Tax Court Rejects Transferee Liability Claim

In Swords Trust v. Comm’r., 142 T.C. No. 19, the IRS attempted to bypass state law and use federal law to assert transferee liability against four trusts that each owned an interest in Davreyn Corp. At its most basic, Davreyn Corp. through a series of transactions sold stock to a personal holding company which in turn sold shares of a publicly traded company. The IRS disallowed the transactions and then attempted to recharacterize the sale as a sale by the Trusts under the federal substance over form doctrine.

IRC § 6901(a) provides that the IRS may proceed against a transferee of property to assess and collect tax, penalties and interest owed by the transferor. It is not an imposition of liability against the transferee but an authorization to pursue the transferee under applicable state law. In Swords, the IRS attempted to circumvent state law and apply a federal substance over form doctrine to avoid Virginia law, which did not support a finding of transferee liability.

Judge Marvel rejected the IRS’ argument and sided with multiple Courts of Appeal. She went on to distinguish the Tax Court’s previous inexplicable holding in Feldman v. Comm’r., TC Memo 2011-297. In Feldman, the Tax Court applied federal law first under a bizarre equity argument and then applied state law to find the transferee liable. Thankfully, the Tax Court did not expand Feldman, but it also did not reject it.

We’ve handled numerous large transferee liability cases. Should you have a similar situation please give us a call.

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