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Case: 11-1612 Document: 003110561288 Page: 1 Date Filed: 06/13/2011<br />
No. 11-1612<br />
In the United States Court of Appeals<br />
for the Third Circuit<br />
FRANK GANGI,<br />
vs.<br />
UNITED STATES OF AMERICA,<br />
Appellant,<br />
Appellee.<br />
APPEAL FROM THE UNITED STATES DISTRICT COURT FOR THE<br />
DISTRICT OF NEW JERSEY, No. 3:10-mc-24-GEB-DEA<br />
HON. G. E. BROWN, JR., PRESIDING<br />
_______________________________________________<br />
BRIEF FOR APPELLANT FRANK GANGI<br />
WITH JOINT APPENDIX VOL. I<br />
_______________________________________________<br />
<strong>Joseph</strong> A. DiRuzzo, III, Esq., CPA<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
1001 Brickell Bay Drive, 32 nd Floor<br />
Miami, FL 33131<br />
305.350.5690 (o)<br />
305.371.8989 (f)<br />
jdiruzzo@fuerstlaw.com<br />
Counsel for Appellant, Frank Gangi<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
1001 BRICKELL BAY DRIVE, 32 ND<br />
FLOOR, MIAMI, FL 33131 • T: 305.350.5690 • F: 305.371.8989 • WWW.FUERSTLAW.COM
Case: 11-1612 Document: 003110561288 Page: 2 Date Filed: 06/13/2011<br />
1001 BRICKELL BAY DRIVE, 32 ND<br />
TABLE OF CONTENTS<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
PAGE<br />
TABLE OF CONTENTS……………………………………………………….….i<br />
TABLE OF CASES AND AUTHORITIES……………………………………….ii<br />
STATEMENT OF SUBJECT MATTER AND APPELLATE JURISDICTION….1<br />
STATEMENT OF ISSUES PRESENTED FOR REVIEW………………………..2<br />
INTRODUCTION AND STATEMENT OF THE CASE...……………………….2<br />
STATEMENT OF THE FACTS…………………………………………………...5<br />
A. TAX TREATMENT OF USVI RESIDENTS………………………...…6<br />
B. IRS SUMMONSES……………………………………………………....9<br />
C. PROCEEDINGS BELOW……………………………………………...12<br />
STATEMENT OF RELATED CASES AND PROCEEDINGS…………………14<br />
STATEMENT OF THE STANDARD AND SCOPE OF REVIEW……………..16<br />
STATEMENT REGARDING ORAL ARGUMENT…………………………….16<br />
SUMMARY OF ARGUMENT…………………………………………………...16<br />
ARGUMENT<br />
POINT I<br />
THE DISTRICT COURT ERRED IN CONCLUDING THAT THE<br />
ENFORCEMENT OF THE IRS SUMMONSES WOULD NOT RESULT IN AN<br />
ABUSE OF ITS PROCESS….……………………………………………………17<br />
A. UNCONSTITUTIONAL CONDUCT……………………………………..19<br />
B. INSTITUTIONAL BAD FAITH…………………………………………..25<br />
FLOOR, MIAMI, FL 33131 • T: 305.350.5690 • F: 305.371.8989 • WWW.FUERSTLAW.COM<br />
Page | i
CONCLUSION…………………………………………………………………...33<br />
CERTIFICATE OF BAR MEMBERSHIP……………………………………….34<br />
CERTIFICATE OF COM<strong>PL</strong>IANCE RE: WORD COUNT……………………...34<br />
CERTIFICATE OF COM<strong>PL</strong>IANCE RE: E-BRIEF ……………………………...34<br />
CERTIFICATE OF COM<strong>PL</strong>IANCE RE: VIRUS CHECK.……………………...34<br />
CERTIFICATE OF SERVICE……………………………………………………35<br />
CASES<br />
Case: 11-1612 Document: 003110561288 Page: 3 Date Filed: 06/13/2011<br />
1001 BRICKELL BAY DRIVE, 32 ND<br />
TABLE OF CASES AND AUTHORITIES<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
PAGE<br />
Abramson Enters., Inc. v. Gov’t of the V.I., 994 F.2d 140 (3d Cir. 1993)………….8<br />
Appleton v. Comm’r, 3d. Cir. case # 10-4522……………………………..…2-3, 14<br />
Appleton, v. Comm’r, No. 7717-10 (T.C.)...………………………………………15<br />
A. Brooker v. Comm’r, No. 18182-09 (T.C.)……………………………………...16<br />
L. Brooker v. Comm’r, No. 18164-09 (T.C.)……………………………………...16<br />
B. Cooper v. Comm’r, No. 11810-10 (T.C.)……………………………………....15<br />
S. Cooper v. Comm’r, No. 11811-10 (T.C.)…………………………………...….15<br />
Birdman, et al. v Office of the Governor, No. 10-4189 (3d Cir.)…………………14<br />
Birdman, et al. v. Comm’r, et al., No. 3:10-cv-140 (D.V.I.)……………………...15<br />
D. Birdman v. Comm’r, No. 5816-10 (T.C).………………………………...……16<br />
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Case: 11-1612 Document: 003110561288 Page: 4 Date Filed: 06/13/2011<br />
H. Birdman v. Comm’r, No. 5817-10 (T.C.)……………………………………...16<br />
Harvey & Diane Birdman v. Comm’r, No. 28897-10 (T.C.)…………………......16<br />
Bolling v. Sharpe, 347 U.S. 497 (1954)…………………………………………...22<br />
Brown v. Board of Education, 347 U.S. 483 (1954)……………………………...22<br />
Buckley v. Valeo, 424 U.S. 1 (1976), aff’g 401 F.Supp. 1235 (D.D.C. 1975), aff’g<br />
in part, rev’g in part 519 F.2d 821 (D.C. Cir. 1975)……………………………...22<br />
Chase Manhattan Bank, N.A. v. Gov’t of the Virgin Islands, 300 F.3d 320 (3d Cir.<br />
2002), overruling 173 F.Supp.2d 386 (D.V.I. 2001)………………………………6<br />
Chicago Bridge & Iron Co. v. Wheatley, 430 F.2d 973 (3d Cir. 1970), rev’g 295<br />
F.Supp. 240 (D.V.I. 1969), cert. denied 91 S.Ct. 873 (1971)…………………7, 19<br />
James Coffey v. Comm’r, No. 4949-10 (T.C.)………………………………...…..15<br />
Judith Coffey v. Comm’r, No. 4720-10 (T.C.)…………………………………….15<br />
Cooper v. Comm’r, No. 11-10617 (11th Cir.)…………………………………….14<br />
Cooper, et al. v. Comm’r, et al., No. 1:10-cv-40 (D.V.I.)………………………...15<br />
Day et al v. United States, No. 10-cv-1949 (D. Colo.)…………………………....15<br />
Dorr v. United States, 195 U.S. 138 (1904)………………………………………23<br />
Duncan v. Louisiana, 391 U.S. 145 (1958)……………………………………….23<br />
Gangi, et al v. United States, No. 10-mc-10088 (D. Mass.)………………………15<br />
Gangi, et al v. United States, No. 10-mc-10148 (D. Mass.) ...……………………15<br />
Gangi, et al v. United States, No. 10-mc-10160 (D. Mass.)………………………15<br />
Gangi, et al v. United States, No. 10-mc-10178 (D. Mass.) ...……………………15<br />
1001 BRICKELL BAY DRIVE, 32 ND<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
FLOOR, MIAMI, FL 33131 • T: 305.350.5690 • F: 305.371.8989 • WWW.FUERSTLAW.COM<br />
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Case: 11-1612 Document: 003110561288 Page: 5 Date Filed: 06/13/2011<br />
Gov’t of the Virgin Islands v. Boynes, slip op., Crim. No. F426-2002, 2003 Lexis 5<br />
(Terr. Ct. V.I. April 9, 2003)……………………………………………………...23<br />
B. Hirsch v. Comm’r, No. 5819-10 (T.C.)…………………………………...……16<br />
H. Hirsch v. Comm’r, No. 5821-10 (T.C.)……………………………………......16<br />
Herbert & Bonita Hirsch v. Comm’r, No. 6034-11 (T.C.)………………………..16<br />
HMW Indus., Inc. v. Wheatley, 504 F.2d 146 (3d Cir. 1974), aff’g 368 F.Supp. 915<br />
(D.V.I. 1973)……………………………………………………………………….6<br />
Huff v. Comm’r, et al., No. 1:10-cv-26 (D.V.I.)…………………………………..15<br />
Huff v. Comm’r, No. No. 11-10608 (11th Cir.)…………………………………..14<br />
In re Grand Jury Proceedings, 486 F.2d 85 (3d Cir. 1973)………………………27<br />
In re: United States, 273 F.3d 380 (3d Cir. 2001)…………………………32, ft. 12<br />
Japan Whaling Ass'n v. American Cetacean Society, 478 U.S. 221, 106 S. Ct.<br />
2860, 92 L. Ed. 2d 166 (1986)……………………………………………..32, ft. 13<br />
Iris Khoury v. Comm’r, No. 9739-09 (T.C.)………………………………………16<br />
Issam Khoury v. Comm’r, No. 10291-09 (T.C.)…………………………………..15<br />
McGrogan v. Comm’r, et al., No. 3:09-cv-167 (D.V.I)…………………………..15<br />
McGrogan v. Comm’r, No. 11-10618 (11th Cir.)………………………………...14<br />
McGrogan v. Comm’r, No. 456-10 (T.C.)…………………………………...…....15<br />
McHenry v. Comm’r, et al., No. 1:10-cv-21 (D.V.I.)……………………………..15<br />
McHenry v. Comm’r, No. 11-1239 (4th Cir.)……………………………………..14<br />
1001 BRICKELL BAY DRIVE, 32 ND<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
FLOOR, MIAMI, FL 33131 • T: 305.350.5690 • F: 305.371.8989 • WWW.FUERSTLAW.COM<br />
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Case: 11-1612 Document: 003110561288 Page: 6 Date Filed: 06/13/2011<br />
McHenry v. Comm’r, No. 7568-10 (T.C.)………………………………...………15<br />
Pickel v. United States, 746 F.2d 176 (3d Cir. 1984)…………………………18, 28<br />
SEC v. Wheeling-Pittsburgh Steel Corp., 648 F.2d 118 (3d Cir. 1981) (en banc)..27<br />
Soto v. United States 273 F. 628 (3d Cir. 1921)…………………………………..23<br />
Teffeau, et al. v. Comm’r, et al., No. 3:10-cv-123 (D.V.I.)……………………….15<br />
Lewis Teffeau v. Comm’r, No. 27904-10 (T.C.)…………………………………..16<br />
Linda Teffeau v. Comm’r, No. 27905-10 (T.C.)…………………………………..16<br />
United States v. LaSalle National Bank, 437 U.S. 298 (1978)……………………18<br />
United States v. McCarthy, 514 F.2d 368 (3d Cir. 1975)…………………………27<br />
United States v. Powell, 379 U.S. 48 (1964)………………………………....passim<br />
United States v. Rockwell, 897 F.2d 1255 (3d Cir. 1990)…………………17-18, 28<br />
Village of Willowbrook v. Grace, 528 U.S. 562 (2000), aff’g 160 F.3d 386 (7th Cir.<br />
1998)……………………………………………………………………………....22<br />
Weinberger v. Wiesenfeld, 420 U.S. 636 (1975), aff’g 367 F.Supp. 981 (D.N.J.<br />
1973)………………………………………………………………………………23<br />
AMENDMENTS TO THE UNITED STATES CONSITUTION<br />
5 th Amendment…………………………………………………………...21, 22, 30<br />
14 th Amendment…………………………………………………………..21, 22, 30<br />
FEDERAL STATUTES<br />
26 U.S.C. (IRC) § 932…………………………………………………………...…8<br />
26 U.S.C. (IRC) § 934…………………………………………………………...…7<br />
1001 BRICKELL BAY DRIVE, 32 ND<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
FLOOR, MIAMI, FL 33131 • T: 305.350.5690 • F: 305.371.8989 • WWW.FUERSTLAW.COM<br />
Page | v
26 U.S.C. (IRC) § 6501………………………………………………………passim<br />
48 U.S.C. § 1397………………………………………………………………...6, 7<br />
TREASURY REGULATIONS<br />
Treas. Reg. § 1.932-1(c)(2)(ii)…………………………………………………….25<br />
USVI STATUTES<br />
29 V.I.C. § 701 et seq…………………………………………………………….…7<br />
29 V.I.C. § 704 et seq…………………………………………………………….…7<br />
RULES<br />
Case: 11-1612 Document: 003110561288 Page: 7 Date Filed: 06/13/2011<br />
Federal Rule of Appellate Procedure 42…………………………………………..14<br />
Federal Rule of Civil Procedure 72……………………………………………….12<br />
Federal Rule of Evidence 801…………………………………………………….27<br />
IRS GUIDANCE<br />
FSA 199906031; 1998 FSA LEXIS 18………………………………………..19-20<br />
Notice 2007-31; 2007-1 C.B. 971; 2007-16 I.R.B. 971……………………...passim<br />
Notice 2007-19; 2007-1 C.B. 689; 2007-11 I.R.B. 689……………………...passim<br />
Tax Guide for Individuals With Income From U.S. Possessions (2001 and<br />
2002)........................................................................................................................10<br />
OTHER<br />
Convention between the United States and Denmark, 39 Stat. 1706, proclaimed<br />
January 25, 1917……………………………………………………………..6, fn. 7<br />
Katcher, Stark, & Schantz, Signed, Sealed, Delivered – USVI Returns and Section<br />
6501, 2009 TNT 161-8 (Aug. 24, 2009)……………………………………………3<br />
Naval Service Appropriation Act of July 12, 1921……………………………...…7<br />
1001 BRICKELL BAY DRIVE, 32 ND<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
FLOOR, MIAMI, FL 33131 • T: 305.350.5690 • F: 305.371.8989 • WWW.FUERSTLAW.COM<br />
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Case: 11-1612 Document: 003110561288 Page: 8 Date Filed: 06/13/2011<br />
S. Rep. 99-313……………………………………………………………………...9<br />
Tax Implementation Agreement Between the United States of America and the<br />
Virgin Islands, Feb. 24, 1987, 1989-1 C.B. 347……………………………………9<br />
Taxpayer Advocate Service, 2009 Annual Report to Congress, Vol. I, Legislative<br />
Recommendation No. 10………………………………………………….25, 26, 27<br />
1001 BRICKELL BAY DRIVE, 32 ND<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
FLOOR, MIAMI, FL 33131 • T: 305.350.5690 • F: 305.371.8989 • WWW.FUERSTLAW.COM<br />
Page | vii
Case: 11-1612 Document: 003110561288 Page: 9 Date Filed: 06/13/2011<br />
STATEMENT OF SUBJECT MATTER AND APPELLATE<br />
JURISDICTION<br />
The Third Circuit Court of Appeals has jurisdiction over this matter pursuant<br />
to 28 U.S.C. § 1291.<br />
Appellant appeals from the Order of the United States District Court for the<br />
District of New Jersey entered on January 7, 2011, adopting, with modifications,<br />
the United States Magistrate Judge‘s Report and Recommendations granting the<br />
United States‘ Motion to Enforce. Frank Gangi, et al. v. United States of America,<br />
Case No. 3:10-mc-24-GEB-DEA. Doc. # 26; 1 A-000007. 2 The District Court had<br />
jurisdiction pursuant to 26 U.S.C. (the ―Internal Revenue Code‖ or ―IRC‖) §§<br />
7402(b), 7609(h) and 28 U.S.C. § 1340.<br />
On March 7, 2011, Appellant filed a Notice of Cross Appeal of the District<br />
Court‘s January 7, 2011, Order. Doc. # 29; A-000001. Also on March 7, 2011,<br />
Appellant filed an Amended Notice of Cross Appeal 3 of the District Court‘s<br />
January 7, 2011, Order. Doc. # 30; A-000004. This appeal follows.<br />
1 The District Court Docket Entries are referred to <strong>here</strong>in as ―Doc. # _.‖<br />
2 Numbers shall refer to pages of Joint Appendix which appear in the lower right<br />
hand corner of each page of the Appendix as follows: A-000001, A-000002, etc.<br />
3 The Amended Notice of Cross Appeal gave notice that the following business<br />
entities would not be joining the cross-appeal, to wit: Ferrous Miner Holdings,<br />
Ltd.; BABP VI, LLC; and Global NAPS, Inc.<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
1001 BRICKELL BAY DRIVE, 32 ND FLOOR, MIAMI, FL 33131 • T: 305.350.5690 • F: 305.371.8989 • WWW.FUERSTLAW.COM<br />
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Case: 11-1612 Document: 003110561288 Page: 10 Date Filed: 06/13/2011<br />
STATEMENT OF ISSUES PRESENTED FOR REVIEW<br />
The Instant case presents one main issue: whether the District Court erred in<br />
concluding that enforcing the IRS summonses would not result in an abuse of its<br />
process? In addressing this issue this Court will have to examine the<br />
constitutionality of the IRS‘ position that the statute of limitations provision<br />
contained in IRC § 6501 only applies (for the years at issue) to those United States<br />
Citizens residing in the United States Virgin Islands (―USVI‖) who had income<br />
less than $75,000. The Court will also have to examine whether the District Court<br />
erred in concluding that Appellant failed to demonstrate institutional bad faith on<br />
the part of the IRS.<br />
INTRODUCTION AND STATEMENT OF THE CASE<br />
To quote the Government of the Virgin Islands:<br />
This case is one small but important battle in a long-running war<br />
being waged by the Internal Revenue Service (―IRS‖) on an important<br />
economic development program of the Government of the U.S. Virgin<br />
Islands (―Government‖). Although Congress has repeatedly endorsed<br />
the program - which relies upon tax incentives that Congress created<br />
specifically to promote the program‘s success and thus reduce the<br />
need for federal subsidies to the Virgin Islands - the IRS has long<br />
been hostile. In an apparent effort to chill interest in those tax<br />
incentives, the IRS has launched protracted audits of hundreds of<br />
program participants—and in so doing has deterred participation by<br />
many existing and potential participants, including many who could<br />
legitimately claim the program‘s tax benefits (emphasis added).<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
1001 BRICKELL BAY DRIVE, 32 ND FLOOR, MIAMI, FL 33131 • T: 305.350.5690 • F: 305.371.8989 • WWW.FUERSTLAW.COM<br />
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Case: 11-1612 Document: 003110561288 Page: 11 Date Filed: 06/13/2011<br />
Appleton v. Comm’r, 3d. Cir. case # 10-4522, United States Virgin Islands<br />
(―USVI‖) Brief (January 14, 2011) at page 8 of 57.<br />
Sometime in late 2003 or early 2004 the IRS began to audit United States<br />
citizens who resided in the USVI and filed income tax returns with the USVI<br />
Bureau of Internal Revenue (―BIR‖) to determine if they were bona fide USVI<br />
residents, whether the taxpayers had properly claimed an Economic Development<br />
Program (―EDP‖) tax credit, and whether the taxpayers‘ income was sourced in or<br />
effectively connected with a USVI trade or business. See generally Katcher, Stark,<br />
& Schantz, Signed, Sealed, Delivered – USVI Returns and Section 6501, 2009<br />
TNT 161-8 (Aug. 24, 2009) (noting that in a 2007 report to Congress the IRS<br />
disclosed that 279 United States citizens were under audit, and that 90 percent of<br />
the 279 cases were for 2003 and earlier tax years). This IRS audit program is<br />
referred to, at least within the IRS, as the ―Virgin Islands project.‖ 4 Mr. Gangi is<br />
one taxpayer in the hundreds of program participants that has been, and is being,<br />
subject to the IRS‘ never-ending audits.<br />
At first the IRS asked taxpayers, such as Mr. Gangi, who were under audit to<br />
execute Form 872. Form 872 is the internal form the IRS uses to ―extend‖ the<br />
normal statute of limitations period under IRC § 6501(a). By executing Form 872<br />
taxpayers agree to extend the statute of limitations on assessment for a set amount<br />
4 The undersigned has personally been told this by numerous IRS Revenue Agents.<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
1001 BRICKELL BAY DRIVE, 32 ND FLOOR, MIAMI, FL 33131 • T: 305.350.5690 • F: 305.371.8989 • WWW.FUERSTLAW.COM<br />
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Case: 11-1612 Document: 003110561288 Page: 12 Date Filed: 06/13/2011<br />
of time; however taxpayers are under no obligation to execute Form 872 and the<br />
IRS cannot force taxpayers to execute same. The majority of the taxpayers that<br />
were (and still are) under audit did not execute Form 872. 5 As a result of the<br />
taxpayers‘ failure to extend the statute of limitations, and undeterred by the clear<br />
provisions of the Internal Revenue Code, the IRS unilaterally changed the rules<br />
regarding the statue of limitations, 6 which has resulted in the instant case.<br />
Indeed, the weapon of choice of the IRS in its battle against taxpayers such<br />
as Mr. Gangi has been an unconstitutional construction of the applicable three year<br />
statute of limitations under IRC § 6501(a). On March 12, 2007, the IRS with<br />
apparent disregard for the United States Constitution issued Notice 2007-19; 2007-<br />
1 C.B. 689; 2007-11 I.R.B. 689 (―Statute of Limitations on Assessment<br />
Concerning Certain Individuals Filing Income Tax Returns With the U.S. Virgin<br />
Islands‖). Notice 2007-19 stated that:<br />
an income tax return filed with the U.S. Virgin Islands by a U.S.<br />
citizen or resident alien (USVI Form 1040) will be deemed to be a<br />
U.S. income tax return of that individual for purposes of section<br />
6501(a), provided that the individual is a covered person. The term<br />
―covered person‖ means a U.S. citizen or resident alien who takes the<br />
position that he or she is a bona fide resident of the U.S. Virgin<br />
Islands, files USVI Form 1040 with the U.S. Virgin Islands, and has<br />
less than $75,000 of gross income for the taxable year.<br />
5<br />
The undersigned represents numerous taxpayers that are under audit, many of<br />
whom did not execute Form 872.<br />
6<br />
See Notice 2007-19 and discussion infra.<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
1001 BRICKELL BAY DRIVE, 32 ND FLOOR, MIAMI, FL 33131 • T: 305.350.5690 • F: 305.371.8989 • WWW.FUERSTLAW.COM<br />
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Case: 11-1612 Document: 003110561288 Page: 13 Date Filed: 06/13/2011<br />
Notice 2007-19 at § 2.<br />
However, as discussed in more detail below, the term ―covered person‖<br />
never appears in the Internal Revenue Code, nor does the applicability of the<br />
statute of limitations section of the Internal Revenue Code turn on income level or<br />
place of residence.<br />
With this newfound weapon in the IRS‘ arsenal, the IRS issued numerous<br />
third-party summonses in respect to those taxpayers that claimed USVI EDP tax<br />
credits. When the IRS issued third-party summonses in respect to Mr. Gangi‘s tax<br />
liability Mr. Gangi timely petitioned the United States District Court for the<br />
District of New Jersey to quash the summonses.<br />
The present appeal requires this Court to decide whether an IRS third-party<br />
summons that is predicated upon an unconstitutional construction of the Internal<br />
Revenue Code is an abuse of the District Court‘s process, and whether t<strong>here</strong> is<br />
institutional bad faith on part of the IRS is respect to the third-party summonses<br />
issued in furtherance of the IRS‘ USVI audit program.<br />
STATEMENT OF THE FACTS<br />
To understand the errors made by the District Court a brief description of the<br />
interrelationship between unique taxation system of the USVI, the IRS summonses<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
1001 BRICKELL BAY DRIVE, 32 ND FLOOR, MIAMI, FL 33131 • T: 305.350.5690 • F: 305.371.8989 • WWW.FUERSTLAW.COM<br />
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Case: 11-1612 Document: 003110561288 Page: 14 Date Filed: 06/13/2011<br />
issued in respect to Mr. Gangi, and the proceedings below is required. Each will<br />
be address in turn.<br />
A. TAX TREATMENT OF USVI RESIDENTS<br />
The USVI is a territory of the United States which was acquired from<br />
Denmark in 1917. 7 In 1921, Congress created the so-called ―mirror system‖ of<br />
taxation, under which United States income tax laws constitute the income tax laws<br />
of the USVI, with the only difference being that USVI residents pay tax to the<br />
USVI rather than to the United States. See Naval Service Appropriation Act of<br />
July 12, 1921, 48 U.S.C. § 1397; see also Chase Manhattan Bank, N.A. v. Gov’t of<br />
the Virgin Islands, 300 F.3d 320, 322-23 (3d Cir. 2002), overruling 173 F.Supp.2d<br />
386 (D.V.I. 2001).<br />
The purpose of the ―mirror system‖ was ―to impose upon the inhabitants of<br />
the Virgin Islands . . . a territorial income tax, payable directly into the Virgin<br />
Islands treasury, to assist the Islands in becoming self-supporting.‖ HMW Indus.,<br />
Inc. v. Wheatley, 504 F.2d 146, 150 (3d Cir. 1974), aff’g 368 F.Supp. 915 (D.V.I.<br />
1973). Pursuant to the mirror system the words ―Virgin Islands‖ are substituted for<br />
the words ―United States‖ w<strong>here</strong>ver they appear in the Internal Revenue Code. 48<br />
7 Convention between the United States and Denmark, 39 Stat. 1706, proclaimed<br />
January 25, 1917.<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
1001 BRICKELL BAY DRIVE, 32 ND FLOOR, MIAMI, FL 33131 • T: 305.350.5690 • F: 305.371.8989 • WWW.FUERSTLAW.COM<br />
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Case: 11-1612 Document: 003110561288 Page: 15 Date Filed: 06/13/2011<br />
U.S.C. § 1397. Income taxes imposed under this system are payable to the BIR<br />
rather than to the IRS.<br />
Under the mirror system ―any changes to, interpretations of, regulations and<br />
revenue rulings on and court interpretations of the substantive tax provisions of the<br />
Internal Revenue Code are applicable to Virgin Islands tax cases as long as the<br />
particular provision at issue is not manifestly inapplicable or incompatible with a<br />
separate territorial income tax . . . .‖ Chicago Bridge & Iron Co. v. Wheatley, 430<br />
F.2d 973, 976 (3d Cir. 1970), rev’g 295 F.Supp. 240 (D.V.I. 1969), cert. denied 91<br />
S.Ct. 873 (1971).<br />
Five decades ago the U.S. Congress and the USVI government created the<br />
EDP to attract business people to establish new businesses in the USVI. See<br />
generally 29 V.I.C. § 701 et seq. The Economic Development Commission<br />
(―EDC‖) was created by the USVI government to oversee the EDP. See generally<br />
29 V.I.C. § 704 et seq. The EDP offers the opportunity for those approved<br />
beneficiaries to receive an income tax credit, pursuant to IRC § 934. Despite the<br />
creation of the EDP, and the best efforts of the U.S. Congress and the USVI<br />
government, economic growth in the USVI has been, and continues to be, arrested<br />
as evidenced by both the number and percentage of the population living below the<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
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poverty line and the per capital income in the Territory that ranks behind all 50<br />
States and the District of Columbia. 8<br />
In 1986, Congress enacted Section 932 of the Internal Revenue Code, which<br />
draws a clear distinction between individuals who are bona fide USVI residents<br />
and those who are not. A United States resident who derives income from the<br />
USVI, but who is not a bona fide USVI resident, must file two tax returns, one<br />
with the IRS and the other with the USVI. IRC § 932(a). Such individuals pay tax<br />
on USVI source income to the BIR, and tax on non-USVI source income to the<br />
IRS. IRC § 932(b). In contrast, a bona fide resident of the USVI must file a return<br />
only with the BIR, and pays tax on all income, regardless of its source, to the<br />
USVI. IRC § 932(c). By paying the BIR the correct amount of tax on all<br />
worldwide income, a bona fide USVI resident is relieved of any income tax<br />
liability to the United States, even on non-USVI source income. Id.; see also<br />
Abramson Enters., Inc. v. Gov’t of the V.I., 994 F.2d 140 (3d Cir. 1993).<br />
In enacting IRC § 932, Congress contemplated that the USVI BIR would<br />
provide the IRS with information regarding Virgin Islands residents that report<br />
non-Virgin Islands income:<br />
[a] Virgin Islands resident deriving gross income from sources<br />
outside the Virgin Islands will report all items of such income on<br />
8 Available at http://www.statemaster.com/graph/eco_gdp_percap-product-currentdollars-per-capita,<br />
last Accessed June 12, 2011.<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
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his or her Virgin Islands return. Information contained on these<br />
returns will be compiled by the Virgin Islands Bureau of Internal<br />
Revenue and transmitted to the Internal Revenue Service to<br />
facilitate enforcement assistance.<br />
S. Rep. 99-313, at 482.<br />
Consistent with this understanding, the United States and the USVI entered<br />
into an agreement ―for the exchange of information and mutual assistance with<br />
respect to taxes in order to prevent the evasion or avoidance of United States or<br />
Virgin Islands taxes.‖ Tax Implementation Agreement Between the United States<br />
of America and the Virgin Islands, p. 1 Feb. 24, 1987, 1989-1 C.B. 347. 9 Doc. #<br />
6-1; A-000229. Among other things, the Virgin Islands agreed to ―routinely<br />
supply‖ the United States with ―information about any taxpayer subject to Virgin<br />
Islands tax with non-Virgin Islands source income who files an income tax return<br />
with the Virgin Islands claiming for the first time to be a Virgin Islands resident.‖<br />
Id., Art. 4, § 2(b)(iii).<br />
B. IRS SUMMONSES<br />
It is against this backdrop that Mr. Gangi filed his personal income tax<br />
returns and paid tax for 2000 through 2004 (including the years subject to the<br />
summonses in question) with the BIR. Mr. Gangi timely filed with the BIR a tax<br />
return for 2000 through 2004, properly using the same Form 1040 that United<br />
9 This is not a typographical error. The Agreement was first published by the<br />
Service in the 1989 Cumulative Bulletin, two years after it was signed.<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
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States residents file with the IRS, reporting both Virgin Islands and non-Virgin<br />
Islands source income, and paying all tax to the BIR. Mr. Gangi did so pursuant to<br />
IRC § 932(c), and also in accordance with contemporaneous IRS guidance, which<br />
provided, ―If you are a bona fide resident of the Virgin Islands on the last day of<br />
the tax year, you must file your tax return on Form 1040 with the Government of<br />
the Virgin Islands and pay the entire tax due to the Virgin Islands.‖ Tax Guide for<br />
Individuals With Income From U.S. Possessions, at 7 (2001 and 2002). Doc. # 6-2;<br />
A-000250.<br />
In December 2004, the IRS opened an audit on Mr. Gangi for the purpose of<br />
determining whether Mr. Gangi was a USVI bona fide resident for 2000, 2001,<br />
2002, and 2003 tax years. The IRS‘ claims that ―[t]he legitimacy of Mr. Gangi‘s [<br />
] USVI residency for tax purposes us relevant to [its] investigation because, if he<br />
was not a USVI bona fide resident for tax purposes . . . he was required to file<br />
income tax returns with the [IRS], and report all of his income on such U.S. tax<br />
returns.‖ Doc. # 4; A-000099.<br />
The IRS conducted a de facto deposition of Mr. Gangi on October 19, 2006,<br />
as to his purported tax liability to the United States. Approximately six years after<br />
the IRS audit was first opened and three and a half years after interviewing Mr.<br />
Gangi, on February 2, 2010, Internal Revenue Agent Jackie Moss (―Agent Moss‖)<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
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issued an administrative summons to CitiBank (the ―CitiBank summons‖) under<br />
the authority of IRC § 7602. Doc. # 1-2; A-000042. On the same day, the IRS<br />
commenced an audit of Mr. Gangi‘s business entity BABP VI, LLC (Doc. # 1-4;<br />
A-000076) and on the next day, the IRS commenced the audit of another one of<br />
Mr. Gangi‘s business entities, Ferrous Miner Holdings, Ltd. (Doc. # 1-5; A-<br />
000081). Subsequently, on May 10, 2010, Agent Moss issued another<br />
administrative summons, this time to Sovereign Bank (the ―Sovereign Bank<br />
summons‖), also under the authority of IRC § 7602. Doc. # 5-3; A-000144.<br />
Both administrative summonses issued by the IRS direct third-parties<br />
CitiBank and Sovereign Bank to produce all ―DOCUMENTS‖ and records in their<br />
possession or under their control relating to Petitioners‘ accounts for the period<br />
―from December 31, 1999 through December 31, 2004 10 or the date the accounts<br />
were opened, whichever is later‖ including, but not limited to copies of all<br />
signature cards; account applications; correspondence between the banks and the<br />
account holders; account statements; debit/credit advances; payment checks<br />
deposited; authorizations; notifications; wire transfers etc.<br />
To date, more than six and one-half years after the IRS opened its audit of<br />
Mr. Gangi; the IRS audit remains ongoing without any end in sight.<br />
10 Paragraph 1 of the Sovereign Bank Summons is for ―the period December 1,<br />
1999 through January 31, 2005.‖<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
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C. PROCEEDINGS BELOW<br />
On February 24, 2010, Mr. Gangi and his related entities petitioned the<br />
District Court for the District of New Jersey to quash the respective IRS summons.<br />
Doc. # 1; A-000032. The basis for the Appellant‘s Petition to Quash was that the<br />
IRS summonses failed to comply with the Supreme Court‘s decision in United<br />
States v. Powell, 379 U.S. 48 (1964).<br />
On April 16, 2010, the IRS filed its Opposition to the Petition. Doc. # 4; A-<br />
000096. As stated above, one week later, undaunted and unperturbed by the<br />
pending Petition before the District Court, the IRS issued yet another<br />
administrative summons, (Doc. # 5-3; A-000144), this time to third party<br />
Sovereign Bank , thus necessitating the filing of a second, separate Petition to<br />
Quash on May 3, 2010. Doc. # 5; A-000133.<br />
On July 26, 2010, oral argument was held before the United States<br />
Magistrate assigned to the case below. On August 26, 2010, the Magistrate issued<br />
a dispositive Order (Doc. # 12; A-000347) and Opinion (Doc. # 11; A-000338)<br />
purporting to enforce the respective summonses issued by the IRS. On September<br />
3, 2010, the District Court entered an Order re-characterizing the dispositive Order<br />
as a Report and Recommendation. Doc. # 14; A-000348. On September 22, 2010,<br />
Mr. Gangi, pursuant to Federal Rule of Civil Procedure 72, timely filed his<br />
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Objections to the Magistrate‘s Report and Recommendation. Included in the<br />
Appellant‘s Objections was a request for discovery and an adversarial hearing.<br />
Doc. # 17; A-000349.<br />
On October 5, 2010, the District Court entered an Order requiring the parties<br />
below to provide supplementary material in respect to the IRS‘ compliance with<br />
IRC § 7602(c). Doc. # 18; A-000366. Mr. Gangi filed his supplemental pleading<br />
on October 15, 2010, (Doc. # 20; A-000368) and the United States filed its<br />
supplemental pleading on October 18, 2010 (Doc. # 21; A-000392). On October<br />
28, 2010, the District Court entered an Order permitting Mr. Gangi to provide<br />
additional briefing. Doc. # 23; A-000400. Mr. Gangi provided additional briefing<br />
on November 5, 2010. Doc. # 24; A-000401.<br />
On January 7, 2011, the District Court entered an Order, inter alia, adopting<br />
with modifications the Magistrate‘s August 25, 2010, Report and<br />
Recommendation; and further ordered that the United States‘ Motion to Enforce<br />
was granted in part; and further ordered that the Petitions to Quash were granted in<br />
part (in respect that the IRS summonses issued to CitiBank and Sovereign Bank<br />
may not be enforced against Ferrous Miner and BABP VI, LLC). Doc. # 26; A-<br />
000007. The Order was accompanied with a contemporaneous Memorandum<br />
Opinion. Doc. # 25; A-000009.<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
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On March 7, 2011, Appellant filed an Amended Notice of Cross Appeal of<br />
the District Court‘s January 7, 2011, Order. Doc. # 30; A-000004. The instant<br />
appeal follows.<br />
STATEMENT OF RELATED CASES AND PROCEEDINGS<br />
Initially the United States appealed the decision of the District Court which<br />
was docket at case number 11-01611, however the United States dismissed said<br />
case and an order was entered pursuant to Fed. R. App. 42(b) on April 28, 2011.<br />
However, t<strong>here</strong> are numerous cases pending before the Circuit Courts, the District<br />
Courts, and the Tax Court that involved the IRS audits of United States citizens<br />
who resided in the USVI and claimed an EDP tax credit. The cases (to the best of<br />
the undersigned‘s knowledge) are as follows.<br />
Circuit Courts: Appleton v. Comm’r, No. 10-4522 (3d. Cir.) (USVI<br />
intervention); In re: Birdman, et al. No. 11-1462 (3d Cir.) (Petition for Writ of<br />
Mandamus); Birdman, et al. v Office of the Governor, No. 10-4189 (3d Cir.)<br />
(Injunction against BIR); Huff v. Comm’r, No. No. 11-10608 (11 th Cir.) (USVI<br />
intervention); Cooper v. Comm’r, No. 11-10617 (11 th Cir.) (USVI intervention);<br />
McGrogan v. Comm’r, No. 11-10618 (11 th Cir.) (USVI intervention); McHenry v.<br />
Comm’r, No. 11-1239 (4 th Cir.) (USVI intervention).<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
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District Courts: Gangi, et al v. United States, No. 10-mc-10088 (D. Mass.)<br />
(Petition to Quash); Gangi, et al v. United States, No. 10-mc-10148 (D. Mass.)<br />
(Petition to Quash); Gangi, et al v. United States, No. 10-mc-10160 (D. Mass.)<br />
(Petition to Quash); Gangi, et al v. United States, No. 10-mc-10178 (D. Mass.)<br />
(Petition to Quash); Day et al v. United States, No. 10-cv-1949 (D. Colo.) (Petition<br />
to Quash); McGrogan v. Comm’r, et al., No. 3:09-cv-167 (D.V.I) (Petition for<br />
Redetermination and Refund Suit); McHenry v. Comm’r, et al., No. 1:10-cv-21<br />
(D.V.I.) (Petition for Redetermination and Refund Suit); Huff v. Comm’r, et al.,<br />
No. 1:10-cv-26 (D.V.I.) (Petition for Redetermination and Refund Suit); Cooper, et<br />
al. v. Comm’r, et al., No. 1:10-cv-40 (D.V.I.) (Petition for Redetermination and<br />
Refund Suit); Teffeau, et al. v. Comm’r, et al., No. 3:10-cv-123 (D.V.I.) (Petition<br />
for Redetermination and Refund Suit); Birdman, et al. v. Comm’r, et al., No. 3:10-<br />
cv-140 (D.V.I.) (Petition for Redetermination, Refund Suit, 42 U.S.C. § 1983, 5 th<br />
Amendment Takings, Bivens).<br />
Tax Court: Appleton, v. Comm’r, No. 7717-10 (T.C.); Judith Coffey v.<br />
Comm’r, No. 4720-10 (T.C.); James Coffey v. Comm’r, No. 4949-10 (T.C.); B.<br />
Cooper v. Comm’r, No. 11810-10 (T.C.); S. Cooper v. Comm’r, No. 11811-10<br />
(T.C.); McGrogan v. Comm’r, No. 456-10 (T.C.); McHenry v. Comm’r, No. 7568-<br />
10 (T.C); Issam Khoury v. Comm’r, No. 10291-09 (T.C.); Iris Khoury v. Comm’r,<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
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No. 9739-09 (T.C.); Lewis Teffeau v. Comm’r, No. 27904-10 (T.C.); Linda Teffeau<br />
v. Comm’r, No. 27905-10 (T.C.); H. Birdman v. Comm’r, No. 5817-10 (T.C.); D.<br />
Birdman v. Comm’r, No. 5816-10 (T.C.); Harvey & Diane Birdman v. Comm’r,<br />
No. 28897-10 (T.C.); H. Hirsch v. Comm’r, No. 5821-10 (T.C.); B. Hirsch v.<br />
Comm’r, No. 5819-10 (T.C.); Herbert & Bonita Hirsch v. Comm’r, No. 6034-11<br />
(T.C.); L. Brooker v. Comm’r, No. 18164-09 (T.C.); A. Brooker v. Comm’r, No.<br />
18182-09 (T.C.) (All of the Tax Court cases are Petitions for Redetermination).<br />
STATEMENT OF THE STANDARD AND SCOPE OF REVIEW<br />
The standard of review for the issues raised in Point I is de novo.<br />
STATEMENT REGARDING ORAL ARGUMENT<br />
Appellant respectfully requests Oral Argument of this case as such would be<br />
beneficial to the Court‘s review of the matters contained in this appeal.<br />
SUMMARY OF ARGUMENT<br />
The District Court erred in its application of the Supreme Court‘s seminal<br />
case of Powell, supra, and its progeny, including cases from this Circuit. The<br />
District Court‘s conclusion that the enforcement of the respective IRS summonses<br />
would not result in an abuse of the District Court‘s process was in error as<br />
Appellant had demonstrated valid other grounds besides the four explicit Powell<br />
factors. Appellant had demonstrated that the IRS audit of Mr. Gangi was<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
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predicated upon an unconstitutional construction of the applicability of the statute<br />
of limitations provision of the Internal Revenue Code.<br />
The District Court also erred in finding that Appellant had failed to show<br />
institutional bad faith on the part of the IRS in respect to the IRS‘ never-ending<br />
audits, including that of the Appellant. Consequently the District Court erred in<br />
enforcing the IRS third-party summonses. Moreover, the District Court erred in<br />
concluding that Appellant‘s arguments below regarding the constitutionality, or<br />
lack t<strong>here</strong>of, were premature and could not be brought at the first instance for<br />
redress before the District Court. The District Court‘s misinterpretation of Powell<br />
was legal error, subject to de novo review.<br />
ARGUMENT<br />
POINT I<br />
THE DISTRICT COURT ERRED IN<br />
CONCLUDING THAT THE ENFORCEMENT OF<br />
THE IRS SUMMONSES WOULD NOT RESULT IN<br />
AN ABUSE OF ITS PROCESS.<br />
The District Court in its memorandum opinion cited to the correct law in this<br />
Circuit, but when it applied the facts to the applicable law reached the wrong<br />
conclusion. As the District Court aptly noted:<br />
The Third Circuit has recognized that, under the Powell test, ―[t]he<br />
taxpayer retains the right to challenge the summons on any<br />
appropriate ground. The teaching of . . . decisions [since Powell] is<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
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that an ‗appropriate ground‘ for challenging the summons exists<br />
when the taxpayer disproves one of the four elements of the<br />
government‘s Powell showing, or otherwise demonstrates that<br />
enforcement of the summons will result in an abuse of the court‘s<br />
process.‖ [United States v.] Rockwell, 897 F.2d [1255] at 1262 [3d<br />
Cir. 1990] (citations omitted).<br />
(emphasis added). Mem. Op. at 3-4; Doc. # 25; A-000011-12.<br />
Examples of an abuse of the court's process include, but the Appellant<br />
submits are not limited to, when IRS third-party summons are issued ―such as to<br />
harass the taxpayer or to put pressure on him to settle a collateral dispute, or for<br />
any other purpose reflecting on the good faith of the particular investigation<br />
(emphasis added).‖ Pickel v. United States, 746 F.2d 176, 184 fn. 11 (3d Cir. 1984)<br />
citing to Powell, supra at 58. In order to succeed on an abuse of process claim, a<br />
taxpayer must show bad faith by the IRS as an institution, not just an individual<br />
agent. United States v. LaSalle National Bank, 437 U.S. 298, 316 (1978).<br />
In what appears to be a matter of first impression is the question of whether<br />
unconstitutional conduct on the part of the IRS, when demonstrated by a taxpayer,<br />
qualifies as demonstrating that the enforcement of an IRS summons would be an<br />
abuse of the District Court‘s process. Appellant submits that it would be, and the<br />
District Court erred in enforcing the subject IRS summonses. Appellant also<br />
submits that institutional bad faith exists in the instant case, and it was error for the<br />
District Court to refuse to quash said IRS summonses.<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
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A. UNCONSTITUTIONAL CONDUCT<br />
Unconstitutional conduct exists on the part of the IRS as evidenced by the<br />
IRS‘ position that the statute of limitations does not exist for those United States<br />
citizens residing in the USVI, unless they earn less than $75,000 per year. IRC §<br />
6501(a) provides that the normal statute of limitations for assessment is three years<br />
from the later of the date the return was due or filed. Under the mirror code (48<br />
U.S.C. § 1397) ―any changes to, interpretations of, regulations and revenue rulings<br />
on and court interpretations of the substantive tax provisions of the Internal<br />
Revenue Code are applicable to Virgin Islands tax cases as long as the particular<br />
provision at issue is not manifestly inapplicable or incompatible with a separate<br />
territorial income tax . . . .‖ Chicago Bridge & Iron Co., supra at 976.<br />
Consequently, the normal statute of limitations provision in IRC § 6501(a) (i.e.,<br />
three years) is applicable in the USVI.<br />
In 1999, a Field Service Advice (―FSA‖) was issued by the IRS addressing<br />
the statute of limitations for a taxpayer who filed with the BIR. The 1999 FSA<br />
specifically provided that:<br />
[IRC] section 932(c)(2) requires bona fide USVI residents to file an<br />
annual return with the USVI. Since A filed a USVI tax return for Year<br />
B, he met the requirements of [IRC] section 932(c)(2). However, on<br />
account of his failure to report dividend income from a domestic<br />
corporation, A did not satisfy [IRC] section 932(c)(4)(B), which<br />
required that he report on his USVI return income from all sources<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
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and to identify the source of each item shown on such return, nor<br />
[IRC] section 932(c)(4)(C), which required that he pay income tax to<br />
the USVI on his worldwide income. [IRC] section 6501(a) gives the<br />
IRS a period of up to three years from the date of the filing of a return<br />
to assess taxes due by the taxpayer. Since more than three years have<br />
passed since the taxpayer filed the tax return required by [IRC]<br />
section 932(c)(2), the IRS may not assess and collect additional tax<br />
unless other exceptions apply. [IRC] section 6501(a).<br />
FSA 199906031; 1998 FSA LEXIS 18 (December 18, 1998). 11<br />
At the time the IRS focused its attention on the USVI, it was clear that the<br />
statute of limitations had run, or was about to run, on most of the taxpayers the IRS<br />
intended to audit. To avoid this fact, the IRS unilaterally changed the statute of<br />
limitations provisions under IRC § 6501 (this was necessary otherwise the ―Virgin<br />
Islands project‖ would have been for naught).<br />
Specifically, in Notice 2007-19, the IRS, without appropriate legislative<br />
process or delegated executive authority, took the unconstitutional position that the<br />
three year statute of limitations period for tax years ending before December 31,<br />
2006, only applies to those individuals who filed with the BIR and who had less<br />
than $75,000 of gross income for the taxable year. Notice 2007-19.<br />
Subsequently, the IRS issued Notice 2007-31, which amended Notice 2007-<br />
19. Notice 2007-31 states: ―[t]his notice announces that for taxable years ending<br />
on or after December 31, 2006, the U.S. federal statute of limitations for all U.S.<br />
11 This is not an error; the Field Service Advice was dated December 18, 1998, but<br />
not published until 1999, hence the discrepancy in the dates.<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
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citizens and residents claiming to be bona fide residents of the U.S. Virgin<br />
Islands generally will commence upon the filing of an income tax return with the<br />
U.S. Virgin Islands (emphasis added).‖ Notice 2007-31; 2007-1 C.B. 971; 2007-<br />
16 I.R.B. 971 at § 3 (April 16, 2007). This distinction should not go unnoticed.<br />
Notice 2007-31 marks a change in the IRS‘ position in that under Notice 2007-31<br />
any person ―claiming‖ to be bona fide USVI resident is able to obtain the benefit of<br />
the three year statute of limitations period that Congress intended under IRC §<br />
6501(a). This position is in stark contrast to Notice 2007-19 which applies the<br />
three statute of limitations period to only those that meet the definition of ―covered<br />
persons.‖ Notice 2007-19 at § 2.<br />
The District Court erred in its determination that the IRS‘ protracted audits<br />
of U.S. citizens who were residents of the USVI, that is predicated on violations of<br />
equal protection prohibited by the 14 th Amendment, and due process guaranteed in<br />
the 5 th Amendment, did not constitute an abuse of the District Court‘s process.<br />
The evidence of unconstitutional conduct can be found in the<br />
aforementioned two IRS pronouncements: Notice 2007-19 and Notice 2007-31.<br />
Notice 2007-19 and Notice 2007-31 demonstrate violations of the Equal Protection<br />
Clause of the 14 th Amendment and Due Process Clause of the 5 th Amendment.<br />
Normally, the legal lens in which one views disparate treatment under the law is<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
1001 BRICKELL BAY DRIVE, 32 ND FLOOR, MIAMI, FL 33131 • T: 305.350.5690 • F: 305.371.8989 • WWW.FUERSTLAW.COM<br />
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the equal protection clause of the Fourteenth Amendment. See Village of<br />
Willowbrook v. Grace, 528 U.S. 562 (2000), aff’g 160 F.3d 386 (7 th Cir. 1998).<br />
However the Supreme Court in Bolling v. Sharpe, 347 U.S. 497, 499–500 (1954), a<br />
companion case to the landmark Brown v. Board of Education, 347 U.S. 483<br />
(1954), held that segregation of students in the public schools of the District of<br />
Columbia violated the Due Process clause of the Fifth Amendment and not the<br />
Equal Protection Clause of the Fourteenth Amendment. The Fifth Amendment of<br />
the U.S. Constitution, which is applicable in the District of Columbia, notably does<br />
not contain an equal protection clause which applies only to the Several States.<br />
The Supreme Court noted that the concepts of equal protection and due<br />
process, both stemming from the universal ideal of fairness under the law, are not<br />
mutually exclusive and are coextensive. The Equal Protection Clause is more of a<br />
safeguard to prohibit unfairness than the Due Process Clause, and as such the two<br />
clauses are not always interchangeable. But discrimination may be so unjustifiable<br />
as to be violative of the Due Process Clause of the Fifth Amendment. Bolling,<br />
supra. ―Equal protection analysis in the Fifth Amendment area,‖ the Supreme<br />
Court has said, ―is the same as that under the Fourteenth Amendment.‖ Buckley v.<br />
Valeo, 424 U.S. 1, 93 (1976), aff’g 401 F.Supp. 1235 (D.D.C. 1975), aff’g in part,<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
1001 BRICKELL BAY DRIVE, 32 ND FLOOR, MIAMI, FL 33131 • T: 305.350.5690 • F: 305.371.8989 • WWW.FUERSTLAW.COM<br />
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rev’g in part 519 F.2d 821 (D.C. Cir. 1975); Weinberger v. Wiesenfeld, 420 U.S.<br />
636, 638 n.2 (1975), aff’g 367 F.Supp. 981 (D.N.J. 1973).<br />
As the USVI is an unincorporated territory of the United States, not all of the<br />
provisions of the U.S. Constitution automatically apply in the USVI. Dorr v.<br />
United States, 195 U.S. 138, 148 (1904). Only ―fundamental‖ constitutional rights<br />
automatically apply in the USVI, while ―remedial‖ rights apply only by legislative<br />
grace. Compare Duncan v. Louisiana, 391 U.S. 145, 149 (1958) (right to jury trial<br />
is fundamental) with Gov’t of the Virgin Islands v. Boynes, slip op., Crim. No.<br />
F426-2002, 2003 Lexis 5 (Terr. Ct. V.I. April 9, 2003) (because the USVI is an<br />
unincorporated territory, the right to a jury trial is a remedial right which can be<br />
enacted and repealed by Congress).<br />
This Court in Soto v. United States 273 F. 628 (3d Cir. 1921), explained that<br />
the USVI is an unincorporated territory which is subject to the fundamental<br />
right/remedial right distinction. However, this Court held that the Due Process<br />
Clause of the Fifth Amendment is a fundamental right that automatically applies to<br />
unincorporated territories. Id. at 633.<br />
United States citizens who resided in the USVI are being deprived of their<br />
statutory rights and discriminated against solely based on w<strong>here</strong> they resided (the<br />
USVI versus the 50 States) and discriminated against based on an arbitrary income<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
1001 BRICKELL BAY DRIVE, 32 ND FLOOR, MIAMI, FL 33131 • T: 305.350.5690 • F: 305.371.8989 • WWW.FUERSTLAW.COM<br />
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level (those that made less than $75,000 and resided and filed in the USVI have the<br />
benefit of the statute of limitations versus that that made more than $75,000 who<br />
do not). What is important to note, is that neither place of residence nor income<br />
level has ever been a reason to provide that the statute of limitations applies, or<br />
does not apply, to a particular taxpayer. T<strong>here</strong> is nothing in the Internal Revenue<br />
Code, the Treasury Regulations t<strong>here</strong>under, or the Congressional Record that<br />
advances such a theory.<br />
Additionally, the term ―covered person‖ is never mentioned in the Internal<br />
Revenue Code. The term ―covered person‖ was created without any grant of<br />
authority by the IRS, and without any notice to the public or comment period.<br />
Further the monetary level, i.e., the $75,000, appears to be an arbitrary number<br />
used to target those individuals with sufficient w<strong>here</strong>withal to make an IRS audit<br />
economically feasible. In other words, as the majority of the USVI population<br />
lives at or below the poverty line, by setting the bar well above the poverty line<br />
those poorly-healed residents will be given the statutory right of having the statute<br />
of limitations period under IRC § 6501 apply to them. On the other hand, those<br />
well-healed residents, many of which participated in the EDP, would not be<br />
afforded the protections of IRC § 6501. Although not explicitly named, Mr. Gangi<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
1001 BRICKELL BAY DRIVE, 32 ND FLOOR, MIAMI, FL 33131 • T: 305.350.5690 • F: 305.371.8989 • WWW.FUERSTLAW.COM<br />
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has in fact been singled out as a discrete subset of taxpayers for improper treatment<br />
by the IRS.<br />
Further, the fact that the IRS and the USVI had subsequently entered into an<br />
exchange of information agreement, and the fact that the IRS finally issued<br />
Treasury Regulations, e.g. Treas. Reg. § 1.932-1(c)(2)(ii) (see also Notice 2007-31<br />
(discussing working arrangement between the IRS and the BIR)), is of no moment.<br />
For taxpayers such as Mr. Gangi, the failure of the BIR and/or the IRS to properly<br />
exchange information is of no fault of his making. Indeed if t<strong>here</strong> is any blame to<br />
be had it falls on the shoulders of the respective governments. Mr. Gangi should<br />
not have to bear the burdens of the governments‘ shortcomings, and moreover, the<br />
respective governments‘ shortcoming cannot be used to excuse unconstitutional<br />
conduct. Accordingly, the District Court erred in concluding that t<strong>here</strong> was no<br />
abuse of the District Court‘s process and erred in enforcing the IRS summonses.<br />
B. INSTITUTIONAL BAD FAITH<br />
The District Court also erred in its determination that t<strong>here</strong> was no<br />
institutional bad faith on the part of the IRS. Institutional bad faith is evidenced in<br />
Ms. Nina Olsen‘s (the IRS Taxpayer Advocate) 2009 annual report to Congress.<br />
Taxpayer Advocate Service, 2009 Annual Report to Congress, Vol. I, Legislative<br />
Recommendation No. 10. Doc. # 1-6; A-000084. The 2009 report to Congress<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
1001 BRICKELL BAY DRIVE, 32 ND FLOOR, MIAMI, FL 33131 • T: 305.350.5690 • F: 305.371.8989 • WWW.FUERSTLAW.COM<br />
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states that: ―the IRS has singled out a small group of USVI taxpayers for<br />
special treatment – the very types of high income taxpayers that federal tax<br />
incentives are seeking to attract to the USVI – by effectively eliminating the<br />
[statute of limitations] applicable to them but not the [statute of limitation]<br />
applicable to other similarly situated taxpayers (emphasis added).‖ Id. at 391-<br />
92; Doc. # 1-6; A-000085-86.<br />
Ms. Olsen goes on to note that: ―the IRS has, without legislation, upset<br />
longstanding expectations by singling out for special treatment those taxpayers<br />
with gross incomes of more than $75,000 who are claiming USVI residency. For<br />
many taxpayers the [statute of limitations] will not begin (or end) for tax years<br />
ending before December 31, 2006, even if they have properly filed nonfraudulent<br />
returns and have not claimed [USVI tax] benefits.‖ Id. at 397; Doc. # 1-6; A-<br />
000091.<br />
Moreover, both the District Court and this Court stand as bulwarks to protect<br />
taxpayers‘ rights from IRS over-reaching. Again, the Taxpayer Advocate notes:<br />
For a year and a half, the National Taxpayer Advocate<br />
has been requesting specific data regarding USVI cases.<br />
Only after it became evident that she would publicly<br />
discuss this lack of transparency did the IRS provide any<br />
USVI data to [the Taxpayer Advocate]. The IRS’s<br />
repeated failure to provide such information to [the<br />
Taxpayer Advocate], an entity designed by Congress<br />
to protect taxpayer rights, is cause for concern.<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
1001 BRICKELL BAY DRIVE, 32 ND FLOOR, MIAMI, FL 33131 • T: 305.350.5690 • F: 305.371.8989 • WWW.FUERSTLAW.COM<br />
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Without transparency of statutory limits on the IRS‘s<br />
exercise of discretion in conducting audits of a certain<br />
group of USVI residents for an unlimited period of time,<br />
taxpayer rights are at risk.<br />
(emphasis added). Id. at 398-99; Doc. # 1-6; A-000092-93. All of Ms. Olsen‘s<br />
statement should be taken as an admission of a party opponent under Fed.R.Ev.<br />
801(d)(2), and should be taken as definitive evidence of institutional bad faith, and<br />
was argued as such in the proceeding below. As Ms. Olsen‘s statement<br />
demonstrates, this Court should construe her statement as an admission that the<br />
IRS as an institution has not acted in good faith.<br />
This Court should not allow the IRS to trample over the rights of taxpayers,<br />
ignore its obligations under the law, and defy the intent of Congress:<br />
―[u]nquestionably the broad investigatory powers of IRS agents will occasionally<br />
be subject to abuses. The courts should be attentive to circumstances w<strong>here</strong> such<br />
abuses are likely to have taken place.‖ United States v. McCarthy, 514 F.2d 368,<br />
375 (3d Cir. 1975). Moreover, ―federal courts have never lent their enforcement<br />
machinery to an executive branch investigative body in the manner of a rubber<br />
stamp.‖ SEC v. Wheeling-Pittsburgh Steel Corp., 648 F.2d 118, 124 (3d Cir. 1981)<br />
(en banc) (quoting In re Grand Jury Proceedings, 486 F.2d 85, 90 (3d Cir. 1973)).<br />
Indeed, the District Court properly noted that ―the requirement of legitimate<br />
purpose means nothing more than that the government‘s summons must be issued<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
1001 BRICKELL BAY DRIVE, 32 ND FLOOR, MIAMI, FL 33131 • T: 305.350.5690 • F: 305.371.8989 • WWW.FUERSTLAW.COM<br />
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in good faith pursuant to one of the powers granted under 26 U.S.C. § 7602.‖<br />
Memo. Op. at 9 (Doc. # 25; A-000017) quoting United States v. Rockwell Int'l, 897<br />
F.2d 1255, 1262 (3d Cir. 1990).<br />
However, the District Court erred in concluding that t<strong>here</strong> is no evidence of<br />
institutional bad faith when it misinterpreted this Court‘s holding in Pickel, supra.<br />
As the District Court stated:<br />
In considering bad faith under Powell, the Third Circuit has instructed<br />
that ‗w<strong>here</strong> the taxpayer can prove that the summons is issued solely<br />
to harass him, or to force him to settle a collateral dispute, or that the<br />
IRS is acting solely as an information-gathering agency for other<br />
departments, such as the Department of Justice, or the FBI, the<br />
summons will be unenforceable because of the IRS‘s bad faith.‘<br />
Memo. Op. at 8-9, (Doc. # 25; A-000016-17) quoting Pickel, supra.<br />
While this quote is not incorrect, it is incomplete. The full quote from this<br />
Court‘s decision in Pickel is:<br />
We do not doubt that portions of the Powell and LaSalle discussions<br />
of bad faith retain vitality and that w<strong>here</strong> the taxpayer can prove that<br />
the summons is issued solely to harass him, or to force him to settle a<br />
collateral dispute, Powell, 379 U.S. at 58, or that the IRS is acting<br />
solely as an information-gathering agency for other departments, such<br />
as the Department of Justice, LaSalle, 437 U.S. at 317, or the FBI, the<br />
summons will be unenforceable because of the IRS's bad faith.<br />
Pickel, supra at 185.<br />
The District Court‘s memorandum opinion fails to include the citation to<br />
both Powell and LaSalle. By reading the passage from the Pickel decision without<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
1001 BRICKELL BAY DRIVE, 32 ND FLOOR, MIAMI, FL 33131 • T: 305.350.5690 • F: 305.371.8989 • WWW.FUERSTLAW.COM<br />
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looking at the underlying Supreme Court cases, the District Court‘s reading of<br />
Pickel reads out a very important term in Powell, i.e., ―such as.‖ Powell, supra at<br />
58. To the extent that t<strong>here</strong> is a conflict between Powell and Pickel, Powell must<br />
control. The teaching of Powell is that the District Court can quash an IRS<br />
summons when its process has been, or would be abused. The Powel factors are<br />
illustrative but not exhaustive, and as the District Court relied on a hyper-<br />
restrictive view of the holding in Powell, its determination that t<strong>here</strong> was not an<br />
abuse of the District Court‘s process was in error and this Court must reverse the<br />
District Court‘s order.<br />
The District Court also reasoned that ―[s]hould the IRS ultimately seek to<br />
assess tax penalties in the future, [Mr. Gangi] will then have the opportunity to<br />
assert these constitutional and statutory defenses, and the court will then have the<br />
opportunity to determine whether the IRS‘s conduct deprived [Mr. Gangi] of [his]<br />
constitutional and statutory rights.‖ Memo. Op. at 10 (Doc. # 25; A-000018). The<br />
District Court further reasoned that Appellant‘s ―institutional bad faith arguments<br />
are premature.‖ Id. at 9-10 (Doc. # 25; A-000017-18).<br />
However this reasoning is problematic. In essence, the District Court ruled<br />
that violations of the United States Constitution cannot qualify as an abuse of the<br />
District Court‘s process or as evidence of institutional bad faith, and cannot be<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
1001 BRICKELL BAY DRIVE, 32 ND FLOOR, MIAMI, FL 33131 • T: 305.350.5690 • F: 305.371.8989 • WWW.FUERSTLAW.COM<br />
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raised at the first opportunity. Appellant submits that violations of the United<br />
States Constitution are so important as to require that the District Courts and the<br />
Circuit Courts examine them at the first opportunity (in this case in the context of<br />
summons enforcement/petitions to quash summons). What could be more an abuse<br />
of the Court‘s process than unconstitutional conduct?<br />
The best way to illustrate the fallacy of the District Court‘s reasoning is by<br />
way of hypothetical. If the IRS had an audit plan named ―the New Jersey Project‖<br />
and issued IRS summonses in respect to those taxpayers residing in New Jersey for<br />
tax years long since closed, but only for those individuals who are members of a<br />
discrete racial group, should not the target of such an IRS audit be permitted at the<br />
first opportunity to seek redress for such unconstitutional conduct? Appellant<br />
submits one should as equal protection under the law mandates such a conclusion.<br />
The fact that the violation of equal protection raised in the instant case is based on<br />
income level instead of race should not be outcome determinative; rather the<br />
determination should be made on a clear violation of the Equal Protection Clause<br />
of the 14 th Amendment and/or the Due Process Clause of the Fifth Amendment.<br />
Accordingly, the District Court‘s conclusion that Mr. Gangi‘s institutional bad<br />
faith arguments are premature was in error, rather they were ripe for the District<br />
Court‘s consideration.<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
1001 BRICKELL BAY DRIVE, 32 ND FLOOR, MIAMI, FL 33131 • T: 305.350.5690 • F: 305.371.8989 • WWW.FUERSTLAW.COM<br />
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Finally, the District Court erred in concluding that the Taxpayer Advocate‘s<br />
Report was only a proper policy position properly directed at the political branches<br />
of government. Mem. Op. at 10 (Doc. # 25; A-000018). The District Court<br />
concluded that by allowing a taxpayer such as Mr. Gangi to contest the<br />
enforcement of an IRS summons, notwithstanding the fact that the taxpayer had<br />
raised a facial challenge to IRS investigatory policies at this preliminary stage,<br />
would, inter alia, ―open the door to judicial management of IRS investigations,<br />
whenever a taxpayer objects to the IRS‘s ‗institutional‘ bad faith.‖ Id. at 9-10<br />
(Doc. # 25; A-000017-18). While the District Court may have concern for the<br />
parade of horribles that would be unleashed if the District Court would have to<br />
examine institutional bad faith, such concern is unfounded<br />
The reason that the District Court‘s concern is unfounded is that in the<br />
instant case, unlike nearly all summons enforcement proceedings, the IRS<br />
Taxpayer Advocate has stated in public documents that the IRS is targeting of a<br />
select group of taxpayers for select treatment. This uncontroverted evidence<br />
together with the unconstitutional concept of a ―covered person‖ makes this case<br />
so unlike any other case before it, and presumably unlike any other case that will<br />
follow. Accordingly, The District Court‘s conclusion that it would be imposing<br />
limitations that would hinder legitimate functions of the IRS pursuant to IRC §<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
1001 BRICKELL BAY DRIVE, 32 ND FLOOR, MIAMI, FL 33131 • T: 305.350.5690 • F: 305.371.8989 • WWW.FUERSTLAW.COM<br />
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7602 was in error as the broad investigatory powers given to the IRS are not<br />
without limits. Indeed, as this Court noted in another context, ―rarely if ever does<br />
not mean never.‖ 12 This is one of the rare cases w<strong>here</strong> t<strong>here</strong> is institutional bad<br />
faith which requires quashing of the subject summonses. 13<br />
Accordingly, Mr. Gangi demonstrated through the aforementioned public<br />
documents that the IRS is unconstitutionally, and in bad faith, singling out<br />
taxpayers such as himself, and the enforcement of the subject summons was in fact<br />
an abuse of the District Court‘s process. Consequently the District Court‘s<br />
decision that the subject summonses should be enforced (and conversely the<br />
denial, in part, of Mr. Gangi‘s Petition to Quash) was in error, and as such this<br />
12<br />
In re: United States, 273 F.3d 380, 385 (3d Cir. 2001) (addressing issuance of<br />
writ of mandamus).<br />
13 The District Court also appears to be implying that this is a political question that<br />
should be addressed by the political branches of government. To the extent that<br />
the District Court concluded that the IRS‘ never-ending audits of select USVI<br />
taxpayers is a political question best left for Congress, the District Court erred.<br />
Undoubtedly, "[t]he political question doctrine excludes from judicial review those<br />
controversies which revolve around policy choices and value determinations<br />
constitutionally committed for resolution to the halls of Congress or the confines of<br />
the Executive Branch. . . . But under the Constitution, one of the judiciary's<br />
characteristic roles is to interpret statutes, and [the courts] cannot shirk this<br />
responsibility merely because [the] decision may have significant political<br />
overtones." Japan Whaling Ass'n v. American Cetacean Society, 478 U.S. 221,<br />
229-230, 106 S. Ct. 2860, 2866, 92 L. Ed. 2d 166 (1986). In the instant case we do<br />
not have a pure political question; instead we have questions of institutional bad<br />
faith and constitutional violations which require judicial intervention.<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
1001 BRICKELL BAY DRIVE, 32 ND FLOOR, MIAMI, FL 33131 • T: 305.350.5690 • F: 305.371.8989 • WWW.FUERSTLAW.COM<br />
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Court should reverse the January 7, 2011, Order entered by the District Court and<br />
direct to the District Court to quash the issuance of the subject summonses.<br />
CONCLUSION<br />
For the reasons contained in Points I at Sub-Point A and B, this Court must<br />
vacate the decision of the District Court granting the IRS motion to enforce<br />
compliance with the IRS third-party summonses issued to CitiBank and Sovereign<br />
Bank and must enter an order directing the District Court to quash said third-party<br />
summonses in their entirety.<br />
Respectfully Submitted,<br />
_________________________<br />
<strong>Joseph</strong> A. DiRuzzo, III, Esq., CPA<br />
USVI Bar # 1114; NJ Bar # 1912-2005<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
1001 Brickell Bay Drive, 32 nd Floor<br />
Miami, FL 33131<br />
305.350.5690 (o)<br />
305.371.8989 (f)<br />
jdiruzzo@fuerstlaw.com<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
1001 BRICKELL BAY DRIVE, 32 ND FLOOR, MIAMI, FL 33131 • T: 305.350.5690 • F: 305.371.8989 • WWW.FUERSTLAW.COM<br />
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CERTIFICATE OF BAR MEMBERSHIP<br />
The undersigned counsel <strong>here</strong>by certifies that he is a member of the bar of<br />
the United States Courts of Appeals for the Third Circuit.<br />
_________________________<br />
<strong>Joseph</strong> A. DiRuzzo, III, Esq., CPA<br />
CERTIFICATE OF COM<strong>PL</strong>IANCE RE: WORD COUNT<br />
Pursuant to Fed.R.App.P. 32(a)(7)(C)(i) counsel certifies that this brief is in<br />
compliance with the 14,000 typed- volume limitation of Rule 32(a)(7)(B)(i). The<br />
instant brief is 8,075 words in length.<br />
_________________________<br />
<strong>Joseph</strong> A. DiRuzzo, III, Esq., CPA<br />
CERTIFICATE OF COM<strong>PL</strong>IANCE RE: E-BRIEF<br />
Counsel <strong>here</strong>by certifies that the text of the E-Brief and the text of the hardcopy<br />
briefs are identical.<br />
_________________________<br />
<strong>Joseph</strong> A. DiRuzzo, III, Esq., CPA<br />
CERTIFICATE OF COM<strong>PL</strong>IANCE RE: VIRUS CHECK<br />
Counsel also certifies that he has performed a virus scan on the E-Brief<br />
using Symantec Anti-virus software.<br />
_________________________<br />
<strong>Joseph</strong> A. DiRuzzo, III, Esq., CPA<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
1001 BRICKELL BAY DRIVE, 32 ND FLOOR, MIAMI, FL 33131 • T: 305.350.5690 • F: 305.371.8989 • WWW.FUERSTLAW.COM<br />
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CERTIFICATE OF SERVICE<br />
I <strong>here</strong>by certify that on the 13th day of June, 2011, I caused:<br />
1. Pursuant to L.A.R. Misc. 113.14, an electronic original copy of the brief and<br />
appendix (volumes I and II) to be filed via ECF.<br />
2. Ten paper copies of the brief and volume I of the appendix and four paper<br />
copies of the volume II of the appendix will be sent via Federal Express to the<br />
Clerk, United States Court of Appeals for the Third Circuit, 601 Market Street,<br />
Philadelphia, PA, 19106 within five days pursuant to L.A.R. 31.1 and<br />
L.A.R.Misc. 113.1(b).<br />
3. An electronic copy to John Schumann, Esq., U.S. Dept. of Justice, Tax<br />
Division, Appellate Section, pursuant to Fed. R. App. P. 25(c)(1)(D), Local<br />
Appellate Rule 25.1(b), and L.A.R. Miscellaneous Rules 113.2(c) and 113.4(a).<br />
A courtesy paper copy of the brief and both volumes of the appendix will be<br />
mailed to the above address.<br />
_________________________<br />
<strong>Joseph</strong> A. DiRuzzo, III, Esq., CPA<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
1001 BRICKELL BAY DRIVE, 32 ND FLOOR, MIAMI, FL 33131 • T: 305.350.5690 • F: 305.371.8989 • WWW.FUERSTLAW.COM<br />
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Case: 11-1612 Document: 003110561288 Page: 44 Date Filed: 06/13/2011<br />
No. 11-1612<br />
In the United States Court of Appeals<br />
for the Third Circuit<br />
FRANK GANGI,<br />
vs.<br />
UNITED STATES OF AMERICA,<br />
Appellant,<br />
Appellee.<br />
ON APPEAL FROM THE UNITED STATES DISTRICT COURT FOR THE<br />
DISTRICT OF NEW JERSEY, Case No. 3:10-mc-24-GEB-DEA<br />
HON. G. E. BROWN, JR., PRESIDING<br />
_______________________________________________<br />
JOINT APPENDIX VOLUME I<br />
PAGE NUMBERS A-000001 THROUGH A-000025<br />
_______________________________________________<br />
<strong>Joseph</strong> A. DiRuzzo, III, Esq., CPA<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
1001 Brickell Bay Drive, 32 nd Floor<br />
Miami, FL 33131<br />
305.350.5690 (o)<br />
305.371.8989 (f)<br />
jdiruzzo@fuerstlaw.com<br />
Counsel for Appellant, Frank Gangi<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
1001 BRICKELL BAY DRIVE, 32 ND<br />
FLOOR, MIAMI, FL 33131 • T: 305.350.5690 • F: 305.371.8989 • WWW.FUERSTLAW.COM
Case: 11-1612 Document: 003110561288 Page: 45 Date Filed: 06/13/2011<br />
APPENDIX VOLUME I<br />
TABLE OF CONTENTS<br />
FUERST ITTLEMAN, <strong>PL</strong><br />
1001 BRICKELL BAY DRIVE, 32 ND<br />
FLOOR, MIAMI, FL 33131 • T: 305.350.5690 • F: 305.371.8989 • WWW.FUERSTLAW.COM<br />
PAGE<br />
NOTICE OF CROSS APPEAL…………………………………………..A-000001<br />
AMENDED NOTICE OF CROSS APPEAL…………………………….A-000004<br />
ORDER…………………………………………………………………...A-000007<br />
MEMORANDUM OPINION ADOPTING REPORT & RECOMMENDATION<br />
WITH MODIFICATIONS………………………………………………..A-000009
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NOT FOR PUBLICATION<br />
UNITED STATES DISTRICT COURT<br />
DISTRICT OF NEW JERSEY<br />
__________________________________________<br />
)<br />
FRANK GANGI, FERROUS MINER HOLDINGS )<br />
LTD, BABP VI LLC, and GLOBAL NAPS INC, ) Hon. Garrett E. Brown, Jr.<br />
)<br />
Petitioners, ) Civil Action No. 10-24<br />
v. )<br />
) ORDER<br />
UNITED STATES OF AMERICA, )<br />
)<br />
Respondent. )<br />
__________________________________________)<br />
This matter having come before the Court upon the petitions to quash (Doc. Nos. 1, 5)<br />
filed by Petitioners Frank Gangi, Ferrous Miner Holdings, Ltd. (“Ferrous Miner”), BABP VI<br />
LLC, and Global Naps Inc., upon the Government’s motion to enforce (Doc. No. 4), and upon<br />
the August 25, 2010 Report and Recommendation filed by Magistrate Judge Douglas E. Arpert<br />
(Doc. No. 12); and this Court having considered the parties’ submissions and decided the matter<br />
without oral argument pursuant to Federal Rule of Civil Procedure 78; and for the reasons stated<br />
in the accompanying Memorandum Opinion;<br />
IT IS THIS 7th day of January, 2011,<br />
ORDERED that the August 25, 2010 Report and Recommendation (Doc. No. 12) is<br />
ADOPTED WITH MODIFICATIONS; and it is further<br />
ORDERED that the Government’s motion to enforce (Doc. No. 4) is GRANTED IN<br />
PART, such that the CitiBank and Sovereign Bank summonses may be enforced as against<br />
Petitioner Gangi; and it is further<br />
ORDERED that the petitions to quash (Doc. Nos. 1, 5) are GRANTED IN PART, such<br />
A-000007
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that the CitiBank and Sovereign Bank summonses may not be enforced as against Petitioners<br />
Ferrous Miner and BABP; and it further appearing that CitiBank has already submitted the<br />
documents requested by the summons, it is further<br />
ORDERED that the Government either destroy or return all the documents produced<br />
under the CitiBank subpoena and reissue a summons limited to documents concerning Mr.<br />
Gangi’s accounts and transactions, or it may screen out documents concerning the accounts of<br />
Ferrous Miner and BABP; and it is further<br />
ORDERED that the portion of the August 25, 2010 Report and Recommendation finding<br />
that the IRS’s investigation did not violate the Internal Revenue Code’s statute of limitations is<br />
VACATED.<br />
/s/ Garrett E. Brown, Jr.<br />
GARRETT E. BROWN, JR., U.S.D.J.<br />
A-000008
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NOT FOR PUBLICATION<br />
UNITED STATES DISTRICT COURT<br />
DISTRICT OF NEW JERSEY<br />
__________________________________________<br />
)<br />
FRANK GANGI, FERROUS MINER HOLDINGS )<br />
LTD, BABP VI LLC, and GLOBAL NAPS INC, ) Hon. Garrett E. Brown, Jr.<br />
)<br />
Petitioners, ) Civil Action No. 10-24<br />
v. )<br />
) MEMORANDUM OPINION<br />
UNITED STATES OF AMERICA, ) ADOPTING REPORT &<br />
) RECOMMENDATION<br />
Respondent. ) WITH MODIFICATIONS<br />
__________________________________________)<br />
BROWN, Chief Judge:<br />
This matter comes before the Court upon the petitions (Doc. Nos. 1, 5) of Frank Gangi,<br />
Ferrous Miner Holdings, Ltd., BABP VI, LLC, and Global Naps, Inc. (collectively “Petitioners”)<br />
to quash the summonses served on third-parties CitiBank and Sovereign Bank by Internal<br />
Revenue Agent Jackie Moss (“Agent Moss”). The summonses were issued on February 2, 2010<br />
(CitiBank) and May 10, 2010 (Sovereign Bank), respectively, and sought information and<br />
documents regarding the accounts and transactions of all Petitioners for the purposes of<br />
determining the tax liability of Petitioner Gangi. (Moss Decl. Ex. 101 (CitiBank summons);<br />
Doc. No. 5 Ex. A (Sovereign Bank summons).) The Government moves to enforce these<br />
summonses. (Doc. No. 4; see also Doc. No. 9.)<br />
On August 25, 2010, Magistrate Judge Douglas E. Arpert issued an opinion and order<br />
denying the petitions and granting the Government’s motion to enforce. Magistrate Judge Arpert<br />
concluded that the Government had satisfied the requirements for enforcement articulated in<br />
1<br />
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United States v. Powell, 379 U.S. 48 (1964), namely that IRS had a legitimate purpose for<br />
conducting the investigation, that the inquiry may be relevant to the purpose, that the information<br />
sought was not already within the Commissioner’s possession, and that the administrative steps<br />
required by the Internal Revenue Code had been followed. (See Doc. No. 11 at 7–8.) By Letter<br />
Order of September 3, 2010, this Court redesignated Judge Arpert’s August 25 opinion and order<br />
as a Report and Recommendation (“R&R”) in accordance with the procedure approved in United<br />
States v. Mueller, 930 F.2d 10, 12 (8th Cir. 1991) and United States v. First National Bank of<br />
Atlanta, 628 F.2d 871, 873 (5th Cir. 1980). Petitioners timely filed objections to Magistrate<br />
Judge Arpert’s R&R. By Letter Orders of October 5th and 28th, the Court permitted limited<br />
discovery and supplemental briefing regarding the Government’s compliance with Internal<br />
Revenue Code procedures.<br />
Having carefully reviewed the parties’ submissions and conducted de novo review of<br />
Magistrate Judge Arpert’s R&R, this Court will adopt the R&R with modifications, grant the<br />
Government’s motion to enforce in part, and grant the petition to quash in part.<br />
Standard of Review<br />
Local Civil Rule 72.1 governs this Court’s review of Magistrate Judge Arpert’s R&R.<br />
That rule provides that the Court “shall make a de novo determination of those portions [of<br />
the R&R] to which objection is made and may accept, reject, or modify, in whole or in part, the<br />
findings or recommendations made by the Magistrate Judge.” L. Civ. R. 72.1(c)(2); see also 28<br />
U.S.C. § 636(b)(1)(C); Fed. R. Civ. P. 72(b). In conducting its review, the Court was mindful<br />
that it “may consider the record developed before the Magistrate Judge, [and] mak[e] [its] own<br />
determination on the basis of that record.” L. Civ. R. 72.1(c)(2); see also State Farm Indem. v.<br />
2<br />
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Fornaro, 227 F. Supp. 2d 229, 231 (D.N.J. 2002). This Court has jurisdiction to consider the<br />
petition and the Government’s motion pursuant to 26 U.S.C. §§ 7402(b) and 7609(h).<br />
The Powell Standard<br />
IRC § 7602(a) authorizes the IRS to issue summonses for “[f]or the purpose of<br />
ascertaining the correctness of any return, making a return w<strong>here</strong> none has been made,<br />
determining the liability of any person for any internal revenue tax . . . , or collecting any such<br />
liability.” Pursuant to this provision, the IRS may “examine any books, papers, records, or other<br />
data which may be relevant or material to such inquiry.” IRC § 7602(a)(1). “Summons<br />
enforcement proceedings are designed to be summary in nature, and their ‘sole purpose . . . is to<br />
ensure that the IRS has issued the summons for a proper purpose and in good faith.’” United<br />
States v. Rockwell Int’l, 897 F.2d 1255, 1262 (3d Cir. 1990) (quoting United States v. Barrett,<br />
837 F.2d 1341, 1349 (5th Cir.1988) (en banc) (per curiam)). The Supreme Court in United<br />
States v. Powell established the following test for taxpayer challenges to IRS summons issued<br />
pursuant to § 7602(a): the IRS must show (1) that the investigation will be conducted pursuant to<br />
a legitimate purpose; (2) that the inquiry may be relevant to the purpose; (3) that the information<br />
sought is not already within the Commissioner’s possession; and (4) that the administrative steps<br />
required by the Internal Revenue Code have been followed. 379 U.S. 48, 57–58 (1964). The<br />
Third Circuit has recognized that, under the Powell test, “[t]he taxpayer retains the right to<br />
challenge the summons on any appropriate ground. The teaching of . . . decisions [since Powell]<br />
is that an ‘appropriate ground’ for challenging the summons exists when the taxpayer disproves<br />
one of the four elements of the government’s Powell showing, or otherwise demonstrates that<br />
enforcement of the summons will result in an abuse of the court’s process.” Rockwell, 897 F.2d<br />
3<br />
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at 1262 (citations omitted).<br />
Petitioners’ Objections to Magistrate Judge Arpert’s R&R<br />
Petitioners make the following objections to Magistrate Arpert’s R&R: (1) that the statute<br />
of limitations finding was premature, because the IRS has not yet sought to assess taxes; (2) that<br />
Magistrate Judge Arpert applied an improper legal standard that failed to consider Petitioners’<br />
claims that enforcement of the IRS summonses would result in the abuse of the court’s process;<br />
and (3) that the IRS’s disparate treatment of taxpayers on the basis of their residence in the<br />
Virgin Islands and their annual income-level demonstrates institutional bad faith that warrants<br />
quashing the IRS summonses; (4) that Magistrate Judge Arpert improperly concluded that the<br />
bank records sought from CitiBank and Sovereign Bank were relevant to a legitimate<br />
investigatory purpose; and (5) that the IRS failed to demonstrate compliance with the advance-<br />
notice requirements of IRC § 7602(c). The Government asserts, and Petitioners do not contest,<br />
that the IRS does not currently have the information it seeks, under the third Powell prong. The<br />
Court considers each objection in turn.<br />
1. Statute of Limitations<br />
Petitioners first object to Magistrate Judge Arpert’s finding that “because Mr. Gangi did<br />
not file a U.S. tax return for the years in question the statute of limitations has not expired.”<br />
(R&R at 8.) The Court agrees that this finding is premature, because it addresses the merits of a<br />
potential defense Petitioners could raise in the event that the IRS sought to assess tax penalties on<br />
Petitioners. The IRS has not made such an assessment at this time; hence, consideration of their<br />
potential defenses is premature. The Court will vacate this portion of Magistrate Judge Arpert’s<br />
R&R, such that Petitioners will not be precluded from raising a statute-of-limitations defense in<br />
4<br />
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future proceedings, should the IRS assess new tax penalties for these tax years. This Court<br />
expresses no opinion on the merits of such a defense.<br />
However, the Court agrees with the primary point made by Magistrate Judge Arpert: that<br />
the IRC statute of limitations does not definitively preclude the IRS from making such an<br />
assessment in the future. (See id.) Petitioners had argued under the first Powell prong that the<br />
IRS had no legitimate investigative purpose, because the IRC’s three-year statute of limitaitons,<br />
IRC § 6501(a), barred the IRS from making further assessments against Petitioners. (Petrs.’<br />
Omnibus Br. at 8.) Yet, the IRC statute of limitations applies to assessments of taxes, not to the<br />
IRS’s investigative tools, like summonses. See, e.g., Powell, 379 U.S. at 57 (“Reading the<br />
statutes as we do, the [IRS] Commissioner need not meet any standard of probable cause to<br />
obtain enforcement of his summons, either before or after the three-year statute of limitations on<br />
ordinary tax liabilities has expired.”); United States v. McHenry, 552 F. Supp. 2d 571, 574 (E.D.<br />
Va. 2008) (“The three-year statute of limitations contained in 26 U.S.C. § 6501(a) plainly applies<br />
only to assessment, not to summons or any other investigatory procedure.”). Furthermore, as<br />
Magistrate Judge Arpert correctly noted, the IRC statute of limitations exempts from the<br />
limitations period cases involving false or fraudulent returns, willful attempts to evade tax, and<br />
the failure to file a return. IRC § 6501(c)(1)–(3). In this case, the IRS agent assigned to this<br />
investigation claims that the IRS seeks documents from CitiBank and Sovereign Bank in order to<br />
determine whether or not Mr. Gangi was a bona fide resident of the Virgin Islands for the tax<br />
years 2000–2004. (Moss Decl. 3.) If Mr. Gangi was not a bona fide resident of the Virgin<br />
Islands but derived income from sources within the Virgin Islands, the Code required him to file<br />
a U.S. tax return for these years. IRC §§ 932(a)(1)–(2) (requiring the filing of tax returns in both<br />
5<br />
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the United States and the Virgin Islands). It is undisputed that Mr. Gangi did not file a U.S. tax<br />
return for these tax years. Thus, one of the aforementioned exceptions to the IRC statute of<br />
1<br />
limitations (false return, willful evasion, failure to file) may apply, in which case the IRC statute<br />
of limitations would not preclude further tax assessments against Petitioners. Consequently, the<br />
Court rejects Petitioners’ objection to the extent that Petitioners maintain that the IRC statute of<br />
limitations demonstrates that the IRS lacks a legitimate investigatory purpose under Powell.<br />
2. Incomplete Legal Standard<br />
Petitioners next argue that Magistrate Judge Arpert application of the Powell standard<br />
was incomplete, because the R&R failed to account for Petitioners’ challenges on the<br />
“appropriate ground[s]. . . . that enforcement of the summons will result in an abuse of the<br />
court’s process.” (Petrs.’ Objections at 8.) Petitioners are correct that the Third Circuit in<br />
Rockwell recognized that a taxpayer could challenge an IRS summons on such grounds, see<br />
1<br />
In their original petition brief, Petitioners cited cases holding that failure-to-file<br />
exceptions to Code limitations provisions did not apply to cases w<strong>here</strong> the taxpayer submitted the<br />
incorrect tax form, but still gave the IRS all the data it needed to assess the tax. See, e.g.,<br />
Germantown Trust Co. v. Comm’r of Internal Revenue, 309 U.S. 304 (1940); Standard Office<br />
Bldg. Corp. v. United States, 819 F.2d 1371 (7th Cir. 1987). Yet, neither case addressed whether<br />
the failure to file tax returns with both the United States and the Virgin Islands, as required by<br />
IRC § 932(a), constituted a failure-to-file exception to the statute of limitations, as opposed to a<br />
wrong-form filing, which is not exempted from the limitations period. More importantly,<br />
though, these cases dealt with a tax assessment, not an IRS summons, which is issued during the<br />
investigative phase prior to a tax assessment. Even if the failure-to-file exception was<br />
categorically not applicable to Petitioners’ failure to file U.S. tax returns, the other two<br />
exceptions might still apply, if the IRS found that Petitioners filed a false return or willfully<br />
attempted to evade tax liability. As noted above, at this stage—a petition to quash an IRS<br />
subpoena—this Court need not consider the merits of Petitioners’ statute of limitations defense;<br />
this Court need only determine whether the IRS has a legitimate investigatory purpose. Under<br />
these circumstances, the Court cannot say that these cases or the IRC statute of limitations<br />
demonstrates that the IRS does not have a legitimate investigation purpose to issue these<br />
summonses.<br />
6<br />
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Rockwell, 897 F.2d at 1262. However, the Court notes that the R&R properly acknowledged this<br />
rule, even though it did not cite a Third Circuit precedent. (See R&R at 7 (noting that, after the<br />
Government has made its Powell showing, “the burden shifts to the party contesting the<br />
enforcement of the summons to disprove one of the [Powell] elements . . . or demonstrate to the<br />
Court that enforcement of the Summonses would constitute an abuse of the court’s process”)<br />
(citations omitted).) Thus, Petitioners’ objection is not that Magistrate Judge Arpert applied an<br />
incorrect legal standard, but that he did not articulate reasons for rejecting their abuse-of-process<br />
arguments. The R&R does not expressly address the abuse-of-process arguments. However,<br />
because this Court exercises de novo review, this does not require granting Petitioners the relief<br />
sought, but rather requires this Court to address the issue.<br />
3. Institutional Bad Faith<br />
Petitioners argue that the IRS’s policies with regard to investigating the returns of Virgin<br />
Islands residents are arbitrary and unconstitutional, and t<strong>here</strong>fore, that enforcement of these<br />
summonses would result in an abuse of process. Specifically, Petitioners challenge the statute-<br />
of-limitations policies adopted by IRS Notices 2007-19 and 2007-31. The former provided an<br />
interim rule that, for U.S. citizens and residents claiming to be bona fide residents of the Virgin<br />
Islands, the filing of a tax return with the Virgin Islands will start the federal statute of limitations<br />
if the taxpayer had a gross income of less than $75,000. Notice 2007-19, available at<br />
www.irs.gov. The latter amended Notice 2007-19 for taxable years 2006 and later, such that the<br />
filing of a tax return with the Virgin Islands started the federal statute of limitations for all U.S.<br />
citizens and residents claiming to be bona fide residents of the Virgin Islands, regardless of the<br />
taxpayer’s income. Notice 2007-31, available at www.irs.gov. Petitioners contend that these<br />
7<br />
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policies demonstrate violations of the equal protection component of the Fifth Amendment’s Due<br />
Process Clause, see Bolling v. Sharpe, 347 U.S. 497 (1954), because they discriminated against<br />
certain taxpayers on the basis of residency and income level. Furthermore, Petitioners note that<br />
criticisms of these policies appearing in a 2009 report by the IRS Taxpayer Advocate<br />
demonstrates the IRS’s institutional bad faith in conducting investigations of the tax returns of<br />
Virgin Islands residents. (See Petition Ex. E, Taxpayer Advocate Service, 2009 Annual Report<br />
to Congress, Vol. I, Legislative Recommendation No. 10 (<strong>here</strong>inafter “TAS Report”).)<br />
Specifically, Petitioners point to the following statements made in the report: that “the IRS has<br />
singled out a small group of USVI taxpayers for special treatment—the very types of high<br />
income taxpayers that federal tax incentives are seeking to attract to the USVI—by effectively<br />
eliminating the [statute of limitations] applicable to them but not the [statute of limitations]<br />
applicable to other similarly situated taxpayers”; that “the IRS has, without legislation, upset<br />
longstanding expectations by singling out for special treatment those taxpayers with gross<br />
incomes of more than $75,000 who are claiming USVI residency”; and that “[t]he IRS’s repeated<br />
failure to provide . . . information [regarding USVI cases] to [the Taxpayer Advocate Service], an<br />
entity designed by Congress to protect taxpayer rights, is cause for concern.” See TAS Report at<br />
391–92, 397, 399. “At some point,” Petitioners argue, “a court must take a hard look at the<br />
actions of the IRS to ascertain whether the IRS has or is acting in good faith.” (Pet’r’s<br />
Objections at 11.)<br />
Petitioners have not persuaded the Court that the IRS acted in bad faith with regard to its<br />
investigation of Petitioners. In considering bad faith under Powell, the Third Circuit has<br />
instructed that “w<strong>here</strong> the taxpayer can prove that the summons is issued solely to harass him, or<br />
8<br />
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to force him to settle a collateral dispute, or that the IRS is acting solely as an<br />
information-gathering agency for other departments, such as the Department of Justice, or the<br />
FBI, the summons will be unenforceable because of the IRS’s bad faith.” Pickel v. United States,<br />
746 F.2d 176,185 (3d Cir. 1984) (reversing district court’s quashing of IRS summons, w<strong>here</strong><br />
petitioners did not present evidence of bad faith) (citations omitted). The Circuit explained in<br />
Rockwell that the good faith inquiry in<strong>here</strong>s in the Powell consideration of a legitimate<br />
investigative purpose, in that “the requirement of legitimate purpose means nothing<br />
more than that the government’s summons must be issued in good faith pursuant to one of the<br />
powers granted under 26 U.S.C. § 7602.” 897 F.2d at 1262. Further, in the context of similar<br />
administrative summonses issued by the SEC, the Circuit has indicated that “non-frivolous<br />
allegations of [abuse of process] do constitute sufficient grounds for further proceedings,<br />
including discovery.” SEC v. Wheeling-Pittsburgh Steel Corp., 648 F.2d 118, 128 (3d Cir. 1981)<br />
(en banc).<br />
Other than the length of the investigation (five years), Petitioners have presented no<br />
evidence that the IRS has conducted its investigation of Petitioners with an improper purpose,<br />
such as harassment. Instead, Petitioners arguments, if correct, would invalidate any IRS<br />
summons issued pursuant to these policies to investigate tax anomalies in the Virgin Islands.<br />
Such a position does not present a non-frivolous claim of abuse-of-process, but challenges the<br />
IRS’s investigatory discretion. Cf. Wheeling-Pittsburgh, 648 F.2d at 127–29 (permitting<br />
discovery on the allegation that a Congressman improperly influenced the SEC’s investigative<br />
process, but noting that the court “w[ould] not countenance judicial interference with agency<br />
decisions to conduct investigations”). The Court finds that Petitioners’ “institutional bad faith”<br />
9<br />
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arguments are premature.<br />
The instant dispute, coming prior to the assessment of any tax penalties, does not involve<br />
a claim that the IRS violated Petitioners’ constitutional or statutory rights. Rather, it involves<br />
Petitioners’ claims that the IRS has exceeded the scope of its investigatory authority under law.<br />
The IRS has asserted a legitimate investigatory purpose—to determine whether or not Mr. Gangi<br />
was a bona fide resident of the Virgin Islands for purposes of determining whether or not he<br />
satisfied his federal income tax liabilities. (See Moss Decl. 3, 14.) As noted above, failure-to-<br />
file and fraudulent filing exceptions to the IRC statute of limitations may apply, and thus the IRC<br />
statute of limitations does not render the IRS’s investigation in this case illegitimate. Should the<br />
IRS ultimately seek to assess tax penalties in the future, Petitioners will then have the<br />
opportunity to assert these constitutional and statutory defenses, and the court will then have the<br />
opportunity to determine whether the IRS’s conduct deprived Petitioners of their constitutional<br />
and statutory rights.<br />
The TSA Report, while a reasonable policy proposal for improving the fairness,<br />
transparency, and efficiency of IRS investigations, does not demonstrate that the IRS has acted in<br />
bad faith by investigating Petitioners’ tax liabilities. Indeed, the TSA Report recognizes the<br />
existing exceptions to the IRC statute of limitations for failure-to-file and fraudulent filings.<br />
TSA Report at 396. Such policy arguments are properly directed towards the political branches<br />
of government. To countenance such a facial challenge to the IRS’s investigatory policies at this<br />
preliminary stage would effectively preclude the IRS from using administrative summonses to<br />
investigate instances of such tax misfeasance (failure-to-file, fraudulent filings) in the Virgin<br />
Islands, and would open the door to judicial management of IRS investigations, whenever a<br />
10<br />
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taxpayer objects to the IRS’s “institutional” bad faith. Such limitations would significantly<br />
hinder the IRS in its legitimate law enforcement functions. The Court finds this prospect<br />
inconsistent with the broad investigatory powers accorded to the IRS by IRC § 7602(a), and the<br />
“summary” nature of enforcement proceedings under Powell, see Rockwell, 897 F.2d at 1264.<br />
Besides the statute of limitations and institutional bad faith arguments, Petitioners do not<br />
contest that the IRS has a legitimate investigative purpose, under the first prong of Powell, to<br />
ascertain whether the taxpayers are bona fide residents of the Virgin Islands. The Government<br />
notes that the IRS has discovered a common tax scheme, w<strong>here</strong>by taxpayers can reduce their tax<br />
liabilities by up to 90% by (a) purporting to become a Virgin Islands resident by establishing<br />
certain contacts with the USVI; (b) purporting to terminate an existing employment relationship<br />
with one’s employer; (c) joining or establishing a business entity in the Virgin Islands; (d) having<br />
that business enter into a contract for the same services with the former employer; (e) continuing<br />
to provide services to the original employer via the new business entity, rather than as an<br />
employee; (f) funneling payment for these services through the new business entity; and (g)<br />
reporting this income on a tax return in the Virgin Islands and claiming tax benefits under the<br />
Virgin Islands’ Economic Development Program (EDP). See IRS Notice 2004-45, available at<br />
www.irs.gov; see also Twin Palms Resort LLC v. United States, Civ. No. 09-61062, unpublished<br />
order in Chambers, at 1–2 (S.D. Fla. Nov. 4, 2009) (Moss Decl. Ex. 100). This Court does not<br />
doubt that the IRS has a legitimate interest in ferreting out such fraudulent returns.<br />
4. Materials Relevant to Legitimate Investigative Purpose<br />
Petitioners next contend that the Government cannot satisfy the second Powell prong,<br />
because the bank records sought in the summonses were not relevant to determining whether or<br />
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not Mr. Gangi was a bona fide resident of the Virgin Islands. Such records are irrelevant,<br />
Petitioners argue, because modern technology permits individuals to maintain bank accounts and<br />
authorize transactions remotely from anyw<strong>here</strong> around the world. This Court disagrees.<br />
Because of the permissive language in IRC § 7602(a), the relevancy threshold under<br />
Powell is not demanding. See IRC § 7602(a)(1) (authorizing the Government to “examine any<br />
books, papers, records, or other data which may be relevant or material to [tax collections<br />
inquiries]” (emphasis added)). Indeed, the Third Circuit has recognized that IRC § 7602(a) sets a<br />
“rather liberal standard of relevance” that permits the Government to obtain “information that has<br />
only ‘potential relevance’ to the investigation.” Rockwell, 897 F.2d at 1263 (quoting United<br />
States v. Arthur Young & Co., 465 U.S. 805, 814 (1984)). Although the Court recognizes the<br />
conveniences of modern technology, the Court cannot categorically say that bank records have no<br />
relevance to a consideration of residency. See accord Twin Palms, Civ. No. 09-61062,<br />
unpublished order in Chambers, at 9; cf. Vazquez v. C.I.R., T.C. Memo. 1993-368, 1993 WL<br />
315404, at *4 (T.C. Aug. 19, 1993) (considering taxpayer’s Puerto Rican bank account, in<br />
determining that he was a bona fide resident of Puerto Rico for tax purposes).<br />
5. Non-Compliance With IRC § 7602(c)’s Advance Notice Requirement<br />
Finally, Petitioners object that the R&R summarily rejected their position with regard to<br />
the fourth prong of the Powell test, compliance with applicable administrative procedures under<br />
the IRC. Petitioners contend that the administrative summonses themselves revealed that the IRS<br />
failed to give the advance notice required by IRC § 7602(c), and that Magistrate Judge Arpert<br />
improperly relied on the declaration of Agent Moss, which stated that the IRS had complied with<br />
all applicable administrative procedures under the IRC during this investigation. (See Moss<br />
12<br />
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Decl. 13.) By Letter Orders of October 5th and 28th, the Court permitted limited discovery and<br />
supplemental briefing regarding the Government’s compliance with IRC § 7602(c), and the<br />
parties timely filed responsive submissions.<br />
Petitioner Frank Gangi filed an affidavit attesting to the following facts: (i) that he was<br />
the sole owner of Petitioners BABP VI, LLC (“BABP”) and Ferrous Miner Holdings, Ltd.<br />
(“Ferrous Miner”); (ii) that the Law Office of Marjorie Roberts, P.C. (the registered agent of<br />
BABP) received correspondence from Agent Moss on or about February 2, 2010, which<br />
contained IRS Form 4564, Publication 1, and Publication 3498; (iii) that the February 2, 2010<br />
correspondence was the first correspondence he received that indicated that BABP was under<br />
examination by the IRS; (iv) that he received similar correspondence from Agent Moss with<br />
respect to the IRS’s investigation of Ferrous Miner on or about February 3, 2010; and (v) that the<br />
February 3 correspondence was the first correspondence he received that indicated that Ferrous<br />
Miner was under investigation by the IRS. (Gangi. Aff.) The Government responded with the<br />
Declaration of IRS Agent William Everett, whose review of IRS records revealed that the IRS<br />
sent a Letter 3164 to Mr. Gangi on December 19, 2005, that advised him that the IRS may<br />
contact third parties in connection with its investigation of his federal tax liabilities. (Everett<br />
Decl. & Ex. 102 (Letter of December 19, 2005, Form 3164.) The Government argues that this<br />
advance notice to Mr. Gangi satisfies IRC § 7602, and that the subsequent notice to BABP and<br />
Ferrous Miner was sufficient under IRC § 7609(a)(1), which permits contemporaneous notice,<br />
within three days, to “any person (other than the person summoned) who is identified in the<br />
summons.” (Doc. No. 21, Gov’t Supp. Br. at 2.) Given the opportunity to reply, Petitioners did<br />
not deny that Mr. Gangi received advance notice of third-party contact, but respond that IRC<br />
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§ 7602(c) required advance notice to BABP and Ferrous Miner as well, because the IRS<br />
summonses sought documents concerning these entities too.<br />
IRC § 7602(c) provides in pertinent part:<br />
An officer or employee of the Internal Revenue Service may not contact<br />
any person other than the taxpayer with respect to the determination or<br />
collection of the tax liability of such taxpayer without providing<br />
reasonable notice in advance to the taxpayer that contacts with persons<br />
other than the taxpayer may be made.<br />
The Government has provided competent evidence, and Petitioners do not dispute, that the IRS<br />
gave advance notice to Mr. Gangi prior to contacting third parties “with respect to the<br />
determination or collection of the tax liability of such taxpayer.” Thus, IRC § 7602(c) does not<br />
preclude enforcement of the summonses as against Mr. Gangi. However, because the<br />
summonses also sought documents concerning Mr. Gangi’s wholly-owned businesses BABP and<br />
Ferrous Miner, the question remains whether IRC § 7602(c) required the IRS to provide separate<br />
advance notice to Petitioners BABP and Ferrous Miner prior to contacting third parties.<br />
The Government argues that advance notice was not required, but rather that<br />
2<br />
contemporaneous notice under IRC § 7609 sufficed, because BABP and Ferrous Miner were not<br />
the “taxpayers” under investigation, as reflected by the caption on the summons, which indicated<br />
that the summonses were issued “In the matter of United States Income Tax Liability of Frank<br />
Gangi.” This response is not entirely satisfactory, because, as Petitioners note, BABP and<br />
Ferrous Miner both received notices contemporaneous with the first, CitiBank summons<br />
2<br />
IRC § 7609 permits contemporaneous notice (within three days of service of summons,<br />
so long as the date of service is not more than 23 days before the date of production) to “any<br />
person” who “is identified in the summons,” if the summons requires the submission of evidence<br />
relating to that person.<br />
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(February 2, February 3) that they were under investigation for their tax liability for tax years<br />
2000–2004. (See Compl. Exs. C, D.) The Government also cites Thompson v. United States,<br />
2008 WL 4279474 (S.D. Tex. Sept. 11, 2008) for the proposition that a taxpayer’s controlled<br />
3<br />
business entities need not receive advance notice, but this case does not appear to address the<br />
notice required by IRC §7602(c) for a taxpayer’s wholly-owned corporations, w<strong>here</strong> those<br />
corporations were also “taxpayers” under investigation. See id. at *6–7 (addressing taxpayer’s<br />
argument that he had not received sufficient advance notice of third-party contact, and noting that<br />
the IRS complied with the notice requirements of IRC § 7609).<br />
The Court is not persuaded that contemporaneous notice of Ferrous Miner and BABP<br />
under IRC § 7609 suffices, because Ferrous Miner and BABP are currently “taxpayers” under<br />
investigation, and the summonses sought documents from third-parties that would be relevant to<br />
an assessment of their tax liabilities. One of the motivating purposes for IRC § 7602(c) was<br />
Congress’s concern that IRS contacts with third-parties “may have a chilling effect on the<br />
taxpayer’s business and could damage the taxpayer’s reputation in the community. Accordingly,<br />
. . . taxpayers should have the opportunity to resolve issues and volunteer information before the<br />
IRS contacts third parties.” S. Rep. No. 105-174, at 77 (1998); see also United States v. Jillson,<br />
No. 99-Civ-14223, 1999 WL 1249414, at *3 (S.D. Fla. Oct. 28, 1999). To permit advance<br />
notice of one taxpayer to satisfy the advance-notice requirements with regard to other taxpayers<br />
under investigation, even w<strong>here</strong> those taxpayers are entities wholly-owned by the taxpayer under<br />
3<br />
The Government also cites Phillips v. United States, 178 F.3d 1295 (6th Cir. 1999) (per<br />
curiam, unpublished decision), for this proposition, but this case did not consider the effect of the<br />
recently-passed advance-notice requirement, see Pub.L. No. 105-206, § 3417, 112 Stat. 685, 757<br />
(1998), now codified at IRC § 7602(c).<br />
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investigation, would undercut the public policy advanced by IRC § 7602(c). The failure to<br />
provide the advance notice required by IRC § 7602(c) defeats the fourth prong of the Powell test,<br />
and precludes enforcement of the summonses in a manner that would reveal information<br />
regarding against Ferrous Miner and BABP. See Jillson, 1999 WL 1249414, at *3 (quashing IRS<br />
summons w<strong>here</strong> corporation did not receive advance notice under IRC § 7602(c) before IRS<br />
issued summonses upon the corporations officers).<br />
However, the IRS’s failure to provide advance notice to these legal entities does not<br />
evince bad faith so as to render the summonses void in their entirety. As noted above, the IRS<br />
gave advance notice of third-party contact to Mr. Gangi. The Court will grant Petitioners’<br />
motion to quash in part and excise the portion of the summonses seeking information concerning<br />
4<br />
Ferrous Miner and BABP. The Court notes that the Government has already received the<br />
documents requested by the CitiBank summons and placed them under seal, pending the Court’s<br />
consideration of this petition. (See Doc. 19.) The Court will order the Government to separate<br />
documents relating to Ferrous Miner and BABP’s accounts and business transactions, in the<br />
presence of Petitioners’ representative, for either destruction or return to CitiBank; in the<br />
alternative, the Government may dispose of the documents and issue a new summons upon<br />
CitiBank seeking documents concerning Mr. Gangi’s personal accounts and transactions. With<br />
regard to the Sovereign Bank summons, the Court will enforce the summons only to the extent<br />
that it seeks documents concerning Mr. Gangi’s personal accounts with that institution.<br />
4<br />
The Court notes that the parties’ supplemental submissions did not address the notice, if<br />
any, provided to Petitioner Global Naps, Inc. Because the summonses sought information<br />
concerning this Petitioner as well, the summonses shall be quashed as to this entity, too, if it was<br />
not provided with advance notice under IRC § 7602(c).<br />
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Sovereign Bank may withhold documents relating to Ferrous Miner and BABP. The IRS may<br />
issue further summonses seeking information about Ferrous Miner and BABP after providing<br />
advance notice to these entities consistent with IRC § 7602(c).<br />
Conclusion<br />
Having conducted de novo review and determined that the summonses satisfy the Powell<br />
standard, to the extent that they seek information regarding Petitioner Gangi, the Court will adopt<br />
Magistrate Judge Arpert’s Report and Recommendation with modifications, and the Court will<br />
grant the Government’s motion to enforce in part (Doc. No. 4). Because the Court finds that the<br />
IRS did not comply with the administrative requirements of the Internal Revenue Code with<br />
respect to Petitioners Ferrous Miner and BABP, the Court will grant the petitions to quash (Doc.<br />
Nos. 1, 5) in part and require the Government to comply with the advance-notice requirements of<br />
IRC § 7602(c) as described above. The portion of the R&R finding no violation of the IRC<br />
statute of limitations will be vacated. An appropriate form of Order accompanies this<br />
Memorandum Opinion.<br />
Dated: January 7, 2011<br />
17<br />
/s/ Garrett E. Brown, Jr.<br />
GARRETT E. BROWN, JR., U.S.D.J.<br />
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