TAX CONTROVERSY UPDATE Attorney Client Mayer Brown

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					                  TAX CONTROVERSY UPDATE
 Attorney-Client Privilege, I.R.C. § 7525, and Work-Product Doctrine
                   Daniel A. Dumezich, Larry R. Langdon, Gary S. Colton, Jr.
                                                 September 2008

                                                         In court, the party asserting the privilege
  Recent decisions at the district court level         has the burden of proving it applies and that the
have added to the body of law related to               privilege has not been waived.
operation of the attorney-client privilege,
the Internal Revenue Code of 1986, as                    For attorney-client privilege to exist, the
amended (the “I.R.C.”) § 7525 tax                      following elements are required:
practitioner-client    privilege,  and     the
attorney work-product doctrine.        These           1) legal advice is sought;
decisions impact both the scope of
                                                       2) advice is sought from a professional legal
protection granted by each type of
                                                          advisor acting in that capacity;
privilege, as well as which actions result in
a waiver of privilege.
                                                       3) communications relate to the client’s desire
                                                          to obtain legal advice, but are not made for
  These recent decisions provide valuable
                                                          the purpose of committing a crime or tort or
insight to corporate taxpayers concerned
                                                          perpetrating a fraud (the “crime fraud
about protection of confidential materials
and may impact the likelihood of success in
future tax litigation. This bulletin contains
                                                       4) communications must be made confidentially
an overview of the various privileges, and
                                                          and must be intended to remain confidential;
summarizes the relevant court decisions
relating to those privileges.                          5) the client must claim privilege (usually done
                                                          through the client’s attorney); and

Attorney-Client Privilege                              6) there may not be a waiver of such privilege.

   Attorney-client privilege is a common law             Attorney-client privilege does not apply to
privilege; it is not based on any statute or           communications to which no expectation of
rule of law. The privilege belongs to the              confidentiality exists. For this reason, there is no
client, not to the attorney, and survives the          privilege for information that will appear on tax
client’s death. The privilege provides                 returns, nor for communications related to
absolute protection against disclosure                 preparation of tax returns (e.g., preparatory
where it applies, unless it has been waived.           computations).
Tax Practitioner-Client Privilege, I.R.C. §       another representative of the client (e.g., an
                                                  expert in analysis), in anticipation of litigation.
                                                    The Supreme Court first announced the work-
  The tax practitioner-client privilege is a
                                                  product doctrine in Hickman v. Taylor, 329 U.S.
statutory privilege provided by § 7525 of
                                                  495, 510 (1947), and it was later codified in
the I.R.C. The privilege applies to
                                                  Federal Rule of Civil Procedure Rule 26(b)(3).
communications between a taxpayer and a
                                                  Rule 26 (b)(3) provides that:
federally authorized tax practitioner, if
those communications involve the provision
                                                    “[A] party may obtain discovery of documents
of tax advice.
                                                    and tangible things otherwise discoverable
                                                    under subdivision (b)(1) of this rule and
  Section 7525 incorporates the same
                                                    prepared in anticipation of litigation or for trial
elements as attorney-client privilege;
                                                    by or for another party or by or for that other
however, there are some limitations.
                                                    party’s representative … only upon a showing
1)    The privilege is effective only for           that the party seeking discovery has substantial
      communications made on or after               need of the materials in the preparation of the
      July 22, 1998.                                party’s case and that the party is unable
                                                    without undue hardship to obtain the
2)    The tax practitioner’s privilege is           substantial equivalent of the materials by other
      available only in noncriminal tax             means.
      matters before the IRS and
      noncriminal tax proceedings in                  No protection exists for documents that would
      Federal court brought by or against         have been prepared regardless of possible
      the United States. It provides no           litigation, but documents that serve a dual
      protection in state proceedings.            purpose have received work-product protection
                                                  in some courts.
3)    No protection exists for written
      communications between a tax                    There are currently two different standards
      practitioner    and      “a     director,   that courts use to evaluate whether documents
      shareholder, officer, or employee,          were prepared “in anticipation of litigation.” The
      agent, or representative of a               majority of circuits have adopted the “because of
      corporation in connection with the          litigation” test, which requires that “In light of
      promotion of the direct or indirect         the nature of the document and the factual
      participation of such corporation in        situation in the particular case, the document can
      any tax shelter (defined in §               fairly be said to have been prepared or obtained
      6662(d)(2)(c)(iii)).” I.R.C. § 7525(b).     because of the prospect of litigation.” U.S. v.
                                                  Aldman, 134 F.3d 1194 (2nd Cir. 1998).
4)    Section 7525 does not provide any
      protection for tax practitioners’ work-         The Fifth Circuit continues to use the more
      product.                                    restrictive “primary motivating purpose” test,
                                                  which does not require that litigation creating the
                                                  privilege be imminent, but does require that the
                                                  primary motivating purpose behind creation of
Work-Product Doctrine
                                                  the document is to aid in possible future
  The work-product doctrine is a qualified
privilege that applies to materials prepared
                                                    There is a distinction between fact work-
by an attorney acting for his client, or by
                                                  product and opinion work-product as to the

scope of protection under the work-product     asserted for materials that have been prepared in
doctrine. Fact work-product is discoverable    anticipation of litigation. No similar requirement
only if the requesting party establishes       exists for the attorney-client privilege.
“substantial need” for the materials and an
inability “to obtain the substantial             The work-product doctrine applies to any
equivalent of the materials” from an           materials prepared in anticipation of litigation,
alternative    source     “without    undue    not just communications from a client to his
hardship.” Fed. R. Civ. P. 26(b)(3).           attorney or legal advice based upon those
    For opinion work-product, a court “shall
protect against disclosure of the mental          The attorney-client privilege provides absolute
impressions, conclusions, opinions, or legal   protection where all of its elements have been
theories of an attorney or other               satisfied. In contrast, the work-product doctrine
representative of a party concerning the       is a qualified privilege.
litigation.” Fed. R. Civ. P. 26(b)(3).
However, there is no clear standard as to
what must be shown to obtain opinion           Waiver of Privilege
work-product. To date, courts have
generally refused to determine whether           Because of the different rationales underlying
opinion work-product enjoys absolute           the attorney-client, tax practitioner-client, and
protection, or whether it might be             work-product privileges, waiver analysis differs
discoverable upon a showing of substantial     depending on which privilege is claimed:
need. The one rule that is clear is that no
privilege applies to opinion work-product      1)    Disclosure of work-product to an adversary
where the materials are prepared in                  or a third party that could serve as a
furtherance of a criminal scheme.                    conduit to an adversary is generally
                                                     necessary to establish waiver of the work-
  The Tax Court has taken a more                     product protection.
affirmative stance on the scope of the
protection provided by the work-product        2)    Disclosure of documents to any third party
doctrine. In Zaetnz v. Commissioner, 73              waives the attorney-client privilege. Some
T.C. 469, 478 (1978), the court stated that          courts apply the same analysis regardless
“under the Tax Court rules, the work-                of whether the disclosure is voluntary or
product of counsel is not discoverable.”             inadvertent.
Years later, in Ames v. Commissioner, 112
T.C. 304, 310-311 (1999), the court barred     3)    Potential waiver of the tax practitioner’s
discovery of a document, noting that it fell         privilege is analyzed under the same
“squarely within the work-product category           standards as those applicable to the
because it contains an attorney’s mental             attorney-client privilege.
impressions and conclusions.”      But the
                                                 Courts also take differing positions on the
court implied that there was a balancing
                                               scope of subject matter impacted by a waiver.
                                               For attorney-client privilege and § 7525, the
                                               expansive view is that waiver applies to the
                                               document or communication disclosed and to all
Contrasting Work-product Protection
                                               materials or communications dealing with the
and Attorney-client Privilege                  same subject matter. The restrictive view allows
                                               the waiver to be limited to the portion of the
  The work-product privilege can only be       communication disclosed, and does not waive

privilege as to underlying communications.             factually similar or based upon the same or
This view evaluates the scope of a partial             similar tax strategy.
waiver pursuant to a fairness doctrine.
                                                   IRS written policy directs the exam team to
  For the work-product doctrine disclosure       contact Field Counsel if there is an issue as to
of fact, work-product does not constitute a      whether the taxpayer engaged in a listed
waiver of protection applicable to opinion       transaction. Where the issue is whether a
work-product. Also, subject matter waiver        transaction is substantially similar to a listed
does not apply to opinion work-product.          transaction, Field Counsel shall consult the
                                                 particular office of the Associate Chief Counsel
                                                 that wrote the listing notice in order to get a
Requesting Tax Accrual Workpapers                definitive determination. Further, “the taxpayer
                                                 should be given an opportunity to explain why it
   Tax accrual workpapers are often              believes the transaction is not a listed transaction
requested by the IRS in connection with          or substantially similar to a listed transaction.”
listed transactions. If a taxpayer has           Tax Accrual Workpapers Frequently Asked
claimed the “benefits” of a listed               Questions – July 28, 2005, answer to Q1.
transaction on a return, the IRS’s policy on
requesting tax accrual workpapers controls.        The IRS policy for requesting workpapers is
Announcement 2003-63. For returns filed          discussed in The Internal Revenue Manual
before July 1, 2002, the request will be         (“IRM”) Part (07-12-2004) available at
limited to the tax accrual workpapers      The IRM
pertaining only to the listed transaction.       distinguishes   between     tax    reconciliation
For returns filed after July 1, 2002, the        workpapers and audit/tax accrual workpapers:
request will not be limited (unless the
                                                 1)    Tax reconciliation workpapers should be
transaction was properly disclosed). It is
                                                       requested as a routine matter at the
important to note that the IRS will request
                                                       beginning of an examination. Ordinarily,
the tax accrual workpapers from both the
                                                       tax reconciliation workpapers are prepared
taxpayer and the accounting firm that
                                                       and provided by the taxpayer. If these
prepared them.
                                                       workpapers are unavailable from the
  Under Treas. Reg. § 1.6011-4(c)(6), a tax            taxpayer, access will be sought from the
benefit includes adjustments (or the                   taxpayer's accountants.
absence of adjustments) to the basis of
                                                 2)    The general standard for requests for audit
property. Treas. Reg. § 1.6011-4 also
                                                       workpapers or tax accrual workpapers is
provides     that    a    listed  transaction
                                                       the unusual circumstances standard. This
specifically includes transactions that are
                                                       standard applies to all requests for audit
“substantially    similar”     to  a    listed
                                                       workpapers, requests for tax accrual
transaction. Whether a transaction is
                                                       workpapers that do not involve a listed
“substantially similar” involves applying the
                                                       transaction as defined in Treas. Reg. §
two-part test set out in Treas. Reg. §
                                                       1.6011-4, and to any request for tax
                                                       accrual workpapers involving a listed
1)    the transaction must be expected to              transaction for returns filed on or before
      obtain the same or similar types of              February 28, 2000. For the standard for
      tax consequences, and                            requests for tax accrual workpapers
                                                       involving a listed transaction for returns
2)    the   transaction   must    be   either          filed after February 28, 2000, see IRM

  Requests for Tax Accrual Workpapers              Regions filed a motion to quash the summons
Involving Listed Transactions are covered        in part, and instructed E&Y to withhold certain
by IRM Part (07-12-2004). The        documents on the grounds they were privileged
Supreme Court recognized the IRS’s right         and therefore not subject to the IRS summons.
to obtain tax accrual workpapers in United       The documents consisted of four core documents
States v. Arthur Young & Co., 465 U.S. 805       and sixteen derivative documents. The core
(1984), but the IRS announced that it            documents expressed opinions, evaluated legal
would continue its policy of restraint and       theories, and analyzed possible IRS attacks on
would not request tax accrual workpapers         Regions’ tax reporting of the listed transactions.
as                                               Three of the core documents were prepared by
a    standard      examination      technique.   Alston & Bird LLP, and one was created by
Announcement 84-46, 1984-18 I.R.B. 18.           partners at E&Y.      The derivative documents
However, in 2002, the IRS modified its           discussed, quoted, or explained the core
historical policy of restraint with respect to   documents, and generally consisted of emails,
tax accrual workpapers.                          memoranda, and other less formal documents
                                                 created by Regions or E&Y.
   In general, the modified policy applies to
returns filed by taxpayers claiming benefits        The court held that the documents had been
from listed transactions. Announcement           prepared in anticipation of litigation, and,
2002-63, 2002-2 C.B. 72. A listed                therefore, were protected by the work-product
transaction is defined in Treas. Reg. §          privilege. Acknowledging a split among the
1.6011-4, and subsection (b)(2) defines          circuits as to what test should be applied to
listed transactions to include substantially     determine whether a document was prepared in
similar transactions. The policy governing       anticipation of litigation, the court indicated that
requests for tax accrual workpapers varies       the documents in this case would be protected
according to when the tax return was filed.      using either the “because of litigation” or
                                                 “primary motivating purpose” tests. The court
  Additional information relating to tax         also concluded that the “primary motivating
accrual workpapers may be found on the           purpose” test had not been adopted in any
Tax     Accrual   Workpapers    Frequently       binding decision in the Fifth or Eleventh Circuit,
Asked Questions website, available at            but that “the Eleventh Circuit would align itself       with the majority of the other courts of appeal
/article/0,,id=146242,00.html.                   and adopt the ‘because of litigation’ test” if
                                                 forced to choose one or the other. Regions, 2008
                                                 WL 2139008 at *5.
Summary of Relevant Cases
                                                     The rationale for protecting the documents was
Regions Financial Corp. v. United States,        especially strong because (1) the documents,
2008 WL 2139008 (N.D. Ala. May 8, 2008).         though they have had some utility outside of
                                                 litigation, would not have been created had
   In 2006 the IRS served a summons on           Regions not been primarily concerned with IRS
Ernst and Young (“E&Y”), Regions’                litigation regarding the transaction; and (2)
independent auditor for its 2002 and 2003        Regions sought only to withhold the mental
tax years. The summons was in connection         impressions and legal theories of its counsel.
with a review of Regions’ tax liability for
2002 and 2003. As auditor, E&Y had been            Notably, the court also held that Regions did
provided with documents related to two           not waive the work-product privilege by
“listed transactions” involving Regions.         disclosing the contested documents to its

independent auditor, E&Y. The court             must demonstrate that the document is both
indicated that E&Y was not a potential          predecisional     and    deliberative.    To    be
adversary of Regions. Furthermore, a            predecisional, a communication must be
confidentiality agree- ment protected any       generated before the adoption of an agency
documents that Regions gave to E&Y,             policy, and to be deliberative it must reflect the
which prohibited E&Y from giving the            “give-and-take of the consultative process.” Id.
documents to any other party.                   (citation omitted). Additionally, “[a]n agency
                                                must identify the final decisions or decision
                                                making processes to which a document
                                                contributed.” Id. at 136 (citations omitted).
Mayer, Brown, Rowe & Maw LLP v. Internal
Revenue Service, 537 F. Supp. 2d 128              After an in camera review, the court found that
(D.D.C. 2008).                                  some of the requested documents were
                                                discloseable but that others were protected by
    In January of 2004, Mayer, Brown, Rowe      the deliberative process privilege. Disclosure was
& Maw submitted to the IRS three requests       required of the following documents:
for records concerning certain IRS
documents under the Freedom of                  1) A slide developed for internal training
Information Act (“FOIA”). The records were         purposes and a cover email, because the
related to LILO (lease in, lease out) and          items were not prepared to assist in the
SILO (sale in, lease out) transactions, types      formulation of any agency policy; rather they
of transactions that are now frequently            were used to brief IRS employees about a
litigated by the IRS. The initial dispute          new policy after it was created.
involved approximately 30,000 documents,
the majority of which were resolved             2) An anonymous legal memo created after a
through prior litigation and a prior court         ruling was finalized because the IRS did not
decision. A dispute remained over the final        identify a relevant decisional process or
twenty-seven documents.                            explain how the document was predecisional.
                                                   The court also noted that, since there was no
  The IRS withheld the remaining                   evidence that the document was shared with
twenty-seven documents on the grounds              the anonymous author’s colleagues or
that they are covered under the                    superiors, it “could not contribute to the
deliberative       process        privilege        decision process of agency policymaking
incorporated into FOIA exemption                   except in its most existential terms.” MBRM,
5 U.S.C.S. § 522(b)(5). “[The deliberative         537 F. Supp. 2d at 137.
process]      privilege     encompasses
documents reflecting advisory opinions,         3) Draft press releases because they did not
recommendations       and    deliberations         have a bearing on policy formation.
comprising part of a process by which
                                                4) IRS memos informing another Cabinet-level
governmental decisions and policies are
                                                   department head of a new revenue ruling
formulated, as well as other subjective
documents that reflect the personal                because the letters “are not the type of
opinions of the writer prior to the                documents that are a direct part of the
adoption of a policy.” MBRM, 537 F.                deliberation process and they do not make
Supp. 2d at 134 (citations omitted).               recommendations or express opinions on
                                                   legal or policy matters.” Id. at 139 (citations
  To withhold a document under the
deliberative process privilege, an agency
                                                  The deliberate process privilege protected the

following documents:                           transactions were the same as or similar to those
                                               identified in the Notice. The IRS issued a
1) Handwritten notations on a number of        summons requesting all of Textron’s tax accrual
   documents by various personnel              workpapers for the tax year ending December
   involved in drafting a specifically         29, 2001. The tax accrual workpapers requested
   identified policy statement. Such notes     consisted of counsels’ or accountants’ opinions
   were found to be “related to issues that    regarding (1) items that might be challenged by
   the agency personnel debated and tried      the IRS; (2) Textron’s likelihood of prevailing in
   to address and resolve” during the          litigation; and (3) estimates of tax liability and
   policymaking process. Id. at 137.           hazards of such litigation.

2) A portion of a summary of the status of       Textron refused to produce the tax accrual
   policymaking task forces highlighting       workpapers, asserting that the summons was
   policy      recommendations      under      issued for an improper purpose and that the
   consideration and areas that require        workpapers are privileged. On April 27, 2003, the
   additional analysis.                        IRS petitioned the United States District Court of
                                               Rhode Island to enforce its summons.
3) A summary of the thoughts of then-
   Chief Counsel B. John Williams as to          The court determined that the tax accrual
   whether a specific transaction should       workpapers were protected by attorney-client
   be scheduled for litigation, and            privilege and by the § 7525 tax practitioner-client
   identifying specific areas that required    privilege, but held that these privileges had been
   further development by field personnel      waived when Textron disclosed the papers to its
   and areas that should be focused on as      independent auditor, Ernst and Young (“E&Y”).
   the IRS contemplates settlement and         Voluntary disclosure to a third party, even an
   litigation of LILO transactions.            independent auditor, waives attorney-client
                                               privilege. Textron, 507 F. Supp. 2d at 151. The
                                               tax practitioner-client privilege mirrors the
                                               attorney-client privilege, so it too is waived by
United States v. Textron, 507 F. Supp. 2d      disclosure to a third party. Id.
138 (D.R.I. 2007), appeal docketed, No.
07-2631 (1st Cir. Oct. 31, 2007)                   The court also held that Textron’s tax accrual
                                               workpapers were protected by the work-product
  Textron Financial Co. (“TFC”), a             privilege, but that disclosure to E&Y did not
subsidiary of Textron Inc., entered into       constitute a waiver of the privilege. In
leveraged lease transactions in 2001 and       determining that the tax accrual workpapers
prepared tax accrual workpapers in             were covered by the work-product privilege, the
connection with its various transactions. In   court followed binding precedent in the First
April 2003, the IRS began an audit of          Circuit and held that a document is prepared “in
Textron that included its 2001 tax year.       anticipation of litigation” if it is prepared
The IRS issued over 101 IDRs in connection     “because of” the prospect of litigation. The court
with TFC’s leveraged leases.                   reasoned that “the opinions of Textron’s counsel
                                               and accountants regarding items that might be
  On February 11, 2005, the IRS issued         challenged by the IRS, their estimated hazards of
Notice 2005-13, which designates certain       litigation percentages, and their calculation of tax
leveraged lease transactions as “listed        reserve amounts would not have been prepared
transactions.”  The    revenue    agent        at all ‘but for’ the fact that Textron anticipated
examining Textron determined that a            the possibility of litigation with the IRS.” Id. at
number     of  TFC’s  leveraged   lease

150.                                             The court held that the documents requested
                                               are not protected by the work-product privilege,
  The court also explained that disclosure     but are protected by the tax practitioner-client
of the tax accrual workpapers to E&Y did       privilege. The court also found that the tax
not waive the work-product privilege           shelter exception does not destroy Valero’s claim
because it “did not substantially increase     of tax practitioner-client privilege.
the IRS’s opportunity to obtain information
contained in them.” Id. at 153. “Under the       Binding precedent in the Seventh Circuit holds
AICPA Code of Professional Conduct             that a document is protected under the work-
Section 301 Confidential Client Information,   product doctrine “only when ‘the document can
E&Y had a professional obligation ‘not [to]    fairly be said to have been prepared or obtained
disclos[e]     any    confidential    client   because of the prospect of litigation.’” Valero,
information without the specific consent of    2007 WL 4179464 at *5 (quoting Logan v.
the client.’” Id. Further, “E&Y expressly      Commercial Union Ins. Co., 96 F.3d 971, 976-77
agreed not to provide the information to       (7th Cir. 1996) (emphasis in original)). After an in
any other party, and confirms that it has      camera review of the documents, the court
adhered to its promise.” Id.                   concluded “[t]he fact that Valero hired Arthur
                                               Andersen with an eye toward the complex nature
                                               of the transaction, and the possibility that the
                                               IRS might investigate, does not support a
Valero Energy Corp. v. United States, No.      contention that Arthur Andersen prepared its
06-C-6730, 2007 U.S. Dist. LEXIS 81526;        materials because Valero or Andersen anticipated
2007 WL 4179464 (N.D. Ill. Aug. 23, 2007)      actual litigation.” Id. at *6. Instead, the court
(not reported in F. Supp. 2d).                 categorized the documents as having been
                                               prepared during the ordinary course of business.
  On December 31, 2001, Valero Energy
Corp. (“Valero”) merged with a Canadian          The court found that the documents sought
company. Arthur Andersen LLP provided          were protected by the tax practitioner-client
Valero with tax advice for the merger. The     privilege because Valero had “a reasonable belief
IRS issued an administrative summons           that a confidential relationship existed.” Id. at *7.
directed to Arthur Andersen in November        The court specified that the tax practitioner-client
2006, requesting books, papers, and other      privilege is not contingent upon the existence of
records relating to the 2002 and 2003          a written agreement, and that it was clear that
federal tax liability of Valero and its        employees of both Valero and Arthur Andersen
subsidiaries. The summons focuses on           understood the communications between them
Valero’s deductions and claimed losses that    to be confidential.
involve Canadian subsidiaries acquired in
the 2001 merger.                                  In ruling that the tax shelter exception does
                                               not destroy Valero’s claim of privilege, the court
  Valero filed a petition to quash the         noted that “Valero does not have to negate the
summons. The IRS then served a second          applicability of the tax shelter exception; rather,
summons in January 2007 clarifying the         the government has the burden of showing that
scope of the first summons, and                it applies.” Id. at *9. This would have required
withdrawing its first summons. Valero also     the government to show that the transaction was
petitioned the court to quash the second       one in which tax avoidance was “a significant
summons, arguing that some of the              purpose,” not merely one where tax avoidance
documents requested were protected by          was “one of the purposes.” Id. Furthermore, the
the work-product privilege and the tax         court noted that “[t]he tax shelter exception does
practitioner-client privilege.

not apply to all advice about transactions or   the timing of the taxpayer’s request for the
plans that might be considered tax shelters;    outside accountants’ review was dubious since it
rather, it applies to communications ‘made      occurred around the same time the taxpayer’s
in connection with the promotion of’            tax return was due. Finally, the documents were
participation in a tax shelter.” Id. at 10.     not created in anticipation of litigation, but rather
The court found no evidence that                were records created in the ordinary course of
communications between Valero and Arthur        business. This conclusion was supported by the
Andersen promoted participation in a tax        following findings of fact:
                                                1) The taxpayer’s regular outside accounting
                                                   firm supplied the opinions.

United States v. Roxworthy, 457 F.3d 590        2) When the advice was requested, no litigation
(6th Cir. 2006).                                   had been commenced, nor has been
                                                   commenced—other than the IRS seeking
  In 1999, the taxpayer corporation                these opinions.
engaged an outside auditor to evaluate the
tax implications of a $112 million loss         3) Other than broad generalizations, the
resulting from a sale of stock. The auditor        taxpayer failed to offer any proof that the
provided two documents evaluating the              opinions were created because of the
transaction’s tax consequences. Later, the         prospect of actual litigation.
IRS audited the taxpayer’s 1997-1999 tax
years, and as part of its examination issued    4) The taxpayer failed to contravene the
an IDR. In response to the IDR, the                inference that these documents were simply
taxpayer created, and produced to the IRS,         created by the outside auditor as part of its
                                                   usual functions in the preparation of
a privilege log in which the taxpayer
                                                   taxpayer’s tax return.
asserted its belief that certain documents
were protected from disclosure by the
                                                5) The documents did not bear a legend or
work-product doctrine.
                                                   stamp     containing the   work-product
  The IRS then issued an administrative            designation.
summons seeking these documents and
                                                  The taxpayer filed objections to the
served it on the taxpayer’s vice president of
                                                magistrate’s report with the district court and
tax, Patrick Roxworthy. When the IRS
                                                was allowed to expand the record to include
sought to enforce its summons in court, a
                                                additional affidavits and the depositions of its
show cause hearing was held in which the
                                                general counsel and Roxworthy. United States v.
taxpayer was asked to establish that the
                                                Roxworthy, No. 04-MC-18-C (W.D. Ky. 2005).
documents the IRS sought to be produced
                                                However, the magistrate’s report was adopted by
were in fact protected by the work-product
                                                the District Court on April 4, 2005.
                                                  The Court of Appeals for the Sixth Circuit
    The magistrate determined that the
                                                reversed and remanded the case and joined the
documents were not protected by the
                                                majority of circuits by adopting the “because of”
work-product doctrine for a number of
                                                test. This test questions whether the documents
reasons. First, the corporation sought tax
                                                in issue were created “because of” the prospect
advice only after the transaction had been
                                                of litigation. The test has two prongs, both of
completed, which was inconsistent with the
                                                which require a fact-based analysis:
taxpayer’s stated need to assess the
litigation risks of the transaction. Second,

1) was the document created because the           the court found “a document can be created for
   taxpayer subjectively believed that            both use in the ordinary course of business and
   litigation was a real possibility; and         in anticipation of litigation without losing its
                                                  work-product sic [protection].” Id. at 599.
2) was     the    taxpayer’s       subjective
   anticipation of litigation      objectively
                                                  American Steamship Owners Mutual Protection
    The court found the taxpayer subjectively     and Indemnity and Association, Inc. v. Alcoa
believed litigation was a real possibility        Steamship Co., Inc., No. 04 Civ 4309, 2006 WL
based on the language of the documents,           278131 (S.D.N.Y. 2006) (not reported in F. Supp.
which included phrases like “It is likely that    2d).
a court would agree with…” and “this issue
. . . may not be contested.” Roxworthy, 457         Defendants sought the disclosure of two
F.3d at 594. In addition, the expanded            opinion letters prepared by counsel for Plaintiff.
record showed the taxpayer did not file its       Plaintiff withheld the requested documents on
tax returns on March 15, as was assumed           the basis that they were protected by the work-
in the magistrate’s report, and the               product doctrine. Defendants argued that Plaintiff
taxpayer’s tax returns were prepared by in-       failed to establish that the documents qualified
house tax professionals, not the outside          for work-product protection. They further argued
accounting firm that analyzed the tax             that, even if the documents did qualify for work-
consequences of the sale. Furthermore, the        product protection, Plaintiff waived any immunity
issues assessed in the documents on which         when it provided the letters to its actuary in
protection had been claimed were unsettled        connection with a report the actuary prepared for
and had been the subject of other                 submission to the New York Insurance
litigation. Also, the loss was only a tax loss    Department.
and would not be reflected on the
taxpayer’s books. Finally, the documents            The court held that the Defendants’ assertion
were created after the transaction had            that the letters are not work-product was simply
been entered into, so it could be inferred        incorrect. Plaintiff is required to provide an
that the documents were created in                opinion each year of a qualified independent
anticipation of litigation.                       loss-reserve specialist as to the adequacy of its
                                                  loss and loss adjustment expense reserves. The
  The court also found the taxpayer’s             letters at issue were used by the Plaintiff to
anticipation of litigation was objectively        justify a reduction in the Plaintiff’s reserves based
reasonable because the amount of tax              on termination of a discretionary practice that is
dollars at issue was substantial. The IRS         the subject of litigation.
had      previously     questioned      similar
transactions,      and     the      documents         The letters fit squarely within one of the
themselves appeared to discuss the facts          hypothetical situations in United States v.
that would lead to litigation and to              Adlman, 134 F.3d 1194, 1195 (2d Cir. 1998),
anticipate the series of events that could        regarding materials being created because of
result from litigation. Id. at 600.               business reasons and because of the prospect of
  While the documents at issue were not
stamped as “work-product,” the case                   A business entity prepares financial
seems to indicate that this is a factor in            statements to assist its executives,
determining whether certain documents are             stockholders, prospective investors,
protected under the doctrine. In addition,            business partners, and others in

    evaluating future courses of action.        auditing firm waived such protection.
    Financial       statements    include
    reserves for projected litigation.              The court reviewed the unredacted minutes in
    The company’s independent auditor           camera to determine if the redacted portion was
    requests a memorandum prepared              within the scope of work-product protection.
    by      the    company’s   attorneys        District Courts sitting in the Ninth Circuit apply
    estimating the likelihood of success        the “because of” test to determine whether any
    in litigation and an accompanying           materials created are protected from disclosure
    analysis of the company’s legal             by the work-product doctrine. The “because of”
    strategies and options to assist it in      test basically turns on whether the documents
    estimating what should be reserved          were created “because of” the anticipation of
    for litigation losses.                      litigation.

Id. at 1200.                                      The court held that one of the redacted
                                                paragraphs was entitled to protection and that
   Equally, if not more important, the court    the paragraph immediately subsequent to the
found that Plaintiff’s disclosure of the        protected paragraph was not entitled to work-
documents to its outside actuary did not        product protection. The court explained that the
waive work-product protection. In doing so,     reason for this finding was that the first
the court declined to follow Medinol, Ltd. v.   paragraph specifically referred to its counsel
Boston Scientific Corp., 214 F.R.D. 113,        providing legal advice to the board and this
115-17 (S.D.N.Y. 2002) which held work-         language was absent in the second paragraph.
product protection was waived when
documents are disclosed to an independent         The court also held that JDS Uniphase’s
auditor because the auditor serves a “public    disclosure of the protected materials to its
watchdog” function adverse to its business      auditing firm did not constitute a waiver of work-
client. Instead, the court found Medinol to     product protection. However, the court, without
be in direct conflict with the Adlman           elaborating, limited this holding to the facts of
hypothetical reproduced above.                  this particular case.

In re JDS Uniphase Corporation Securities       Moore v. Commissioner, T.C. Memo 2004-259.
Litigation, No. C-02-1486, 2006 WL
2850049 (N.D.Cal. filed Oct. 6, 2006).            The IRS determined deficiencies in the Moores’
                                                1999 and 2000 Federal income taxes. One issue
  In 2005, the lead Plaintiff made a request    for decision was in connection with Ms. Moore’s
for the production of documents seeking,        membership interest in the Surgery Center of
among other things, the production of           Georgia, LLC (“LLC”). To support their claim that
minutes from a meeting of JDS Uniphase’s        Ms. Moore’s interest in LLC did not exceed
Board of Directors. Defendant produced a        two percent, the Moores offered two documents
redacted copy of the minutes, taking the        under seal. United Surgical Partners Int’l, Inc.
position that the redacted portions were        (“International”), LLC’s parent entity and an
entitled to work-product protection. The        affected person under T.C. Rule 103, made a
lead Plaintiff filed a motion to compel         motion to prevent disclosure of these documents
discovery in which it argued that the           at trial. International’s claim was based on the
minutes were not protected by the work-         attorney-client privilege.
product doctrine and, even if they were,
Defendant’s disclosure of the minutes to its      The court first discussed the attorney-client

privilege    generally. It   stated   that        connection with its investigation of possible
communications not made in confidence             liability for failing to disclose potentially abusive
and not for the purpose of obtaining legal        tax shelters. After explaining that § 7525 applies
advice are not protected by the attorney-         to tax advice to the same extent that the
client privilege. However, when a client          attorney-client privilege applies to legal advice,
expects communications to his attorney for        the court held that no identity privilege existed
the purpose of obtaining legal advice to          for the clients.
remain confidential, the attorney-client
privilege     applies,  even      if   the           The court concluded that the disclosure of the
communication contains non-confidential           taxpayers’ identities would not reveal their
information.                                      motives for becoming clients and participating in
                                                  transactions described in summonses.           As a
   The court next analyzed who held the           result, no confidential communications would be
attorney-client privilege in the Moore case.      disclosed if their identities were revealed.
The communications at issue had occurred          Additionally, the court explained that §§ 6111
between LLC’s attorney and LLC.          To       and 6112, which set forth the registration and
decide this issue, the court turned to state      listing requirements for organizers and sellers of
law.      Under Georgia law, LLC was              potentially abusive tax shelters, prevented
considered a separate Person from                 investors from having an expectation of
International, and the manager has the            confidentiality regarding their participation in the
authority to assert or waive the attorney-        transactions.
client privilege on behalf of LLC.
                                                     The case was returned to District Court and,
  Finally, the court analyzed the issue of        following the Seventh Circuit’s opinion, the court
whether the privilege had been waived.            considered BDO Seidman’s assertions of privilege
The court noted that waiver can be                as to 110 documents. The court concluded that
expressed or implied. In this case, it was        all but six of those documents were protected by
clear the confidentiality of these documents      the attorney-client privilege or the work-product
had been breached since the IRS had               doctrine. No. 02 C 4822, 2004 WL 1470034
attached them as part of its court filings,       (N.D. Ill. June 29, 2004).
which had apparently been provided by the
Moores or by International during one of its      1) The court rejected the government’s
previous audits. The court thus held that            argument that outside law firms were co-
the attorney-client privilege had been               promoting tax shelters, rather than providing
waived either by LLC’s own disclosure or             legal advice to BDO Seidman, concluding that
otherwise. Part of this holding was due to           the government had failed to present
LLC’s own failure to take the necessary              adequate proof to support its co-promotion
precautions to preserve the confidentiality          argument.
of the privileged material.
                                                  2) The court rejected the government’s
                                                     argument that BDO Seidman waived the
                                                     attorney-client privilege with respect to
United States v. BDO Seidman, 337 F.3d               certain memoranda by disclosing the
802 (7th Cir. 2003).                                 contents of those documents to a co-
                                                     promoter, concluding that the letter to the
   Clients of BDO Seidman, an accounting             co-promoter did not disclose the substance
firm, asserted a claim of identity privilege in      of the memoranda.
response to an IRS summons directing BDO
Seidman to produce documents sought in            3) The     court   concluded    that   six   of   the

    documents were protected from                 privilege was available. The court focused on the
    disclosure by the work-product doctrine       Seventh Circuit’s discussion of §§ 6111 and 6112,
    because they were prepared in                 and     expressed     reservations    about   the
    anticipation of litigation.                   government’s use of §§§ 6111, 6112, and 7602
                                                  to pursue “subsidiary targets,” i.e., Andersen’s
4) The court rejected the government’s            former clients, because of conflicting interests
   argument       that     the    crime-fraud     between Andersen and its clients.
   exception      to    the    attorney-client
   privilege eliminated the availability of         The court did not make a ruling regarding the
   that privilege: “This court cannot infer,      availability of any privilege for responsive files in
   based on a review of the documents             Andersen’s possession.
   and bearing in mind the government’s
   contentions, that BDO sought legal
   advice from outside or in-house counsel
   to perpetuate a crime or fraud,                Doe v. KPMG LLP, No. 3:03-CV-2036-H, 2004 WL
   particularly in light of the uncertain and     797719 (N.D. Tex. April 12, 2004).
   complex nature of the Internal
   Revenue Code and the regulations                 Anonymous plaintiffs filed this action seeking
   thereunder.”                                   injunctive and declaratory relief to prevent KPMG
                                                  from disclosing their identities to the IRS in
                                                  connection with an administrative summons
                                                  served on KPMG. No summons enforcement
United States v. Arthur Andersen, LLP, 273        action had been instituted by the United States.
F. Supp. 2d 955 (N.D. Ill. July 2, 2003);
2003 WL 21956404 (Aug. 15, 2003).                   The court held that the plaintiffs’ identities
                                                  were not privileged under § 7525. The court
  Former clients of Arthur Andersen               explained that the disclosure of the plaintiffs’
challenged the enforceability of summonses        identities would reveal their participation in the
directing Andersen to reveal the identities       tax shelters, but it would not disclose any
of investors and to produce documents             confidential communications regarding those tax
sought by the government in connection            shelters.
with its investigation of Andersen’s
potential liability for failing to register and     The court also concluded that the plaintiffs
disclose potentially abusive tax shelters.        lacked a reasonable expectation that their
The clients asserted a claim of identity          identities or their participation in the tax shelter
privilege to prevent the disclosure of their      would be confidential. First, the plaintiffs had
identities, and a claim of attorney-client        informed KPMG of their participation in the tax
and/or § 7525 privilege to prevent the            shelter so that KPMG could complete their tax
production of responsive files in Arthur          returns. Second, interpreting BDO Seidman, the
Andersen’s possession.                            court concluded that §§ 6111 and 6112 eliminate
                                                  any reasonable expectation of privacy as to
  The court held that no identity privilege       participation in a tax shelter. Finally, the court
was available for Andersen’s former clients.      reasoned that even if the plaintiffs did not believe
In its initial order, which preceded the          that KPMG would be required to disclose their
Seventh Circuit’s opinion in BDO Seidman,         identities under § 6112, the plaintiffs would have
the court held that identity privilege was        had to disclose their participation in the tax
available, but in its second order, the court     shelter if they were audited, because the losses
held that in light of Seventh Circuit’s           resulting from their participation in the tax
opinion in BDO Seidman, no identity               shelter appeared on their tax returns, stating

“[k]nowing that any information included        information with Wachovia Bank.
on a tax return could be questioned during
an audit, Plaintiffs could not have
reasonably believed their participating in
the tax shelter was confidential.”              United States v. KPMG LLP, Misc. No. 02-0295
                                                (D.D.C. May 4, 2004).

                                                  KPMG challenged the enforceability of
Doe v. Wachovia Corp., 268 F. Supp. 2d          summonses requesting information and materials
627 (W.D.N.C. 2003).                            related to the IRS’s “examination of KPMG’s
                                                promotion of and participation in transactions
   Two groups of intervenors sought to          that the IRS contends are tax shelters.” KPMG
prevent Wachovia from complying with            argued that many of the documents in its
administrative       summonses      seeking     possession are protected by one or more
documents and investor lists pertaining to      privileges, including the attorney-client privilege,
potentially abusive tax shelters. The court     § 7525, and the work-product doctrine.
concluded that neither § 7525 nor attorney-
client privilege applied.                         In an order dated December 20, 2002, the
                                                court equated § 7525 with the attorney-client
  Section 7525 did not apply because the        privilege. The court explained that the tax
proceeding did not involve the United           practitioner’s privilege applies when practitioners
States as a party, nor was it a tax             are performing lawyers’ work, but not when they
proceeding before the IRS. Also, the            are performing functions related to the
transactions at issue involved the              preparation of tax returns. US v. KPMG, 237 F.
participation of a corporation; thus, the       Supp. 2d 35 (D.D.C. 2002).
exceptions set forth in § 7525(b) for
communications between a representative           The court then concluded that many
of a corporation in connection with the         documents for which the tax practitioner’s
promotion of the direct or indirect             privilege was claimed were not privileged
participation of such corporation in any tax    because they were prepared in conjunction with
shelter applied. Finally, any advice provided   the preparation of a tax return. To reach this
by accountants was in the context of the        conclusion, the court adopted a broad view that
preparation of tax returns, and there is no     any documents relating to the federal income tax
privilege for materials that will appear on a   consequences of a transaction were prepared in
tax return, nor for communications related      conjunction with a tax return. Additionally, the
to the preparation of tax returns.              court concluded that the attorney-client privilege
                                                applies to documents to which § 7525 did not
  The attorney-client privilege did not apply   apply. This conclusion appears to be inconsistent
because no attorney-client relationship         with the court’s explanation of § 7525.
existed between the intervening plaintiffs
and the law firm. The law firm had not             A magistrate judge issued a Report and
provided any legal advice tailored to           Recommendation (“R&R”) after conducting an in
individuals; instead, the legal advice was      camera examination of all documents listed on
generic, applicable to any investor in the      KPMG’s privilege logs. 2003 WL 22336072 (Oct.
marketed transaction. Furthermore, any          8, 2003). The R&R concluded that § 7525 applies
privilege that might have applied was           to tax advice regarding a specific client’s
waived by virtue of the promotion of the        circumstances    but does      not apply      to
transactions and the relevant legal advice      communications related to the preparation of tax
to multiple investors and the sharing of the    returns or containing general tax advice

unrelated to a specific client. The R&R also   5) The court explained that any documents that
concluded that in many instances both §           support items reported on a federal tax
7525 and the attorney-client privilege            return were not privileged, nor did any
applied.                                          privilege apply to documents related to
                                                  activities that KPMG engaged in as part of its
  In reviewing the magistrate judge’s R&R,        development and sale of tax shelter
the court revisited the privilege issues and      products.
clarified its December 2002 order in a
memorandum opinion dated May 4, 2004.
US v. KPMG, 316 F. Supp. 2d 30 (D.D.C.
2004). The privilege clarifications included   Long Term Capital Holdings v. United States, No.
the following:                                 3:01 CV 1290 (JBA), 2002 WL 31934139 (D.
                                               Conn. Oct. 30, 2002); 2003 WL 1548770 (Feb.
1) The court concluded that the identities     14, 2003).
   of the KPMG clients were not
   privileged, relying upon the analysis set     The taxpayer corporation had Shearman &
   forth in the Seventh Circuit’s opinion in   Sterling LLP (“S&S”) and King & Spalding LLP
   BDO Seidman, and in the district            (“K&S”) prepare opinion letters relating to losses,
   courts’ orders in Doe v. Wachovia Corp.     which the taxpayer claimed on its 1997 tax
   and Doe v. KPMG LLP.                        return. The taxpayer’s tax returns were later the
                                               subject of an audit by the IRS, and during the
2) The court observed that “KPMG has           audit the taxpayer shared several legal opinions
   taken steps since the IRS investigation     provided by S&S but withheld the legal opinions
   began that have been designed to hide       issued by K&S. The K&S opinions were withheld
   its tax shelter activities. In doing so,    on the grounds that they were protected by the
   KPMG has cast doubt over its privilege      attorney-client privilege and the work-product
   assertions.”                                doctrine.

3) The court expressed the view that the          In its initial ruling, the court held that the
   Brown & Wood opinion letters as to          attorney-client privilege did not apply to the K&S
   which KPMG asserted claims of               opinion letter, but that the work-product doctrine
   privilege were “boiler-plate templates”     applied to that opinion letter. The court
   without any independent legal analysis      concluded that the two opinion letters dealt with
   focusing upon a particular client, noting   the same subject matter, so the voluntary
   that they “appear to be nothing more        disclosure of the S&S opinion letter resulted in a
   than an orchestrated extension of           subject matter waiver as to the opinion letter
   KPMG’s marketing machine.” KPMG             prepared by K&S. Additionally, although the K&S
   was given ten days to provide a more        opinion remained confidential, the taxpayer
   detailed privilege log for the opinion      informed its accountants of the conclusion
   letters.                                    reached therein (that a desired deduction “more
                                               likely than not” was permissible). The court held
4) The court concluded that documents          that by disclosing the conclusion of the K&S
   discussing legal or tax advice that         opinion letter to its accountants, the taxpayer
   neither included nor were based upon        waived the attorney-client privilege.
   confidential information communicated
   to a lawyer or tax practitioner by a          After the taxpayer filed a motion for
   client or prospective client were not       reconsideration and the government filed a
   privileged.                                 motion for clarification, the court issued a second
                                               order that modified its initial order. The court

concluded that the two opinion letters           counsel to establish an affirmative defense that
addressed different subject matters and          would avoid the imposition of penalties without
therefore required independent analysis for      waiving attorney-client privilege as to the
the purpose of the attorney-client privilege.    substantive tax issues.

1) The S&S opinion letter was not                  The debtors argued that bifurcation was
   protected     by    the attorney-client       necessary to avoid the prejudice of premature
   privilege because it was a required           waiver of the attorney-client privilege, but the
   component of the taxpayer’s books and         court refused to bifurcate the proceeding into a
   records and was never intended to be          substantive tax phase and a penalty phase. The
   kept confidential.     As a result, the       court concluded that the debtors had waived the
   disclosure of the S&S opinion letter did      attorney-client privilege by presenting a
   not constitute a subject matter waiver        reasonable-cause affirmative defense in their
   affecting the availability of any             response to one of the government’s
   privileges for the K&S opinion letter.        interrogatories. That response stated that the
                                                 debtors had reasonable cause for the tax
2) The disclosure of the “gist” of the K&S       treatment of the challenged transaction based
   opinion letter waived the attorney-           upon, among other things, their consultations
   client privilege as to that limited portion   with outside legal counsel. The court also held
   of the letter, but did not constitute a       that the debtors’ waiver of their right to assert
   waiver as to the underlying reasoning.        the attorney-client privilege extended to any
                                                 communications pertaining to the subject matter
  The court’s second order reiterated its        of the challenged transaction.
holding that the K&S opinion letter was
prepared in anticipation of litigation and
was therefore protected by the attorney
work-product doctrine.       Moreover, the       Diversified Group, Inc. v. Daugerdas, 139 F.
protection provided by the work-product          Supp. 2d 445 (S.D.N.Y. 2001); 217 F.R.D. 152
doctrine for the K&S opinion letter              (July 30, 2003); 2003 WL 22077466 (Sept. 5,
remained intact despite the limited waiver       2003).
of the attorney-client privilege that would
have applied to that letter.                       Following the settlement of a lawsuit brought
                                                 by a marketer of tax strategies against its
                                                 attorney for breach of fiduciary duty, breach of
                                                 contract, and unjust enrichment, legal publisher
In re G-I Holdings Inc., 218 F.R.D. 428          American Lawyer Media, Inc. (“ALM”) filed a
(D.N.J. 2003).                                   motion to intervene. ALM sought to gain access
                                                 to documents that had been filed under seal by
  The Commissioner asserted that two             the original parties to the litigation.
corporations had tax deficiencies based
upon the determination that a partnership          The court granted ALM’s motion to intervene
transaction constituted a taxable sale rather    and concluded, as a preliminary matter, that the
than a nontaxable contribution to capital        attorney-client privilege can apply to the
under § 721(a). The corporations moved to        provision of legal advice by a lawyer that relates
bifurcate discovery and the trial into two       to a tax shelter. The court then referred the case
stages, one involving substantive tax issues     to a Special Master to issue a recommended
and the second addressing potential              ruling regarding which, if any, of the sealed
penalties. Their goal was to arrange things      documents were protected by the attorney-client
so that they could rely on the advice of         privilege.

    The court ultimately adopted the Special             confidential communications pertaining to the
  Master’s recommendation, concluding that               provision of legal advice, and those
  the attorney-client privilege did not apply to         communications do not appear in the final
  the majority of the sealed documents:                  version of the documents.

  1) Certain communications that pre-dated           4) The parties waived the right to assert the
     the engagement letter were not                     attorney-client privilege as to their deposition
     privileged because those documents                 by failing to invoke the privilege when they
     revealed a desire to obtain business               were deposed.
     advice rather than legal advice.
                                                     5) Certain legal memoranda were not protected
  2) Invoices were not privileged because               by the attorney-client privilege because they
     they did not contain any confidential              were not prepared in response to specific
     attorney-client communications.                    requests for legal advice from potential
                                                        clients but instead “were intended as
  3) Marketing materials provided to the                educational materials to solicit new clients for
     attorney were not privileged, because              the purpose of selling them tax strategies.”
     they were not provided for the purpose
     of obtaining legal advice. The court            6) No redaction of the identities of third parties
     recognized, however, that drafts of                was necessary because the documents did
     documents that are ultimately intended             not reveal whether any of the third parties
     to be released to the general public can           ultimately purchased the tax shelters.
     be privileged if those drafts reflect

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Mayer Brown LLP                     Mayer Brown LLP                          Mayer Brown LLP
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