Omega Forex Group, LC v. United States

          Appeal from the United States District Court for the District of Utah (D.C. No. 2:14-CV-00915-BSJ)

          Michael D. Black (April M. Medley, with him on the briefs), Parr Brown Gee & Loveless, P.C., Salt Lake City, Utah, appearing for Appellant.

          Anthony T. Sheehan, Attorney, Tax Division (Richard E. Zuckerman, Principal Deputy Attorney General, Travis A. Greaves, Deputy Assistant Attorney General, Gilbert S. Rothenberg and Bruce R. Ellisen, Attorneys, Tax Division, with him on the brief), United States Department of Justice, Washington, DC, appearing for Appellee.

          Before BRISCOE, BALDOCK, and EID, Circuit Judges.

          BRISCOE, CIRCUIT JUDGE.

         Plaintiff Omega Forex Group LC (Omega), appearing by and through partner Robert Flath (Flath), appeals from the district court's decision affirming two Notices of Final Partnership Administrative Adjustment (FPAA) issued by the Internal Revenue Service to Omega. The two FPAAs, on the basis of fraud at the partnership level, eliminated large losses reported by Omega on its tax returns for years 1998 and 1999, and imposed penalties on Omega. Exercising jurisdiction pursuant to 28 U.S.C. § 1291, we affirm the district court's decision.

         I. Factual background

         a) The parties

         Omega is a limited liability company organized under the laws of the State of Utah, with its principal place of business in Sandy, Utah. Omega was formed on or about June 23, 1994, by an attorney named Dennis Evanson. Capital West, LLC, another limited liability company controlled by Evanson, was the managing partner of Omega.

         Flath, at all times relevant to this action, was an endodontist in private practice in Utah. More specifically, Flath was a corporate officer at Rocky Mountain Endodontic Associations (RME), where he practiced with other dentists. Flath also practiced dentistry as a sole practitioner under the name Rock Springs Endodontics (RSE).

         b) Flath's "investment" in Omega

         At some point in 1997 or 1998, one of the endodontists in Flath's practice suggested that Flath meet with Evanson. Flath's partner described Evanson as an expert "in options trading and general business organization and planning, tax planning and asset protection." Supp. App. at 51. Flath and Evanson met in the last quarter of 1998. Evanson provided Flath with various materials regarding Omega's purported investment program, including an opinion letter from a law firm allegedly confirming the validity of the program. Flath and Evanson continued to talk during the last quarter of 1998 about the Omega program. According to Flath, Evanson indicated that Flath would have a "chance of making money" in the Omega program "based on [futures] contracts" and foreign currencies. Id. at 53.

         On November 8, 1998, Flath sent a facsimile to Evanson stating that his goals included reducing his taxes, engaging in United States transactions while keeping his profits tax free, and funding his children's educations. Flath summarized his understanding of Evanson's proposed investment scheme and noted, in particular, that he would pay Evanson an initial fee of $18, 000 to $20, 000 and that Evanson would also receive a fee equal to 20% of Flath's tax savings.

         Flath, using his RSE business account, subsequently paid Evanson a $19, 700 base fee that purportedly gave Flath the right to become a capital-contributing member of Omega.

         On December 20, 1998, Flath signed the paperwork to become a partner in Omega. That paperwork, however, was incomplete. In particular, it failed to specify the amount of Flath's capital contribution and Evanson never countersigned the paperwork to make Flath a partner.

         Omega's general ledgers for 1998 show that Flath contributed a $200, 000 promissory note to Omega during 1998.^[1] There is no evidence, however, that Flath ever paid this amount to Omega. Instead, the evidence indicates that on December 22, 1998, Flath made an oral promise to contribute $165, 000 in stocks to Omega before the end of 1998. But Flath did not actually contribute the stocks to Omega until late March of 1999. And at the time of the actual contribution, the value of the stocks was approximately $30, 000 greater than its value in late December of 1998.

         Beginning in January of 1999, Flath's group and solo practices, RME and RSE, began making monthly payments totaling $8, 000 to an Evanson-controlled entity called Commonwealth Professional Reinsurance Ltd. (Commonwealth) for the ostensible purpose of purchasing professional liability insurance (this despite the fact that both RME and RSE already had another malpractice insurance in place at that time, for which they paid a total annual premium of $1, 400). Flath treated the monthly payments by RME as insurance premium payments and deducted those payments as business expenses on his federal tax returns for RME. Commonwealth in turn deducted twenty percent (20%) from each premium payment and then declared a dividend to another Evanson-controlled entity based in the Cayman Islands called International Capital Group (ICG). That dividend was allocated by ICG to Flath's fund in ICG.

         Flath, through an Evanson-controlled entity called Cottonwood Financial, was able to receive fake loans that effectively allowed him to access his "investment" money in the Omega scheme. In addition, Flath utilized yet another Evanson-controlled entity, Children's Charities, to effectively pay his children's school tuition. More specifically, Flath would make purported tax-deductible donations to Children's Charities and Children's Charities in turn would give purported scholarships or loans to Flath's children.

         Lastly, Flath was able, using the money he had allegedly invested in Omega, to buy and sell other stocks through ICG in order to avoid having to report the trading in his tax returns. Evanson allegedly advised Flath that this process was legal.

         In sum, Evanson, in exchange for Flath's agreed payments, "manufactured fictitious transactions to conceal income [for Flath] and create apparent [tax] deductions [for Flath]." Evanson, 584 F.3d at 905.

         c) Flath's 1998 and 1999 tax returns

         In February of 1999, Omega sent Flath a 1998 K-1 tax form stating that he had contributed capital during 1998 totaling $200, 000 and that his capital account at the end of 1998 was $49, 881. On September 27, 1999, Omega filed a Form 1065 United States Partnership Return of Income for the 1998 tax year indicating, in pertinent part, that Flath had contributed $200, 000 to join Omega. The K-1 tax form further stated that Omega had sustained a loss of $4, 698, 325 during 1998 as a result of foreign currency speculation, that Flath's percentage of that loss was 3.19%, and that the resulting amount of Flath's loss in dollars was $150, 119. On March 25, 1999, Flath and his wife filed a joint federal tax return for 1998 in which they claimed a pass-through loss from Omega in the amount of $149, 856. In doing so, Flath falsely assured his accountant and tax preparer, Gail Anger, that he had contributed "at least that much to" Omega during 1998. Supp. App. at 149.

         Flath's solo business, RSE, filed a 1998 tax return that listed as an ordinary and necessary expense the $20, 000 fee that Flath paid to Evanson. Flath did not inform Anger of the true nature of the expense.

         For tax year 1999, Flath told the IRS that he contributed $100, 000 in cash to Omega. In fact, however, Flath made no such cash contributions to Omega. Instead, Flath's endodontic businesses, RME and RSE, paid a total of $72, 000 (comprised of nine monthly payments of $8, 000 each) to Commonwealth during 1999.

         In February of 2000, Omega sent Flath a 1999 K-1 tax form stating that Flath's share of Omega's "[q]ualified nonrecourse financing" liabilities was $249, 713. Id. at 101.

         On March 13, 2000, Flath and his wife filed a joint federal tax return for 1999 in which they claimed a pass-through loss from Omega in the amount of $86, 724.

         On June 19, 2000, Omega filed a Form 1065 United States Partnership Return of Income for the 1999 tax year.

         In preparing the 1998 and 1999 returns, Flath was not completely forthcoming with Anger, his tax accountant. For example, Flath did not tell Anger that Flath was a member of an offshore company called ICG, or that Flath's businesses were purportedly paying for supplemental malpractice insurance through Commonwealth.

         d) Flath's purported withdrawal from Omega

         Flath made no further investments in Omega and took no deductions related to Omega after 1999. In 2002, Flath allegedly ended his investment in Omega. At no time during his involvement with Omega, however, did Flath actually take the steps necessary to become a member of Omega. In particular, Flath never signed and executed a required Operating Agreement. Further, although Flath signed a Capital Contribution Agreement, it was never executed by Evanson, Omega's managing member. In addition, the Capital Contribution Agreement "[was] blank where an amount of not less than $10, 000 must be recorded." Aplt. App. at 90. Lastly, Flath never made the required $10, 000 capital contribution in money to Omega.

         e) The indictment of Evanson

         In 2005, a grand jury indicted Evanson and other individuals related to Omega. In February 2008, Evanson was convicted of conspiracy to commit mail and wire fraud, tax evasion, and assisting in the filing of false tax returns.

         f) IRS action against ...