Suit Filed Challenging IRS Notice on Abusive Trust Arrangements

Govig & Associates, Inc., an Arizona corporation; Todd A. Govig; Richard A. Govig and Jeanette H. Govig, spouses;
Plaintiffs,
v.
United States of America; Internal Revenue Service, Department of the Treasury;
Defendants.

IN THE UNITED STATES DISTRICT COURT
FOR THE DISTRICT OF ARIZONA

COMPLAINT UNDER ADMINISTRATIVE PROCEDURES ACT

Brandon A. Keim
Frazer Ryan Goldberg & Arnold LLP
1850 N. Central Ave., Suite 1800
Phoenix, AZ 85012
AZ Bar No. 028831
bkeim@frgalaw.com
(602) 277-2010

Yale F. Goldberg
Frazer Ryan Goldberg & Arnold LLP
1850 N. Central Ave., Suite 1800
Phoenix, AZ 85012
AZ Bar No. 005245
ygoldberg@frgalaw.com
(602) 277-2010

Attorneys for Plaintiffs

Plaintiffs, Govig & Associates, Inc., Todd A. Govig, Richard A. Govig and Jeanette Govig (collectively hereinafter the “Plaintiffs”); challenge final agency action under the Administrative Procedures Act by alleging as follows:

INTRODUCTION

1. This is an action to set aside final agency action, namely IRS Notice 200783, in accordance with the Administrative Procedures Act.

2. Plaintiffs assert that Notice 2007-83 goes beyond the scope of authority granted to the IRS to identify potentially abusive transactions requiring disclosure in accordance with I.R.C. § 6011. Further, the Notice fails to specifically identify the transactions subject to the Notice because it uses vague words, such as “purported,” and unclear elements. The government's current interpretation of the transactions described in the Notice was not known until the IRS proposed an I.R.C. § 6707A penalty on a taxpayer that participated in a virtually identical plan to that adopted by Govig & Associates, Inc.

3. This suit is not barred by the Anti-Injunction Act, I.R.C. § 7421(a); because it does not seek to restrain the assessment or collection of any tax. This suit seeks to invalidate an IRS notice that requires taxpayers to report certain undefined transactions. The reports that taxpayers file under the IRS notice are not tax returns and do not determine tax that may be assessed, and then collected. This suit seeks to address the hundreds of hours of labor and tens of thousands of dollars that the IRS notice's reporting requirement unfairly imposes on taxpayers. 

4. The Supreme Court held in Direct Marketing Association v. Brohl, 135 S. Ct. 1124 (2015); when it interpreted the coterminous Tax Injunction Act, that a suit to enjoin enforcement of a reporting requirement is not a suit for the purpose of restraining the assessment or collection of any tax. A reporting requirement is part of the information gathering phase of tax administration, which occurs before assessment or collection. Direct Marketing, 135 S. Ct. at 1129. Because the invalidation of a reporting requirement does not restrain the assessment or collection of a tax, the Anti-Injunction Act does not bar pre-enforcement judicial review of the IRS notice at issue.

PARTIES, JURISDICTION, AND VENUE

5. Govig & Associates, Inc. (“Govig”) is a duly authorized corporation in Arizona, with its principal place of business in Scottsdale, Arizona.

6. Todd A. Govig (“Todd”) is an individual residing in Scottsdale, Arizona.

7. Richard A. Govig (“Richard”) and Jeanette H. Govig (“Jeanette”) are married individuals residing in Scottsdale, Arizona.

8. Defendants are the United States of America, Internal Revenue Service of the Department of the Treasury.

9. The Internal Revenue Service (“IRS”) is a bureau of the Treasury Department, an administrative agency of the United States of America.

10. The jurisdiction of this Court is based upon the provisions of 28 U.S.C. § 1346(a)(2); 28 U.S.C. § 1331, and 5 U.S.C. § 702.

11. Venue is proper in this judicial district pursuant to 28 U.S.C. § 1402(a)(1).

BACKGROUND AND FACTS

12. This is a suit to enjoin the enforcement of the reporting requirement promulgated by Notice 2007-83 and to set aside the Notice.

13. The bases for the lawsuit are threefold. First, the IRS unlawfully issued Notice 2007-83, which qualifies as a “legislative-type rule,” without first complying with the mandatory notice-and-comment provisions of the Administrative Procedure Act (“APA”, 5 U.S.C. § 553). Second, Notice 2007-83 is arbitrary and capricious and ultra vires in nature, lacking underlying authority and the reasoned-analysis footing required by the APA (5 U.S.C. § 706(2)(A)). Third, Notice 2007-83 cannot “take effect” based upon the failure of the IRS to comply with the APA's notice-and-comment requirements. Plaintiffs challenge the validity of the Notice so that a reasoned decision can be made about whether to engage in a potential future transaction that could result in the imposition of penalties and possibly taxation under the Notice.

14. The resolution of this case should determine the following issues:

a. Whether the IRS exceeded its authority when issuing Notice 2007-83 as such Notice is unconstitutionally vague such that the true meaning of certain elements therein, and the “purported” welfare benefit funds to which it applies, as currently interpreted by the government, was only known after the assessment of penalties under IRC § 6707A.

b. Whether the IRS exceeded its authority when issuing Notice 2007-83 by re-defining the term “qualified cost” in a way that is inconsistent with express provisions of the I.R.C. § 419, Treas. Reg. § 1.409A-1(5); and applicable case law.

A. Notice 2007-83

15. On or about November 5, 2007, the IRS issued Notice 2007-83 entitled “Abusive Trust Arrangements Utilizing Cash Value Life Insurance Policies Purportedly to Provide Welfare Benefits” (hereinafter the “Notice”). In pertinent part, the Notice sets forth four (4) essential elements (the “Elements”) as follows:

Any transaction that has all of the following elements, and any transaction that is substantially similar to such a transaction, are identified as “listed transactions” for purposes of § 1.6011-4(b)(2) and §§ 6111 and 6112, effective October 17, 2007, the date this notice is released to the public.

(1) The transaction involves a trust or other fund described in § 419(e)(3) that is purportedly a welfare benefit fund.

(2) For determining the portion of its contributions to the trust or other fund that are currently deductible the employer does not rely on the exception in § 419A(f)(5)(A) (regarding collectively bargained plans).

(3) The trust or other fund pays premiums (or amounts that are purported to be premiums) on one or more life insurance policies and, with respect to at least one of the policies, value is accumulated either:

(a) within the policy (for example, a cash value life insurance policy); or

(b) outside the policy (for example, in a side fund or through an agreement outside the policy allowing the policy to be converted to or exchanged for a policy which will, at some point in time, have accumulated value based on the purported premiums paid on the original policy).

(4) The employer has taken a deduction for any taxable year for its contributions to the fund with respect to benefits provided under the plan (other than post-retirement medical benefits, post-retirement life insurance benefits, and child care facilities) that is greater than the sum of the following amounts:

(a) With respect to any uninsured benefits provided under the plan,

(i) an amount equal to claims that were both incurred and paid during the taxable year; plus

(ii) the limited reserves allowable under § 419A(c)(1) or (c)(3); as applicable; plus

(iii) amounts paid during the taxable year to satisfy claims incurred in a prior taxable year (but only to the extent that no deduction was taken for such amounts in a prior year); plus

(iv) amounts paid during the taxable year or a prior taxable year for administrative expenses with respect to uninsured benefits and that are properly allocable to the taxable year (but only to the extent that no deduction was taken for such amounts in a prior year).

(b) With respect to any insured benefits provided under the plan,

(i) insurance premiums paid during the taxable year that are properly allocable to the taxable year (other than premiums paid with respect to a policy described in (3)(a) or (b) above); plus

(ii) insurance premiums paid in prior taxable years that are properly allocable to the taxable year (other than premiums paid with respect to a policy described in (3)(a) or (b) above); plus

(iii) amounts paid during the taxable year or a prior taxable year for administrative expenses with respect to insured benefits and that are properly allocable to the taxable year (but only to the extent that no deduction was taken for such amounts in a prior year).

(c) For taxable years ending prior to November 5, 2007, with respect to life insurance benefits provided through policies described in (3)(a) and (b) above, the greater of the following amounts:

(i) in the case of an employer with a taxable year that is the calendar year, the aggregate amounts reported by the employer as the cost of insurance with respect to such policies on the employees' Forms W-2 (or Forms 1099) for that year, plus an amount equal to the amounts that would have been reportable on the employees' Forms W-2 for that year, but for the exclusion under section 79 (relating to the cost of up to $50,000 of coverage); or, in the case of an employer with a taxable year other than the calendar year, the portions of the aggregate amounts reported by the employer on the Forms W-2 (or Forms 1099) as described in (i); above, (or that would have been reported absent the exclusion under § 79) that are properly allocable to the employer's taxable year; and

(ii) with respect to each employee insured under a cash value life insurance policy, the aggregate cost of insurance charged under the policy or policies with respect to the amount of current life insurance coverage provided to the employee under the plan (but limited to the product of the current life insurance coverage under the plan multiplied by the current year's mortality rate provided in the higher of the 1980 or 2001 CSO Table).

16. In the Notice, the IRS further proclaimed: “This Notice informs taxpayers and their representatives that the tax benefits claimed for these arrangements are not allowable for federal tax purposes.”

17. The IRS issued the Notice pursuant to the authority granted to the Secretary, in I.R.C. § 6707(c)(2); to specifically identify “Listed Transactions.”

18. The Notice does not involve the assessment or collection of a tax.

19. After the Secretary specifically identifies a transaction as a Listed Transaction, the Internal Revenue Code provides that all parties participating in a transaction that is the same as or substantially similar to the transactions described in the Notice are required to report or disclose their participation in such transaction. The Secretary has issued Regulations stating that such disclosure is to be made by filing a Form 8886.

20. The failure to file the Form 8886 may result in the IRS imposing a penalty in accordance with I.R.C. § 6707A. For individuals, this penalty is 75% of the decrease in tax shown on the return as a result of engaging in the transaction. For S corporations, though not specifically applicable based on the language of the statute, the IRS applies a $10,000 penalty.

21. If the I.R.C. § 6707A penalty is imposed, the taxpayer must pay the penalty prior to asserting a challenge in Federal Courts on the basis that the transaction engaged in is not “the same as or substantially similar” to the transactions which are supposed to be specifically identified in the Notice.

22. A transaction is substantially similar, as set forth in Treas. Reg. § 1.6011-(4); if: (a) it is expected to obtain the same or similar types of tax consequences; and (b) is either factually similar or based on the same or similar type of tax strategy.

23. When issuing notices under I.R.C. § 6707A, the IRS is obligated to specifically identify the transactions described in the Notice so that “a person of ordinary intelligence” can determine which transactions are substantially similar to the listed transaction identified in Notice 2007-83. I.R.C. § 6707A(c)(2) (the term “listed transaction” means a reportable transaction which is the same as, or substantially similar to, a transaction specifically identified by the Secretary as a tax avoidance transaction for purposes of section 6011) (emphasis added); see also Fang Lin Ai v. United States, 809 F. 3d 503, 514 (9th Cir. 2015).

24. Notice 2007-83 is vague and fails to specifically identify transactions subject to the Notice. As a result, taxpayers may unnecessarily be required to file a Form 8886, disclosing participation in an alleged abusive tax scheme, when the particular transaction is not “the same as or substantially similar” to the transactions described in the Notice, or may suffer a penalty when it is not clear that the transaction is specifically identified in Notice 2007-83. The filing of Form 8886 imposes substantial costs on taxpayers.

25. In the past, the IRS revised and re-issued notices for this very reason, i.e., being vague. See, e.g., Notice 2015-47 being superseded by Notice 2015-73.

26. Notice 2007-83 further exceeds the authority granted to the IRS to specifically identify transactions requiring disclosure because it changes and narrows terms defined in the I.R.C. (e.g., “qualified cost”); and sets forth unclear and inconsistent interpretations of I.R.C. provisions, namely I.R.C. § 419.

27. Notice 2007-83 defines the term “qualified cost” in such a manner that it nullifies Treas. Reg. § 1.409A-1(a)(5) for purposes of single employer welfare benefit funds providing a death benefit. Treas. Reg. 1.409A-1(a)(5) specifically excludes from the definition of “deferred compensation” a “portion of a plan” that provides a “bona fide . . . death benefit.” Through its enforcement of Notice 2007-83, the IRS essentially determined that if a cash value life insurance product is used to fund a death benefit, “no portion” of the plan is a “bona fide death benefit” and it may be deferred compensation.

28. By its terms, Notice 2007-83 seeks to prohibit transactions “purporting” to provide welfare benefits.

29. Based on the cases litigated by the IRS subsequent to Notice 2007-83, Plaintiffs reasonably understood that the “purported” welfare benefit funds were ones where the business owner or employee could obtain or have the right to obtain money that was accumulated inside a cash value life insurance policy. The policies in these prior cases were often variable or universal life policies — which are essentially term insurance policies with an investment component. The current cost of the insurance in those cases was the term premium, yet employers deducted substantially excess amounts that were contributed to the “purported” welfare benefit fund. The owner or employee, however, did not pay tax on the accumulated cash he/she could obtain or had the right to obtain.

30. In 2012, while all these prior plans were being litigated, certain taxpayers were participating in a Death Benefit Trust/Restricted Property Trust (“DBT/RPT”); identical to the Govig & Associates, Inc. Benefits Trust described below. At all times, these taxpayers were advised to, and most always did, attach a detailed Form 8275 (Disclosure Statement) to their timely filed corporate return (the return on which the deduction was reported).

31. The Form 8275 stated with specificity and detail, the facts, the structure, the intended tax consequences (current and in future); the substantial risk of forfeiture, the independent trustee administering the trusts, the amount of and line on which the deduction appears, the I.R.C. sections relied on to support the deduction (including the definition of qualified cost set forth in I.R.C. section 419 and as has been interpreted by numerous federal courts); the absence of any contributions to the welfare benefit fund in excess of the qualified cost, the absence of the employee having a current or future right to assets in the Restricted Property Trust thus the absence of funds accumulating in a welfare benefit fund, the taxable event if the substantial risk of forfeiture does not occur, the designation of charitable beneficiaries in the event of forfeiture, and finally, a one and one-half page analysis as to why Notice 2007-83 does not apply to the Death Benefit Trust/Restricted Property Trust. Attached as Exhibit A is Govig's Form 8275 for taxable year 2016.

32. A taxpayer that made a Form 8275 disclosure similar to Govig's was examined by the IRS for taxable year 2013. The IRS concluded the audit with no changes to the deductions disclosed on the Form 8275. Moreover, the IRS did not determine that the subject transaction should be reported on Form 8886.

33. While the taxpayer examined vested, and paid tax on the assets following the expiration of the substantial risk of forfeiture, the taxpayer is now being investigated as to whether the Form 8886 should have been filed in taxable years 2014 through 2017. To reach this conclusion, either or both of the following applies: (1) Notice 2007-83 is so vague and unclear that an agent that audited a plan with full disclosure on a Form 8725 (which Form 8275 talked at length about Notice 2007-83) was unaware the Notice applied to the subject plan; or, (2) the IRS is merely changing its interpretation of the meaning of vague terms used in the Notice to enforce against these Plaintiffs and all taxpayers with identical DBT/RPT benefit plans.

34. It is significant that the IRS has frequently changed its interpretation of plans subject to Notice 2007-83. In upholding a proposed I.R.C. § 6707A penalty applied to a different taxpayer on appeal, and in response to a request for an explanation as to how and why Notice 2007-83 applied to the transaction, a Technical Advisor stated the reasons the Notice applies to the DBT/RPT are “proprietary,” and he refused to discuss the matter any further.

35. The IRS revenue agent that originally proposed the I.R.C. § 6707A penalty resulting in the above described appeal stated in support of the IRS's determination that “the effect of the parenthetical phrase is that premiums paid to policies that accumulate cash value within or outside the policy are not treated as insurance premiums paid for purposes of measuring the amount of the deduction for purposes of element four.” The parenthetical referred to is one of the Elements of the transactions described in Notice 2007-83 as referenced above.

36. Thus, it is clear that Notice 2007-83 does not specifically describe transactions subject to the Notice's reporting obligations as it was only after the I.R.C. 6707A penalty was assessed in the transaction described above that the IRS specifically clarified its original intent as to Element Four in the Notice.

37. The preceding statement even goes beyond the provisions of Notice 200783 itself which references the concurrently issued Rev. Rul. 2007-65, which states “for purposes of deductions allowable to an employer under § 419, a welfare benefit fund's qualified direct cost does not include premium amounts for cash value life insurance policies paid by the fund, whenever the fund is directly or indirectly a beneficiary under the policy within the meaning of § 264(a).”

38. The IRS is now auditing numerous taxpayers engaged in identical transactions, and the revenue agents handling those audits have repeatedly said that they do not care about the facts of the plan and that the IRS simply does not like whole life insurance. This is consistent with the above new interpretation of Notice 2007-83 stated for the first time in a proposed assessment of the I.R.C. § 6707A penalty.

39. Clearly the use of a cash value insurance policy to fund a welfare benefit fund (i.e., the DBT/RPT) is the sole concern of the IRS. The IRS's concern appears to ignore that the only benefit provided through the DBT/RPT is an actual welfare benefit. The IRS's concern ignores the express language in Treas. Reg. 1.409A-1(a)(5). In this case, the only fact of concern to the IRS is the use of the whole life policy to fund the DBT/RPT. The I.R.C. § 6707A penalty was imposed on Plaintiffs despite the IRS not receiving the facts of the plan in response to an IDR, despite no deduction being taken on the Govig tax return for a contribution to the Death Benefit Trust, and despite the fact that the IRS revenue agent originally imposing the penalty indicated that she would rescind the proposed penalty for which the Plaintiffs ultimately received a bill. In short, as the IRS has acknowledged, the facts relevant to the DBT/RPT do not matter.

40. The IRS has audited over a dozen other identical plans each containing the detailed Form 8275. Not once did the IRS determine or indicate that the Form 8886 is required.

41. In addition to Notice 2007-83 being vague, as shown by the fact that even the IRS employees could not “understand” it in relation to the DBT/RPT, the IRS is impermissibly relying on Notice 2007-83 as authority for disallowing deductions which are otherwise allowed by the Code.

B. Govig & Associates, Inc. Benefits Trust

42. Govig is a specialized executive recruiting agency. Govig is taxed as a “S” corporation for federal income tax purposes in accordance with subchapter S of the Internal Revenue Code of 1986, as amended.

43. In 2015, Govig was owned as follows:

44. Todd is the President of Govig. Of the Individual Plaintiffs, Todd is the only one involved in the day-to-day operations of the business.

45. Executive recruiting companies are highly competitive businesses and the success of such businesses requires hiring, training, then retaining key employees. Other recruiting companies regularly seek to poach talent from competitors.

46. In the interest of ensuring its continuity in the event of Todd's untimely death and to retain key employees, Govig adopted the Govig & Associates, Inc. Death Benefit Trust and Restricted Property Trust¹ (the “Govig DBT/RPT”) in 2015. The terms of the Govig DBT/RPT are set forth in the Benefits Trust, executed by Govig and an independent trustee, Aligned Partners Trust Company. The Benefits Trust sets forth the terms and conditions of the two separate sub trusts, the Death Benefit Trust and the Restricted Property Trust. The Death Benefit Trust and the Restricted Property Trust are irrevocable trusts.

47. In 2015, Govig provided benefits to Todd, the President and a minority owner, and three (3) non-owner key employees. In 2016, Govig amended the Benefits Trust such that two (2) additional non-owner key employees would receive benefits. In 2018, Govig amended the Benefits Trust such that three (3) additional non-owner key employees would receive benefits. Collectively, all employees, including Todd, who received benefits through the Benefits Trust are called “Participants.”

48. On September 8, 2015, Govig adopted the Govig DBT/RPT through which the benefits set forth therein are provided to the Participants.

49. The Trustee of the Govig DBT/RPT is Aligned Partners Trust Company, Inc., an independent trust company based out of Pittsburgh, Pennsylvania (the “Trustee”). The Trustee has no affiliation to Govig, or any of the individual Plaintiffs. The Trustee receives an arms-length reasonable fee for the services it provides.

50. The Govig DBT/RPT provides two separate and distinct benefits to each Participant as an employee of the Company.

51. The first benefit is a current year death benefit. This current year death benefit is funded with the current cost of the death benefit, plus all administrative charges and expenses. The preceding funding amount is defined in the Flexible Premium Whole Life insurance contract (the “Policy”) provided by Penn Mutual Life Insurance Company (“Penn Mutual”) as the base portion premium (“Base Portion Premium”).

52. Penn Mutual established the annual Base Portion Premium for each Policy. The annual Base Portion Premium must be paid in every year of the Policy, including all years following vesting, if vesting occurs, or by its terms the Policy will lapse.

53. With respect to each Participant, each Policy is an off-the-shelf pure whole life insurance policy issued by Penn Mutual and acquired by the Trustee of the Death Benefit Trust to fund the death benefit.

54. Govig deemed the Policy necessary and appropriate because of the permanent need for continuing death benefits and the impact changing health conditions could have on an individual's ability to obtain cost-effective life insurance if the insured was even then insurable.

55. Pursuant to each Policy, the failure to pay the Base Portion Premium in any year automatically results in the Policy lapsing. The lapsing of the Policy is unavoidable under the terms of the Govig DBT/RPT as there is no money accumulating within the Govig DBT/RPT that is available to pay the subsequent year's contractually required Base Portion Premium.

56. At the time each Participant commenced participating in the Death Benefit Trust, Govig and such Participant entered into a certain Death Benefit Agreement pursuant to which Govig agreed to fund the Death Benefit Trust and the Participant agreed to include in income the value of the economic benefit resulting from the current life insurance protection.

57. The second benefit provided to each Participant by Govig is restricted compensation payable to the Participant only in accordance with the terms of the Restricted Property Trust.

58. All money contributed to, and assets owned by, the Restricted Property Trust are subject to a substantial risk of forfeiture. This means that neither Govig, the Trustee, any Participant, any of the charitable beneficiaries, or any other person or entity have any rights, title, or interest in the restricted compensation until such time that the risk of forfeiture occurs or lapses pursuant to the terms of the Restricted Property Trust.

59. The risk of forfeiture continues for the period set forth in the Restricted Property Agreement executed between Govig and each Participant at the time such Participant commences participation. Under no circumstances is the risk of forfeiture period less than five (5) years.

60. Pursuant to the terms of the Restricted Property Agreement, despite the money contributed to the Restricted Property Trust being subject to a substantial risk of forfeiture in accordance with the provisions of I.R.C. § 83, the Participant agrees to include such money in income, in accordance with I.R.C. § 83(b); when contributed by Govig to the Restricted Property Trust.

61. If a Participant vests, the assets owned by the Restricted Property Trust are distributed to the Participant and the Participant receives a Form 1099 stating the amount of taxable income reportable by the employee upon a distribution of the assets from the Restricted Property Trust at that time. The taxable income is an amount equal to the entire value of the Policy less any amounts the Participant included in income, despite the substantial risk of forfeiture, in accordance with I.R.C. § 83(b).

62. In the event that a Participant does not vest in the restricted compensatory benefit, all of the assets associated with that restricted compensation are forfeited by the Trustee of the Restricted Property Trust to a charity. Pursuant to the terms of the Restricted Property Trust, the assets subject to forfeiture equal all the cash value of the lapsed Policy.

63. Each Participant selected the charity to which the restricted compensation would be distributed, directly by the Trustee, in the event of forfeiture, and the charity is provided notice of this designation.

64. The Trustee has a fiduciary obligation to the Restricted Property Trust beneficiaries and is mandated by the Govig DBT/RPT, and applicable trust laws, to enforce the risk of forfeiture should events giving rise to forfeiture occur.

65. Prior to adopting the Govig DBT/RPT, Govig and Todd were informed of and discussed each of its component parts with their advisors, including but not limited to:

• the business purpose for which the Company is funding the death benefit and the restricted compensation;

• the fact that the only benefit to which a Participant is entitled in a given year is a death benefit if the base portion premium is continually and timely contributed to the Death Benefit Trust up to and including in the year of the Participant's untimely death;

• the fact that all assets owned by the Restricted Property Trust are subject to a substantial risk of forfeiture;

• the events giving rise to forfeiture;

• the obligation of the Participant to include in taxable income the current economic value of the current life insurance protection provided under the Death Benefit Trust, computed in accordance with IRS tables;

• the purpose of including contributions to the Restricted Property Trust in income currently, notwithstanding the substantial risk of forfeiture, to which such assets were subject unless and until the risk of forfeiture expired; and

• the taxable event to each Participant that would occur if his/her beneficial interest in the Restricted Property Trust vests.

66. The Govig DBT/RPT identifies: the terms and conditions upon which the Trustee shall hold and administer assets of the separate sub trusts; the separate assets owned by the separate trusts; the separate beneficiaries of the respective sub trusts; the conditions upon which the separate beneficiaries may receive distributions, including the possibility upon which either the Participant would receive the restricted compensation in absence of forfeiture, or how the designated charities would receive the assets of the Restricted Property Trust in the event of forfeiture.

67. During taxable year 2015, the only economic benefit the then Participants received was the current life insurance protection based on the funding of the current cost of such benefit. This benefit was in the Participant's capacity as the insured under the Death Benefit Trust. The Participants had no other economic benefits in 2015 as the assets owned by the Restricted Property Trust remained subject to a substantial risk of forfeiture. In 2015, the entire cash value of the Participant's Policy was attributed to the contribution to the Restricted Property Trust and which the Participant agreed to include in income.

68. The Death Benefit Trust was established upon the initial contribution of the Base Portion Premium, in accordance with Article III of the Govig DBT/RPT.

69. The initial contribution to the Death Benefit Trust provided one benefit, a death benefit, for a duration of one year.

70. In order to provide life insurance protection in year two under the Death Benefit Trust, Govig was required to make a timely contribution to the Death Benefit Trust of the Base Portion Premium. The same timely contribution was required through vesting, lest forfeiture would occur.

71. Govig, each Participant and the Trustee were further advised that no Policy had, and could not have, an automatic loan to pay premium feature.

72. The elimination of an automatic loan to pay premium feature required affirmative election by the Trustee. Said election was necessary, as all cash value of the Policy constituted potential assets payable to the designated charitable beneficiary. Stated differently, the cash value of the Policy could not be diverted for the benefit of the insured, or anyone else, to keep the Policy in force by paying the Base Portion Premium if Govig failed for any reason to make the required timely contribution to the Death Benefit Trust.

73. From the commencement of participation through vesting in the Restricted Property Trust, the only benefit to which a Participant was entitled was a current year death benefit, assuming Govig timely contributed the requisite Base Portion Premium to the Death Benefit Trust in each year.

74. Prior to the expiration of the substantial risk of forfeiture, no Participant has any rights, title, or interest in any of the assets in the Restricted Property Trust. The Participants could not pledge, transfer, assign, borrow against, or in any way access the funds in the Restricted Property Trust prior to expiration of the substantial risk of forfeiture.

75. Enforcement of the substantial risk of forfeiture vested solely and exclusively in the Trustee.

76. Govig only funded the current cost of life insurance in 2015. The Participants were instructed that if Govig were to deduct any contributions in excess of the current cost of life insurance (it did not); they were considered contributions to the Restricted Property Trust.

C. Govig's 2015 Form 1120S

77. Notice 2007-83 is clear that the targeted transactions, i.e., the purported welfare benefit plans, were promoted “to small businesses as a way to provide cash and other property to the owners of the business on a tax favored basis.”

78. Only a minority owner of Govig participated in the Benefits Trust.

79. All other benefits from Govig's contributions inured to the benefit of nonowner employees with respect to the Death Benefit Trust, and no Participant had any current or future right to assets in the Restricted Property Trust despite the obligation of such Participant to pay tax on such amounts if Govig deducted the contributions.

80. Thus, the “cash and other property” was never provided to the owners or anyone else on a tax favored basis or otherwise.

81. From an income tax perspective, in 2015, the shareholders of Govig received no tax benefit as no deduction was reported on the Form 1120S.

82. Despite the foregoing, on or about July 22, 2019, the IRS issued a proposed adjustment to Govig's shareholders' returns disallowing a deduction of $359,992 for contributions to an “employee benefit program” as reported on Govig's Form 1120S.

83. The amount, $359,992, was not even the amount contributed in the aggregate to the Govig DBT/RPT.

84. The amount $359,992 was not reported as a deduction by Govig on Form 1120S, and as such, no decrease in taxable income flowed through to the Govig owners as a result of the contribution to the “employee benefit program.”

85. Despite this, the IRS proposed disallowing income tax deductions on July 22, 2019, then on July 30, 2019, the IRS issued proposed assessments of an I.R.C. § 6707A penalty.

86. The proposed assessments provided the Plaintiffs until August 1, 2019 to appeal.

87. However, the proposed I.R.C. § 6707A assessments were not received by the Plaintiffs until August 5, 2019.

88. The proposed income tax adjustments were received just prior to August 1, 2019. At that time, the Plaintiffs' advisors called the IRS revenue agent to object to the proposed assessments but the agent indicated that due to the statute of limitations being soon to expire she was required to impose the taxes and penalties.

89. The Plaintiffs sent a letter to the IRS objecting to the proposed assessments, despite being beyond the August 1, 2019 appeal deadline.

90. The IRS did not respond to the Plaintiffs protest or otherwise advance the protest to Appeals.

91. On August 23, 2019, the IRS sent to Govig a Notice of Federal Tax Due on Federal Tax Return in the amount of $10,000 for the taxable period ending December 31, 2015. The Notice stated that the amount due was a penalty imposed under section 6707A of the Internal Revenue Code (“I.R.C.”). Govig paid the penalty on or about August 26, 2019.

92. On August 26, 2019, the IRS sent to Richard a Notice of Penalty Charge in the amount of $29,122. 26 for the taxable period ending December 31, 2015. The Notice stated that the amount due was a penalty imposed under I.R.C. § 6707A. Richard paid the penalty on or about September 3, 2019.

93. On August 26, 2019, the IRS sent to Todd a Notice of Penalty Charge in the amount of $51,831.25 for the taxable period ending December 31, 2015. The Notice stated that the amount due was a penalty imposed under I.R.C. § 6707A. Todd paid the penalty on or about September 12, 2019.

94. The IRS is presently investigating whether Plaintiffs were required to file Form 8886 for taxable years 2016 and 2017.

COUNT I
UNAUTHORIZED AGENCY ACTION IN VIOLATION OF THE APA

95. Plaintiffs incorporate by reference the above paragraphs of the within Complaint.

96. Notice 2007-83 is an “agency action” within the meaning of 5 U.S.C. § 702.

97. The APA forbids agency action “in excess of statutory jurisdiction, authority, or limitations.” See 5 U.S.C. § 706(2)(c).

98. Section 6707A authorizes the Secretary to identify listed transactions. But such listed transactions, including those that are the same as or substantially similar, must be specifically identified.

99. Notice 2007-83 describes certain transactions promoted to small businesses as a way to provide “cash and other property” to the owners of the business on a tax-favored basis. Notice 2007-83 generally describes the claimed tax benefits of such transactions. Notice 2007-83 identifies four elements of the purported listed transactions, as referenced in paragraph 16 above.

100. Neither the claimed tax benefits nor elements of the transactions are described with the requisite specificity. The effect of not clearly specifying the transactions subject to Notice 2007-83 is that taxpayers who may be engaging in legitimate transactions, not abusive tax-avoidance transactions, will be forced to make disclosures required by Notice 2007-83 lest they subject themselves to substantial penalties under IRC § 6707A.

101. Moreover, by not specifically identifying the transactions subject to the Notice, the IRS is provided the opportunity to later define transactions in its opinion that are covered by the Notice (which it has done with regard to the DBT/RPT).

102. As relates to taxpayers such as Plaintiffs herein, the IRS, after imposing an I.R.C. § 6707A penalty, defined certain elements of the Notice, Element Four in particular. After imposing an I.R.C. § 6707A penalty, the IRS stated “the effect of the parenthetical phrase is that premiums paid to policies that accumulate cash value within or outside the policy are not treated as insurance premiums paid for purposes of measuring the amount of the deduction for purposes of element four.” In effect this is the IRS legislating or regulating without following the requirements of the APA.

103. Notwithstanding the IRS's statutory obligation to specifically identify listed transactions, basic notions of due process require the IRS to specifically identify transactions that could result in penalties if the taxpayer does not comply with the disclosure requirements arising from the Notice.

104. A taxpayer cannot comply with its obligation to interpret the “broad disclosure requirements” as set forth in Treas. Reg. § 1.6011-4(c)(4) when the IRS has the ability to fail to establish then later define the specific transactions subject to the Notice.

105. Plaintiffs have each been adversely affected or aggrieved by this agency action.

106. The disclosure requirement adopted by the government in Notice 2007-83 arbitrarily, unreasonably and unlawfully change the definition of “qualified cost” and, using unnecessarily vague wording, requires taxpayers to file a Form 8886. Further, it recasts as “abusive trust arrangements . . . purportedly to provide welfare benefits” transactions that otherwise are compliant with Treas. Reg. § 1.409A-1(a)(5).

107. The agency action in question is final in that, among other things, it operates as a substantive rule binding both the IRS and taxpayers, produces legal consequences, and creates taxpayer obligations.

108. If not set aside, Notice 2007-83 will continue to cause undue confusion and improperly and unnecessarily require Plaintiffs and other taxpayers to file a Form 8886, and, as a result, subject taxpayers to costly advice and form preparation fees.

109. Plaintiffs have sustained actual damages that are concrete and particularized in nature.

110. Plaintiffs have no adequate or available administrative remedy; in the alternative, any effort to obtain an administrative remedy would be futile.

111. Plaintiffs have “no other adequate remedy in a court.” 5 U.S.C. § 704.

COUNT II
ARBITRARY AND CAPRICIOUS ACTION IN VIOLATION OF THE APA

112. Plaintiffs incorporate by reference the above paragraphs of the within Complaint.

113. The APA forbids agency action that is “arbitrary, capricious, an abuse of discretion, or otherwise not in accordance with law.” 5 U.S.C. § 706(2)(A).

114. This provision of the APA requires federal agencies to give adequate reasons for their decisions and regulations. If an agency fails to provide a reasoned explanation for its action, that action is arbitrary and capricious and must be set aside.

115. The IRS's conduct in promulgating Notice 2007-83 was arbitrary, capricious, unsupported by a reasoned basis, and contrary to law. The IRS did not provide adequate reasons for why it was issuing Notice 2007-83.

116. Notice 2007-83 was not a good-faith interpretation of the IRC or effort to establish general regulatory guidance, but a gerrymandered effort to target all transactions utilizing cash value life insurance without regard to the facts of the transaction. It therefore constituted an arbitrary and capricious abuse of discretion.

117. The IRS's current interpretation of Notice 2007-83 with regard to the DBT/RPT and these taxpayers is arbitrary and capricious in that it is wholly inconsistent with prior agency interpretation and cannot be supported by the language of the Notice or the law.

118. Notice 2007-83 also fails to follow the statutory command of I.R.C. § 6707A(c)(2) in that it fails to specifically identify the DBT/RPT as a “Listed Transaction” causing confusion and uncertainty for these taxpayers and others.

119. Notice 2007-83 must therefore be set aside.

120. Plaintiffs have sustained actual damages that are concrete and particularized in nature.

121. Plaintiffs have no adequate or available administrative remedy; in the alternative, any effort to obtain an administrative remedy would be futile.

122. Plaintiffs have “no other adequate remedy in a court.” 5 U.S.C. § 704.

123. Defendants' action in promulgating Notice 2007-83 has harmed and will continue to harm Plaintiffs and other taxpayers

COUNT III
FAILURE TO PROVIDE NOTICE AND OPPOURTUNITY FOR COMMENT IN VIOLATION OF THE APA

124. Plaintiffs incorporate by reference the above paragraphs of the within Complaint.

125. The APA provides that “[a] person suffering legal wrong because of agency action, or adversely affected or aggrieved by agency action within the meaning of the relevant statute, is entitled to judicial review thereof.” 5 U.S.C. § 702.

126. The APA further empowers this Court to “hold unlawful and set aside agency action, findings, and conclusions found to be . . . without observance of procedure required by law.” 5 U.S.C. § 706(2)(D).

127. Pursuant to the APA, certain “rules” promulgated by an agency must be published in accordance with notice-and-comment procedures. 5 U.S.C. §553. An agency's failure to comply with notice-and-comment procedures is grounds for invalidating the rule.

128. Notice 2007-83 is a “rule” within the meaning of the APA, defined as the “whole or part of an agency statement of general or particular applicability and future effect designated to implement, interpret, or prescribe law or policy.” See 26 U.S.C. § 551(4).

129. The IRS is an “agency” within the meaning of the APA. See 5 U.S.C. §§ 551(1) and 552(f)(1).

130. Notice 2007-83 qualifies as a “substantive” or “legislative-type” agency rule, which is the type that, prior to its promulgation, must be subjected to the APA's notice-and-comment regime as a matter of law. See 5 U.S.C. § 553.

131. Before a substantive rule such as the Notice 2007-83 may take effect, the APA requires the agency to issue a notice of proposed rulemaking that includes “either the terms or substance of the proposed rule or a description of the subjects and issues involved” in order to “give interested persons an opportunity to participate in the rule making through submission of written data, views, or arguments.” 5 U.S.C. § 553(b)(3) & (c).

132. In issuing Notice 2007-83, the IRS failed to comply with the APA's notice-and-comment requirements.

133. No potential exceptions to the notice-and-comment requirements apply to Notice 2007-83 as it is neither an “interpretive rule” under 5 U.S.C. §§553(b)(A); nor was there any finding of good cause to bypass such procedural requirements in accordance with 5 U.S.C. §§ 553(b)(B); (d)(3).

134. Having failed to comply with the notice-and-comment rulemaking requirements, Notice 2007-83 was promulgated unlawfully and Plaintiffs have been and will continue to be adversely affected by Defendants' unlawful conduct, which is reviewable by this Court under the APA, 5 U.S.C. § 706.

135. The IRS acted unlawfully in promulgating Notice 2007-83 and the Department of the Treasury participated in such unlawful action by the delegation of its authorities and otherwise.

136. Plaintiffs have sustained actual damages that are concrete and particularized in nature.

137. Plaintiffs have no adequate or available administrative remedy; in the alternative, any effort to obtain an administrative remedy would be futile.

138. Plaintiffs have “no other adequate remedy in a court.” 5 U.S.C. § 704.

PRAYER FOR RELIEF

WHEREFORE, Plaintiffs respectfully request the following relief:

DATED 16^th day of September, 2019.

Brandon A. Keim (0028831)
Yale F. Goldberg (005245)
FRAZER RYAN GOLDBERG & ARNOLD LLP
1850 N. Central Ave, Suite 1800
Phoenix, AZ 85004
Phone: 602-277-2010; Fax: 602-277-2595
E-mail: bkeim@frgalaw.com
ygoldberg@frgalaw.com

Walter A. Lucas (0068150)
Samuel J. Lauricia III (0078158)
Matthew C. Miller (0084977)
WESTON HURD LLP
1301 E. 9^th Street, Suite 1900
Cleveland, Ohio 44114
Phone: 216-241-6602; Fax: 216-641-8369
E-mail: WLucas@westonhurd.com
SLauricia@westonhurd.com
MMiller@westonhurd.com

(Pending Pro Hac Vice Applications)

Attorneys for Plaintiffs