
    HENRY MASON, LOUIS L. PRITIKIN AND ETTA PRITIKIN v. THE UNITED STATES
    [No. 537-53.
    Decided April 2, 1958]
    
      
      Mr. Howard B. Slater for the plaintiffs. Mr. Vincent Bombs was on the brief.
    
      Mr. Sheldon J. Gitelman, with whom was Mr. Acting Assistant Attorney General John N. Stull, for the defendant. Mr. James P. Garland was on the brief.
   Littleton, Judge,

delivered the opinion of the court:

Plaintiffs sue to recover $6,951.19 alleged to be due them as additional interest on overpayments of income taxes for the years 1943 and 1944, which overpayments have been credited against fraud penalties subsequently assessed for the same two years. The Government has interposed counterclaims for assessed and allegedly unpaid deficiencies in taxes for the years in suit.

The plaintiffs Henry Mason and Louis L. Pritikin were equal partners in a partnership known as Pritikin and Mason. The partnership information returns for the years 1942, 1943 and 1944 substantially understated the income of the partnership. The individual partners filed joint income tax returns with their respective wives for the calendar years 1942, 1943 and 1944 in which they also substantially understated their incomes and paid the taxes shown to be due on such returns.

On November 14,1945 the partnership filed amended partnership information returns for the years 1942, 1943 and 1944, disclosing previously unreported income in considerable amounts (finding 7). On the same date the individual partners filed amended returns for the years 1943 and 1944 reflecting the increase in the distributive shares of the partners in the partnership income (findings 8 and 9). Also, on. November 14, 1945, the taxpayers paid to the Collector of Internal Revenue the additional income taxes shown to be due on the amended returns for the years 1943 and 1944, with interest thereon to November 14,1945.-

On September 27,1950 Henry Mason paid to the Commissioner of Internal Revenue $18,430.83, and Louis L. and his wife, Etta Pritikin, paid to the Commissioner of Internal Revenue $17,744.11. Thereafter, on April 6, 1951, there were assessed against the plaintiffs fraud penalties in connection with the taxpayers’ wilful understatement of income for the years 1942,1943 and 1944, and income tax deficiencies, with interest, were assessed against the taxpayers for 1942. Against these assessments there were credited the sums paid by the taxpayers to the Commissioner on September 27,1950, in partial satisfaction of such assessments.

At about the same time as the assessment of the above fraud penalties, the Commissioner of Internal Revenue determined that the partnership had overstated its net income for the years 1943 and 1944, and that the amended individual income tax returns for those years filed by the Masons and the Pritikins had correspondingly overstated the distributive shares of the partnership income for those years. Accordingly, on April 13, 1951, the Commissioner scheduled the overassessments listed in finding 14 herein. Overassess-ments so scheduled were not refunded to the taxpayers but were credited against the 1942 assessed deficiencies and the fraud penalties applicable to 1942,1943 and 1944. The Collector allowed interest on the overpayments applicable to the years 1943 and 1944 to the extent that those overpayments were credited to the 1942 deficiencies. He also allowed interest, computed from the date of the overpayments in 1945 to the date of the assessment of the fraud penalties in 1951, on that portion of the overassessments which he had credited against the 1951 fraud penalties. Thereafter, on review, the Commissioner of Internal Revenue reversed the latter allowance and credit and disallowed interest on the overpayments to the extent that such overpayments had been credited to the fraud penalties for the years 1943 and 1944. The earlier action by the Collector had satisfied all of plaintiffs’ obligations and resulted in a balance due the taxpayers whereas the final action by the Commissioner resulted in a deficiency for which the Government has herein counterclaimed. (Findings 16, 17 and 18)

The Commissioner of Internal Revenue and the defendant take the position that plaintiffs are entitled to interest on the 1943 and 1944 overpayments of taxes only to the extent that such overpayments were credited to the 1942 deficiencies. They urge that interest on the 1943 and 1944 overpayments should be disallowed to the extent that the overpayments were credited to the fraud penalties for the years 1943 and 1944. Defendant bases this contention on the theory that a taxpayer is indebted to the Government for a fraud penalty prior to the assessment of such penalty, i. e., a sort of potential obligation which becomes fixed on the date of assessment and relates back to the date when the fraud was committed. Defendant also contends that in any event, where a fraud penalty and an income tax overassessment relate to the same tax year, the taxpayer is not entitled to have interest on that overassessment under the provisions of section 3771 of the Internal Revenue Code of 1939. 26 U. S. C. Sec. 3771.

Plaintiffs contend that a fraud penalty is not an obligation of a taxpayer to the Government until it is determined and assessed. In this case the fraud penalties were not determined and assessed until April 6,1951.

Section 3771 of the Code provides in pertinent part as follows:

Interest on overpayments
(a) Rate. Interest shall be allowed and paid upon any overpayment in respect of any internal revenue tax at the rate of 6 per centum per annum.
(b) Period. Such interest shall be allowed and paid as follows:
(1) Or edits. In the case of a credit, from the date of the overpayment to the due date of the amount against which the credit is taken, but if the amount against which the credit is taken is an additional assessment of a tax imposed by the Revenue Act of 1921, 42 Stat. 227, or any subsequent Revenue Act, then to the date of the assessment of that amount. [Italics supplied].

The parties agree that the interest provisions of the Internal Revenue Code are intended to allow interest on an overpayment only during the time that the taxpayer is not indebted to the United States in a like amount. Riverside & Dan River Cotton Mills, Inc. v. United States, 69 C. Cls. 70; Moore Shipbuilding Co. v. United States, 72 C. Cls. 392, 76 A. L. R. 1018, 1019. The issue to be decided herein is whether or not under the circumstances of this case the taxpayers were indebted to the Government for the fraud penalties in connection with 1943 and 1944 prior to the date on which those penalties were determined and assessed in 1951. If they were not, then plaintiffs must prevail.

The case most analogous on the facts to the instant case is that of Moore Shipbuilding Co. v. United States, supra. In that case the court held that the taxpayer was not indebted to the Government for a fraud penalty until the penalty was actually determined and assessed; that although the Code required that the penalty should be added as a part of the tax and collected in the same manner as a tax, it was not in fact a tax and was not payable by reason of income but by reason of a determination that fraud had been committed. The court pointed out that there must be a finding by the Commissioner of a false and fraudulent omission by the taxpayer whereby the penalty was incurred, and that until such a finding is made, the penalty cannot be assessed and nothing becomes due or added to the tax. The court held in the Moore case that the plaintiff was entitled to recover interest on the overpayment of its tax credited against the fraud penalty from the date of the overpayment to the date on which the fraud penalty was determined and assessed.

The only difference between the Moore case and the instant case lies in the fact that in the Moore case the overpayment on which interest was allowed was for one year and the penalty was assessed with respect to a fraud committed in a different year, whereas in the instant case the fraud and tbe overpayment related to the same tax year. We are of the opinion that the distinction pointed out by defendant does not require or warrant the result it seeks herein. The fact that the overpayment and the fraud penalty relate to the same year does not make the penalty an obligation of the taxpayer in that year unless the penalty was actually determined and assessed in that year. None of the cases cited by the defendant hold that a fraud penalty is an indebtedness of the taxpayer prior to the date of its determination and assessment and we see no justification for departing from our holding in the Moore decision, sufra.

Plaintiffs were entitled to interest on the 1943 and 1944 overpayments from the date of such overpayments in 1945 up to the date of the assessments of the fraud penalties in 1951 and they are therefore entitled to recover the interest sued for as follows:

Henry Mason_$3,450. 81
Louis L. and Etta Pritikin_ 3, 500. 38

Inasmuch as plaintiffs are entitled to interest on their over-payments up to the date of the assessment of the fraud penalties in 1951, defendant is not entitled to recover on its counterclaims and the counterclaims will be dismissed.

It is so ordered.

Fahy, Giremt Judge, sitting by designation; Madden, Judge; Whitaker, Judge; and Jones, Chief Judge, concur.

FINDINGS OF FACT

The court, having considered the evidence, the report of Commissioner George II. Foster, and the briefs and argument of counsel, makes findings of fact as follows:

1. Henry Mason, Louis L. Pritikin, and Etta Pritikin are citizens of the United States.

2. Henry Mason brings this action in his own right and as surviving spouse of Eose Mason, deceased.

3. Henry Mason and his wife, Eose Mason, deceased, filed with the collector of internal revenue, Chicago, Illinois, a joint income tax return for the calendar year 1943. Henry Mason filed a separate income tax return for the calendar year 1944. The returns for the years 1943 and 1944 were filed on or before March 15, 1944, and March 15, 1945, respectively. The amount of tax shown on the 1943 return and paid prior to March 15,1944, was $2,842.18. The amount of tax shown on the 1944 return and paid prior to March 15, 1945, was $1,947.54.

4. Louis L. Pritikin and Etta Pritikin filed with the collector of internal revenue, Chicago, Illinois, joint income tax returns for the years 1943 and 1944 on or before March 15, 1944, and March 15, 1945, respectively. The amount of tax shown on the 1943 return and paid prior to March 15, 1944, was $2,695.72. The amount of tax shown on the 1944 return and paid prior to March 15, 1945, was $2,557.05.

5. The income shown on the income tax returns of Henry and Eose Mason and Louis L. and Etta Pritikin for the years 1942, 1943, and 1944 was substantially understated.

6. Henry Mason and Louis L. Pritikin were equal partners in the partnership enterprise known as Pritikin and Mason. The partnership returns for the years 1942, 1943, and 1944 substantially understated the income of the partnership.

7. On November 14, 1945, the partnership, Pritikin and Mason, filed with the collector of internal revenue, Chicago, Illinois, amended partnership returns for the years 1942, 1943, and 1944, disclosing previously unreported income in the amount of $50,000 for 1942, $79,701.94 for 1943, and $97,235.35 for 1944.

8. On November 14, 1945, Henry and Eose Mason filed an amended income tax return for the year of 1943 and on that same date Henry Mason filed an amended income tax return for the year 1944. The amended returns reflected the increase in the distributive share of Henry Mason in the income of partnership Pritikin and Mason. On November 14, 1945, Henry and Eose Mason paid to the collector of internal revenue, Chicago, Illinois, $25,276.68 in additional income taxes for the year 1943 and $2,525.93 in interest thereon computed from March 15, 1944, to November 14, 1945. Henry Mason also paid to the collector on that same date $30,340.39 in additional income taxes for the year 1944 and $1,213.62 in interest thereon computed from March 15,1945, to November 14,1945.

9. On November 14,1945, Louis L. and Etta Pritikin filed amended income tax returns for the years 1943 and 1944. The amended returns reflected the increase in the distributive' share of Louis L. Pritikin in the income of the partnership Pritikin and Mason. On November 14, 1945, Louis L. and Etta Pritikin paid to the collector of internal revenue, Chicago, Illinois, $25,107.31 in additional income taxes for the year 1943, and $2,509.01 in interest thereon computed from March 15, 1944, to November 14, 1945. Louis L. and Etta Pritikin also paid to the collector on that same date $29,770.27 in additional income taxes for the year 1944 and $1,188.77 in interest thereon computed from March 15,1945, to November 14,1945.

10. On April 6, 1951, there were assessed against the plaintiffs the following fraud penalties:

11.On April 6, 1951, there were also assessed against the plaintiffs for the year 1942 the following deficiencies in taxes and interest:

12. On September 27, 1950, plaintiff, Henry Mason, paid to the Commissioner of Internal Eevenue $18,430.83 and plaintiffs, Louis L. and Etta Pritikin, paid to the Commissioner of Internal Eevenue $17,744.11. These sums were credited against assessments described "in findings 10 and 11.

13. Upon subsequent examination by an internal revenue agent, it was determined that the partnership Pritikin and Mason had overstated its net income for the years 1943 and 1944, and that the income tax returns for the years 1943 and 1944 filed by Henry and Nose Mason and Louis L. and Etta Pritikin correspondingly overstated the distributive shares of partnership income of Henry Mason and Louis L. Pritikin for the years 1943 and 1944.

14.On April 13,1951, the Commissioner of Internal Revenue signed Schedule No. 169301, upon which appeared the following overassessments:

These sums were not refunded to taxpayers but were rather credited against assessments described in findings 10 and 11.

15.The Commissioner of Internal Revenue allowed interest on the overassessments described in the preceding findings as follows:

The interest allowed was not refunded to taxpayers but was rather credited against assessments described in findings 10 and 11.

16.After the payments, overassessments, and interest described in findings 12, 14, and 15 were credited against the plaintiffs’ liabilities for tax, interest, and penalties for the years 1942, 1943, and 1944, described in findings 10 and 11, a deficiency in tax due from plaintiffs was determined by the Commissioner of Internal Revenue as follows:

Henry Mason_$1,153. 26
Louis L. and Etta Pritikin- 1,115.31

17.The deficiencies referred to above relate to the following years:

18. The deficiencies as to Henry Mason arose as follows:

(a) The collector of internal revenue, Chicago, Illinois, originally credited Henry Mason with $1,153.26 more in interest on his overpayments than is reflected in finding 15. Of the aforesaid interest, $1,073.53 arose from the granting of interest on the portion of Henry Mason’s overpayment for 1943 which was credited against his assessed fraud penalty for 1943, and $79.74 arose from the granting of interest on Henry Mason’s overpayment for 1944 which was applied against his assessed fraud penalty for 1944. The interest credited by the collector plus the credits referred to in findings 12, 14, and 15 satisfied all of Henry Mason’s tax, interest, and penalty liabilities reflected in findings 10 and 11.
(b) Thereafter, after review in the national office of the Internal Revenue Service, the Commissioner of Internal Revenue ordered the collector of internal revenue in Chicago, Illinois, on July 6, 1951, to reverse interest credits granted by the collector to Henry Mason in the sum of $1,153.26. As a result, the credit originally granted against 1943 liabilities was decreased by $1,073.52 and the credit granted against 1944 liabilities was decreased in the sum of $79.74. This decrease resulted from the Commissioner’s decision that the collector in Chicago had erroneously allowed interest on overassessments which were credited against penalties for the same years as the overassessments.
(c) The reversal of these credit entries created the deficiencies of Henry Mason referred to in findings 16 and 17.

19. The deficiencies as to Louis L. and Etta Pritikin arose as follows:

(a) The collector of internal revenue, Chicago, Illinois, originally credited Louis L. and Etta Pritikin with $1,115.31 more in interest on their overpayments than is reflected in finding 15 hereof. The aforesaid interest arose from the granting of interest on. the portion of Louis L. and Etta Pritikin’s overpayment for 1943 which was credited against their assessed fraud penalty for 1843. The interest credited by the collector plus those credits referred to in findings 12, 14, and 15, served to satisfy all of Louis L. and Etta Pritikin’s tax, interest, and penalty liabilities reflected in findings 10 and 11.
(b) Thereafter, on review in the national office of the Internal Revenue Service the Commissioner of Internal Revenue on July 6, 1951, ordered the collector of internal revenue, Chicago, Illinois, to reverse interest credits granted by the collector to Louis L. and Etta Pritikin in the sum of $1,115.31. As a result, the credit originally granted against 1943 liabilities was decreased by $1,115.31. This decrease resulted from the Commissioner’s decision that the collector in Chicago erroneously allowed interest on an overassessment which was credited against a penalty for the same year as the overassessment.
(c) The reversal of these credit entries created the deficiencies referred to in findings 16 and 17.

20. Prior to the reversals of credits referred to in findings 18 and 19, the plaintiffs received notices from the defendant which reflected that there was no balance due and owing from the plaintiffs.

21. The plaintiffs had given a power of attorney to Nathan Miller of the firm of certified public accountants known as Miller, Mandell & Co., whose address at all times material and pertinent herein was 134 N. LaSalle Street, Chicago 2, Illinois, and that pursuant to said power of attorney the defendant was requested to serve notice of all correspondence and proceedings in connection therewith upon the plaintiffs in care of Miller, Mandell & Co., 134 N. LaSalle Street, Chicago 2, Illinois. In attempting to serve a second notice and demand upon the plaintiffs, subsequent to the reversals of credits referred to in findings 18 and 19, defendant mailed the second notices to the plaintiffs at 134 N. LaSalle Street, Chicago 2, Illinois, but the envelopes did not state “in care of Miller, Mandell & Co.” As a result, the second notice and demand was returned to the office of the collector of internal revenue, Chicago, Illinois, on or about March 4, 1954.

22. In connection with the second notice and demand, after failure of the plaintiffs to pay the amounts due, the defendant through its administrative procedures, ordered issuance of warrants for distraint as to the plaintiffs. Said warrants were drawn up as of March 3, 1954. The defendant’s records fail to reflect that the warrants for distraint were served upon the plaintiffs or their authorized representatives prior to the commencement of this action or the filing of the defendant’s counterclaim. In 1956 distraint warrants for the amounts claimed by the defendant were brought to the attention of plaintiffs’ representatives.

23. Prior to the commencement of this action copies of the certificates of overassessment were sent to the plaintiffs’ representatives which disclosed the amount of interest actually credited to the plaintiffs’ liabilities after the reversing entries. Pursuant to a request, a letter dated October 10,1951, was also sent by the Commissioner to plaintiffs’ representatives prior to the commencement of this action, setting out the computation of the interest actually credited to plaintiffs after the reversal of the credits described in findings 18 and 19.

24. Prior to the commencement of this suit, the plaintiffs’ representatives could have computed the outstanding liabilities of Henry Mason and Louis L. and Etta Pritikin from the information then available.

25. Without giving effect to defendant’s counterclaim, in the event that plaintiffs prevail, they would be entitled to interest, without interest thereon, on their overpayments from the date of overpayment to the date assessment of the penalties against which the overpayments were credited, computed as follows:

26. In the event the defendant prevails on its counterclaim, it is entitled to recover from plaintiffs as follows:

Henry Mason-$1,153.26 (plus lawful interest thereon)
Louis L. and Etta Pritikin— 1,115.31 (plus lawful interest thereon)

CONCLUSION OP LAW

Upon the foregoing findings of fact, which are made a part of the judgment herein, the court concludes as a matter of law that plaintiffs are entitled to recover, and it is therefore adjudged and ordered that they recover of and from the United States as follows: Henry Mason, three thousand, four hundred fifty dollars and eighty-one cents ($3,450.81) ; Louis L. and Etta Pritikin, three thousand, five hundred dollars and thirty-eight cents ($3,500.38). It is further concluded that defendant is not entitled to recover on its counterclaims and its counterclaims are dismissed.  