Tax Court Reconsiders Summary Judgment Denial in Deficiency Case

INDU RAWAT,
Petitioner
v.
COMMISSIONER OF INTERNAL REVENUE,
Respondent

United States Tax Court
Washington, DC 20217

ORDER

This case involves the tax consequences for an individual for the sale of her interest in a U.S. partnership when a portion of the sale proceeds is attributable to inventory items of the partnership. Petitioner Indu Rawat filed a motion for summary judgment (Doc. 32)¹ that we denied in part by our order of July 20, 2021 (Doc. 58). This order presumes familiarity with that previous order.

Now pending before the Court is petitioner's motion for reconsideration (Doc. 61). The Commissioner filed a response (Doc. 66) to petitioner's motion, and petitioner filed a reply (Doc. 69). Petitioner persuades us that our previous order was in error, and we will therefore grant petitioner's motion for reconsideration and will vacate our previous denial of summary judgment in part. However, except to the extent of the Commissioner's concession, we will again deny petitioner's motion for summary judgment for the reasons stated in this order.

Background

Petitioner's motion for summary judgment and arguments

Petitioner filed a motion for summary judgment (Doc. 32) and a supporting memorandum (Doc. 33) that, in pertinent part, addressed the merits of the Inventory Gain issue in this case. In her discussion, petitioner stated that “[t]he parties to this proceeding agree that in 2008 Petitioner, as a nonresident alien, sold her partnership interest in [Innovation Ventures]”, and she cited joint status reports filed by the parties to support her assertion. (Doc. 33 at 4) (emphasis added). The cited portion of one such status report reads: “The petition filed in this case presents two primary issues for resolution, (1) whether petitioner, as a nonresident alien, is subject to tax on that portion of the gain on the sale of her interest in a U.S. partnership that is attributable to inventory”. (Doc. 18 at 2) (emphasis added). The same phrase appears in further joint status reports filed by the parties. (See Docs. 16, 18, 20, 25-29, 31). With her motion Ms. Rawat submitted no other documentary information (and no affidavit by herself or anyone else) to substantiate her nonresident alien status.

The Commissioner filed an opposition (Docs. 40, 51, 53), in which he disputed Ms. Rawat's position on the merits. He objected to the allegation that the parties agreed to her nonresident status (Doc. 53 at 11), pointing to Ms. Rawat's initial allegation to that effect in her petition (Doc. 1 at 4-5) and to his objection to that allegation in his answer (Doc. 5 at 2); and he argued that a genuine issue of material fact exists as to Ms. Rawat's nonresident status in 2008.² (Doc. 53 at 22). The Commissioner also argued (see Doc. 53 at 26-30) that the parties had settled the Inventory Gain issue by means of a closing agreement on Form 870-LT, with attachments.

In her reply (Doc. 43 at 5, 16-19), Ms. Rawat resisted the Commissioner's argument as to Form 870-LT by contending that the form included no “Schedule of Adjustments” and that Ms. Rawat was bound “only . . . to the partnership-level adjustments, and not to any partner-level determinations”. (Emphasis added.) She also disagreed that her nonresident status remained at issue, citing again to the joint status reports and “respondent['s] fail[ure] to produce any affirmative evidence [to that effect]”. (Doc. 43 at 8-9).

(As is explained below, her motion for reconsideration shows that she admits she agreed to partner-level determinations (though she did not use that term). She indicated that in the Form 870-LT she had agreed that her portion of the Inventory Gain was attributable to her (i.e., at the partner level), but she argued in her reply that her agreed portion was not taxable to her (because of its alleged non-U. S. source, which she did not mention in that context). This argument (that the Form 870-LT determined partner-level recognition but not source) was obscured by her insistence that she was “not [bound] to any partner-level determinations”.)

Order denying summary judgment in part

In our order dated July 20, 2021 (Doc. 58), we granted petitioner's motion for summary judgment in part (regarding the Non-Inventory Gain issue) and denied petitioner's motion in part (regarding the Inventory Gain issue), holding that “[t]he Commissioner had . . . raised a genuine dispute as to whether there was (as petitioner argue[d]) no agreement in the Form 870-LT to a partner-level adjustment for inventory gain.” (Doc. 58 at 12). Drawing inferences in favor of the Commissioner (the non-movant), we concluded that petitioner entered into a binding agreement as to the partner-level inventory gain determination and the resulting liability at issue. We did not address the parties' arguments regarding petitioner's nonresident status or the source of the inventory gain.

Petitioner's motion for reconsideration

On August 18, 2021, Ms. Rawat filed a motion for reconsideration (Doc. 61). In her motion for reconsideration, Ms. Rawat concedes that the Form 870-LT binds her to recognize ordinary income (Doc. 61 at 5), and argues only that, because of the “sourcing” rules, she is not liable for any tax arising from the (partner-level) determination that she “must”, as Form 886-A twice states, “recognize ordinary income in the amount of $6,523,176.” In that connection, she disputes (Doc. 61 at 6-17) our statement that “the word 'recognized' means 'taken into account in computing taxable income'”. (Emphasis added.)

Thus, she asks us to reconsider the meaning and effect of the Form 870-LT in requiring her to “recognize ordinary income in the amount of $6,523,176.” She contends that this “recognition]” provision in the closing agreement does not determine “taxable income” and does not preclude her contention that the sourcing rules relieve her from taxation on that amount, which she asserts is the determinative issue for our consideration. To support her argument that “recognition” does not determine “taxable income”, she contends that the source of the inventory gain is determined separately from (and only after) the recognition and character of the inventory gain. (Doc. 61 at 6).

In his response, the Commissioner urges us to readopt our interpretation of “recognition” to find that petitioner agreed that she was liable for U.S. income tax on the inventory gain and reiterates his earlier arguments regarding the source of the inventory gain. (Doc. 66 at 4, 10).

Discussion

Petitioner's contention regarding sourcing was unclear in her reply to the Commissioner's response (to her motion for summary judgment), but we acknowledge that she did make the contention and that we gave it insufficient attention, and we direct our attention to it now.

I. Analysis

A. Closing agreement and “matters agreed upon”

As we explained in Silverman v. Commissioner, 105 T.C. 157, 161 (1995), closing agreements are specifically authorized by section 7121(a),³ and to the extent of matters agreed upon, a closing agreement under section 7121 is final and will not be set aside absent a showing of fraud or malfeasance, or a misrepresentation of a material fact. Silverman, 105 T.C. at 161.

But section 7121 does not bind the parties as to the premises underlying their agreement; they are bound only as to the “matters agreed upon”. Zaentz v. Commissioner, 90 T.C. 753, 761 (1988). Under section 7121 “a court may not include as part of the agreement matters other than the matters specifically agreed upon and mentioned in the closing agreement.” Id. at 766. The scope of a closing agreement is therefore strictly construed to encompass only the issues enumerated in the closing agreement itself. Analog Devices, Inc. v. Commissioner, 147 T.C. 429, 445-446 (2016).

The Form 870-LT agreement states that it is made “[u]nder sections 6224(c)^[4] and 7121”. Neither party disputes that the Form 870-LT was a valid closing agreement. See McAvey v. Commissioner, T.C. Memo. 2018-142 (acknowledging Form 870-LT as a valid closing agreement for purposes of section 7121). Neither party asks us to set aside the Form 870-LT in this case. Rather, the parties disagree about the extent of the items included in and agreed upon in the Form 870-LT. Petitioner argues that neither the source of the inventory gain nor the amount of tax due on the inventory gain were matters agreed upon in the Form 870-LT. She argues that she agreed only to recognize the income — not that it was sourced to the U.S. and therefore subject to U.S. taxation. The Commissioner defends the holding in our previous order (Doc. 58 at 10-11) that the term “recognition” has the meaning that we observed in Venture Funding, Ltd. v. Commissioner, 110 T.C. 236, 241 (1998), aff'd, 198 F.3d 248 (6th Cir. 1999) (“the word 'recognized' means 'taken into account in computing taxable income'”) (quoting Bittker & McMahon, Federal Income Taxation of Individuals, par. 28.2, at 28-2 (2d ed.1995)), and argues that employing a plain meaning interpretation of “recognition” in this case necessarily leads to the conclusion that petitioner consented to the U.S. source of the inventory gain in the Form 870-LT. (Doc. 66 at 4-5).

The Code and Treasury Regulations anticipate that the recognition of gross income and the source of that recognized income are two independent determinations — each contributing to the overall determination of taxable income. As petitioner points out, Treas. Reg. section 1.864(c)(8)-1(b)(3) expressly “limits the amount of gain or loss recognized by a foreign transferor that may be treated as effectively connected gain or effectively connected loss.” (Emphasis added.) The income sourcing provisions of the Code, beginning with sections 861 and 862, provide that certain “items of gross income” are treated as income from sources within or without the U.S., and therefore imply that a taxpayer will have already recognized income prior to the source determination. Section 863 thereafter calculates taxable income by allocating expenses, losses, and other deductions that correspond with each source. Admittedly, section 865 (the source rules for personal property sales) provides only that “income from the sale of personal property” — excluding the “gross” prefix — is sourced based on residency, but we read section 865 in pari materia with sections 861-863 and see no reason to differentiate between the meanings of “income” in section 865 and “gross income” in sections 861-863.

In the Form 870-LT, the parties agreed to certain partner level determinations shown on a schedule of adjustments, and Ms. Rawat consented to “the assessment and collection of any deficiency attributable to [those] partner level determinations”. (Doc. 5 at 25) (emphasis added). Whether there exists any deficiency that the IRS is entitled to assess was not determined in the Form 870-LT. The Form 870-LT determined adjustments to “ordinary income” and “other income” (relating to the inventory gain), among other income items and deductions, but specifically lacked a determination as to the source of the income or as to Ms. Rawat's deficiency and corresponding tax liability. (Doc. 5 at 26-28). Neither the source of the income, nor Ms. Rawat's deficiency, nor her tax liability were “matters agreed upon” within the meaning of section 1721 and we may not read them into the agreement. Zaentz, 90 T.C. at 761, 766 (1988). Therefore, we find that the parties did not agree to these items in the Form 870-LT, and that the source of the inventory gain Ms. Rawat recognized on the sale of her partnership interest remains at issue.

B. Nonresident alien status and the source of the inventory gain

Setting aside our previous order, we return now to Ms. Rawat's motion for summary judgment, and specifically, to her contention that our previous order did not address — i.e., her contention that the inventory gain is “not sourced to or taxable by the United States . . . [and that she therefore] is entitled to a refund of amounts paid with respect to 2008 attributable to the Inventory Gain”. (Doc. 33 at 14).

1. Summary judgment standards

In Sundstrand Corp, and Consol. Subs. v. Commissioner, 98 T.C. 518, 520 (1992), we explained that summary judgment is appropriate if the pleadings and other materials show that there is no genuine issue as to any material fact and a decision may be rendered as a matter of law. See also Rule 121(b); Naftel v. Commissioner, 85 T.C. 527, 529 (1985). The moving party bears the burden of showing that no genuine dispute exists as to any material fact and that she is entitled to judgment on the substantive issues as a matter of law. Celotex Cord. v. Catrett, 477 U.S. 317, 323 (1986); Espinoza v. Commissioner, 78 T.C. 412, 416 (1982). In deciding whether to grant summary judgment, we view the factual materials and inferences drawn from them in the light most favorable to the nonmoving party. Anderson v. Liberty Lobby Inc., 477 U.S. 242, 255 (1986); Naftel, 85 T.C. at 529. If there exists any genuine dispute as to the facts at issue, the motion must be denied. Espinoza, 78 T.C. at 416. However, only “[w]hen a motion for summary judgment is . . . supported as provided in this Rule” is the adverse party required to “set forth specific facts showing that there is a genuine dispute for trial”. Rule 121(d). That is, a movant may not assert unsubstantiated facts and then insist that the non-movant prove them wrong.

Petitioner has moved for summary judgment, so she has the burden to show that there are no material facts in dispute and that she is entitled to judgment on the substantive issues as a matter of law. Respondent contends that she has failed to carry her burden and is not entitled to summary judgment in her favor.

2. Nonresident alien status as a “material fact”

An analysis of the source of the inventory gain (and therefore, whether it is subject to U.S. taxation) first requires a determination of Ms. Rawat's status as a nonresident alien. The source of the inventory gain remains at issue in this case and becomes relevant to determine petitioner's income tax liability only if she is a nonresident alien.⁵ If Ms. Rawat is a U.S. citizen⁶ or “resident” alien, then she is subject to income tax on the inventory gain regardless of its source. §§ 1, 61, 7701(b). But if she is a nonresident alien, then she is subject to income tax as provided by section 871. § 2(g). Section 871 imposes a tax on (among other items) income received by nonresident aliens from sources within the U.S., capital gains of nonresident aliens who are present in the U.S. for a certain period of time, and income received by nonresident aliens that is effectively connected with the conduct of a trade or business within the U.S. Therefore, petitioner has the burden to prove that she was not a U.S. citizen or resident alien in 2008, or if she was a nonresident alien, that she is not subject to tax on the inventory gain pursuant to section 871.

3. Lack of showing of nonresident alien status

Petitioner asserts that she was a nonresident alien in 2008, and therefore, is not subject to U.S. taxation on the inventory gain. (Doc. 1 at 5; Doc. 33 at 4). However, instead of putting forth evidence to support her assertion, petitioner asks us to draw inferences from statements of the parties in joint status reports — statements that merely clarify the issues set forth in the petition. The petition asserted that Ms. Rawat was a nonresident alien, and the Commissioner's answer expressly denied that assertion. When he thereafter joined in status reports — stating “The petition filed in this case presents two primary issues for resolution, (1) whether petitioner, as a nonresident alien, is subject to tax on that portion of the gain on the sale of her interest in a U.S. partnership that is attributable to inventory” (Doc. 18 at 2) (emphasis added) — we think he did not admit that she was a nonresident alien but rather joined in stating a disputed issue in the case of which her status was a component. It is not impossible that someone joining such a statement would intend thereby to signal his concession of nonresident alien status, previously disputed, but the Commissioner insists (Doc. 41 at 11) that he did not so intend. In resolving petitioner's motion, we draw all inferences in the Commissioner's favor, and we therefore decline to infer that his joining this status report constituted a concession of Ms. Rawat's alleged nonresident alien status.

In Ms. Rawat's reply brief (Doc. 43 at 14-15), filed after the IRS disputed her nonresident alien status, she cited additional vague or equivocal documents that do little more than provide for petitioner a mailing address in India.⁷ Only the fourth of these documents actually uses the term “nonresident alien”, and we think petitioner cannot fairly rely on it here. That fourth document is an IRS examination report prepared in 2012 that identifies Ms. Rawat as a “nonresident alien” and, we infer, derived that proposition from the fact that, “prior to tax year 2008, Rawat filed US nonresident individual income tax returns (forms 1040-NR) to account for the partnership income (loss) of [Innovation Ventures].” The examination relied on the IRS's longstanding Revenue Ruling 91-32 (only later overruled in Grecian Magnesite Mining, Indus. & Shipping Co., S.A. v. Commissioner, 149 T.C. 63 (2017), aff'd, 926 F.3d 819 (D.C. Cir. 2019)) and therefore evidently had little felt need to challenge Ms. Rawat's claim of nonresident alien status — a claim that, at the time, must have seemed not worth scrutinizing. There is no showing, and no reason to suppose, that the IRS's examining agent had personal knowledge of Ms. Rawat's residence; and the statement in the examination report is not so much an admission of the IRS as its acceptance of Ms. Rawat's position.

Ms. Rawat did not submit her own declaration in support of her claim of nonresident alien status. We conclude that the documents she relied on instead do not support, in compliance with Rule 121(d), the disputed proposition that she was a nonresident alien (or even that she resided outside of the U.S. for any specific period of time). Therefore, petitioner has failed to carry her burden to show her nonresident alien status.

Without a determination regarding petitioner's status as a nonresident alien, we cannot decide the source issue.

It is, therefore,

ORDERED that petitioner's motion for reconsideration filed August 18, 2021, is granted; and that our order of July 20, 2021, is vacated in its entirety; and that petitioner's motion for summary judgment filed December 20, 2019, is granted in part as to the Non-Inventory Gain issue that the Commissioner concedes and is denied in part as to the Inventory Gain issue. It is further

ORDERED that, no later than August 29, 2022, the parties shall file a joint status report (or if that is not expedient, then separate reports) that shall include their recommendations as to further proceedings in this case.

(Signed) David Gustafson
Judge