Tax Court Widens Application of Valuation Misstatement Penalty

In AHG Investments LLC v. Commissioner of Internal Revenue, 140 T.C. No. 7 (3/14/2013), the U.S. Tax Court reversed its previously established position in holding that a taxpayer may not avoid application of the gross valuation misstatement penalty, imposed under Section 6662 of the Internal Revenue Code, merely by conceding the Internal Revenue Service asserted adjustments to income on alternative grounds unrelated to valuation. By holding that the gross valuation misstatement penalty may not be so easily avoided, the Tax Court adopted what has become the majority position of those circuit courts that have considered this issue.

The facts in AHG are relatively straightforward. With respect to taxable years 2001 and 2002, the IRS disallowed about $10.1 million of the taxpayer’s allocable share of partnership losses. In its final partnership administrative adjustment, the IRS enumerated 14 alternative grounds in support of the disallowance of the partnership’s losses and asserted a 40 percent accuracy-related penalty under Code §6662(a) for that portion of the underpayments of tax that could be attributed to a gross misstatement of value. In its Tax Court petition in response to the IRS disallowance, the taxpayer conceded that the adjustment was correct on several grounds, including the concession that the taxpayer was not at risk under Code §465 and that the transaction at issue did not have substantial economic effect as required under Treasury Regulation §1.704-1(b). The taxpayer then filed a motion for partial summary judgment with the Tax Court, arguing that the 40 percent gross valuation misstatement penalty does not apply as a matter of law because the taxpayer had conceded the correctness of the IRS adjustments on grounds unrelated to valuation.