NPR Investments, LLC v. United States

Harold Nix, Charles Patterson, and Nelson Roach (the taxpayers) were law-firm partners. The taxpayers had no tax expertise. The taxpayers told their accountant, Sid Cohen, that they wished to invest in foreign currency due to the potentially large returns. Cohen introduced the taxpayers to Diversified Group, Inc. (DGI). DGI explained its product, which involved paired long and short currency options, and stated that the taxpayers would profit if prices hit the “sweet spot” between the option positions. Attorney R. J. Ruble explained that prices were unlikely to hit the sweet spot, but he opined that option losses would generate tax benefits. The taxpayers contributed their options to NPR Investments, LLC (NPR) (plaintiff) in exchange for NPR partnership interests. Unbeknownst to the taxpayers, DGI paid Cohen a $325,000 referral fee. The next month, the taxpayers withdrew from NPR, receiving cash and foreign currency for their interests; the taxpayers contributed the foreign currency to their firm. The firm sold the currency in 2001 through 2003. Before filing their federal tax returns, the taxpayers received an opinion from Ruble’s firm (which Cohen endorsed) stating that these sales generated losses that reduced the taxpayers’ taxable income. The Internal Revenue Service (IRS) disagreed and determined that NPR was subject to accuracy-related penalties pursuant to Internal Revenue Code (code) § 6662(b) for negligence and the substantial understatement of tax. NPR sued the United States (defendant), challenging the IRS’s determinations. NPR argued that (1) the substantial-understatement penalty was inapplicable because the taxpayers had substantial authority for their position and (2) the negligence penalty was inapplicable because the taxpayers had a reasonable basis for their position. Additionally, NPR asserted a reasonable-cause-and-good-faith defense pursuant to code § 6664(c)(1). The court conducted a trial, at which NPR’s expert witness testified that the taxpayers’ position was supported by substantial authority.