Chief Counsel Advice 200220026, March 28, 2002
CCH IRS Letter Rulings Report No. 1316, 05-22-02
IRS REF : Symbol: CC:PA:CBS:Br2-GL-129835-01

Uniform Issue List Information:

UIL No. 17.32.00-00

Assessment authority

- Compromises

UIL No. 9999.98-00

Miscellaneous issues

- Not able to identify under present list

[Code Sec. 6201 and 7122 ]

MEMORANDUM FOR ASSOCIATE AREA COUNSEL, SB/SE:7 ( SACRAMENTO )

FROM: Michael L. Gompertz, Senior Technician Reviewer, Branch 2 (Collection, Bankruptcy & Summonses)

SUBJECT: Advisory Opinion-Offer in compromise on behalf of minor child

This memorandum responds to a request for advice. You have asked us to review your memorandum to an SB/SE Group Manager discussing the circumstances under which a minor or his or her parent may sign and submit an offer in compromise of the minor's tax liability. In accordance with I.R.C. §6110(k)(3) , this Chief Counsel Advice should not be cited as precedent. This writing may contain privileged information.

ISSUES

1. Is a minor child legally bound by a compromise agreement that the child enters into with the Internal Revenue Service under section 7122 of the Internal Revenue Code?

2. Is a minor child legally bound by a compromise agreement signed on behalf of the child by a parent or by the legal guardian of the child's property?

3. May a parent compromise the parent's liability under section 6201(c) of the Internal Revenue Code? Would such a compromise have any effect on the child's liability?

CONCLUSIONS

1. Under generally applicable state law, minors may repudiate, avoid, or disaffirm their contracts. Thus, a section 7122 compromise would not legally bind a minor and we recommend that the Service not enter into compromises with minors.

2. In general, a minor child would have the right to repudiate, avoid, or disasffirm a compromise signed on behalf of the minor child by a parent or other person, including the legal guardian of the minor's property. A parent's or other person's status as legal guardian of a minor's property does not include the capacity to compromise the minor's tax liability. If, however, a state court specifically authorizes a parent or other person to compromise the minor's tax liability, then the compromise could not be repudiated, avoided, or disaffirmed.

3. If the tax liability at issue is attributable to services of the minor, the parent is personally liable for the tax under I.R.C. §6201(c) if the child does not pay the tax. A parent may execute a compromise with respect to the parent's liability; however, the compromise would not impact the child's tax liability.

DISCUSSION

ISSUE 1

The Service's authority to enter into compromises with taxpayers comes from I.R.C §7122 which provides, "The Secretary may compromise any civil or criminal case arising under the internal revenue laws prior to reference to the Department of Justice for prosecution or defense." The Secretary has delegated this authority to the Commissioner, who has then delegated it to various officials throughout the Service. See Delegation Order No. 11.

The regulations pertaining to section 7122 set forth the permissible grounds for offers in compromise, including doubt as to liability, doubt as to collectability, and the promotion of effective tax administration. The regulations further provide that a taxpayer's offer is not accepted "until the IRS issues a written notification of acceptance to the taxpayer." Treas. Reg. §301.7122-1T(d)(1). As a general rule, acceptance of an offer in compromise will conclusively settle the liability of the taxpayer specified in the offer, and under §301.7122-1T(d)(5), neither the taxpayer nor the Government will be permitted to reopen the case unless the taxpayer supplied false information or documents to support the offer, the taxpayer has concealed assets, or a "mutual mistake of material fact sufficient to cause the offer agreement to be reformed or set aside is discovered." Further, any offer in compromise is strictly construed according to requirements set out in section 7122 and the regulations. See Botany Worsted Mills v. United States, 278 U.S. 282 (1929) [1 USTC ¶348 ]; Klein v. Commissioner, 899 F.2d 1149 (11th Cir. 1990) [90-1 USTC ¶50,251 ]; Bowling v. United States, 510 F.2d 112 (5th Cir. 1975) [75-1 USTC ¶9333 ].

Section 7122 of the Code and the regulations thereunder govern the formation and legal effect of offers in compromise. Also, generally applicable principles of contract law may provide guidance on issues not addressed by section 7122 and the regulations thereunder. See United States v. Feinberg, 372 F.2d 352 (3d Cir. 1965) [67-1 USTC ¶9176 ]; United States v. Lane, 303 F.2d 1 (5th Cir. 1962) [62-1 USTC ¶9467 ]. In recognition of this concern, the Service requires the taxpayer to submit a Form 656 setting forth the essential terms of payment including the tax liabilities covered, and the taxpayer's obligations, including the amount and the time in which the taxpayer has to pay.

We agree with your conclusion that a court may set aside a compromise if the court were to conclude that a party to the compromise lacked the ability to knowingly consent to its terms. Section 12 of the Restatement (second) of Contracts provides, "No one can be bound by contract who has not legal capacity to incur at least voidable contractual duties." The restatement further provides that a natural person manifesting consent has full legal capacity unless he is under a guardianship, an infant, mentally ill, or intoxicated. With certain exceptions, minors have the power of repudiating or disaffirming most contractual obligations. See Farnsworth on Contracts, §4.4 (2d Ed. 2000). Under California law, a person under the age of eighteen is a minor. Cal. Fam. Code §6500.

Neither the Internal Revenue Code nor the Treasury Regulations address a minor's capacity to compromise a tax liability. Nor are we aware of any case law under I.R.C. §7122 addressing the capacity of a minor to compromise a tax liability. Thus, a court would most likely look to state law to resolve this issue.

As you note, Cal. Fam. Code §6700 provides that a minor may contract in the same manner as an adult, subject to the power to disaffirm the contract under Cal. Fam. Code §6710 . Section 6701 provides, however, that a minor cannot give a delegation of power, make a contract relating to real property or an interest therein, or make a contract relating to personal property not in the minor's immediate possession or control. Thus, contracts relating to these transactions are void and need no disaffirmance. See Deason v. Jones, 45 P.2d 1025 ( Cal. App. 1935); Tracy v. Gaudin, 285 P. 720 ( Cal. App. 1930).

Section 6710 provides, "a contract of a minor may be disaffirmed by the minor before majority or within a reasonable time afterwards." An exception is set out in Section 6712 , which provides that a reasonable contract for "necessaries" may not be disaffirmed on the basis of minority. Although the California statute does not list the items which are "necessaries," they are unlikely to include a compromise of federal taxes. The term "necessaries" is narrowly interpreted and generally refers to items of support necessary for human life such as food, clothing, lodging, and medical services.

Thus, under California law, a minor entering into a compromise with the Service would retain a unilateral right to disaffirm the compromise prior to or within a reasonable time after reaching the age of majority. This principle would also apply under the laws of most other states. A compromise agreement with a minor would not serve the Service's policy goal of conclusively settling the tax liability. Thus, we recommend that the Service not enter into compromises with minors. This is consistent with the principle that the Service has broad discretion in deciding whether to accept or reject an offer in compromise and may reject an offer if it determines that compromise is not in the Government's best interest. See Policy Statement P-5-100 ("The ultimate goal is a compromise which is in the best interest of both the taxpayer and the Service.").

ISSUE 2

You raise the issue of whether a parent or other person has the authority to compromise a minor's taxes on his or her behalf. Because section 7122 and the regulations thereunder are silent on this issue, courts would most likely seek guidance from state statutes and generally applicable principles of common law, which Congress presumably intended to apply to offers in compromise.

We are not aware of any generally applicable principle of state law under which a minor child has the power to appoint another person to execute an offer in compromise on the child's behalf. Further, Cal. Fam. Code §6701(a) provides that a minor may not give a delegation of power, and case law interprets any attempt to do so by a minor to be void. See Morgan v. Morgan, 34 Cal. Rptr. 82 (Cal. App. 1963) (holding a minor's attempt to appoint an agent to endorse checks was void). Similarly, the appointment of an agent to enter into a compromise would also be void. See also, Infants, 43 C.J.S. §111 (West 1978) (indicating that under state law a minor cannot absolutely bind himself by the appointment of an agent or attorney; the acts of the agent or attorney under such an appointment are generally voidable by the minor and may be absolutely void). Accordingly, we agree with your conclusion that a parent could not enter into a compromise of a child's tax liability with the Service on the basis of a Form 2848 power of attorney. If, however, a court specifically authorizes the parent or other person to enter into a compromise of a minor child's tax liability, then the parent or other person would by reason of this authorization have the authority to execute the compromise agreement on the child's behalf.

We conclude that a minor child is not absolutely bound by a compromise signed by a parent or other person on the minor's behalf. For this reason, we recommend that the Service not enter into such compromises. Our conclusion that the minor is not absolutely bound applies even if the parent or other person has been appointed legal guardian of the minor's property. A compromise settles the personal liability of the taxpayer in addition to affecting the Service's ability to collect the tax liability from the taxpayer's assets. Therefore, a parent or other person would not have the legal capacity to enter into a compromise on behalf of a child merely because the parent or other person has legal authority to control or dispose of the child's property. The parent's or other person's acts in entering into a compromise on the minor's behalf would most likely be voidable by the minor or, alternatively, these acts may be absolutely void as noted above. In the context of closing agreements, I.R.M. 8.13.1.2.9.1, states that a closing agreement with a minor should be signed by the legal guardian of the minor's property. We note, however, that the I.R.M. does not address the minor's right to disaffirm, void, or repudiate agreements with the Service.

ISSUE 3

Section 6201(c) of the Code provides that any income tax assessed against a child for income under section 73 attributable to services of the child is "considered as having also been properly assessed against the parent" if the tax is not paid. Under section 6201(c) , the parent has a tax liability separate from that of the child. The parent could enter into a compromise of the parent's liability under section 6201(c) , but this would have no impact on child's liability. A compromise binds "the taxpayer specified in the offer" under Treas. Reg. §301.7122-1T(d)(5) and has no effect on a party not named in the offer (in this situation, the minor child).

Accordingly, we recommend you amend your memorandum to address these concerns. If you have any further questions, please contact the attorney assigned to this matter at (202) 622-3620 .

[62-1 USTC ¶9467]United States of America, Appellant v. Robert C. and Dorothy S. Lane, Appellees United States of America, Laurie W. Tomlinson, District Director of Internal Revenue Service, Philip T. McEnery, Revenue Officer, Henry W. McMillian, Chief, Collection Division, and Furman L. Engelo, Revenue Agent, Appellants v. Robert C. Lane, Appellee

(CA-5), U. S. Court of Appeals, 5th Circuit, Nos. 19142, 19143, 303 F2d 1, 5/9/62

[1954 Code Sec. 7122 and 1939 Code Sec. 3761]

Compromises: Default by taxpayer: Revival of original tax liability.--Where the taxpayer failed to file sworn statements of annual income pursuant to the terms of a collateral income agreement which accompanied an agreement for compromise of his tax liability for the years 1947 through 1953, the compromise agreement was breached and the Government was entitled to revive the original tax liability, subject to credit for previous payments made under the compromise agreement. The compromise agreement was a contract and the provisions for revival of original tax liability upon default were clear and unmistakable. Judgment of District Court was reversed. .

Louis F. Oberdorfer, Assistant Attorney General, Lee A. Jackson, I. Henry Kutz, John A. Bailey, Thomas H. McPeters, Department of Justice, Washington 25, D. C., Edward F. Boardman, United States Attorney, Miami, Fla., for appellant. Robert C. Lane, Huntington Bldg., Curtiss B. Hamilton, Miami, Fla., for appellee.

Before TUTTLE, Chief Judge, and JONES and BELL, Circuit Judges.

TUTTLE, Chief Judge:

The primary issue on this appeal is whether the Government can revive the original income tax liability of a taxpayer who has breached a compromise agreement covering the liability. The District Court resolved this question adversely to the Government. We reverse.

The facts giving rise to this controversy are undisputed. During 1954 and 1955, the taxpayer, Robert C. Lane, ¹ made offers to representatives of the Commissioner of Internal Revenue in compromise of his outstanding income tax liability for the years 1947, 1948, 1949, 1952 and 1953. The indebtedness, amounting to $54,253.69, arose from the taxpayer's failure to pay liabilities disclosed on his returns and was not attributable to any deficiency assessment. Liability for this indebtedness was not contested by the taxpayer, negotiations at all times being based on his financial inability to pay.

On December 2, 19 55, the taxpayer was notified by letter from the office of the Commissioner that his previously submitted offer in compromise, the terms of which were contained in two documents, was accepted upon the terms proposed. Part of the taxpayer's offer in compromise was submitted on standard Treasury Form 656-C, a document entitled "Offer in Compromise (Deferred Installment Payments)", and provided for the payment by the taxpayer of $29,816.78 as follows:

"$2500.00 remitted with this Offer and; Balance payable $400.00 per month until paid in full. Installments to begin on the 1st day of month following notification of acceptance of offer."

This document also contained the following provision:

"As part of this offer, it is agreed that upon notice to the proponent of the acceptance of this offer in compromise of the liability aforesaid, the proponent shall have no right, in the event of default in the payment of any installment of principal or interest due under the terms of the offer, to contest in court or otherwise the amount of the liability sought to be compromised, and that in the event of such default the Commissioner of Internal Revenue, at his option, (1) may proceed immediately by suit to collect the entire unpaid balance of the offer, or (2) may disregard the amount of such offer and apply all amounts previously paid thereunder against the amount of the liability sought to be compromised and may, without further notice of any kind, assess and/or collect by distraint or suit (the restrictions against assessment and/or collection being hereby specifically waived) the balance of such liability." (Italics added).

The second document making up the compromise agreement was a so-called "collateral income agreement". This document recited that its purpose was "to offer additional consideration for the acceptance of the offer in compromise." In addition to the sum of $29,816.78 mentioned above, the collateral income agreement obligated the taxpayer to make annual payments, from 1955 through 1967, based upon a graduated percentage of "Annual Income" in excess of $15,000, the term "Annual Income" being expressly defined in the agreement. Although by the terms of the collateral agreement the taxpayer would not be liable for any annual payments unless his income exceeded $15,000, he was required to furnish the District Director of Internal Revenue with an annual statement of his income for the preceding calendar year regardless of the amount. The annual payments were to be paid to the District Director on or before the fifteenth day of the fourth month next following the close of the calendar year and were to be accompanied by a sworn statement of annual income. The collateral agreement expressly stated:

"That the default agreement and the waiver of the statute of limitations on assessment and collection as contained in the printed Form 656-C are also applicable in the event any provision of this collateral agreement is not carried out in accordance with its terms."

On March 22, 19 56, the District Director requested the taxpayer, by letter, to furnish a sworn statement of annual income for 1955, and cautioned him that failure to comply could result in an action to collect the full amount of the liability sought to be compromised. The taxpayer did not comply with this request. However, on May 8, 19 56, the taxpayer delivered to the Internal Revenue Service a cashier's check for $26,008.36, thereby satisfying his installment obligations under the main agreement. Certificates of Release of Federal Tax Lien were delivered to the taxpayer and were filed on May 9, 19 56, discharging the liens of record. There was no suggestion in any, of the correspondence exchanged with regard to the cashier's check that the obligations contained in the collateral agreement were to be affected in any way.

On May 29, 19 56, another letter was written to the taxpayer calling his attention to the earlier request of March 22, 19 56 that he furnish a sworn statement of annual income for 1955. In answer, the taxpayer's accountant replied that the audit for 1955 was incomplete and, therefore, that annual income could not be computed. On July 11, 19 56, about three months after the annual payment for 1955 was due to be paid and the sowrn statement of income due to be filed, the taxpayer wrote the District Director, claiming for the first time that he had terminated all liability to the Government with the cashier's check of May 8, 19 56. Further correspondence was exchanged and conferences were held, the taxpayer insisting at all times that he had no further liability and the Internal Revenue Service insisting to the contrary.

The taxpayer likewise refused to make an annual payment and file a sworn statement of income for 1956. As a result, the Commissioner, on November 5, 19 57, notified the taxpayer that the compromise agreement was terminated and that the balance of the original tax liability would be declared due, with credit to be applied in reduction of the balance for payments previously made. Shortly thereafter, tax liens covering uncomputed accrual and unsatisfied assessments were filed against the taxpayer.

On October 29, 19 58, the taxpayer filed a complaint against the United States, the District Director and the two other employees of the Internal Revenue Service, seeking to enjoin the collection of any taxes or interest based upon the reasserted liens. The Government filed an answer to the complaint and, on March 16, 19 59, the Government commenced its own action against the taxpayer seeking to recover the unpaid balance of the taxpayer's original tax liability plus interest. The amount claimed was $31,326.

The two cases were consolidated for trial. The taxpayer contended (1) that his tax liability was completely satisfied with the cashier's check of May 8, 19 56 and (2) that, if his liability was not completely satisfied by the payment on May 8, 19 56, his only remaining liability was for the annual payments due at the time of trial and not for the unpaid balance of the original tax liability.

The first issue was submitted to the jury, which found that the cashier's check did not terminate the taxpayer's liability under the collateral agreement. The taxpayer has not appealed this finding, and thus it is not at issue here. On the other hand, the District Court agreed with the taxpayer that the Government's recovery was limited to the total amount of annual payments due and owing at the time of trial and that the Government was not entitled to recover the unpaid balance of the original tax liability. The jury then determined that the total amount due the Government under the District Court's ruling was $6,554.90. The Court entered judgment for that amount in favor of the Government but directed the Government to discharge the liens which had been reasserted against the taxpayer.

The District Court reasoned as follows in holding that the Government could not recover the unpaid balance of the taxpayer's original liability:

"When a man settles with the government on the basis of a reduced amount, if he doesn't carry out this compromise settlement, he is merely liable for not carrying it out; and this is a breach of contract for the purpose in [sic] the measure of what damages would be.

"We are telling them now [i. e. the jurors] that this would be the difference between what he should have paid under his settlement agreement and what he didn't pay, to live up to that settlement agreement.

"I rule that the taxpayer can't be pushed back for years and years and after a settlement is made and have a forfeiture so to speak, of everything he paid in under that settlement agreement.

"Of course, while I know that we are not always dealing in equity in tax cases, still it is always fundamental with this Judge that he is trying to do justice among all the parties and under all the circumstances of the case. Whether he breached the contract or whether he didn't--if he did breach it, it is a difference as to what he should have paid under the settlement agreement and what he should have done and what he had actually done; so if I am wrong, the Court of Appeals or the Supreme Court can decide otherwise."

It has long been settled that an agreement compromising unpaid taxes is a contract and, consequently, that it is governed by the rules applicable to contracts generally. Walker v. Alamo Foods Co., 5 Cir., [1 USTC ¶207] 16 F. 2d 694. The cardinal rule of contract construction "is to ascertain the intention of the contracting parties and to give effect to that intention if it can be done consistently with legal principles." Jacksonville Terminal Co. v. Railway Express Agency, 5 Cir., 296 F. 2d 256, 259.

In the present case, the contracting parties expressed their mutual intention in clear and unmistakable terms. The collateral agreement specifically stated that the default provisions of the main agreement on Form 656-C were to be applicable should the taxpayer fail to perform his obligations with respect to the making of annual payments and filing of sworn statements of annual income. Form 656-C, in turn, expressly provided that the Commissioner, upon default by the taxpayer, could terminate the compromise agreement and proceed to collect the unpaid balance of the original tax liability. This language is so precise, and the intention which it manifests is so evident, as to leave no doubt that the course of action taken by the Government here was fully authorized by the compromise agreement.

There was nothing illegal, immoral or inequitable in the compromise agreement. It did not provide for any "forfeiture". By express provision, the amounts to be paid under the compromise agreement, including both the Form 656-C and the collateral agreement, could not exceed the aggregate amount which the taxpayer conceded that he owed the Government from the start. By allowing the Government to revive the taxpayer's original liability, the taxpayer will not forfeit the amounts he has already paid, for those amounts will be applied to reduce the original liability. The agreement was precise, it was fair, and it was freely consented to by the taxpayer. There is no reason why it should not be enforced as written.

Nor can we discern any sound reason for refusing to allow the Government to reinstate its tax liens against the taxpayer upon revival of the taxpayer's original liability. We think that the Commissioner's undoubted right to recover the unpaid balance of the original liability carried with it the right to secure payment of this amount by reasserting the tax liens. Section 6325(d) of the Internal Revenue Code of 1954 does not require a contrary conclusion. That section merely provides that a certificate of discharge of a tax lien is conclusive that the lien upon the property covered by the property is extinguished. The Government does not contend that the liens on the taxpayer's property were not extinguished when certificates of discharge were issued to the taxpayer in May, 1956. It claims merely that the liens could be revived upon revival of the obligation on which the liens were based. The Government's right to recover the unpaid balance of the original liability would be illusory indeed, if it was not also entitled to the security which the tax liens represented.

The judgment is REVERSED and the cause is REMANDED to the District Court for further proceedings not inconsistent with this opinion.

¹ Robert C. Lane will hereafter be referred to as the "taxpayer" although his wife, Dorothy C. Lane, joined with him in filing returns for certain of the taxable years in question.

[75-1 USTC ¶9333]Lawrence E. Bowling, Plaintiff-Appellant v. United States of America, Defendant-Appellee

(CA-5), United States Court of Appeals, 5th Circuit, No. 74-1413, 510 F2d 112, 3/21/75 , Affirming District Court, 73-2 USTC ¶9711

[Code Secs. 61, 6212, 7121 and 7122]

Compromises: Satisfaction and accord: Who is the taxpayer: Community property state: Part payment.--The district court's conclusion, that taxpayer-residents of a community property state were obligated to report one-half of the community income for Federal tax purposes, was sustained on appeal. The court rejected the taxpayer's argument that the government was estopped from asserting its deficiency claim since he had made a partial payment of the deficiency at a district conference. Because the law provides the exclusive method for compromising tax claims, no theory founded on general concepts of accord and satisfaction can be used to impute a compromise settlement. BACK REFERENCES: 75 FED ¶325.229, 75 FED ¶325.487, 75 FED ¶5319.09 and 75 FED ¶5697.168.

Lawrence E. Bowling, pro se. Frank D. McCown, United States Attorney, Ft. Worth, Tex., William W. Guild, Assistant United States Attorney, Dallas, Tex., Scott P. Crampton, Assistant Attorney General Meyer Rothwacks, Gary R. Allen, Libero Marinelli, Jr., Ernest J. Brown, Myron C. Baum, Department of Justice, Washington, D. C. 20530, for defendant-appellee.

Before BELL, THORNBERRY and GEE, Circuit Judges.

PER CURIAM:

This is an appeal from a judgment sustaining an Internal Revenue Service determination of appellant's tax liability for the years 1962 and 1964. The district court held that in a community property state each spouse must report and has federal income tax liability on one half of the community earnings. We affirm.

Appellant and his wife were residents of Texas during the period in question. They filed separate returns, each claiming his or her own income and tax credits. A mathematical deficiency was assessed because of this procedure. Also, certain deductions for travel expenses and dependence were disallowed and a separate statutory deficiency was assessed on these grounds. This statutory deficiency was discussed at a district office conference and payment was accepted for the amount agreed upon. Appellant contends that it is not mandatory that he and his wife each report one half of the community income. Further he argues that even if it were mandatory the government is now estopped from asserting that claim because of the acceptance of payment for the statutory deficiency for the same period. We reject both these arguments.

Under the laws of Texas each spouse has a vested interest in and is owner of half of the community property and is therefore liable for federal income taxes on such a share. Lange v. Phinney, 5 Cir., 1975, [75-1 USTC ¶9230] 507 F. 2d 1000. There is therefore the "obligation, not merely the right, to report half the community income." United States v. Mitchell, 1971, [71-1 USTC ¶9451] 403 U. S. 190, 196, 91 S. Ct. 1763, 1767, 29 L. Ed. 2d 406, 412.

As to appellant's estoppel argument, the provisions for compromising tax cases are found in §§ 7121 and 7122 of the Internal Revenue Code. These provisions are exclusive and strictly construed. See Botany Worsted Mills v. United States, 1928, [1 USTC ¶348] 278 U. S. 282, 49 S. Ct. 129, 73 L. Ed. 379. Because of this exclusive method, no theory founded upon general concepts of accord and satisfaction can be used to impute a compromise settlement, Moskowitz v. United States, [61-1 USTC ¶9204] 285 F. 2d 451, 453, 152 Ct. Cl. 412 (1961), and therefore none resulted from the government's acceptance and cashing of appellant's check. Hughson v. United States, 9 Cir., 1932, [1932 CCH ¶9298] 59 F. 2d 17, 19, cert. den., 1932, 287 U. S. 630, 53 S. Ct. 82, 77 L. Ed. 546.

The additional assignments of error have been considered and are without merit.

Affirmed.

 

[90-1 USTC ¶50,251] William Randolph Klein, Petitioner-Appellant v. Commissioner of Internal Revenue, Respondent-Appellee

(CA-11), U.S. Court of Appeals, 11th Circuit, 89-3189, 5/1/90, 899 F2d 1149, 899 F2d 1149. Affirming an unreported Tax Court decision

[Code Secs. 6404 and 7121 ]

Abatements: Jurisdiction: Closing agreements: Unauthorized.--The Tax Court lacked jurisdiction to adjudicate the taxpayer's premature abatement of interest claim where there had as yet been no IRS interest assessment. Furthermore, the IRS did not enter into a binding closing agreement to settle the taxpayer's tax liabilities. The IRS letter to the taxpayer, which incorporated an apparent conditional offer to settle, was sent by an unauthorized agent. In addition, the taxpayer never attempted to fulfill the prerequisite conditions. The taxpayer's two letters to the IRS did not constitute a settlement agreement either, because these letters were not signed by both parties.

[Tax Court Rules 40 and 104 ]

Tax Court: Motions: Sanctions.--The Tax Court properly converted the IRS 's motion to dismiss into one for partial summary judgment where the taxpayer had adequate notice that the court might recharacterize the motion and where the court possessed sufficient evidence to decide the issues on summary judgment grounds. Sanctions were correctly imposed where the taxpayer failed to comply with a court order to produce certain evidentiary documents. BACK REFERENCES: 90 FED ¶42,900.25 and 90 FED ¶42,964.20

William Randolph Klein, 1800 Second St., Sarasota, Fla. 34236, pro se. J. Michael Melvin, Assistant District Counsel, Jacksonville, Fla. 32202. Peter K. Scott, Internal Revenue Service, Washington, D.C. 20224, James I.K. Knapp, Acting Assistant Attorney General, Michael J. Paup, Deputy Assistant Attorney General, Gary R. Allen, Michael J. Roach, Department of Justice, Washington, D.C. 20530, for respondent-appellee.

Before KRAVITCH and CLARK, Circuit Judges, and ATKINS ^*, Senior District Judge.

ATKINS, Senior District Judge:

Appellant, William Randolph Klein, pro se, appeals from a decision by the United States Tax Court granting partial summary judgment in favor of the Commissioner of Internal Revenue. The Tax Court determined that there were deficiencies in the appellant's income in the taxable years 1979 and 1980 in connection with the appellant's participation in two tax shelters, Cowen Associates and Clay Properties. The Tax Court held that a binding agreement to settle was not present and the Court had no jurisdiction over the appellant's claim for an abatement, under Section 6404(e) of the Internal Revenue Code. We affirm and also find that the Tax Court correctly disposed of the motion as one of partial summary judgment and correctly imposed sanctions on the taxpayer under Rule 104 of the Tax Court Rules of Practice and Procedure.

I.

On December 13, 1985 , taxpayer/appellant, William Randolph Klein, filed a pro se petition in the United States Tax Court seeking redetermination of the deficiencies set forth in the Commissioner's notice of deficiency dated September 12, 1985 . Among the issues was the Commissioner's disallowance of losses generated by appellant's participation in two tax shelters, Cowen Associates and Clay Properties. On November 28, 1986 , counsel for the Commissioner sent the appellant a letter requesting the production of any and all proof of cash payments made by the appellant relating to his participation in the tax shelters. The appellant did not respond to this request or other informal requests made by the Commissioner's counsel. The Commissioner subsequently moved the Tax Court to compel production of documents concerning the tax shelters and on January 21, 1987 , the Tax Court granted the motion and directed the appellant to produce the documents. The appellant continually failed to make full production of the documents and on June 15, 1987 , the Tax Court granted the Commissioner's motion to impose sanctions pursuant to Rule 104 of the Tax Court Rules of Practice and Procedure. The Tax Court also imposed sanctions prohibiting the appellant from introducing into evidence at trial any document that would show the payment, either by cash or by check, of any amount that he had allegedly invested in Cowen Associates and/or Clay Properties.

On April 13, 1987 , by leave of court, the Commissioner filed an amended answer asserting that the notice of deficiency had inadvertently failed to disallow a loss in the amount of $36,668, which the appellant claimed in 1980 with respect to his investment in the Cowen Associates tax shelter. On September 13, 1988 , the appellant filed an amended petition by leave of court in which he asserted that the Commissioner's disallowance of the $36,668 loss claimed on his 1980 return, which resulted in the Commissioner's determination of an increased deficiency for 1980, breached a "settlement" that he had previously reached with the Commissioner with respect to the tax shelter issues. The appellant also argued in the amended petition, that in the alternative, if the increased deficiency were to be upheld, he was entitled to an abatement of interest under Section 6404(e) of the Internal Revenue Code.

On or about October 14, 1988 , the parties entered into a stipulation in which the appellant conceded the disallowance of the loss of $36,668, subject, however, to the appellant's reserving the right to litigate his contention that a "settlement" had occurred. The appellant also reserved the right to litigate his claim that, if the $36,668 loss were disallowed, he would be entitled under Section 6404(e) of the Internal Revenue Code to an abatement of interest that would otherwise accrue on that deficiency. ¹ Concurrently, the Commissioner filed a motion to dismiss those two remaining issues for failure to state a claim upon which relief could be granted. The appellant opposed the motion and the Tax Court scheduled the motion for oral argument on December 1, 1988 .

The Commissioner submitted a memorandum of law on November 28, 1988 asserting that the issues before the Tax Court can be decided as a matter of law. In opposition, appellant Klein submitted his memorandum of law on November 30, 1988 which included matters outside the pleadings. ² On December 1, 1988 , the Tax Court heard oral argument on these issues and on the same day entered an order recharacterizing the motion as one of partial summary judgment and granting the motion in favor of the Commissioner. The December 1, 1988 Order also directed the parties to submit an agreed decision document on or before February 2, 1989 based upon the Stipulation of Settlement filed on October 10, 1988 . Accordingly, the parties submitted an agreed decision document to the Tax Court, which the Tax Court entered on February 14, 1989 . The appellant appeals from that decision.

II.

A. CONVERSION OF THE MOTION TO ONE OF PARTIAL SUMMARY JUDGMENT

The first issue is whether the Tax Court's conversion of the Commissioner's motion to dismiss to one of partial summary judgment was appropriate. Tax Court Rule 40 provides that a motion asserting failure to state a claim upon which relief can be granted shall be treated as one for summary judgment and disposed of as provided in Rule 121, if matters outside the pleadings are to be presented. Summary Judgment pursuant to Tax Court Rule 121 is derived from Rule 56 of the Federal Rules of Civil Procedure and is interpreted consistently with interpretations of Rule 56. Long v. Commissioner of Internal Revenue [85-1 USTC ¶9288 ], 757 F.2d 957 (8th Cir. 1985) (citing Abramo v. Commissioner [CCH Dec. 38,746 ], 78 T.C. 154, 162 n. 8 (1982)).

Deciding a case on summary judgment grounds represents a final adjudication on the merits foreclosing subsequent litigation. The Federal Courts realize this harsh outcome, and have incorporated a strict ten-day notice requirement in Rule 56 of the Federal Rules of Civil Procedure. ³ The concern is that the parties have an adequate opportunity to present all evidence in support of their positions. The Tax Courts do not have such a stringent notice requirement, although Rule 40 states that when the motion to dismiss is disposed of as one for summary judgment "the parties shall be given an opportunity to present all material made pertinent to a motion under Rule 121 [summary judgment]."

The motion to dismiss was filed pursuant to Tax Court Rule 40. The Tax Court scheduled the motion for a hearing on December 1, 1988 . On November 30, 1988 before the scheduled hearing, the appellant submitted a memorandum of law attaching two letters in support of his position opposing the motion. In filing these matters outside the pleadings with his memorandum opposing the motion, the appellant was clearly on notice that the Tax Court may decide the case on summary judgment grounds.

At the hearing, the appellant's argument that a binding settlement existed was based solely on the two letters he submitted with his memorandum of law in opposition to the motion. The Tax Court correctly noted that federal tax law governed the dispute and that the proper manner to dispose of an income tax matter is clearly set out in the tax code statutes. As will be set forth in more detail in subsection C below, a binding settlement on a tax liability must follow the requirements of the tax code which include the execution of a closing agreement and the signing of other Tax Forms. The appellant clearly did not have any such proof. We find that the appellant had adequate notice that the Tax Court may recharacterize the motion and further find that the Tax Court was presented with all the evidence necessary to decide the issues on summary judgment grounds.

B. THE SANCTIONS IMPOSED BY THE TAX COURT

Rule 104 of the Tax Court Rules governs sanctions for failure to comply with an order requiring the production of documents. Under Rule 104(c), the imposition of sanctions is discretionary with the trial court and will only be reviewed for an abuse of that discretion. See Aruba Bonaire Curacao Trust Co. v. Commissioner [85-2 USTC ¶9815 ], 777 F.2d 38, 44 (D.C. Cir. 1985), cert. denied, 475 U.S. 1086, 106 S.Ct. 1469, 89 L.Ed.2d 725 (1986); see also e.g., Steinbrecher v. Commissioner [83-2 USTC ¶9531 ], 712 F.2d 195, 197 (5th Cir. 1983) (per curiam); Oelze v. Commissioner [84-1 USTC ¶9184 ], 723 F.2d 1162, 1163-64 (5th Cir.) (per curiam), reh'g denied, [84-1 USTC ¶9274 ], 726 F.2d 165 (1983). We are also guided by Rule 37 of the Federal Rules of Civil Procedure which is analogous to Rule 104. See Aruba Bonaire Curacao Trust Co. v. Commissioner [85-2 USTC ¶9815 ], 777 F.2d 38, 44 (D.C. Cir. 1985), cert. denied, 475 U.S. 1086, 106 S.Ct. 1469, 89 L.Ed.2d 725 (1986).

In following the above law, we find that the Tax Court did not abuse its discretion in imposing discovery sanctions. The appellant did not produce the requested documents and the court's sanction precluding the appellant from introducing such documents into evidence at trial was clearly appropriate under the circumstances. The appellant's assertion that the IRS had the documents and he did not have access to the requested documents is no defense. The appellant could have taken other steps to have the requested documents produced, such as issuing a subpoena to the IRS . Therefore, the Tax Court acted within its discretion in imposing sanctions.

C. THE PURPORTED SETTLEMENT OF KLEIN'S TAX LIABILITIES

The Tax Court correctly held that a binding settlement was not present despite the appellant's belief that he accepted an unconditional offer from the IRS to settle the disputed tax liabilities. The settlement of disputed tax liabilities is governed by 26 U.S.C. §§7121 and 7122 ; these sections authorize the Secretary of the Treasury or an authorized delegate to settle any tax disputes and compromise any civil or criminal case arising under the internal revenue laws. See Brooks v. U.S. [87-2 USTC ¶9626 ], 833 F.2d 1136, 1145 (4th Cir. 1987). The requirements set forth in these statutes and the accompanying regulations are exclusive and strictly construed. Id. at 1145, 1146 (citing Botany Worsted Mills v. U.S. [1 USTC ¶348 ], 278 U.S. 282, 288-89, 49 S.Ct. 129, 131-32, 73 L.Ed. 379 (1929)); Bowling v. U.S. [75-1 USTC ¶9333 ], 510 F.2d 112, 113 (5th Cir. 1975).

The appellant asserts that the IRS made an offer to settle his tax liabilities and that he later accepted the offer in writing. In support, he submitted two letters to the Tax Court purporting to constitute a valid written contract binding the IRS . We find that these letters do not form a valid binding agreement under the tax code. We note that even if we were to apply state contract law to this case, no binding contract was formed. At most, the letter dated March 7, 1986 from the District Counsel was a conditional offer of settlement which would become binding upon the execution of another document, a closing agreement. This letter specifically mentioned other conditions which must be met before a settlement could be reached; namely, the taxpayer must substantiate his investment, provide copies of all returns reflecting any interest in the tax shelters, and execute a closing agreement. The second letter dated March 12, 1986 also does not meet any of the requirements set forth in the statutes governing settlement of tax disputes.

Even if the two letters were held to be an apparent settlement, the IRS would not be bound because the letters were not signed by both parties and the agent signing the March 7, 1986 letter was without authority to formally settle the appellant's tax liabilities. See, e.g., Botany Worsted Mills v. U.S. [1 USTC ¶348 ], 278 U.S. 282, 49 S.Ct. 129, 73 L.Ed. 379 (1928) (attempted informal settlement by subordinate officials with no authorization to compromise under §7121 was not binding on the U.S.); Reimer v. U.S. [71-1 USTC ¶9355 ], 441 F.2d 1129, 1130 (5th Cir.1971) (per curiam) (U.S. not bound by apparent settlement where agent was without authority to compromise taxpayer's tax liability). Here, the IRS and the appellant were clearly only in the initial stages of discussing possible settlement of the tax liabilities and no binding enforceable settlement was reached.

D. JURISDICTION OVER THE ABATEMENT OF INTEREST ISSUE

We agree with the holding in 508 Clinton Street Corp. v. Commissioner of Internal Revenue [CCH Dec. 44,139 ], 89 T.C. 352 (1987) and the appellee's assertion in the instant case, that the Tax Court properly denied appellant's request to abate the interest on the deficiencies determined in the appellant's tax liability. In 508 Clinton Street Corp., the Court was faced with the same situation as we have in this case, and held that "this Court lacks jurisdiction to consider the interest abatement issue raised under Section 6404(e) ." Id. at 357.

In its well-reasoned opinion, the Court in 508 Clinton Street Corp. discussed the express language and legislative history of section 6404(e) and related sections and noted that "by its very terms, [section 6404(e) ] does not operate until after there has been an assessment of interest, which has not yet occurred in this case." Id. at 355. Similarly, there has been no assessment of interest in this case either, and the appellant's claim to an interest abatement is clearly premature.

III .

Based on the foregoing authorities and analysis, we find that there was no binding settlement between the parties, and the Tax Court did not have jurisdiction over the appellant's claim for an abatement of interest under §6404(e) of the Internal Revenue Code. We also find that the Tax Court correctly recharacterized the motion as one of partial summary judgment and correctly imposed sanctions on the taxpayer under Rule 104 of the Tax Court Rules of Practice and Procedure. Accordingly, the Tax Court's Order granting partial summary judgment in favor of the government is AFFIRMED.

^* Honorable C. Clyde Atkins, Senior U.S. District Judge for the Southern District of Florida, sitting by designation.

¹ These two issues were the exact assertions contained in the taxpayer's amended petition filed on September 13, 1988.

² Two letters were attached to the taxpayer's opposition memorandum which were asserted to be evidence that a binding settlement between the parties occurred.

³ The Eleventh Circuit follows a "bright line" ten-day notice requirement which is strictly enforced when a district court converts a motion to dismiss into a motion for summary judgment Griffith v. Wainwright, 772 F.2d 822, 825 (11th Cir. 1985); Milburn v. U.S., 734 F.2d 762, 765 (11th Cir. 1984).

US- SUP -CT, [1 USTC ¶348], Botany Worsted Mills v. The United States, (Jan. 02, 1929)

[1 USTC ¶348]Botany Worsted Mills v. The United States

Supreme Court of the United States, No. 31. October Term, 1928, 278 US 282, 49 SCt 129, Decided January 2, 1929

On Writ of Certiorari to the Court of Claims of the United States.An informal agreement between subordinate officials of the Bureau of Internal Revenue and a taxpayer for settlement of disputed items of tax liability is not binding as an estoppel and it is not a compromise within Rev. Stat. Sec. 3229 because, while it may have been ratified by the Commissioner, it was not done with the advice and consent of the Secretary of the Treasury and upon the recommendation of the Attorney General. Where the Court of Claims does not make a finding upon the ultimate question of fact upon which the rights of the parties depended, but merely makes findings as to subsidiary circumstantial facts which bear upon it, such findings will not support a judgment unless the circumstantial facts as found are such that the ultimate fact follows from them as a necessary inference and may be held to result as a conclusion of law. Under section 12(a) of the Revenue Act of 1916 amounts paid by a corporation to its officers as compensation for their services can be allowed as deductions only if a part of its "ordinary and necessary expenses," so when such amounts are extraordinary, unusual and extravagant, have no substantial relation to the measure of the services rendered but are utterly disproportionate to their value, such amounts are not in reality payment for services and cannot be regarded as "ordinary and necessary expenses." Where pursuant to the custom of the business and the practice of the company for nearly thirty years, directors were paid a bonus based on a percentage of profits, in addition to a salary as executive officers or managers, which was greatly in excess of the compensation which, as a matter of common knowledge, is usually paid directors for customary services and was greater than that paid in prior years, the inference, in the absence of findings of fact as to the nature, extent or value of their services and as to the amount received by each, must be that the unusual and extraordinary amount paid the directors was not in fact compensation for their services but merely a distribution of a fixed percentage of profits that had no relation to the services rendered. Reversing and affirming in part Court of Claims decision, 63 Ct. Cls. 405.

The Botany Worsted Mills, a New Jersey corporation engaged in the manufacture of woolen and worsted fabrics, made a return of its net income for the taxable year 1917 under the Revenue Act of 1916 ¹ and the War Revenue Act of 1917. ² By §12(a) of the Revenue Act it was provided that in ascertaining the net income of a corporation organized in the United States there should be deducted from its gross income all "the ordinary and necessary expenses paid within the year in the maintenance and operation of its business and properties." Under this provision the Mills deducted amounts aggregating $1,565,739.39 paid as compensation to the members of its board of directors, in addition to salaries of $9,000 each. It paid an income tax computed in accordance with this return. Thereafter, in 1920, the Commissioner of Internal Revenue assessed an additional income tax against it. Of this, $450,994.06 was attributable to his disallowance of $783,656.06 of the deduction claimed as compensation paid to the directors, on the ground that the total amount paid as compensation was unreasonable and the remainder of the deduction as allowed represented fair and reasonable compensation. The Mills after paying the additional tax filed a claim for refund of this $450,994.06. The claim was disallowed; and the Mills thereafter, in September, 1924, by a petition in the Court of Claims sought to recover this sum from the United States, with interest--alleging that the disallowance of part of the compensation paid the directors was illegal. ³ After a hearing on the merits the court, upon its findings of fact, dismissed the petition upon the ground that the additional tax was imposed under an agreement of settlement which prevented a recovery. 63 C. Cls. 405. And this writ of certiorari was granted.

The first question presented is whether the Mills is precluded from recovering the amount claimed by reason of a settlement.

Sec. 3229 of the Revised Statutes, ⁴ provides that:

"The Commissioner of Internal Revenue, with the advice and consent of the Secretary of the Treasury, may compromise any civil or criminal case arising under the internal-revenue laws instead of commencing suit thereon; and, with the advice and consent of the said Secretary and the recommendation of the Attorney-General, he may compromise any such case after a suit thereon has been commenced. Whenever a compromise is made in any case there shall be placed on file in the office of the Commissioner the opinion of the Solicitor of Internal Revenue, * * * with his reasons therefor, with a statement of the amount of tax assessed, * * * and the amount actually paid in accordance with the terms of the compromise." ⁵

The Government did not claim that there had been a compromise under this statute, but contended in the Court of Claims, that, irrespective thereof, an agreement of settlement had been entered into between the Mills and the Commissioner under which the Mills had accepted the partial disallowance as to the compensation paid the directors, and had also received concessions as to other disputed items the benefit of which it still enjoyed, and was therefore estopped from seeking a recovery.

As to this matter the findings of fact show that after the Mills had paid the amount of the tax shown by its original return, an investigation of its books disclosed to the Commissioner the necessity of making an additional assessment, to be determined by the settlement of questions relating to the compensation (or, as it was termed, bonus) paid to the directors, depreciation charged off on its books, and reserves charged to expenses. After much correspondence and numerous conferences extending over several months between the attorney and assistant treasurer of the Mills and the chief of the special audit section of the Bureau of Internal Revenue and others of his official associates, a compromise was agreed to as to all the differences, by which the amount to be allowed as reasonable compensation to the directors and as depreciation were agreed upon, and the claim as to reserves was allowed. Thereupon the Mills prepared and filed an amended return based upon the figures agreed upon in the conferences, with documentary evidence which it had agreed to furnish; and the additional assessment was made in accordance with this return. ⁶

The court, in sustaining the Government's contention, said: "With the payment of the tax under the circumstances surrounding this case the agreement, which is mentioned in the record as a 'gentleman's agreement,' became in legal effect an executed contract of settlement;" and that, as the Mills was seeking to recover on account of the particular item which it regarded as unfavorable to its interests, and at the same time hold to the advantage derived from the settlement of other items in dispute involved in the same general settlement, it should not be allowed a recovery.

The Mills contends that the Commissioner had not been given, at the time in question, any authority, either in express terms or by implication, to compromise tax cases except as provided in §3229; that this statute in granting such authority under specific limitations as to the method to be pursued, negatived his authority to effect a valid and binding agreement in any other way; that as the Government could not have been estopped by the unauthorized transactions of its officials, the Mills likewise could not be estopped thereby; and further, that the findings are insufficient to establish an estoppel.

The Government does not here challenge any of these contentions. In the brief for the United States filed in this Court the Solicitor General states that the question whether such an informal adjustment of taxes as was made in this case is binding on the taxpayer, is submitted for decision in deference to the opinion of the Courts of Claims and the importance of the question--but no argument is made in support of the Government's previous contention that the Mills was estopped from questioning the settlement. And, on the contrary, it is stated that--

"Before and since the date of the alleged settlement in this case Congress has evidently proceeded on the theory that no adjustment of a tax controversy between representatives of the Bureau of Internal Revenue and a taxpayer is binding unless made with the formalities and with the approval of the officials prescribed by statute. The authority of officers of the United States to compromise claims on behalf of or against the United States is strictly limited. * * * The statutes which authorize conclusive agreements and settlements to be made in particular ways and with the approval of designated officers raise the inference that adjustments or settlements made in other ways are not binding."

And further, that

"No ground for the United States to claim estoppel is disclosed in the findings."

Independently of these concessions, we are of the opinion that the informal settlement made in this case did not constitute a binding agreement. Sec. 3229 authorizes the Commissioner of Internal Revenue to compromise tax claims before suit, with the advice and consent of the Secretary of the Treasury, and requires that an opinion of the Solicitor of Internal Revenue setting forth the compromise be filed in the Commissioner's office. Here the attempted settlement was made by subordinate officials in the Bureau of Internal Revenue. And although it may have been ratified by the Commissioner in making the additional assessment based thereon, it does not appear that it was assented to by the Secretary, or that the opinion of the Solicitor was filed in the Commissioner's office.

We think that Congress intended by the statute to prescribe the exclusive method by which tax cases could be compromised, requiring therefor the concurrence of the Commissioner and the Secretary, and prescribing the formality with which, as a matter of public concern, it should be attested in the files of the Commissioner's office; and did not intend to intrust the final settlement of such matters to the informal action of subordinate officials in the Bureau. When a statute limits a thing to be done in a particular mode, it includes the negative of any other mode. Raleigh, etc. R. R. Co. v. Reid, 13 Wall. 269, 270; Scott v. Ford, 52 Or. 288, 296.

It is plain that no compromise is authorized by this statute which is not assented to by the Secretary of the Treasury. Leach v. Nichols (C. C. A.) 23 F. (2d) 275, 277 [1 USTC ¶269]. For this reason, if for no other, the informal agreement made in this case did not constitute a settlement which in itself was binding upon the Government or the Mills. And, without determining whether such an agreement, though not binding in itself, may when executed become, under some circumstances, binding on the parties by estoppel, it suffices to say that here the findings disclose no adequate ground for any claim of estoppel by the United States.

We therefore conclude that the Mills was not precluded by the settlement from recovering any portion of the tax to which it may otherwise have been entitled.

This brings us to the question whether on the findings of fact the Mills is entitled to recover the portion of the additional tax attributable to the disallowance of $783,656.06 of the amount paid to the directors which it had claimed as a deduction. ⁷

Under §12(a) of the Revenue Act of 1916 the Mills was not entitled to this deduction unless the amount paid constituted a part of its "ordinary and necessary expenses" in the maintenance and operation of its business and properties. And in this suit the burden of establishing that fact rested upon it, in order to show that it was entitled to the deduction which the Commissioner had disallowed, and that the additional tax was to that extent illegally assessed. The Court of Claims, however, made no finding that the amount disallowed by the Commissioner constituted a part of the ordinary and necessary expenses of the Mills. The findings are silent as to this ultimate fact--essential to a recovery by the Mills--and only show certain circumstantial facts relating to the payment made to the board of directors.

Where the Court of Claims does not make a finding upon the ultimate question of fact upon which the rights of the parties depend, but merely makes findings as to subsidiary circumstantial facts which bear upon it, such findings will not support a judgment unless the circumstantial facts as found are such that the ultimate fact follows from them as a necessary inference and may be held to result as a conclusion of law. See United States v. Pugh, 99 U. S. 265, 269; Winton v. Amos, 255 U. S. 373, 395.

The findings show that for many years it has been the practice of many corporations engaged in the woolen manufacturing business to base the compensation of the directors and executive officers upon a percentage of profits. Upon the organization of the Mills in 1890 the stockholders adopted a by-law providing that at the close of the business year the net profits should be distributed by paying a dividend of 6 per cent to stockholders and applying the balance remaining as follows: (a) placing 5 per cent in a reserve fund; (b) paying 25 per cent "as a bonus to the board of directors;" and (c) paying 70 per cent as additional dividend to the stockholders. The stockholders amended this by-law in 1903 by increasing the bonus of the board of directors to 40 per cent; in 1905, by providing, instead of a "bonus," that "compensation" equal to 40 per cent should be "paid to the board of directors for their services"; and in 1908, by reducing such compensation to 32 per cent [that is, 30.08 per cent of the net profits]. This by-law remained in force until after the taxable year 1917; and during the entire period "compensation" was paid to the directors in accordance therewith. From the outset the determination of the total amount of profits and of the aggregate amount payable to the board of directors was made by the board itself; and it likewise determined the basis of the apportionment among the several directors of the aggregate amount payable to the board as a whole. No contract was made with any director as to what his compensation should be other than such as was implied from his election and service as a member of the board in accordance with the by-law and the customary practices of the company, which each knew. At all times each director also held a position as an executive officer or manager of a department of the Mills.

The gross assets of the Mills increased from $1,114,149.63 in 1890 to $28,893,777.12 in 1917; and its net assets, including reserves, from $37,136.35 to $10,999,862.48. Its net income increased from $784,334.44 in 1910 to $7,953,512.80 in 1917; and the amount paid the directors in pursuance of the by-law, increased, with some fluctuations, from $268,444.19 in 1910, to $400,935.18 in 1915, $693,617.16 in 1916, and $1,565,739.39 in 1917. ⁸ In 1917 there were ten members of the board, so that if the total amount had been apportioned ratably, each would have received $156,573.93. And in that year each member of the board, in addition to the part of the aggregate in fact apportioned to him individually, also received a salary of $9,000.

The findings do not show the nature or extent of the services rendered by the board of directors or its individual members, either as directors, executive officers or department managers--the amounts apportioned and paid to each director--the basis of apportionment, whether the nature and extent of their individual services, the amount of their stockholdings, or otherwise--the value of their services--or the reasonableness of the purported compensation.

We do not find it necessary to determine here whether the amounts paid by a corporation to its officers as compensation for their services cannot be allowed as "ordinary and necessary expenses" within the meaning of §12(a), merely because, and to the extent that, as compensation, they are unreasonable in amount. ⁹ However this may be, it is clear that extraordinary, unusual and extravagant amounts paid by a corporation to its officers in the guise and form of compensation for their services, but having no substantial relation to the measure of the services and being utterly disproportioned to their value, are not in reality payment for services, and cannot be regarded as "ordinary and necessary expenses" within the meaning of the section; and that such amounts do not become part of the "ordinary and necessary expenses" merely because the payments are made in accordance with an agreement between the corporation and its officers. Even if binding upon the parties, such an agreement does not change the character of the purported compensation or constitute it, as against the Government, an ordinary and necessary expense. Compare 20 Treas. Dec., Int. Rev., 330; Jacobs & Davies v. Anderson (C. C. A.), 228 Fed. 505, 506; United States v. Philadelphia Knitting Mills Co. (C. C. A.), 273 Fed. 657, 658; and Becker Bros. v. United States (C. C. A.), 7 F. (2d) 3, 6.

In the light of this principle it is clear that the findings do not show, as a matter of necessary inference resulting as a conclusion of law, that the amount paid the directors in excess of the $782,083.33 allowed by the Commissioner, ¹⁰ constituted part of the ordinary and necessary expenses of the Mills. On the contrary, as this amount so greatly exceeded the amounts which, as a matter of common knowledge, are usually paid to directors for their attendance at meetings of the board and the discharge of their customary duties, and was much greater than the amounts that had been paid in prior years, ¹¹ and as there is no showing as to the amounts paid the individual directors, in addition to the salaries of $9,000 which each received--presumably for his services as an executive officer or department manager--or as to the nature, extent or value of their services, the findings raise a strong inference that the unusual and extraordinary amount paid to the directors was not in fact compensation for their services, but merely a distribution of a fixed percentage of the net profits that had no relation to the services rendered.

Therefore, as the Mills had not sustained the burden of showing that the amount disallowed by the Commissioner was in fact part of its ordinary and necessary expenses, the judgment must, for this reason, be

Affirmed.

Mr. Justice HOLMES agrees with the result.

¹ 39 Stat. 756, c. 463.

² 40 Stat. 300, c. 63.

³ Sec. 3226 of the Revised Statutes had been previously amended by §1318 of the Revenue Act of 1921, 42 Stat. 227, 314, c. 136, so as to provide that no suit or proceeding should be maintained in any court for the recovery of any internal-revenue tax alleged to have been erroneously or illegally assessed or collected until a claim for refund or credit had been duly filed with the Commissioner of Internal Revenue; and further amended by §1014(a) of the Revenue Act of 1924, 43 Stat. 253, 343, c. 234, so as to provide that such suit or proceeding might be maintained, whether or not such tax had been paid under protest or duress. And the right of the Mills to maintain this suit, although the tax had not been paid under protest or duress, is not questioned by the Government.

⁴ U. S. C., Tit. 26, §158.

⁵ Since the date of the settlement here involved §§ 1312 and 1313 of the Revenue Act of 1921, §1006 of the Revenue Act of 1924, and §1106(b) of the Revenue Act of 1926 have dealt specifically with agreements in writing made by a taxpayer and the Commissioner, with the approval of the Secretary, that the previous determination and assessment of a tax shall be final and conclusive.

⁶ The findings indicate inferentially that some tax claims of the Mills for two other years were also included in the settlement; but the precise facts do not appear.

⁷ This is claimed in the brief filed for the Mills; and in the oral argument its counsel specifically stated that the Mills relied on the sufficiency of the findings and made no request that the case be remanded to the Court of Claims for additional findings, as the Solicitor General had suggested.

⁸ The figures for some other years are also given in tabulated statements included in the findings.

⁹ Later, by §214(a) of the Revenue Act of 1918, 40 Stat. 1057, c. 18, it was specifically provided that "the ordinary and necessary expenses" should include "a reasonable allowance for salaries or other compensation for personal services actually rendered."

¹⁰ The amount allowed, it may be noted, was, in itself, $481,934.02 more than the average of the amounts that had been paid in the seven years immediately preceding, and $88,466.17 more than the greatest amount that had been paid in any one year.

¹¹ See note 10, supra.

[87-2 USTC ¶9626] William F. Brooks, Plaintiff-Appellant v. United States of America, Defendant-Appellant, and Antone Construction Co., Inc., a South Carolina Corporation, Anthony J. Frank , Fidelity & Deposit Co. of Maryland, a Maryland Corporation, Defendants

(CA-4), U.S. Court of Appeals, 4th Circuit, 87-1594, 11/25/87 , 833 F2d 1136, Affirming the District Court, 86-2 USTC ¶9548

[Code Secs. 6321 , 6323 and 7122 --Result unchanged by the Tax Reform Act of 1986 ]

Lien for taxes: Creation of lien: Validity of the lien: District where filed: Closing agreements: Unauthorized agreement: Compromises: Acceptance of offer.--The district court had properly ruled that a claim to the proceeds from the successful enforcement of a mechanic's lien constituted personal, and not real, property. Further, the "nerve center" of the corporation was Pennsylvania, notwithstanding the fact that it had field offices and an attorney's office in other states. Thus, the IRS 's filing of a lien in the state (Pennsylvania) where the corporation's principal executive office was located was sufficient, even though the subject property was located in West Virginia. Finally, the district court was correct in holding that a compromise settlement between the taxpayer and the IRS was unenforceable because the offer was not signed by the Regional Commissioner and subordinate officers do not have authority to enter into compromise settlements. Moreover, the corporation's president's attempt to bribe an IRS agent was sufficient to set the settlement aside. Finally, the assignee of the proceeds of the mechanic's lien claim could not estop the government from denying the settlement agreement. BACK REFERENCES: 87 FED ¶5357.0653, 87 FED ¶5362.215, 87 FED ¶5693.68 and 87 FED ¶5697.045

Raymond George Hasley, Mary J. Lynch, Rose, Schmidt, Chapman, Duff & Hasley. Lawrence J. Lewis, Vinson, Meek, Lewis & Pettit, 1000 First Huntington Bldg., Huntington, W.Va. 25708, for plaintiff-appellant. Michael C. Durney, Acting Assistant Attorney General, David I. Pincus, Michael L. Paup, William S. Estabrook, Michael W. Carey, Department of Justice, Washington, D.C. 20530, for U.S.

Before WIDENER, MURNAGHAN, and ERVIN, Circuit Judges.

MURNAGHAN, Circuit Judge:

In the usual stakeholder case, a party with little involvement in the underlying transactions comes to court in search of a Solomonic decision awarding the stake or portions thereof to warring parties to those transactions. Here, however, the claimants had no involvement in the events giving rise to the stake. The stake at issue, totaling over $230,000, is Antone Construction Company's share of the proceeds of a mechanic's lien action in West Virginia. The plaintiff-appellant here, William F. Brooks, was on April 5, 1979, assigned Antone's interest in the mechanic's lien action as security for prior and current loans made to or guaranteed by Antone. Competing with Brooks is the United States, which claims the stake in partial satisfaction of Antone's tax deficiencies under tax liens filed November 22, 1978, and March 1, 1979. If the government's filing in Pennsylvania was effective, it was entitled to priority because it antedated the assignment of an interest to Brooks. The question then is whether a property interest in the mechanic's lien action, to be effective against Brooks, had to be perfected by the government by a filing in West Virginia before April 5, 1979. Such a West Virginia filing has not been made.

Deciding the case without a trial upon the evidence submitted by the parties, the district court found the government tax lien, filed in Pennsylvania, being anterior to April 5, 1979, had priority over Brooks' claim, and awarded the stake to the government. In this appeal, Brooks argues, first, that the assigned mechanic's lien action constitutes real property, so that to be valid the government's tax lien had to be filed in West Virginia; second, that he has priority because Antone is a resident of South Carolina and not of Pennsylvania, so that the government's filing in Pennsylvania was not effective against his interest even if the mechanic's lien is personal property; and third, that the government has no valid tax lien against Antone because the Internal Revenue Service agreed to a compromise settlement of Antone's tax liabilities and should be estopped from denying the settlement. Brooks so contends even if the settlement is procedurally defective, because the Service kept money paid by Antone's president in furtherance of the compromise offer.

We see no basis for overturning the District Court's decision in this case. The property at issue, the mechanic's lien, is a chose in action and constitutes personal property, so the government was not required to file its tax lien in West Virginia. The standard of review for the district court's factual findings is the "clearly erroneous" standard. Fed. R. Civ. P. 52(a). It was reasonable, and certainly not clearly erroneous, to conclude from the evidence that Antone's principal executive office was in Pennsylvania, so the tax liens were properly filed there and have priority over Brooks' security interest. The compromise settlement is not enforceable; and even though Brooks has standing to challenge the government's tax lien, Brooks cannot estop the government from denying the unenforceable settlement and cannot challenge Antone's underlying tax deficiency assessment.

FACTS

The basic facts are essentially not in dispute, except for the determination of Antone's corporate residence.

A. Facts relating to Antone Construction Company's residence. Antone was incorporated in South Carolina in March, 1977. A South Carolina attorney prepared the articles of incorporation, listing himself as the registered agent and his own law office as the required registered address for the corporation. The incorporation was done at the request of an attorney in Sharon, Pennsylvania on behalf of Anthony J. Frank of Hermitage, Pennsylvania. Anthony Frank apparently set up Antone upon the recommendation of his brother, Frederick Frank ; while Antone was being formed, Frederick became a resident of Columbia, South Carolina. Anthony Frank , whose Pennsylvania residence remained undisturbed, was also the President and sole stockholder of Brimar Construction Company at the time of Antone's incorporation; Brimar's principal executive office was in Sharon, Pennsylvania.

The directors and officers of Antone were Anthony Frank (president and treasurer-comptroller), Frederick Frank , and Bernard Rosen (an employee of Brimar). Antone was involved as a subcontractor in construction projects in six states, including South Carolina but not including Pennsylvania. The first project it undertook was in Columbia, South Carolina. There, as at its other construction sites, Antone maintained a project office where records related to the project were kept. Frederick Frank maintained an office in his home in South Carolina in addition to the project office, but the home office was discontinued when he left Antone in October, 1978. The tax liens at issue here were filed after the home office was closed and after the South Carolina project office trailer had been moved to Virginia; the sole remaining address for Antone in South Carolina was the law office of the registered agent, where Antone never conducted any business or kept any records. All executive decisions (as compared with day-to-day decisions made by managers at each project site) for Antone were apparently made by Anthony Frank in Pennsylvania or wherever he happened to be.

Checking accounts were maintained at a bank near each project to pay suppliers and employees. Payments for work were received at the local office but forwarded to Anthony Frank in Pennsylvania. Anthony Frank also arranged to send money from Pennsylvania as needed to replenish local checking accounts. Antone also had checking accounts at a bank in Sharon, Pennsylvania; the mailing address for Antone for the accounts was P.O. Box 1278, Sharon, Pennsylvania. Antone's registered agent in South Carolina used the same Pennsylvania post office box to send materials to Antone, addressed in care of a Brimar employee.

Antone and Brimar filed a consolidated federal income tax return for the taxable period ending January 31, 1978 , prepared by a Sharon, Pennsylvania accounting firm using information supplied by Anthony Frank . Antone was listed as Brimar's subsidiary on that return, and Antone's address was given as Box 1278, Sharon, Pennsylvania. The same address was given by Antone in its Employer's Monthly Federal Tax Returns filed with the IRS in February, March, and April, 1979.

The only known meeting of the Antone Board of Directors was held on October 9, 1978 at Brimar's offices in Sharon, Pennsylvania. At that meeting, Anthony Frank 's wife and mother-in-law replaced Frederick Frank and Bernard Rosen as directors of Antone. Anthony Frank remained the third director; his wife also became an officer of Antone.

In December, 1978, Antone filed an application for a certificate of authority to operate as a foreign corporation within Pennsylvania. The address given as Antone's proposed Pennsylvania registered office was "155 Snyder Road, Sharon (Hermitage), Pennsylvania"--Brimar's office address. Brooks stresses that the address given for the "principal office" of Antone is 1200 First National Bank, Richland County, South Carolina and argues that the listing should be dispositive on the issue of Antone's residence because it is a "public record." However, the form merely requested "the address of its principal office in the state or county of incorporation," and the address given in response is thus not by necessity the corporation's "principal executive office" for purposes of tax lien filing. On January 5, 1979, the Pennsylvania Department of State issued the requested certificate of authority listing the Snyder Road address (Brimar's offices) as the address of Antone's registered office in Pennsylvania.

There is some dispute about the actual ownership of Antone; Brimar apparently did not follow through on a stock purchase agreement, and the stock was then purchased by Anthony Frank 's mother-in-law. The stock may have been owned instead by Anthony and Mary Frank 's children. Recordkeeping was disorganized; it appears that Antone's business activities petered out in 1979. On October 6, 1980, Antone was dissolved by the state of South Carolina. Anthony Frank was killed in a car accident in February, 1985, after interrogatories had been answered but apparently before any deposition was taken. It is clear from the record, however, that Anthony Frank controlled Antone and made all executive decisions, including deciding what projects to bid on.

B. Facts relating to Brooks' loans and security interest. In October and November, 1978, Brooks made three loans totaling $92,000 to Anthony Frank , apparently for the use of Brimar Construction Company. In November, 1978, Brimar executed a promissory note to Brooks for the loans (signed by Anthony Frank ); Anthony and Mary Frank (his wife) personally guaranteed Brimar's obligation.

On April 5, 1979 , after tax lien notices had been filed in Pennsylvania by the IRS against Antone, Brooks made a fourth loan of $23,000 to Antone. On the promissory note, Antone referred to itself as a "South Carolina corporation" but listed its address as "P.O. Box 1278, Sharon, Mercer County, Pennsylvania 16146." Anthony and Mary Frank personally guaranteed the loan. Also on April 5, 1979 , Antone (by Anthony Frank ) executed a document guaranteeing Brimar's preexisting $92,000 obligation to Brooks.

To secure the four loans, on April 4 and 5, 1979, Antone executed two documents assigning Brooks a partial interest ($115,000 plus interest) in the anticipated proceeds (approximately $253,000) of a mechanic's lien action that was then pending in Cabell County, West Virginia. The record does not indicate why two different documents were executed. The two documents are substantially identical except that the April 4 assignment identifies Antone Construction Company as being located at P.O. Box 1278, Sharon, Mercer County, Pennsylvania, while the April 5 assignment identifies Antone as a "corporation organized and existing under the laws of the State of South Carolina." The April 5 assignment was later recorded by Brooks in the office of the Clerk of Cabell County, West Virginia on April 30, 1979 .

C. Facts relating to Government tax liens. In late 1978, Antone became delinquent in its payment of Social Security (FICA) and unemployment (FUTA) taxes. The Internal Revenue Service made tax assessments in late 1978 and early 1979, and filed tax lien notices against Antone with the Prothonotary of Mercer County, Pennsylvania (where Sharon and Hermitage are located) on November 22, 1978 , and March 1, 1979 . ¹

Anthony Frank also had personal tax difficulties, as did his Brimar Construction Company. As of April, 1983, the liabilities of Anthony Frank personally, Antone, and Brimar totaled about $800,000. On April 29, 1983 , Anthony Frank submitted an offer to the IRS to settle all three liabilities for a total of $250,000. The investigating officer, Robert C. Quigley, had met several times with Anthony Frank to negoiate the offer. Anthony Frank made statements that led Quigley to believe that Anthony Frank was going to offer a bribe to obtain expeditious acceptance of the compromise offer. Quigley reported his suspicions to the IRS Internal Security Division, which wired Quigley for sound and supervised all subsequent meetings. On June 28, 1983 , Anthony Frank stated he would give Quigley a new car if Quigley would produce a letter from the IRS accepting the offer by a certain date. The next day, Quigley delivered to Anthony Frank an "acceptance" letter bearing the stamped signature of the IRS Pittsburgh District Director; the letter had been prepared by Quigley at the direction of Inspectors from the Internal Security Division. In a complaint filed by Anthony Frank , Antone and Brimar asking a district court in Pennsylvania to enforce the compromise, Anthony Frank alleged that "[f]rom April 27, 1983 up to and including June 28, 1983 , Agent Quigley made continued representations to Plaintiffs and others, including the escrow agent and third party's attorneys, that said offers in compromise would be accepted." Anthony Frank did give Quigley a new Oldsmobile, which Quigley turned over to the inspectors. On July 12, 1983 , Anthony Frank gave Quigley a cashier's check for $250,000 made out to the Internal Revenue Service, and the inspectors arrested Anthony Frank for bribery.

Anthony Frank was charged in the District Court for the Western District of Pennsylvania with attempting to bribe a public official, and a copy of the cashier's check was introduced into evidence at the trial. At the conclusion of the Government's case, Frank was granted a judgment of acquittal. See United States v. Frank , 763 F.2d 551, 552 (3d Cir. 1985) (describing bribery trial as background for dispute over check proceeds claimed by Brimar's partner in joint venture).

On February 22, 1984 , the IRS sent a letter to Anthony Frank in his capacity as President of Antone stating that it had rejected Antone's settlement offer and demanding payment of the outstanding liabilities in full. The offers of Brimar and Anthony Frank were also rejected. On March 9, 1984 , the IRS sent a letter to Anthony Frank stating that it had determined that his offers and his tender of the cashier's check were

not made in good faith and were a fraudulent attempt to relieve yourself and your corporations of the tax liabilities in question without making adequate payment. In connection therewith, you attempted to bribe the revenue officer. Because of these illegal actions, the check is not returnable to you.

The IRS applied the proceeds of the check first to Brimar's outstanding tax liabilities, second to Anthony Frank 's liabilities arising from an unidentified sole proprietorship, and last to Anthony Frank 's personal liabilities as a responsible officer of two corporations, Brimar and Antone, that had failed to pay the IRS sums withheld from employee wages. The money was applied to Brimar's liabilities and not to Antone's because the money in the escrow account had been earned by Brimar through its joint venture with the Gibson companies. ²

DISCUSSION

I. Priority of government tax lien

Brooks obtained and recorded in West Virginia his security interest in the disputed funds after the government filed its tax lien notices in Pennsylvania. To have priority over the government's liens, therefore, Brooks must establish that the government's notices were not filed in the proper place under 26 U.S.C. §6323(f) (1967 & Supp. 1986). He asserts that the validity and priority are established only by filing in West Virginia.

A. Nature of property at issue. The case presents the preliminary question of whether a claim to the proceeds of a successful attempt to establish by judicial process a right to a mechanic's lien (the anticipated proceeds of which were assigned to Brooks as security for a loan) is real property or personal property. If it is real property, then to have priority over Brooks, the government's tax lien had to be filed in West Virginia, the situs of the land against which Antone's mechanic's lien was filed and where the lien was enforced. 26 U.S.C.A. §6323(f)(2)(A) (Supp. 1987). If the claim is personal property, however, or a "chose in action," as described by the district court, then it could properly have been filed in Pennsylvania, the state where Antone (the corporation initially holding the mechanic's lien and assigning the right to the proceeds thereof to Brooks) resided. Id. §6323(f)(2)(B) . Here, the government filed a tax lien only in Pennsylvania. Therefore, if the district court erred in its ruling that the claim to the proceeds from a mechanic's lien was personal property, the government's claim is ineffective against Brooks.

A mechanic's lien has been defined as "a claim created by law for the purpose of securing payment of the price or value of work performed and materials furnished in erecting or repairing a building or other structure or in the making of other improvements on land, and as such it attaches to the land as well as to the buildings erected thereon." 53 Am.Jur.2d, Mechanic's Liens, §1 , at 512 (1970) (footnotes omitted). The right to acquire and enforce a mechanic's lien exists solely by positive statutory enactments; there was no mechanic's lien in the common law or in equity. Id. §2 , at 515; Kendall v. Martin, 136 W. Va. 197, 67 S.E.2d 42, 45 (1951);United States Blowpipe Co. v. Spencer, 40 W. Va. 698, 705, 21 S.E. 769, 772 (1895). Antone's lien was filed pursuant to W. Va. Code §38 -2-2 (1985) (lien of subcontractor).

A mechanic's lien gives the lienor a right to demand the sale of the property to which the lien attaches if the debt is not paid. 53 Am.Jur.2d, Mechanic's Liens, §3 , at 518 (1970). The lien is described as "purely a matter in rem and not in personam." Id. However, this does not mean that the holder of the right to the proceeds from a mechanic's lien holds an interest in real property:

While a mechanic's lien is sometimes said to be property, it is not like a mortgage. It is not an interest in land, but operates in the nature of an attachment or garnishment . . . .

Id. ³ Indeed, early cases involving mechanic's liens denied the holder the power to assign his lien to another:

There is some early authority which, in the absence of a statute to the contrary, and under the influence of the early common-law rule as to the nonassignability of choses in action, treats a mechanic's lien, even after it has been perfected by the person who performed the labor or furnished the materials, as a personal right which cannot be assigned so as to enable the assignee to prosecute the claim in his own name.

Id. §287, at 823. ⁴ The concept that the mechanic's lien is a chose in action is supported by early cases, dating from the time when that distinction played a greater role than it plays in modern jurisprudence. One example is Clement v. Reitz, 103 Ill. 315 (1882), where the court ruled that it had no jurisdiction to hear a case involving enforcement of mechanic's liens because no "freehold" was involved:

Payment of the sum ascertained to be due to [the materialmen] would relieve the land entirely from the lien established. How, then, is a freehold any more involved than in a suit to foreclose a mortgage? It has frequently been decided by this court that in a proceeding by bill to foreclose a mortgage a freehold is not involved. No difference in principle is perceived in the cases. In one case the lien is created by mortgage-deed, and in the other it is given by statute, and the proceeding in either case is simply to foreclose the lien.

Id. at 316. The same result was reached by the Colorado Supreme Court in Spangler v. Green, 21 Colo. 505, 507, 42 P. 674, 675 (1895) (court lacked jurisdiction because insufficient monetary amount in controversy and "proceeding to enforce a mechanic's lien does not involve a freehold"). The Supreme Court of Minnesota was even more emphatic:

The assertion that the statutory right of a mechanic or a material man to enforce a lien is not an estate or interest in the land on which the work of one or the materials of the other may have been performed or furnished need not be supported by argument or illustration.

Burns v. Carlson, 53 Minn. 70, 71-72, 54 N.W. 1055, 1055 (1893). The court held in Burns that because the mechanic's lien was simply a lien and not an interest in real property, "[l]ike other lien rights, it may be lost or abandoned or discharged." Id. at 72, 54 N.W. at 1055. The Supreme Court of Oregon articulated a similar view, holding that

it is clear that the mere right or privilege of preserving and perpetuating a mechanic's lien upon buildings is not an interest in land. The right may be allowed to lapse, or its duration may be terminated by a payment of the demand without a release; and a written waiver, without the observance of any of the formalities of acknowledgement, etc., required touching instruments affecting land, will constitute an insuperable barrier to the enforcement of a lien thus waived, so that the essential characteristics attending instruments effecting [sic] real property are especially wanting . . . .

Hughes v. Lansing, 34 Or. 118, 124, 55 P. 95, 97 (1898). See, e.g., W. Va. Code §38 -2-34 (1985) (suit to enforce mechanic's lien must be commenced within six months of lien filing).

In fact, as at least one court specifically noted, the mechanic's lien holder's "claim against the property is secondary, ancillary." Alberti v. Moore, 20 Okla. 78, 86, 93 P. 543, 546-47 (1908). The Oklahoma Supreme Court also noted, "The contractor is the primary debtor. If the amount could be collected from him, there would be no resulting claim against the property of the owner." Id. at 86, 93 P. at 546. In that case, where the mechanic's lienor was a subcontractor, the Oklahoma statute required that the contractor be a party defendant in the suit to enforce the lien, so that a judgment could be secured against the contractor for the arrears; the judgment was levied against the property only if the contractor failed to pay the judgment.Id. at 86, 93 P. at 546-47. See Chambers Lumber Co. v. Gilmer, 60 Ga. App. 832, 835, 5 S.E.2d 84, 87 (1939) ("As to the contractor the obligation is primary; as to the owner it is collateral only . . . .").

It is thus clear from the early cases and from the nature of the mechanic's lien proceeding itself that a mechanic's lien and, a fortiori, a claim to the proceeds of a mechanic's lien is a chose in action, and that an action to enforce a mechanic's lien is substantially an in personam action and not an in rem action. "Whether a proceeding is in rem or in personam is determined by its nature and purpose, and by these only." 1 Am .Jur.2d, Actions, §39 , at 572-73 (1962). A mechanic's lien falls within the following definition of in personam action:

A proceeding in personam is a proceeding to enforce personal rights and obligations brought against the person and based on jurisdiction of the person, although it may involve his right to, or the exercise of ownership of, specific property, or seek to compel him to control or dispose of it in accordance with the mandate of the court.

Id. at 573 (footnotes omitted). By contrast, a proceeding in rem "is essentially a proceeding to determine the right in specific property, against all the world, equally binding on everyone." Id. §40 , at 573. A mechanic's lien action merely settles the claim of an unpaid mechanic or materialman, and does not purport to settle or clear title to the property carrying the lien.

The policies behind the filing requirements for government tax liens are satisfied by our finding that a mechanic's lien is a chose in action, and that the tax lien filed in Pennsylvania, Antone's state of residence, therefore gives the government priority over a subsequent assignee of the mechanic's lien. If Brooks' assigned interest were in the underlying real property, the land in West Virginia, it is well settled that he should be required to do no more to protect his security interest than properly inspect the land records in West Virginia to establish that the land is otherwise unencumbered. Here, however, Brooks was assigned an interest in a lawsuit that Antone had pending in West Virginia to collect money due for Antone's construction work. The claim made by Antone is tantamount to an effort to collect on unpaid accounts receivable, which certainly involves no interest in real property. The mechanic's lien procedure is merely a remedy provided by West Virginia, and by virtually all other states, to ensure that mechanics and materialmen are able to collect on their accounts receivable. The Supreme Court of Appeals of West Virginia has held that "[t]he lien procedure provided for mechanics and materialmen is a cumulative remedy, and independently of the lien, such parties may resort to the ordinary common-law remedies, as by an action to recover a personal judgment. The two remedies may be pursued simultaneously, but there can be only one satisfaction."Woodford v. Glenville State College Housing Corp., 225 S.E.2d 671, 675 n. 6 (W. Va. 1976) (citing West Virginia Sanitary Engineering Corp. v. Kurish, 137 W.Va. 856, 74 S.E.2d 596 (1953)). Thus, the special benefit to Brooks of obtaining the assignment of the claim to the mechanic's lien proceeds instead of other accounts receivable, for example, was that the holder of a mechanic's lien has a much greater chance of collecting from the person owing on account than he would have of collecting on such an account ordinarily. This greater likelihood of collecting an overdue account does not also mean that there is a greater likelihood of prevailing over parties holding prior liens against the debtor/assignor, however. It is well established that "the assignee steps into the shoes of the assignor, taking it subject to all prior equities between previous parties . . . for the holder can only sell and transfer such interest as he has . . . ." Thomas v. Linn, 40 W.Va. 122, 127, 20 S.E. 878, 880 (1894). Here, Brooks' joy at the success of the mechanic's lien action unfortunately must be tempered by the knowledge that he was assigned personal property, and not an interest in real property, so that the government's prior tax lien will take priority over his assignment if the tax lien was properly filed in the state of Antone's corporate residence.

B. Proper filing of tax lien. Notices of tax liens on personal property, whether tangible or intangible, must be filed "at the residence of the taxpayer at the time the notice of lien is filed." 26 U.S.C.A. §6323(f)(2)(B) (Supp. 1987). For purposes of that provision, "the residence of a corporation or partnership shall be deemed to be the place at which the principal executive office of the business is located." Id. §6323(f)(2) .

The general rule in determining the priority of liens is that "the first in time is the first in right." United States v. New Britain [54-1 USTC ¶9191 ], 347 U.S. 81, 85 (1954). However, for a tax lien to have priority over a perfected security interest, notice of the tax lien must be properly filed under §6323(f) before the competing security interest is perfected. 26 U.S.C.A. §6323(a) (Supp. 1987). Here, the government tax lien notices were filed in Pennsylvania before Brooks perfected his security interest in the anticipated proceeds of the West Virginia mechanic's lien action. Therefore, the government lien takes priority if Antone's principal executive office was in Pennsylvania, as the district court held it was.

The test in §6323 for corporate "residence" is different from the residency test used for evaluating diversity jurisdiction. Dimmitt & Owens Financial, Inc. v. United States [86-2 USTC ¶9326], 787 F.2d 1186, 1191 (7th Cir. 1986). In enacting §6323 , the Congress explicitly rejected the proposal (made by the Internal Revenue Service) that corporate residence be determined by the taxpayer's domicile. S. Rep. No. 1708, 89th Cong., 2d Sess. (1966),reprinted in 1966 U.S. Code Cong. & Admin. News 3722, 3732. The objective of the residency test in §6323 is to make "the identification of the place for filing and searching for liens as simple and certain as possible." Dimmitt & Owens, 787 F.2d at 1191. Thus, a corporation's residence for purposes of §6323 is not necessarily one of its registered offices or its place of incorporation. Dimmitt & Owens, 787 F.2d at 1190; S. D'Antoni, Inc. v. Great Atlantic & Pacific Tea Co. [74-2 USTC ¶9552 ], 496 F.2d 1378, 1382-83 (5th Cir. 1974). This court has not pronounced directly on the point. The only Fourth Circuit cases cited by Appellant involve diversity jurisdiction, where the residence inquiry is explored for a different reason: to protect out-of-state litigants from possible unfair adjudication by local fact-finders.

The Seventh Circuit has adopted a "nerve center" test for establishing a corporation's principal place of business.Dimmitt & Owens, 787 F.2d at 1191; Kanzelberger v. Kanzelberger, 782 F.2d 774, 777 (7th Cir. 1986); Sabo v. Standard Oil Co., 295 F.2d 893 (7th Cir. 1961). The Fifth Circuit has held that the principal executive office "is the headquarters of the business--the office at which the major executive decisions affecting the business are made." S. D'Antoni, Inc., 496 F.2d at 1383. The Seventh Circuit reached the same conclusion in Dimmitt & Owens, holding that although the corporation had its major asset (a manufacturing plant) in California, the headquarters in Illinois constituted the principal executive office because the officers of the company, most corporate financial records, and other typical headquarters activities were located in Illinois. 787 F.2d at 1191-92. The test adopted by the Fifth and Seventh Circuits is consistent with the language of §6323 and its legislative history. If Congress had intended to establish corporate residence at its place of incorporation or its registered office, it could easily have done so. See S. D'Antoni, Inc., 496 F.2d at 1383.

Applying that test to the facts of the present case, it is clear that the district court's finding is not "clearly erroneous" and should stand. Despite the transient presence of field offices at construction sites in the several states where Antone operated, the executive decisions were consistently made by Anthony Frank in Pennsylvania. Indeed, at the time the tax lien notices were filed, the South Carolina job site office and the South Carolina office in Frederick Frank 's basement were closed. The only remaining office in South Carolina was the incorporating attorney's law office, which served only as a mail drop; no corporate business was transacted there. Except for incorporating in South Carolina, there is little if any evidence in the record that Anthony Frank attempted to establish or maintain South Carolina residency for Antone Construction. The filing of a consolidated federal tax return denoting Antone as a subsidiary of Brimar and giving a Sharon, Pennsylvania address for Antone certainly indicate that Anthony Frank considered the corporation to be effectively based in Pennsylvania.

Brooks argues that applying this kind of test for corporate residence introduces uncertainty into the process of searching for tax liens, and protests that the Pennsylvania residence was not recorded in "public records." The courts cited above did not make a distinction between public and private records. Rather, they looked at various indications of corporate residence to establish which office is "the most readily identifiable" as the principal office. Dimmitt & Owens, 787 F.2d at 1191. Here, all factors point to Pennsylvania except for the incorporation papers. Some public records also point to Pennsylvania; for example, a Pennsylvania address was given in Antone's South Carolina annual report for the location of Antone's corporate books.

In addition, it is unreasonable for Brooks to protest that he was unfairly surprised by the finding that Antone resided in Pennsylvania. Brooks made loans over a period of several months to Frank , Brimar, and Antone, and secured guarantees by each for the various loans. When the assignment involved here was made, Brooks' lawyer went to Pennsylvania to secure the proper signatures, including a signature to bind Antone. Brooks obviously knew where Antone's "nerve center," or principal corporate executives, were located. In addition, the prudent creditor can require production of tax returns and other relevant financial materials before extending loans; in this case, the tax return would have disclosed Antone's consolidated filing with Brimar and the listing of a Pennsylvania address.

II. The purported settlement of Antone's tax liabilities

The district court properly held that the compromise settlement cannot be enforced against the government despite the superficially apparent acceptance of Frank 's offer. Sections 7121 and 7122 of the tax code govern settlement of disputed tax liabilities, and authorize the Secretary of the Treasury or his delegate to enter into written agreements to settle disputes over tax liability and to compromise any civil or criminal case arising under the internal revenue laws. 26 U.S.C.A. §7121 , 7122 (1967 & Supp. 1987). Section 7122 is the exclusive method by which tax cases may be compromised.Botany Worsted Mills v. United States [1 USTC ¶348 ], 278 U.S. 282, 288-89 (1929) (prior version of statute); Shumaker v. Commissioner of Internal Revenue[81-2 USTC ¶9508], 648 F.2d 1198, 1199-1200 (9th Cir. 1981); Country Gas Service, Inc. v. United States[69-1 USTC ¶9178], 405 F.2d 147, 149 (1st Cir. 1969); United States v. Hardy [62-1 USTC ¶9286 ], 299 F.2d 600, 605-06 (4th Cir. 1962); Brast v. Winding Gulf Colliery Co. [38-1 USTC ¶9038 ], 94 F.2d 179, 181 (4th Cir. 1938). See Holland v. Commissioner of Internal Revenue [80-2 USTC ¶9469 ], 622 F.2d 95, 97 (4th Cir. 1980) (no binding agreement where form setting forth tax deficiency not approved by District Director).

The requirements of those statutes and accompanying regulations are strictly construed. Botany Worsted Mills, 278 U.S. at 288-89, cited with approval in Yarborough v. United States [56-1 USTC ¶9295 ], 230 F.2d 56, 62 (4th Cir. 1956). The letter of acceptance given to Frank was signed by the Pittsburgh IRS District Director (actually, stamped with his signature), but the authority to settle disputes involving unpaid liability over $100,000 is granted only to IRS Regional Commissioners and Regional Counsel. Delegation Order 11 (Rev. 13), 1982-1 Cum. Bull. 333. Thus, even if the District Director had signed the letter and intended to accept Frank 's offer of compromise, the acceptance would have been ineffective. See, e.g., Botany Worsted Mills v. United States [1 USTC ¶348 ], 278 U.S. 282 (1928) (attempted informal settlement by subordinate officials did not constitute binding agreement); Dorl v. Commissioner of Internal Revenue [74-2 USTC ¶9826], 507 F.2d 406, 407 (2d Cir. 1974) (letter of assurance from revenue officer not authorized to compromise under §7121 does not bind United States); Reimer v. United States [71-1 USTC ¶9355 ], 441 F.2d 1129, 1130 (5th Cir. 1971) (per curiam) (United States not bound by apparent settlement where agent without authority to compromise taxpayer's tax liability and form stated that IRS not waiving right to further assessment);Country Gas Service v. United States 69-1 USTC ¶9178 ], 405 F.2d 147, 149-50 (1st Cir. 1969) (because exclusive means of compromise established by §7122 not used, any arrangement taxpayer made with agent had no legal standing); McGee v. United States [83-1 USTC ¶9245 ], 566 F.Supp. 960 (M.D. Fla. 1982) (government not bound by agreement allowing installment payments where agreement not signed by qualified delegate under §7122 ).

Those cases and others have held that the exclusivity of §7122 bars enforcement of apparent agreements under general concepts of accord and satisfaction. See e.g., Bowling v. United States [75-1 USTC ¶9333 ], 510 F.2d 112, 113 (5th Cir. 1975); Moskowitz v. United States [60-1USTC ¶9204 ], 285 F.2d 451, 453 (Ct. Cl. 1961). Therefore, despite Brooks' arguments to the contrary, the fact that the government kept and applied to claims against Brimer and Anthony Frank the $250,000 tendered with the compromise offer does not create an enforceable settlement.

Even if the purported acceptance letter had been signed by an authorized official, the settlement could have been set aside by the government because of Anthony Frank 's attempt to bribe the IRS agent. It is well established that an agreement with the government obtained by fraud cannot be enforced against the government. Pan American Petroleum & Transport Co. v. United States, 273 U.S. 456, 500 (1927); Crocker v. United States, 240 U.S. 74, 80-81 (1916). Brooks urges that Anthony Frank 's acquittal on the bribery charge bars the application of the principle to the settlement in question; but it is also well established that because of the different burdens of proof involved, acquittal of a criminal charge is not res judicata in a civil case. United States v. National Association of Real Estate Boards, 339 U.S. 485, 492-94 (1950) (Sherman Act); Helvering v. Mitchell[38-1 USTC ¶9152], 303 U.S. 391, 397 (1938) (income tax). Here, nothing in the record or the briefs indicates that the district court's finding of fraud was clearly erroneous.

We also agree with the district court that Brooks lacks standing to attempt to estop the Government from asserting its tax lien against Antone. It is true that the tax code requires that "[u]pon the rejection of any such offer [made under §7122 ], the Secretary or his delegate shall refund to the maker of such offer the amount thereof." 26 U.S.C.A. §7809 (1967 & Supp. 1987). But Brooks' reliance on the provision is unavailing, because Brooks was not the maker of the offer. SeeRalston Steel Corp. v. United States 65-1 USTC ¶9189 ], 340 F.2d 663, 669-72 (Ct. Cl. 1965), cert. denied, 381 U.S. 950 (1965). Brooks has no standing to challenge transactions to which he is a stranger. The tax code gives Brooks standing to bring a civil action challenging the government's levy on property in which Brooks has a competing property interest, 26 U.S.C.A. §7426(a)(1) (1967 & Supp. 1987); but Brooks may not challenge the underlying tax assessment, which is conclusively presumed to be valid. Id. §7426(c) . Once the compromise transaction was voided by Anthony Frank 's actions, the IRS was entitled to treat the $250,000 as any other assets of the delinquent taxpayers in government possession. In the present case, the government found only $50,000 of the fund actually belonged to one of the taxpayers at issue (Brimar), and turned the remainder over to the Gibson Companies.

Similarly, Brooks cannot estop the government from denying the existence of a settlement. As noted above, the exclusivity of §7122 prevents the application of general contract rules to enforce apparent agreements between the IRS and taxpayers. Anthony Frank 's fraudulent actions in connection with making the offer of compromise would probably estop him or his estate from making a claim for refund, in any event. SeeCoy v. United States [67-2 USTC ¶9494 ], 377 F.2d 925, 928 (9th Cir. 1967) (compromise money, which was filched from government by taxpayer through misrepresentation of sale price of property subject to tax lien, could be kept by IRS despite rejection of offer). If Brooks were standing in the shoes of Anthony Frank , he could not estop the government because Anthony Frank 's attempted fraud vitiated the whole transaction. And Brooks cannot attempt to estop the government on his own behalf, because he did not detrimentally rely on the government's apparent acceptance of Anthony Frank 's offer. The loans and security interest under which Brooks claims were transacted in 1978 and 1979; the settlement-related activities occurred in 1983.

The order of the district court is

AFFIRMED.

¹ Another tax lien notice was filed September 18, 1979 , but that lien is not at issue in the case.

² Ultimately, the IRS retained only $50,000 of the proceeds of the check. The Gibson companies, which had been involved in joint ventures with Brimar and had agreed to release the $250,000 from an escrow account in the belief that Frank was properly settling Brimar's tax obligations with the IRS , sued to recover the proceeds. The Third Circuit held that the district court had jurisdiction to determine ownership of the proceeds of a check used as evidence. United States v. Frank , 763 F.2d 551 (3d Cir. 1985). The IRS then settled the dispute, returning $200,000 to the Gibson companies and keeping $50,000 to apply to Brimar's outstanding tax liabilities.

³ The characterization of the mechanic's lien action sometimes appears to depend on the court's view of particular proceedings. Compare Bernhardt v. Brown, 118 N.C. 700, 706, 24 S.E. 527, 528 (1896) ("judgment to enforce a mechanic's lien was a proceeding in rem") with Rutherford v. Ray, 147 N.C. 253, 259, 61 S.E. 57, 59 (1908) ("We do not think that an action to enforce the lien given for 'material furnished' is a proceeding quasi in rem. The debt is the personal liability founded upon contract. The action is to recover judgment for the debt.").

⁴ Most courts permitted the assignment of mechanic's liens, however, under accepted practices of assigning claims. E.g., Davis v. Bilsland, 85 U.S. (18 Wall.) 659, 661 (1873) (statutory mechanic's lien can be enforced by assignee in his own name, under Civil Practice Act of Montana, "which provides that actions shall be prosecuted in the name of the real party in interest . . . . When assigned, the claim really belonged to the plaintiff.").