Economic Substance Redux

By Schnee, Edward J. | Journal of Accountancy, November 2008 | Go to article overview

Economic Substance Redux


Schnee, Edward J., Journal of Accountancy


The Court of Federal Claims ruled against another Son of BOSS shelter, upholding penalties despite the taxpayers' reliance on the advice of tax attorneys.

The Welles family owned Therma-Tru Corp., a leading manufacturer of insulated doors. Between 1999 and 2000 the family negotiated the sale of the corporation to a private equity firm for a $450 million taxable gain. At the family's request, its longtime attorney suggested they employ a gain-sheltering strategy marketed by the law firm of Jenkins & Gilchrist (J&G). That strategy would become known as Son of BOSS (bond option sales strategy) and lead ultimately to J&G's demise. For other IRS victories against the shelter, see Jade Trading LLC v. U.S. (101 AFTR2d 2008-1411, "Tax Matters: Economic Substance Prevails Against Another Son of BOSS," JofA, March 08, page 71); also Brandon Ridge Partners v. U.S. (100 AFTR2d 2007-5347, "Tax Matters: Son of BOSS Goes Into Overtime," JofA, Nov. 07, page 79).

This version, which the Welleses set up beginning in March 2000, used foreign currency options plus a partnership termination to increase the basis of the corporation's stock. Five months later, the IRS issued Notice 2000-44 that held such strategies lacked economic substance. J&G and the family attorney's firm decided the J&G shelter was not similar to those in the notice, although notes made by the family attorney indicate he was not convinced by their analysis. The taxpayer paid more than $2 million in fees to J&G and more than $1 million to the other law firm.

J&G provided the Welleses with a tax opinion letter stating that the strategy should be effective. The government audited the partnership tax return and dented the tax benefit and imposed penalties. The taxpayer paid the tax and sued for a refund.

The Court of Federal Claims first determined that the strategy was consistent with the Internal Revenue Code as it existed at the time and rulings in Helmer v Commissioner (TC Memo 1975-160) and Coltec v. Commissioner (98 AFTR2d 2006-5249).

Second, the court ruled Treas. Reg. [section] 1.752-6, issued in 2003, could not be applied retroactively to deny the tax benefit. The regulation provides that if a partnership assumes the liabilities of a partner, the partner's basis in the partnership is reduced by the amount of the liability, but not below the value of the partnership interest.

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