basis.

      Thus, as we explained in CNT Inv’rs, LLC v. Commissioner, 144 T.C. at

208, under both Colony, Inc. and Home Concrete & Supply “[t]o ‘omit’ an amount

properly includible in gross income is to leave something out entirely.” And we
                                        - 12 -

[*12] then analyzed whether the taxpayers omitted any item of income entirely,

accepting for purposes of our analysis their basis overstatements as accurate. Id.

at 209-210.

      The question before us is a little different, as respondent’s theory here is

that a sham sale, not an overstatement of basis, gave rise to the omission. So we

must decide whether that distinction makes any difference. We conclude that it

does not; we are bound to the Supreme Court’s analysis. That is, even if we

assume that the basis was not wrong but the sale of BCC to Fausset Trust was a

sham, the Clarks did not omit an item of gain entirely; they just reported an

incorrect amount of gain. See id. at 208 (concluding that when a taxpayer

overstates basis and thereby understates gain, “the taxpayer has reported, not

omitted, the item of gain, albeit in an incorrect amount”). We therefore reject

respondent’s assertion that the test in section 6501(e)(1)(A) is computational. And

we find no support for respondent’s claim that Colony, Inc. should not apply here

because that case involved gross proceeds of a business unlike here. See

Carpenter Family Invs., LLC v. Commissioner, 136 T.C. 373, 386 (2011).

      The parties agree that the Clarks reported gain attributable to the total

19.99% interest in BCC that they claimed to retain after the sham transaction. One

could argue that the Clarks omitted the entire amount of gain allocated to Fausset
                                       - 13 -

[*13] Trust, but the result of respondent’s sham-sale theory is that the Clarks

should have reported 100% of the gain on the postsale liquidation rather than

19.99%. And because they reported 19.99% of the gain rather than 100%, they

did not “omit” an item of gain entirely but rather reported an incorrect amount, so

the six-year period of limitations does not apply.7 While the clues on the returns

filed here seem “sufficient to intrigue [only] a Sherlock Holmes”,8 they must

suffice under the statutory framework for the reasons explained by the Supreme

Court.9


      7
        The Clarks’ failure to report any of the guaranteed payments reported on
the 2000 Schedules K-1 does not constitute an omission for purposes of sec.
6501(e)(1)(A) for two reasons. First, it does not amount to 25% of the gross
income the Clarks reported on their 2000 Form 1040. Second, it was reported on
the Schedules K-1 that the Clarks received, and we have held that information
disclosed on partnership returns may constitute adequate disclosure when the
taxpayer’s return makes reference to them, as was done here. See, e.g., Davenport
v. Commissioner, 48 T.C. 921 (1967); Walker v. Commissioner, 46 T.C. 630
(1966); Roschuni v. Commissioner, 44 T.C. 80 (1965), supplementing T.C. Memo.
1964-321.
      8
        In Quick Tr. v. Commissioner, 54 T.C. 1336, 1347 (1970), aff’d per
curiam, 444 F.2d 90 (8th Cir. 1971), we stated: “The touchstone in cases of this
type is whether respondent has been furnished with a ‘clue’ to the existence of the
error. * * * Concededly, this does not mean simply a ‘clue’ which would be
sufficient to intrigue a Sherlock Holmes. But neither does it mean a detailed
revelation of each and every underlying fact.”
      9
        We therefore do not reach the question whether, in determining whether
disclosure was adequate on a return for one tax year, we consider what was
                                                                     (continued...)
                                        - 14 -

[*14] We therefore will grant petitioner’s Motion for Summary Judgment that the

FPAA was untimely.10

      To reflect the foregoing,


                                                 An appropriate order and decision

                                        will be entered.




      9
       (...continued)
reported on returns for a different tax year.
      10
        As respondent received the Form 872-I from petitioner after the three-
year limitation period expired, the form was ineffective and the limitations period
was not extended. See secs. 6229(b)(1), 6501(c)(4)(A).
