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SUPREME COURT OF THE UNITED STATES
_________________
No. 12–562
_________________
UNITED STATES, PETITIONER v. GARY WOODS
on writ of certiorari to the united states
court of appeals for the fifth circuit
[December 3, 2013]
Justice Scalia
delivered the opinion of the Court.
We decide whether the
penalty for tax underpayments attributable to valuation
misstatements, 26 U. S. C. §6662(b)(3), is
applicable to an underpayment resulting from a basis-inflating
transaction subsequently disregarded for lack of economic
substance.
I. The Facts
A
This case involves an
offsetting-option tax shelter, variants of which were marketed to
high-income taxpayers in the late 1990’s. Tax shelters of
this type sought to generate large paper losses that a taxpayer
could use to reduce taxable income. They did so by attempting to
give the tax-payer an artificially high basis in a partnership
interest, which enabled the taxpayer to claim a significant tax
loss upon disposition of the interest. See IRS Notice
2000–44, 2000–2 Cum. Bull. 255 (describing
offsetting-option tax shelters).
The particular tax
shelter at issue in this case was developed by the now-defunct law
firm Jenkens & Gilchrist and marketed by the accounting firm
Ernst & Young under the name “Current Options Bring
Reward Alternatives,” or COBRA. Respondent Gary Woods and his
employer, Billy Joe McCombs, agreed to participate in COBRA to
reduce their tax liability for 1999. To that end, in November 1999
they created two general partnerships: one, Tesoro Drive Partners,
to produce ordinary losses, and the other, SA Tesoro Investment
Partners, to produce capital losses.
Over the next two
months, acting through their respective wholly owned, limited
liability companies, Woods and McCombs executed a series of
transactions. First, they purchased from Deutsche Bank five 30-day
currency-option spreads. Each of these option spreads was a package
consisting of a so-called long option, which entitled Woods and
McCombs to receive a sum of money from Deutsche Bank if a certain
currency exchange rate exceeded a certain figure on a certain date,
and a so-called short option, which entitled Deutsche Bank to
receive a sum of money from Woods and McCombs if the exchange rate
for the same currency on the same date exceeded a certain figure so
close to the figure triggering the long option that both were
likely to be triggered (or not to be triggered) on the fated date.
Because the premium paid to Deutsche Bank for purchase of the long
option was largely offset by the premium received from Deutsche
Bank for sale of the short option, the net cost of the package to
Woods and McCombs was substantially less than the cost of the long
option alone. Specifically, the premiums paid for all five of the
spreads’ long options totaled $46 million, and the premiums
received for the five spreads’ short options totaled $43.7
million, so the net cost of the spreads was just $2.3 million.
Woods and McCombs contributed the spreads to the partnerships along
with about $900,000 in cash. The partnerships used the cash to
purchase assets—Canadian dollars for the partnership that
sought to produce ordinary losses, and Sun Microsystems stock for
the partnership that sought to produce capital losses. The
partnerships then terminated the five option spreads in exchange
for a lump-sum payment from Deutsche Bank.
As the tax year drew to
a close, Woods and McCombs transferred their interests in the
partnerships to two S corporations. One corporation, Tesoro Drive
Investors, Inc., received both partners’ interests in Tesoro
Drive Partners; the other corporation, SA Tesoro Drive Investors,
Inc., received both partners’ interests in SA Tesoro
Investment Partners. Since this left each partnership with only a
single partner (the relevant S corporation), the partnerships were
liquidated by operation of law, and their assets—the Canadian
dollars and Sun Microsystems stock, plus the remaining
cash—were deemed distributed to the corporations. The
corporations then sold those assets for modest gains of about
$2,000 on the Canadian dollars and about $57,000 on the stock. But
instead of gains, the corporations reported huge losses: an
ordinary loss of more than $13 million on the sale of the Canadian
dollars and a capital loss of more than $32 million on the sale of
the stock. The losses were allocated between Woods and McCombs as
the corporations’ co-owners.
The reason the
corporations were able to claim such vast losses—the alchemy
at the heart of an offsetting-options tax shelter—lay in how
Woods and McCombs calculated the tax basis of their interests in
the partnerships. Tax basis is the amount used as the cost of an
asset when computing how much its owner gained or lost for tax
purposes when disposing of it. See J. Downes & J. Goodman,
Dictionary of Finance and Investment Terms 736 (2010). A
partner’s tax basis in a partnership interest—called
“outside basis” to distinguish it from “inside
basis,” the partnership’s basis in its own
assets—is tied to the value of any assets the partner
contributed to acquire the interest. See 26 U. S. C.
§722. Collectively, Woods and McCombs contributed roughly $3.2
million in option spreads and cash to acquire their interests in
the two partnerships. But for purposes of computing outside basis,
Woods and McCombs considered only the long component of the spreads
and disregarded the nearly offset-ting short component on the
theory that it was “too contingent” to count. Brief for
Respondent 14. As a result, they claimed a total adjusted outside
basis of more than $48 million. Since the basis of property
distributed to a partner by a liquidating partnership is equal to
the adjusted basis of the partner’s interest in the
partnership (reduced by any cash distributed with the property),
see §732(b), the inflated outside basis figure was carried
over to the S corporations’ basis in the Canadian dollars and
the stock, enabling the corporations to report enormous losses when
those assets were sold. At the end of the day, Woods’ and
McCombs’ $3.2 million investment generated tax losses that,
if treated as valid, could have shielded more than $45 million of
income from taxation.
B
The Internal Revenue
Service, however, did not treat the COBRA-generated losses as
valid. Instead, after auditing the partnerships’ tax returns,
it issued to each partnership a Notice of Final Partnership
Administrative Adjustment, or “FPAA.” In the FPAAs, the
IRS determined that the partnerships had been “formed and
availed of solely for purposes of tax avoidance by artificially
overstating basis in the partnership interests of [the] purported
partners.” App. 92, 146. Because the partnerships had
“no business purpose other than tax avoidance,” the IRS
said, they “lacked economic substance”—or, put
more starkly, they were “sham[s]”—so the IRS
would disregard them for tax purposes and disallow the related
losses. Ibid. And because there were no valid partnerships for tax
purposes, the IRS determined that the partners had “not
established adjusted bases in their respective partnership
interests in an amount greater than zero,” id., at 95,
¶7, 149, ¶7 so that any resulting tax underpayments would
be subject to a 40-percent penalty for gross valuation
misstatements, see 26 U. S. C. §6662(b)(3).
Woods, as the
tax-matters partner for both partnerships, sought judicial review
of the FPAAs pursuant to §6226(a). The District Court held
that the partner- ships were properly disregarded as shams but that
the valuation-misstatement penalty did not apply. The Govern-ment
appealed the decision on the penalty to the Court of Appeals for
the Fifth Circuit. While the appeal was pending, the Fifth Circuit
held in a similar case that, under Circuit precedent, the
valuation-misstatement penalty does not apply when the relevant
transaction is disregarded for lacking economic substance. Bemont
Invs., LLC v. United States, 679 F. 3d 339, 347–348
(2012). In a concurrence joined by the other members of the panel,
Judge Prado acknowledged that this rule was binding Circuit law but
suggested that it was mistaken. See id., at 351–355. A
different panel subsequently affirmed the District Court’s
decision in this case in a one-paragraph opinion, declaring the
issue “well settled.” 471 Fed. Appx. 320 (per curiam),
reh’g denied (2012). [
1
]
We granted certiorari
to resolve a Circuit split over whether the valuation-misstatement
penalty is applicable in these circumstances. 569 U. S. ___
(2013). See Bemont, supra, at 354–355 (Prado, J., concurring)
(recognizing “near-unanimous opposition” to the Fifth
Circuit’s rule). Because two Courts of Appeals have held that
District Courts lacked jurisdiction to consider the
valuation-misstatement penalty in similar circumstances, see Jade
Trading, LLC v. United States, 598 F. 3d 1372, 1380 (CA Fed.
2010); Petaluma FX Partners, LLC v. Commissioner, 591 F. 3d
649, 655–656 (CADC 2010), we ordered briefing on that
question as well.
II. District-Court Jurisdiction
A
We begin with a brief
explanation of the statutory scheme for dealing with
partnership-related tax matters. A partnership does not pay federal
income taxes; instead, its taxable income and losses pass through
to the partners. 26 U. S. C. §701. A partnership
must report its tax items on an information return, §6031(a),
and the partners must report their distributive shares of the
partnership’s tax items on their own individual returns,
§§702, 704.
Before 1982, the IRS
had no way of correcting errors on a partnership’s return in
a single, unified proceeding. Instead, tax matters pertaining to
all the members of a partnership were dealt with just like tax
matters pertaining only to a single taxpayer: through deficiency
proceedings at the individual-taxpayer level. See generally
§§6211–6216 (2006 ed. and Supp. V). Deficiency
proceedings require the IRS to issue a separate notice of
deficiency to each taxpayer, §6212(a) (2006 ed.), who can file
a petition in the Tax Court disputing the alleged deficiency before
paying it, §6213(a). Having to use deficiency proceedings for
partnership-related tax matters led to du-plicative proceedings and
the potential for inconsistent treatment of partners in the same
partnership. Congress addressed those difficulties by enacting the
Tax Treatment of Partnership Items Act of 1982, as Title IV of the
Tax Equity and Fiscal Responsibility Act of 1982 (TEFRA). 96Stat.
648 (codified as amended at 26 U. S. C.
§§6221–6232 (2006 ed. and Supp. V)).
Under TEFRA,
partnership-related tax matters are addressed in two stages. First,
the IRS must initiate proceedings at the partnership level to
adjust “partnership items,” those relevant to the
partnership as a whole. §§6221, 6231(a)(3). It must issue
an FPAA notifying the partners of any adjustments to partnership
items, §6223(a)(2), and the partners may seek judicial review
of those adjustments, §6226(a)–(b). Once the adjustments
to partnership items have become final, the IRS may undertake
further proceedings at the partner level to make any resulting
“computational adjustments” in the tax liability of the
individual partners. §6231(a)(6). Most computational
adjustments may be directly assessed against the partners,
bypassing deficiency proceedings and permitting the partners to
challenge the assessments only in post-payment refund actions.
§6230(a)(1), (c). Deficiency proceedings are still required,
however, for certain com-putational adjustments that are
attributable to “affected items,” that is, items that
are affected by (but are not themselves) partnership items.
§§6230(a)(2)(A)(i), 6231(a)(5).
B
Under the TEFRA
framework, a court in a partnership-level proceeding like this one
has jurisdiction to determine not just partnership items, but also
“the applicability of any penalty . . . which
relates to an adjustment to a partnership item.”
§6226(f). As both sides agree, a determination that a
partnership lacks economic substance is an adjustment to a
partnership item. Thus, the jurisdictional question here boils down
to whether the valuation-misstatement penalty “relates
to” the determination that the partnerships Woods and McCombs
created were shams.
The Government’s
theory of why the penalty was triggered is based on a
straightforward relationship between the economic-substance
determination and the penalty. In the Government’s view,
there can be no outside basis in a sham partnership (which, for tax
purposes, does not exist), so any partner who underpaid his
individual taxes by declaring an outside basis greater than zero
committed a valuation misstatement. In other words, the penalty
flows logically and inevitably from the economic-substance
determination.
Woods, however, argues
that because outside basis is not a partnership item, but an
affected item, a penalty that would rest on a misstatement of
outside basis cannot be considered at the partnership level. He
maintains, in short, that a penalty does not relate to a
partnership-item adjustment if it “requires a partner-level
determination,” regardless of “whether or not the
penalty has a connection to a partnership item.” Brief for
Respondent 27.
Because
§6226(f)’s “relates to” language is
“essentially indeterminate,” we must resolve this
dispute by looking to “the structure of [TEFRA] and its other
provisions.” Maracich v. Spears, 570 U. S. ___, ___
(2013) (slip op., at 9) (internal quotation marks and brackets
omitted). That inquiry makes clear that the District Court’s
jurisdiction is not as narrow as Woods contends. Prohibiting courts
in partnership-level proceedings from considering the applicability
of penalties that require partner-level inquiries would be
inconsistent with the nature of the “applicability”
determination that TEFRA requires.
Under TEFRA’s
two-stage structure, penalties for tax underpayment must be imposed
at the partner level, because partnerships themselves pay no taxes.
And imposing a penalty always requires some determinations that can
be made only at the partner level. Even where a partnership’s
return contains significant errors, a partner may not have carried
over those errors to his own return; or if he did, the errors may
not have caused him to underpay his taxes by a large enough amount
to trigger the penalty; or if they did, the partner may nonetheless
have acted in good faith with reasonable cause, which is a bar to
the imposition of many penalties, see §6664(c)(1). None of
those issues can be conclusively determined at the partnership
level. Yet notwithstanding that every pen-alty must be imposed in
partner-level proceedings after partner-level determinations, TEFRA
provides that the applicability of some penalties must be
determined at the partnership level. The applicability
determination is therefore inherently provisional; it is always
contingent upon determinations that the court in a
partnership-level proceeding does not have jurisdiction to make.
Barring partnership-level courts from considering the applicability
of penalties that cannot be imposed without partner-level inquiries
would render TEFRA’s authorization to consider some penalties
at the partnership level meaningless.
Other provisions of
TEFRA confirm that conclusion. One requires the IRS to use
deficiency proceedings for computational adjustments that rest on
“affected items which require partner level determinations
(other than penalties . . . that relate to adjustments to
partnership items).” §6230(a)(2)(A)(i). Another states
that while a partnership-level determination “concerning the
applicability of any penalty . . . which relates to an
adjustment to a partnership item” is “conclusive”
in a subsequent re-fund action, that does not prevent the partner
from “assert[ing] any partner level defenses that may
apply.” §6230(c)(4). Both these provisions assume that a
penalty can relate to a partnership-item adjustment even if the
penalty cannot be imposed without additional, partner-level
determinations.
These considerations
lead us to reject Woods’ interpretation of §6226(f). We
hold that TEFRA gives courts in partnership-level proceedings
jurisdiction to determine the applicability of any penalty that
could result from an adjustment to a partnership item, even if
imposing the penalty would also require determining affected or
non-partnership items such as outside basis. The partnership-level
applicability determination, we stress, is provisional: the court
may decide only whether adjustments properly made at the
partnership level have the potential to trigger the penalty. Each
partner remains free to raise, in subsequent, partner-level
proceedings, any reasons why the penalty may not be imposed on him
specifically.
Applying the foregoing
principles to this case, we conclude that the District Court had
jurisdiction to determine the applicability of the
valuation-misstatement penalty—to determine, that is, whether
the partnerships’ lack of economic substance (which all agree
was properly decided at the partnership level) could justify
imposing a valuation-misstatement penalty on the partners. When
making that determination, the District Court was obliged to
consider Woods’ arguments that the economic-substance
determination was categorically incapable of triggering the
penalty. Deferring consideration of those arguments until
partner-level proceedings would replicate the precise evil that
TEFRA sets out to remedy: duplicative proceedings, potentially
leading to inconsistent results, on a question that applies equally
to all of the partners.
To be sure, the
District Court could not make a formal ad-justment of any
partner’s outside basis in this partnership-level proceeding.
See Petaluma, 591 F. 3d, at 655. But it nonetheless could
determine whether the adjustments it did make, including the
economic-substance deter-mination, had the potential to trigger a
penalty; and in doing so, it was not required to shut its eyes to
the legal impossibility of any partner’s possessing an
outside basis greater than zero in a partnership that, for tax
purposes, did not exist. Each partner’s outside basis still
must be adjusted at the partner level before the penalty can be
imposed, but that poses no obstacle to a partnership-level
court’s provisional consideration of whether the
economic-substance determination is legally capable of triggering
the penalty. [
2 ]
III. Applicability of Valuation-Misstatement
Penalty
A
Taxpayers who
underpay their taxes due to a “valuation misstatement”
may incur an accuracy-related penalty. A 20-percent penalty applies
to “the portion of any underpayment which is attributable to
. . . [a]ny substantial valuation misstatement under
chapter 1.” 26 U. S. C. §6662(a), (b)(3).
Under the version of the penalty statute in effect when the
transactions at issue here occurred,
“there is a substantial valuation
misstatement under chapter 1 if . . . the value of any
property (or the adjusted basis of any property) claimed on any
return of tax imposed by chapter 1 is 200 percent or more of the
amount determined to be the correct amount of such valuation or
adjusted basis (as the case may be).” §6662(e)(1)(A)
(2000 ed.).
If the reported value or adjusted basis exceeds
the correct amount by at least 400 percent, the valuation
misstatement is considered not merely substantial, but
“gross,” and the penalty increases to 40 percent.
§6662(h). [
3 ]
The penalty’s
plain language makes it applicable here. As we have explained, the
COBRA transactions were designed to generate losses by enabling the
partners to claim a high outside basis in the partnerships. But
once the partnerships were deemed not to exist for tax purposes, no
partner could legitimately claim an outside basis greater than
zero. Accordingly, if a partner used an outside basis figure
greater than zero to claim losses on his tax return, and if
deducting those losses caused the partner to underpay his taxes,
then the resulting underpayment would be “attributable
to” the partner’s having claimed an “adjusted
basis” in the partnerships that exceeded “the correct
amount of such . . . adjusted basis.”
§6662(e)(1)(A).
An IRS regulation
provides that when an asset’s true value or adjusted basis is
zero, “[t]he value or adjusted basis claimed . . .
is considered to be 400 percent or more of the correct
amount,” so that the resulting valuation misstatement is
automatically deemed gross and subject to the 40-percent penalty.
Treas. Reg. §1.6662–5(g), 26 CFR §1.6662–5(g)
(2013). [
4 ]
B
Against this
straightforward application of the statute, Woods’ primary
argument is that the economic-substance determination did not
result in a “valuation misstatement.” He asserts that
the statutory terms “value” and “valuation”
connote “a factual—rather than
legal—concept,” and that the penalty therefore applies
only to factual misrepresentations about an asset’s worth or
cost, not to misrepresentations that rest on legal errors (like the
use of a sham partnership). Brief for Respondent 35.
We are not convinced.
To begin, we doubt that “value” is limited to factual
issues and excludes threshold legal determinations. Cf. Powers v.
Commissioner, 312 U. S. 259, 260 (1941) (“[W]hat
criterion should be employed for determining the
‘value’ of the gifts is a question of law”);
Chapman Glen Ltd. v. Commissioner, 140 T. C. No. 15, 2013
WL2319282, *17 (2013) (“[T]hree approaches are used to
determine the fair market value of property,” and
“which approach to apply in a case is a question of
law”). But even if “value” were limited to
factual matters, the statute refers to “value” or
“adjusted basis,” and there is no justification for
extending that limitation to the latter term, which plainly
incorporates legal inquiries. An asset’s “basis”
is simply its cost, 26 U. S. C. §1012(a) (2006 ed.,
Supp. V), but calculating its “adjusted basis” requires
the application of a host of legal rules, see §§1011(a)
(2006 ed.), 1016 (2006 ed. and Supp. V), including specialized
rules for calculating the adjusted basis of a partner’s
interest in a partnership, see §705 (2006 ed.). The statute
contains no indication that the misapplication of one of those
legal rules cannot trigger the penalty. Were we to hold otherwise,
we would read the word “adjusted” out of the
statute.
To overcome the plain
meaning of “adjusted basis,” Woods asks us to interpret
the parentheses in the statutory phrase “the value of any
property (or the adjusted basis of any property)” as a signal
that “adjusted basis” is merely explanatory or
illustrative and has no meaning inde-pendent of
“value.” The parentheses cannot bear that much weight,
given the compelling textual evidence to the contrary. For one
thing, the terms reappear later in the same sentence sans
parentheses—in the phrase “such valuation or adjusted
basis.” Moreover, the operative terms are connected by the
conjunction “or.” While that can sometimes introduce an
appositive—a word or phrase that is synonymous with what
precedes it (“Vienna or Wien,” “Batman or the
Caped Crusader”)—its ordinary use is almost always
disjunctive, that is, the words it connects are to “be given
separate meanings.” Reiter v. Sonotone Corp., 442 U. S.
330, 339 (1979) . And, of course, there is no way that
“adjusted basis” could be regarded as synonymous with
“value.” Finally, the terms’ second disjunctive
appearance is followed by “as the case may be,” which
eliminates any lingering doubt that the preceding items are
alternatives. See New Oxford American Dictionary 269 (3d ed. 2010).
The parentheses thus do not justify “rob[bing] the term
[‘adjusted basis’] of its independent and ordinary
significance.” Reiter, supra, at 338–339.
Our holding that the
valuation-misstatement penalty encompasses legal as well as factual
misstatements of adjusted basis does not make superfluous the new
penalty that Congress enacted in 2010 for transactions lacking in
economic substance, see §1409(b)(2), 124Stat. 1068–1069
(codified at 26 U. S. C. §6662(b)(6) (2006 ed.,
Supp. V)). The new penalty covers all sham transactions, including
those that do not cause the taxpayer to misrepresent value or
basis; thus, it can apply in situations where the
valuation-misstatement penalty cannot. And the fact that both
penalties are potentially applicable to sham transactions resulting
in valuation misstatements is not problematic. Congress recognized
that penalties might overlap in a given case, and it addressed that
possibility by providing that a taxpayer generally cannot receive
more than one accuracy-related penalty for the same underpayment.
See §6662(b) (2006 ed. and Supp. V). [
5 ]
C
In the alternative,
Woods argues that any underpayment of tax in this case would be
“attributable,” not to the misstatements of outside
basis, but rather to the deter-mination that the partnerships were
shams—which he describes as an “independent legal
ground.” Brief for Respondent 46. That is the rationale that
the Fifth and Ninth Circuits have adopted for refusing to apply the
valuation-misstatement penalty in cases like this, although both
courts have voiced doubts about it. See Bemont, 679 F. 3d, at
347–348; id., at 351–355 (Prado, J., concurring);
Keller v. Commissioner, 556 F. 3d 1056, 1060–1061 (CA9
2009).
We reject the
argument’s premise: The economic-substance determination and
the basis misstatement are not “independent” of one
another. This is not a case where a valuation misstatement is a
mere side effect of a sham transaction. Rather, the overstatement
of outside basis was the linchpin of the COBRA tax shelter and the
mechanism by which Woods and McCombs sought to reduce their taxable
income. As Judge Prado observed, in this type of tax shelter,
“the basis misstatement and the transaction’s lack of
economic substance are inextricably intertwined,” so
“attributing the tax underpayment only to the artificiality
of the transaction and not to the basis overvaluation is making a
false distinction.” Bemont, supra, at 354 (concurring
opinion). In short, the partners underpaid their taxes because they
overstated their outside basis, and they overstated their outside
basis because the partnerships were shams. We therefore have no
difficulty concluding that any underpayment resulting from the
COBRA tax shelter is attributable to the partners’
misrepresentation of outside basis (a valuation misstatement).
Woods contends,
however, that a document known as the “Blue Book”
compels a different result. See General Explanation of the Economic
Recovery Tax Act of 1981 (Pub. L. 97–34), 97 Cong., 1st
Sess., 333, and n. 2 (Jt. Comm. Print 1980). Blue Books are
prepared by the staff of the Joint Committee on Taxation as
commentaries on recently passed tax laws. They are “written
after passage of the legislation and therefore d[o] not inform the
decisions of the members of Congress who vot[e] in favor of the
[law].” Flood v. United States, 33 F. 3d 1174, 1178 (CA9
1994). We have held that such “[p]ost-enactment legislative
history (a contradiction in terms) is not a legitimate tool of
statutory interpretation.” Bruesewitz v. Wyeth LLC, 562
U. S. ___, ___ (2011) (slip op., at 17–18); accord,
Federal Nat. Mortgage Assn. v. United States, 379 F. 3d 1303,
1309 (CA Fed. 2004) (dismissing Blue Book as “a
post-enactment explanation”). While we have relied on similar
documents in the past, see FPC v. Memphis Light, Gas & Water
Div., 411 U. S. 458 –472 (1973), our more recent
precedents disapprove of that practice. Of course the Blue Book,
like a law review article, may be relevant to the extent it is
persuasive. But the passage at issue here does not persuade. It
concerns a situation quite different from the one we confront: two
separate, non-overlapping underpayments, only one of which is
attributable to a valuation misstatement.
* * *
The District Court
had jurisdiction in this partnership-level proceeding to determine
the applicability of the valuation-misstatement penalty, and the
penalty is applicable to tax underpayments resulting from the
partners’ participation in the COBRA tax shelter. The
judgment of the Court of Appeals is reversed.
It is so ordered.
