Executor Seeks Refund of Fiduciary Income Taxes, and The Application of Iqbal/Twombly to Defensive Pleadings in Tax Cases
The executor of the Estate of Tamir Sapir is seeking a refund of more than $25 million of fiduciary income tax alleged to have been overpaid to the Internal Revenue Service (“IRS”). While the refund suit is currently teed up before a federal district court, the estate sought judgment on the pleadings, attempting to seize on the government’s sparse affirmative-defense pleading. The case addresses a question on which federal courts have split: Whether a heightened-pleading standard—a la the Supreme Court’s Iqbal/Twombly line of cases—applies to pleadings raising a defense in a tax refund suit.
The estate had previously filed income tax returns as required by law. The executor filed the Estate’s initial Form 1041 for FYE 16 in November 2016, and promptly made a payment of $50.2 million to the IRS, consisting of an approximately $48.6 million tax payment and a $1.6 million late penalty and interest payment.
Later, the estate filed an administrative refund request, seeking the return of some $25 million-plus in allegedly overpaid taxes. The estate filed an amended Form 1041 for FYE 16 on April 12, 2019, reflecting a refund of approximately $14.6 million, and a balance due of approximately $26.4 million. On May 1, 2020, Plaintiff filed a second amended Form 1041 for FYE 16, which showed the allegedly omitted payment and corresponding refund claim of $22.2 million for FYE 16.
The estate alleged that, at the time the refund suit was filed, the IRS had neither acknowledged the refund claims contained in the amended returns nor communicated agreement or disagreement with the amount of the claims. Thus, it argued, the necessary six-month period for filing suit had elapsed, giving rise to jurisdiction to file a refund suit in federal district court. See 26 U.S.C. § 6532(a).
Tax Refund Claims.
In a tax refund case, the plaintiff must establish that it has overpaid its taxes for the year in question in the amount of the refund sought. A tax refund suit is a de novo proceeding. The taxpayer bears the burden of proof, including both the burden of going forward and the burden of persuasion.
Under section 7422(a), a taxpayer is required to file a claim for refund before filing a suit for refund. Pursuant to Treas. Reg. § 301.6402-2(b)(1), the claim for refund must include each ground upon which a credit or refund is claimed and facts sufficient to apprise the IRS of the exact basis thereof.
Generally, the taxpayer must file a claim for refund within three years from the time he files his return or within two years from the time the tax was paid, whichever is later. If no tax return was filed, a claim must be filed within two years from the time the tax was paid.
Is there a Heightened Pleading Standard for Defenses in a Tax Refund Case?
Federal courts have split on the question. In Wells Fargo & Co. v. United States, a federal district court held that the requirement under Iqbal/Twombly that a plaintiff must plead sufficient facts to state a plausible claim for relief is “inapplicable to pleading of affirmative defenses by a defendant.” Wells Fargo & Co., 750 F. Supp. 2d 1049, 1051.
At the time that the Court of Federal Claims decided Sapir, the Federal Circuit had not addressed the argument that an affirmative defense should be subject to the Iqbal/Twombly plausibility standard. The court, drawing in large part on the logical structure of the Fedearl Rules of Civil Procedure, concluded that a responsive pleading asserting an affirmative defense need not comply with the heightened-pleading standards envisioned by Iqbal and Twombly.
The Federal Rules of Civil Procedure provide only that a party’s responsive pleading “state in short and plain terms its defenses to each claim asserted against it.” RCFC 8(b)(1)(A); RCFC 8(b)(2) (requiring with respect to affirmative defenses that a responsive pleading “affirmatively state” such defenses). As the court noted, this requirement stands in contrast to the pleading standard applicable to claims for relief, which requires that a party plead not only “a short and plain statement of the claim” but also the facts “showing that the pleader is entitled to relief.” RCFC 8(a)(2). Indeed, the court noted that Iqbal and Twombly were based on the heightened requirement to show entitlement to relief—a requirement that is not contained in the rules applicable to defenses.
The court elaborated on its analysis:
The patent difference in pleading standards for claims and defenses reflects the uneven positions of a plaintiff and a defendant at the pleadings stage. As the court in Wells Fargo & Co. recognized, a plaintiff has months and often years to investigate a claim before filing a pleading in federal court, whereas a defendant has 21 days (or 60 days if the defendant is the United States) to serve an answer. 750 F. Supp. 2d at 1051. And it is often the case that a defendant may not have access to the complete record of evidence underlying, or even a complete understanding of, a plaintiff’s claims until the parties have conducted discovery. Here, as Defendant notes, the case is still in its “nascent stages” and the parties have yet to engage in discovery made available under the Court’s rules. ECF No. 20 at 9 (citing RCFC 26(b)(1)); see Estate of Rubenstein v. United States, 94 Fed. Cl. 51, 53 (2010) (holding in a tax refund case that “the parties are entitled to develop their respective cases . . . , including to avail themselves of all forms of discovery that are permitted under the rules of the court”).
The courts analysis ultimately focused both on the plain language of Rule 8 and the policy justifications behind the not-so-parallel pleading rules. That type of focus could, if more widely adopted, have potential implications for how one should view Tax Court pleading standards. The Tax Court has long employed a notice-pleading regime–which it extended to defensive pleadings under Rule 40. That approach is rooted in history (the Conley case) and the Tax Court’s interpretation of its own procedural rules, which govern pleading—rather than the Federal Rules of Civil Procedure that govern district court and the Court of Federal Claims. An analytical focus driven by the policy justifications behind the relative pleading standards might find it significant that a taxpayer is often in control of the evidence (or lack thereof) relating to a particular issue, but it might also consider the relatively large portion of pro se taxpayer-litigants, which likely supports a notice standard. Of course, there are a host of other considerations as well. At any rate, I would not envision the Tax Court departing from a notice-pleading standard anytime soon. But it’s nonetheless interesting to consider the philosophical justifications behind these procedural devices.
 RULE 31. GENERAL RULES OF PLEADING
(a) Purpose: The purpose of the pleadings is to give the parties and the Court fair notice of the matters in controversy and the basis for their respective positions.
(b) Pleading To Be Concise and Direct: Each aver- ment of a pleading shall be simple, concise, and direct. No technical forms of pleading are required.