Tax Litigation Update: Eleventh Circuit Reverses Tax Court in Virgin Islands EDP Residency Cases

Disclosure: Joseph A. DiRuzzo, III of Fuerst Ittleman David & Joseph represents the taxpayers in their Tax Court litigation against the IRS.

We have written extensively about the United States Virgin Islands Economic Development Program (EDP) and the litigation it has spawned between and among the IRS, the Virgin Islands Bureau of Internal Revenue (VIBIR), and the individuals and businesses which have sought to do business in the Virgin Islands and avail themselves of the EDP; see hereherehere and here. Much of this litigation has focused on the issue of whether the various taxpayers have been bona fide residents of the Virgin Islands, which On February 20, 2014, the United States Court of Appeals for the Eleventh Circuit issued its opinion in the consolidated appeals filed by the Government of the United States Virgin Islands (“Virgin Islands”) following the Tax Court’s denial of the Virgin Islands’ motions to intervene in the Tax Court proceedings of three separate taxpayers. The Eleventh Circuit’s precedential decision, Government of the United States Virgin Islands v. Commissioner of IRS, is availablehere

The Eleventh Circuit described the background of the Taxpayers’ complex tax proceedings as follows: 

the Taxpayers filed returns with the BIR for calendar tax years 2002, 2003, and 2004. The Taxpayers reported their worldwide income, which consisted of income from both United States and Virgin Islands sources, and paid taxes on that income to the Virgin Islands. None of the Taxpayers filed a return with the IRS.  In 2009 and 2010, the IRS issued deficiency notices to the Taxpayers for tax years 2002, 2003, and 2004. The IRS claimed, first, that the Taxpayers were not bona fide Virgin Islands residents during those tax years and, therefore, they should have filed returns with the IRS and paid taxes to the United States on the income they reported from United States sources Second, the IRS claimed that some of the Taxpayers’ income that they classified as Virgin Islands income on their BIR returns was, in fact, United States income and, therefore, the Taxpayers should have paid taxes to the United States on that income too. Rather than crediting the Taxpayers’ federal tax liability with the taxes paid to the Virgin Islands (which the IRS claimed should have been paid to the United States), the IRS issued a deficiency notice for the full amount owed to the United States, plus penalties for failing to file an IRS return and for delinquent payment. 

***

The Taxpayers petitioned the Tax Court, challenging the IRS’s deficiency notices as time barred and, in the alternative, as incorrect. The Virgin Islands moved to intervene in the cases, the Tax Court denied its motions, and the Virgin Islands brought these appeals. 

Slip op., at 4-5. 

The Eleventh Circuit also explained the reasons why the Virgin Islands moved to intervene in the Taxpayers’ Tax Court cases in the first place: 

If the Tax Court eventually determines that the Taxpayers were not bona fide residents, one of three things will occur: the IRS may ask the Virgin Islands to transfer over the portion of taxes that should have been paid to the United States; the Virgin Islands may choose to voluntarily refund the “overpaid” taxes as a matter of fairness; or the Virgin Islands may be forced to accept that the Taxpayers paid taxes twice on the same income.9 Thus, the Virgin Islands has an interest in the Tax Court proceedings for the same reason the United States had an interest in the Virgin Islands District Court proceedings in V.I. Derivativesthe court’s findings have practical implications for the Virgin Islands’ taxation of the same individuals.

 Slip op., at 16.

 In V.I. Derivates, the IRS moved to intervene in an ongoing tax case proceeding before the District Court of the Virgin Islands. There, the IRS was permitted to intervene, but when the Virgin Islands sought to intervene before the Tax Court on exactly the same grounds, the IRS objected to the intervention. Thus, the Eleventh Circuit slammed the IRS’s position, at one point labeling it “unpersuasive [and] bordering on disingenuous…” and at another describing it as a “Monday morning quarterback.” 

The Eleventh Circuit also noted that the Third Circuit had already ruled on this issue, reversing the Tax Court and rejecting the same IRS arguments made in the Eleventh Circuit, but recognized that there is a circuit split.  On the one hand, the Third and Eighth Circuits have reversed the Tax Court’s denials of the Virgin Islands’ motions to intervene, but on the other the Fourth Circuit had affirmed. Ultimately, the 11th Circuit held that Federal Rule of Civil Procedure 24(a)(2)applies to the Tax Court and that the Government of the USVI may intervene as a matter of right. 

The take away from this decision is that the Government of the USVI may now intervene in cases reviewable by the Third, Eighth and Eleventh Circuits, which includes Florida, Georgia, Alabama, Arkansas, Iowa, Minnesota, Missouri, Nebraska, North Dakota, South Dakota, New Jersey, Pennsylvania, Delaware, and the US Virgin Islands.  But the Government of the USVI cannot intervene in the Fourth Circuit which includes Maryland, North Carolina, South Carolina, Virginia, and West Virginia. It remains an open question in other parts of the country where a federal appeals court has not addressed the matter. Additionally, the overtly hostile view the Eleventh Circuit took on the IRS litigation position bodes well for both the taxpayers whom the IRS claims have no protection under the statute of limitations and the Virgin Islands seeking to intervene in further Tax Court disputes arising from the Economic Development Program.

 

Topics:  Economic Development, International Tax Issues

Published In: Civil Procedure Updates, General Business Updates, Finance & Banking Updates, International Trade Updates, Tax Updates

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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