                        T.C. Memo. 2002-314



                      UNITED STATES TAX COURT



          WILLIAM T. BUTLER, TRANSFEREE, Petitioner v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent

                 JOSEPH P. MCGRAW, Petitioner v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket Nos. 2265-00, 2385-00.       Filed December 27, 2002.


     Gregory J. Klint and Douglas R. Boettge, for petitioner

William T. Butler.

     Nicky R. Hay, for petitioner Joseph P. McGraw.

     John C. Schmittdiel and Melissa J. Hedtke, for respondent.




             MEMORANDUM FINDINGS OF FACT AND OPINION


     FOLEY, Judge:   By notices of liability dated November 30,

1999, respondent determined deficiencies, additions to tax, and
                                              - 2 -

penalties relating to Metro Refuse, Inc.’s (Metro) tax years

ending June 30, 1988 through 1990 (hereinafter tax years 1988

through 1990) as follows:
                                         Metro Refuse, Inc.

                                                 Additions to tax and penalty

Year   Deficiency   Sec. 6653(b)(1)(A)   Sec. 6653(b)(1)(B)    Sec. 6653(b)    Sec. 6661     Sec. 6663

1988   $112,324         $83,393.25       50% of the interest        –-             -–           --

                                            due on $111,191

1989    186,457             --                    –-             $136,207.50    $46,614.25      --

1990    160,854             --                    –-                –-              –-       $14,889.75


       Unless otherwise indicated, all section references are to

the Internal Revenue Code in effect for the years in issue, and

all Rule references are to the Tax Court Rules of Practice and

Procedure.

       The issue for decision is whether petitioners are liable as

transferees in equity for $1,946,292 relating to Metro’s Federal

income tax liability, additions to tax, penalties and interest,

as of December 31, 1999.

                                     FINDINGS OF FACT

       In 1964, William Butler (Butler) began working in the waste

disposal industry as a truck driver.                      In 1969, he incorporated

Metro, a waste disposal company servicing commercial customers in

the Minneapolis/St. Paul metropolitan area (Twin Cities area).

In 1983, Metro hired Joseph McGraw (McGraw) as its general

manager, and, in 1988, he became president and chief financial

officer.      His duties related to personnel, financial management,
                               - 3 -

accounting, equipment acquisition, marketing, sales, and tax

return preparation.   On June 30, 1988, Butler transferred to

McGraw a minority interest in Metro.

     In the 1970s, Metro began hauling waste to Burnsville

Sanitary Landfill (Burnsville), which was owned by Ed Kraemer &

Sons, Inc. (Kraemer & Sons) (i.e., Rudy, Victor, and David

Kraemer’s construction company).    Burnsville sent Metro monthly

invoices, and Metro paid these invoices by check.    Robert Miller

(Miller), Kraemer & Sons’ Minnesota division manager, negotiated

the prices for all Burnsville customers.

      Sometime before the years in issue, Butler, Miller, and

Richard Wybierala began participating in two schemes that

diverted Metro funds to Butler.    Richard and Alice Wybierala

owned Poor Richards, Inc. (Poor Richards), another Twin Cities

area waste disposal company.   Poor Richards did not have the

equipment necessary to empty trash containers that required a

front-end loader.   Butler agreed to have Metro service all of

Poor Richards’s front-end loader customers in exchange for a

portion of the fees Poor Richards collected on those accounts.

Butler periodically submitted to Poor Richards invoices

summarizing the front-end loading subcontract work performed by

Metro.   Poor Richards wrote checks payable to Metro or Village

Sanitation, Inc. (a defunct waste hauler).    But, rather than

deliver the checks to Metro, Richard Wybierala (Wybierala) cashed
                                - 4 -

them and delivered most or all of the proceeds to Butler.   McGraw

knew of this scheme and did not report these funds on Metro’s

corporate tax returns for the years in issue.

     Under another scheme, which began in 1987, Butler directed

McGraw to issue weekly Metro checks to Poor Richards in amounts

less than $10,000.   Although Poor Richards did not perform any

services, these checks were recorded on Metro’s general ledger as

subcontract work and deducted on Metro’s corporate tax returns.

Wybierala routinely cashed the checks and delivered the funds to

Butler, while McGraw generated vouchers and gave them to Metro’s

accounts payable staff.

     Neither Metro nor Butler kept records detailing the cash

Butler received under these diversion schemes.   Butler gave some

of the cash to Miller, a Kraemer & Sons employee, who, in turn,

lowered Metro’s dumping fees.   Paying cash to landfill operators

in exchange for lower dumping fees was not a common practice in

the Twin Cities area, and other Burnsville customers did not make

such payments.1

     Saliterman, Ltd. (Saliterman), a certified public accounting

practice owned by Mark Saliterman, performed, with McGraw’s

assistance, yearend reviews of Metro’s financial statements and

prepared Metro’s Federal and State income tax returns.


     1
        Pursuant to Minn. Stat. Ann. sec. 609.86 (West Supp.
2002), a generally enforced statute, commercial bribery is a
crime.
                              - 5 -

Saliterman was not aware of, and McGraw and Butler did not inform

Saliterman about, the diversion schemes.   During the years in

issue, McGraw supervised the preparation of Metro’s Forms W-2,

Wage and Tax Statement, and Forms 1099-MISC, Miscellaneous

Income, which he knew did not reflect the funds diverted to

Butler, and signed Metro’s tax returns, which he knew did not

accurately reflect Metro’s income and deductions.   McGraw did not

know the total amount of cash Butler kept for himself or, with

the exception of Butler’s payments to Miller, how the diverted

cash was spent.

     In 1990, respondent audited Metro’s 1988 and 1989 tax years.

McGraw failed to disclose to the auditor that there were income

omissions and fictitious subcontract expenses.   McGraw

subsequently consulted with Attorney Peter Thompson (Thompson),

who insisted that Metro properly classify all its income and

expense items and not file another false tax return.

     On September 14, 1990, Saliterman sent McGraw Metro’s 1990

Federal and State income tax returns.   Shortly before Metro filed

its 1990 returns on March 19, 1991, McGraw, acting pursuant to

the advice of Thompson, called Saliterman and instructed them to

reduce the expense for subcontract services by $400,873 and

report that amount as officer’s compensation.    Despite Thompson’s

advice, McGraw did not instruct Saliterman to include on the 1990
                                - 6 -

return amounts Butler received from Poor Richards for front-

loading subcontract services.

     Metro’s 1990 tax returns reflect that Butler and McGraw

received compensation of $1,006,330 and $156,900, respectively.

Metro did not report the reclassified $400,873 on Butler’s Forms

1099 or W-2 or on Metro’s employment tax returns and did not pay

or withhold employment taxes on it.     Butler did not report that

amount on his individual income tax returns.

     In early 1990, Butler and McGraw began negotiations to sell

Metro to Browning Ferris Industries, Inc. (BFI).     On August 31,

1990, Browning Ferris Industries of Minnesota, Inc. (BFIM),

agreed to purchase Metro.   BFIM exchanged 212,233 common shares

of BFI, BFIM’s parent, for Metro’s assets in a transaction

intended to be a tax-free merger pursuant to section 368.

     The merger agreement provided that Metro could not transfer

the BFI stock to Butler and McGraw until BFI issued financial

statements showing the combined operations of Metro and BFI.    On

December 4, 1990, BFI transferred 141,489 shares of its stock to

Butler and 70,744 shares to McGraw, consistent with their

respective 67- and 33-percent interests in Metro.    BFI stock was

traded publicly on the New York Stock Exchange, and on December

4, 1990, BFI stock’s mean sale price was $21.875.2


     2
        See Meyer v. Commissioner, 46 T.C. 65, 106 (1966)
(holding that “Where stock is listed * * * on a recognized
                                                   (continued...)
                               - 7 -

     In 1991, the State of Minnesota audited Metro.    McGraw did

not disclose to the State auditor, and the auditor did not

discover, the income omissions or fictitious expenses.    Metro was

dissolved on December 11, 1991.

     In 1995, David Kraemer discovered that Miller had received

kickbacks from Metro and filed suit, on behalf of Kraemer & Sons,

against Wybierala and Butler for unpaid dumping fees.

     On June 28, 1995, Butler pled guilty to violating section

7206(2) relating to Metro’s 1988 return (i.e., aiding and

abetting the filing of a false corporate return), and section

7206(1) relating to his 1988 individual return (i.e., filing a

false personal income tax return).     Butler admitted knowing that

Metro’s 1988 return did not include all of Metro’s taxable income

and agreed to pay $1.5 million toward his individual, and

Metro’s, tax liabilities.   In 1997, Miller pled guilty to

violating section 7201 for failing to report cash received from

Butler (i.e., presenting a false or fraudulent return).

     On November 30, 1999, respondent issued petitioners notices

of liability in which respondent determined that petitioners, as

transferees of Metro, are liable for $1,946,292.38 of corporate




     2
      (...continued)
exchange, the mean price between the * * * [high and low] trading
prices on a given date is * * * the fair market value for that
date.”), revd. on other grounds 383 F.2d 883 (8th Cir. 1967).
                                - 8 -

income tax, statutory additions, and interest relating to Metro’s

tax years 1988 through 1990.

     When they filed their petitions, Butler resided in Cape

Coral, Florida, and McGraw resided in Mahtomedi, Minnesota.

                               OPINION

     Respondent contends that Metro underpaid its tax liability

for tax years 1988 through 1990; the underpayments were due to

petitioners’ fraudulent actions as officers of Metro; and

petitioners, as transferees of Metro’s assets, are liable for

Metro’s tax liabilities pursuant to section 6901.   Petitioners

contend that there was no underpayment of tax attributable to the

conduct of Metro officers, and that the period of limitations

relating to Metro’s tax years 1988 through 1990 expired.

I.   Statute of Limitations, Deficiency Determination, and Fraud
     Penalty

     “In the case of a false or fraudulent return with the intent

to evade tax, the tax may be assessed, or a proceeding in court

for collection of such tax may be begun without assessment, at

any time.”   Sec. 6501(c)(1); see also sec. 6901(c)(1).

Respondent must establish by clear and convincing evidence that

for each year in issue an underpayment of tax exists and some

portion of the underpayment is due to fraud.   See Rule 142(b);

Ballard v. Commissioner, 740 F.2d 659 (8th Cir. 1984), affg. in

part and revg. in part T.C. Memo. 1982-466; Petzoldt v.

Commissioner, 92 T.C. 661, 699 (1989).
                                 - 9 -

     A.    Underpayment of Tax

           1.     Metro’s Omitted Income

     Respondent determined the amount of Metro’s omitted income

by compiling checks written by Poor Richards to Metro and Village

Sanitation.     See sec. 446(b) (authorizing the Commissioner to

reconstruct a taxpayer’s income where the taxpayer fails to

maintain adequate records).     Petitioners contend that the

worksheets used to bill Poor Richards, as summarized by McGraw,

more accurately reflect income to Metro.

     The worksheets were incomplete and not compiled

contemporaneously with Butler’s receipt of the diverted funds.

Accordingly, we sustain respondent’s determinations relating to

the amounts of income omitted from Metro’s returns.

           2.     Metro’s Alleged Deductions

     Petitioners concede that Metro underreported subcontract

income during the years in issue, Metro overstated its

subcontract expense in 1988 and 1989, and all of the funds

related to the underreporting and overstatement were diverted to

Butler.   Petitioners contend, without supplying any

contemporaneous documentary evidence or third-party testimony,

that all funds diverted to Butler were used to pay Metro’s

ordinary and necessary business expenses (e.g., cash payments for

lower dumping fees, black-market truck parts, compensation to

Butler and other Metro employees, etc.).       See Franklin v.
                               - 10 -

Commissioner, T.C. Memo. 1993-184 (placing the burden of

production on the taxpayer insofar as the taxpayer’s defense to

fraud is premised on offsetting deductions).

                 a.   Cash Payments to Miller

     The cash payments to Miller were not ordinary expenses

because they were not “normal, usual, or customary”, and the

transactions which gave rise to these expenses were not “of

common or frequent occurrence in the type of business involved.”

See Deputy v. Dupont, 308 U.S. 488, 495 (1940); United Draperies

v. Commissioner, 41 T.C. 457, 463 (1964), affd. 340 F.2d 936 (7th

Cir. 1964).    Petitioners have not established that other

Burnsville customers paid cash in exchange for lower dumping

fees, or that such payments were a common practice in the Twin

Cities area.    Thus, the cash payments are not deductible.   See

Welch v. Helvering, 290 U.S. 111, 115 (1933).    Moreover, section

162(c)(2) disallows deductions for payments that constitute “an

illegal bribe, illegal kickback, or other illegal payment” under

a “generally enforced” State law.    Minn. Stat. Ann. sec. 609.86

(West Supp. 2002), a generally enforced State law, prohibits

commercial bribery.    See sec. 1.162-18(b)(3), Income Tax Regs.

Thus, pursuant to section 162(c)(2), no deduction is permitted

for the cash payments to Miller.
                                - 11 -

                  b.   Miscellaneous Expenses

     Petitioners contend that Butler, after paying Miller, spent

the remaining funds on Metro-related expenses.   Petitioners,

however, give no specific account as to why, when, or how much of

the diverted funds were used to pay Metro expenses.   Accordingly,

Metro is not entitled to deductions for these alleged expenses.

                  c.   Officer’s Compensation

     Petitioners’ alternative contention is that all funds

diverted to Butler are deductible by Metro as officer’s

compensation.   Payments are deductible, however, only when they

are intended as compensation.    See King’s Court Mobile Home Park,

Inc. v. Commissioner, 98 T.C. 511, 514 (1992).   The testimony and

documentary evidence establish, and we conclude, that Metro did

not intend these payments to be compensation.

     Petitioners’ concessions, that Metro omitted income and

overstated deductions, and our holding that Metro is not entitled

to offsetting deductions establish Metro’s underpayment of tax

for tax years 1988 through 1990.

     B.   Fraud

     Fraud is established by proof of intent to evade tax

believed to be owing.    See Clayton v. Commissioner, 102 T.C. 632

(1994).   A corporation is liable for fraud if its officer has the

fraudulent intent to evade the corporation’s taxes.    DiLeo v.
                              - 12 -

Commissioner, 96 T.C. 858, 875 (1991), affd. 959 F.2d 16 (2d Cir.

1992); Beck v. Commissioner, T.C. Memo. 2001-270.

     Metro’s two officers, Butler and McGraw, both concede their

participation in the two schemes that led to the

misrepresentations on Metro’s tax returns, which McGraw signed.

Metro’s accounting department, under Butler’s orders and McGraw’s

supervision, did not keep books and records relating to the funds

diverted to Butler.   McGraw caused Metro to file an incorrect

return even after his attorney told him to report the income

accurately.   During Metro’s 1990 and 1991 tax audits, neither

Butler nor McGraw informed the Federal or State taxing

authorities about the income omissions and deduction

overstatements.   Participants in the schemes primarily dealt in

cash, and any checks used to facilitate the schemes were written

for less than $10,000 to avoid Internal Revenue Service scrutiny.

     Petitioners contend that they believed Metro’s returns did

not reflect an underpayment because Butler used the diverted

funds to pay Metro’s expenses.   We disagree.   McGraw, Metro’s

chief financial officer, readily acknowledged that, when Metro’s

return was filed, he did not know how much Butler was receiving

nor what he was doing with the money.   McGraw knowingly

participated in both schemes by accounting for, and causing Metro

to deduct, fictitious subcontract expenses.     In addition, Butler

pled guilty to violating section 7206 for aiding and abetting the
                               - 13 -

filing of a false corporate return and willfully underreporting

income relating to his 1988 and 1989 tax returns.

     The evidence is clear and convincing that Metro’s

underpayment of tax was attributable to the fraudulent actions of

its officers, McGraw and Butler.   See Davis v. Commissioner, T.C.

Memo. 1991-603 (holding that the Commissioner may prove intent to

evade tax by circumstantial evidence); see also, e.g.,

Niedringhaus v. Commissioner, 99 T.C. 202, 211 (1992) (evidence

of fraud may include substantial understatement of income,

inadequate books and records, failure to cooperate with tax

authorities, dealing in cash, implausible explanations of conduct

given at trial, and participation in or concealment of illegal

activities).

     We reject petitioners’ contention that, in filing Metro’s

returns, petitioners relied in good faith on the advice of

Metro’s outside accountants.   There is no evidence that Metro’s

outside accountants knew that Butler and McGraw conspired to omit

income and deduct fictitious subcontract expenses.   Even if

Metro’s outside accountants, having knowledge of all the relevant

facts, had instructed petitioners to omit Metro’s income and

deduct fictitious subcontract expenses, such advice would have

been so clearly wrong that we could not find that petitioners

relied upon the advice in good faith.   See LaVerne v.

Commissioner, 94 T.C. 637, 652-653 (1990), affd. without
                                 - 14 -

published opinion 956 F.2d 274 (9th Cir. 1992), affd. without

published opinion sub nom. Cowles v. Commissioner, 949 F.2d 401

(10th Cir. 1991); Cordes Fin. Corp. v. Commissioner, T.C. Memo.

1997-162, affd. without published opinion 162 F.3d 1172 (10th

Cir. 1998).   Accordingly, the period of limitations has not

expired, and Metro is liable for the deficiencies in its income

taxes, the section 6653 additions to tax for fraud, and the

section 6663 fraud penalty.

II.   Transferee Liability

      Stockholders who have received the assets of a dissolved

corporation may be held liable for unpaid corporate taxes.     Sec.

6901; Phillips v. Commissioner, 283 U.S. 589, 593 (1931).

Respondent has the burden of establishing transferee liability.

Rule 142(d); sec. 6902.      Pursuant to section 6901(a), respondent

may establish petitioners’ liability in equity if a basis exists

under applicable Minnesota law for holding petitioners (i.e., the

transferees) liable.   See Commissioner v. Stern, 357 U.S. 39, 42-

47 (1958).

      A.   Respondent Established a Prima Facie Case in Equity

      Respondent established that, on December 4, 1990,

petitioners knew Metro underpaid its tax liabilities for tax

years 1988, 1989, and 1990, and petitioners received, without

consideration, liquidating distributions from Metro totaling

$4,642,597 (i.e., Butler’s 141,489 BFI shares plus McGraw’s
                              - 15 -

70,744, multiplied by the $21.875 share price).   Thus, the debtor

made the transfer without receiving a reasonably equivalent value

in exchange, and the debtor became insolvent as a result of the

transfer.   See Minn. Stat. Ann. secs. 513.45 (West 2002),

302A.557 (West 1985).   Metro’s tax liability for those years

remains unpaid.   Accordingly, respondent has established a prima

facie case of equitable transferee liability.   See Gumm v.

Commissioner, 93 T.C. 475 (1989).

     Respondent relied on section 513.45 of Minnesota’s Uniform

Fraudulent Transfer Act (UFTA), Minn. Stat. Ann. sec. 513.45, to

establish that Metro was rendered insolvent by the distribution

of BFI stock, and accordingly, the distribution was fraudulent.

Petitioners contend that respondent erred by relying on the UFTA

to determine whether the transfer was fraudulent rather than

section 302A.551 of the Minnesota Model Business Corporation Act

(MBCA), Minn. Stat. Ann. sec. 302A.551 (West 1985), to determine

whether the distribution was illegal.

     Section 513.45 of UFTA provides that a transfer is

fraudulent as to a present creditor if the debtor made the

transfer without receiving a reasonably equivalent value in

exchange for the transfer, and the debtor became insolvent as a

result of the transfer.   Minn. Stat. Ann. sec. 513.45.   Similarly

section 302A.551, subdivision 1, of the MBCA provides that a

distribution is illegal if the corporation is unable “to pay its
                               - 16 -

debts in the ordinary course of business after making the

distribution”.   Minn Stat. Ann. sec. 302A.551, subdiv. 1.

     Respondent has established that Butler and McGraw caused

Metro to avoid paying taxes they knew to be owing.     Scott v.

Commissioner, 117 F.2d 36 (8th Cir. 1941); Hagaman v.

Commissioner, 100 T.C. 180, 183 (1993).     The liquidating

distribution to petitioners, for which Metro did not receive

anything in exchange from petitioners, rendered Metro insolvent

(i.e., unable to pay those taxes in the ordinary course of

business).   Accordingly, the distribution was a fraudulent

transfer pursuant to section 513.45 of the UFTA, and illegal

pursuant to section 302A.551 of the MBCA.    We conclude that

petitioners’ liability is established pursuant to either statute.

     Petitioners also contend that several Minnesota statutes of

limitation (Minn. Stat. Ann. secs. 541.05 (West Supp. 2002),

302A.557, and 302A.7291 (West Supp. 2002)) bar respondent’s tax

claims.   We disagree.   Minnesota statutes of limitations are

inapplicable to transferee proceedings governed by section 6901.

See Phillips v. Commissioner, supra; see also Dillman v.

Commissioner, 64 T.C. 797 (1975).

     B.    Petitioners’ Rebuttal of Respondent’s Prima Facie Case

     Petitioners contend that, pursuant to section 302A.557,

subdivision 1, of the MBCA, petitioners’ liability is limited to

$459,635 of tax, $323,000 of penalties, and interest accrued as
                              - 17 -

of December 4, 1990.   Petitioners contend that they are not

liable for any interest accruing after the date of the transfer

of assets (i.e., December 4, 1990).    We disagree.   There is no

authority for petitioners’ position.    On December 4, 1990, Butler

and McGraw received BFI stock worth $3,095,072 and $1,547,525,

respectively.   These amounts were obviously in excess of Metro’s

tax liability on that date (i.e., est. $1,100,000).     “In cases

where the transferred assets exceed the total liability of the

transferor, the interest being charged is upon the deficiency,

and is therefore a right created by the Internal Revenue Code.”

Estate of Stein v. Commissioner, 37 T.C. 945, 961 (1962); Lowy v.

Commissioner, 35 T.C. 393, 397 (1960).    Accordingly, petitioners’

liability with respect to interest on Metro’s tax liability is

determined pursuant to Federal law (i.e., section 6601).

     Petitioners contend, without citing any authority, that the

BFI stock they received should be valued at a 40-percent discount

because the tax-free characterization of Metro’s merger with BFIM

would have been destroyed had they sold their stock on December

4, 1990.   This contention is unpersuasive.   A willing buyer would

not be concerned whether the seller recognizes gain as a result

of the exchange.   See Stanko v. Commissioner, 209 F.3d 1082, 1086

(8th Cir. 2000) (holding that the proper approach to valuation is

to determine what a willing buyer would have paid for the
                              - 18 -

property (citing United States v. Cartwright, 411 U.S. 546, 551

(1973))).

     Petitioners contend that their liability should be reduced

because they allegedly paid $538,883 of Metro’s liabilities after

Metro’s BFI stock was distributed to them.    Petitioners’

testimony, however, was devoid of any particulars relating to the

allegedly paid expenses.   In addition, petitioners have not

established that the allegedly paid liabilities had priority over

respondent’s claim relating to tax liabilities.    See Hutton v.

Commissioner, 59 F.2d 66 (9th Cir. 1932), affg. 21 B.T.A. 101

(1930); Gobins v. Commissioner, 18 T.C. 1159, 1174 (1952), affd.

per curiam 217 F.2d 952 (9th Cir. 1954).     Accordingly, we reject

petitioners’ contention. McGraw contends that his transferee

liability should be reduced because Butler, in his 1995 criminal

plea, agreed to pay Butler’s and Metro’s tax liabilities.    Each

transferee, however, is liable to the extent he received property

without adequate consideration.   Phillips v. Commissioner, 283

U.S. at 603; Scott v. Commissioner, supra.    McGraw also contends

respondent did not take reasonable steps to collect the tax

liability from Metro.   We reject this contention also.   Metro was

dissolved in 1991.   The Commissioner is not required to proceed

against a dissolved corporation before asserting transferee

liability against its stockholders.    Maher v. Commissioner, 469
                             - 19 -

F.2d 225 (8th Cir. 1972), affg. in part and remanding in part 56

T.C. 763 (1970).

     Contentions we have not addressed are irrelevant, moot, or

meritless.

     To reflect the foregoing,



                                        Decisions will be entered

                                   for respondent.
