UNITED STATES OF AMERICA, PETITIONER V. KARL L. DAHLSTROM, ET AL. No. 83-1297 In the Supreme Court of the United States October Term, 1983 The Solicitor General, on behalf of the United States, petitions for a writ of certiorari to review the judgment of the United States Court of Appeals for the Ninth Circuit in this case. Petition for a Writ of Certiorari to the United States Court of Appeals for the Ninth Circuit PARTIES TO THIS PROCEEDING In addition to the parties shown in the caption, Hiram E. Conley, R. Bruce Ripley, David J. Morris, and Gaze Durst were appellants below and are respondents herein TABLE OF CONTENTS Opinion below Jurisdiction Statute involved Statement Reasons for granting the petition Conclusion Appendix A Appendix B OPINION BELOW The decision of the court of appeals (App., infra, 1a-18a) is reported at 713 F.2d 1423. JURISDICTION The judgment of the court of appeals was entered on August 24, 1983. A petition for rehearing was denied on November 8, 1983 (App., infra, 19a). On December 30, 1983, Justice Rehnquist extended the time in which to file a petition for a writ of certiorari to and including February 6, 1984. The jurisdiction of this Court is invoked under 28 U.S.C. 1254(1). STATUTE INVOLVED Section 7206(2) of the Internal Revenue Code of 1954 (26 U.S.C.) provides: Section 7206. Fraud and false statements Any person who -- * * * * * Aid or assistance Willfully aids or assists in, or procures, counsels, or advises the preparation or presentation under, or in connection with any matter arising under, the internal revenue laws, of a return, affidavit, claim, or other document, which is fraudulent or is false as to any material matter, whether or not such falsity or fraud is with the knowledge or consent of the person authorized or required to present such return, affidavit, claim, or document; * * * * * shall be guilty of a felony and, upon conviction thereof, shall be fined not more than $5,000, or imprisoned not more than 3 years, or both, together with the cost of prosecution. /(1)/ QUESTIONS PRESENTED 1. Whether, in a prosecution of promotors of an unlawful "tax shelter" program, the absence of a prior statute, regulation, or court decision directly establishing the illegality of the scheme precludes a finding of willfulness as a matter of law. 2. Whether the First Amendment bars prosecution of persons who advise and assist in structuring of sham transactions and preparation of false and fraudulent tax returns, on the ground that the returns were not filed immediately after the advice and assistance were given. STATEMENT After a jury trial in the United States District Court for the Western District of Washington, respondents Karl L. Dahlstrom, Hiram E. Conley, R. Bruce Ripley, David J. Morris, and Gaze Durst were convicted of conspiracy to defraud the United States, in violation of 18 U.S.C. 371. Each was also convicted on one or more counts of willfully aiding or assisting in, or procuring, counseling, or advising the preparation or presentation of a tax return or other document that is false or fraudulent as to any material matter, in violation of Section 7206(2) of the Internal Revenue Code of 1954 (26 U.S.C.). The district court sentenced respondents to various terms of imprisonment on the conspiracy count /2/ and to concurrent terms of five years' probation on each of the substantive counts on which they were convicted, to commence upon release from custody. The court also imposed fines on Dahlstrom, Ripley, and Conley. (Tr. 4404-4407). 1. The evidence at trial showed that respondents promoted and sold a "tax shelter" program in which participants used a series of sham transactions and "gifts" to create inflated or entirely fictitious income tax deductions (Tr. 976-978, 1015-1016, 1019-1021, 3339, 3342-3343, 3345-3347, 3408, 3410). Sales of the program took the form of sales of membership in an organization formed by respondent Dahlstrom in 1974, the American Law Association (ALA) (Tr. 3021, 3339-3340, 3342). /3/ As "members" of the ALA, program purchasers were entitled to receive instruction and materials relating to the "tax shelter" program, conveyed at ALA two-day "seminars" (Tr. 1344-1348, 1388-1394, 1543-1548, 1665-1677, 1693, 1698, 1700-1701, 1798-1801, 1841-1846, 1854-1855, 2098-2099, 2101-2105, 2228-2229, 2253, 2261, 2266, 3023, 3111-3112, 3296-3297, 3351-3352, 3365-3367, 3524-3533, 3538-3540, 3558). "Membership fees" ranged from approximately $3,000-$ 6,000 in late 1976 to $12,000 in 1978 (Tr. 502, 772, 983, 1040, 1345-1346, 1545, 1666-1667, 1799, 1841, 2098, 2261, 3340). A member's fee payment was refundable if he was not satisfied with the program (Tr. 1841, 2099). The "tax shelter" scheme was conceptually quite simple. Taxpayer participants would establish and retain control of a series of trusts. They would make payments to one of the trusts for purported materials or services. The payments would then be shifted among the trusts through paper transactions, at the conclusion of which one of the trusts would make a "gift" or "loan" back to the taxpayer of all or a large portion of the original payment. The taxpayer treated these payments to the trust as tax deductible business expenses; he treated the "gift" or "loan" as tax-free. The transactions, taken as a whole, had no economic substance; their sole purpose and effect was to generate phony tax deductions for the participants. The particular version of this scheme promoted by respondents employed foreign trusts as the vehicle for carrying out the transactions and reducing the risk of detection by the Internal Revenue Service. The program participants would cause at least three common law trusts to be created in a foreign country by a citizen of that country (Tr. 504-506, 774-781, 1052-1055, 1068-1083, 1548-1557, 1687-1693, 1801, 1806-1810, 1859-1871, 2103-2114, 2277-2281). Respondents would sometimes assist in setting up the trusts (Tr. 774-781, 790, 1052, 1858-1860, 2105-2107, 2277-2285). In general, the program participant himself, or a related person, would be named trustee of one of the trusts (trust number one) (Tr. 724, 1072, 1074, 1553-1554, 1692, 1808, 1861-1864, 2106-2107, 2272). Trust number one would, in turn, be named trustee of the other two trusts (trust number two and trust number three) (Tr. 1072, 1555-1557, 2109-2114, 2272; GXs 118-121, 178, 179, 180, 181, 182). Under this arrangement, the person implementing the "tax shelter" program or a related person would be in complete control of the affiars of all three trust organizations (see, e.g., Tr. 1083-1112, 1558-1573, 1576, 1580-1585, 1704-1705, 1707-1708, 1710-1711, 1713-1715, 1884-1898). Once established, these foreign trusts were used as described above. Dahlstrom or others conducting seminars advised the participants to make payments to trust number two for purported business expenses, and then to claim an income tax deduction for the full amounts (Tr. 1053-1057, 1083, 1085-1089, 1113, 1546-1547, 2275-2277, 3525-3530). After a series of prearranged transactions involving trusts two and three, /4/ these amounts would ultimately be returned, in whole or in part, to the taxpayer as a so-called "gift" or "loan" from one of the trusts (Tr. 1393, 1581-1585, 1890-1898, 2123-2124, 2272, 3215-3217, 3233-3239). /5/ For example, James Murphy, one of the participants in the program, purported to purchase from his trust number two, for $66,000, "tax shelter" materials he had previously received from the ALA. /6/ Although Murphy caused the entire $66,000 purchase price to be returned to him as a "gift" from trust number three, and he therefore incurred no real expense, he claimed the $66,000 "purchase" as a deduction on his income tax return for 1978. This was in accordance with advice he received from respondent Dahlstrom. Tr. 1050-1051, 1053-1055, 1068, 1094-1111, 1113; GX 1. In another typical transaction, based on advice from an ALA seminar and respondent Morris, purchaser James Ira Howlett, a chiropractor, transferred a clinic building and his equipment to two number two trusts (Tr. 1837, 1866, 1872, 1878, 1881, 1898, 1908). He then made purported rental payments to these trust organizations and claimed income tax deductions amounting to $39,600 for 1979 with respect to the "payments" (Tr. 1881-1882, 1884-1887, 1907-1908). However, more than $21,000 of the "payments" ultimately returned to Howlett as "gifts" during 1979 (Tr. 1878-1879, 1888-1898). In addition to counseling program participants to set up foreign trust organizations and claim false tax deductions, respondents also counseled them to employ various methods for avoiding detection by the IRS. Respondent Morris provided participant Howlett false employer identification numbers to be used in connection with trust bank accounts (Tr. 1874-1877). Respondent Durst recommended that John Wilbur Ricketts set up additional trusts to make future transactions more difficult for the IRS to trace (GX 246, at 67-69). Respondents Ripley and Durst recommended that "tax shelter" purchasers use blue "copy-not" pens to sign checks, so that they would not be readable on any bank microfilm records that might be obtained by the IRS (Tr. 1686-1687; GX 246, at 85-92). Respondent Morris told Dr. Howard Bean to use specified fictitious names as the authorized signatures on bank accounts opened for his trusts, and accompanied Bean when he implemented this advice (Tr. 799-800, 804-809). Respondent Durst counseled an IRS Special Agent posing as a participant's financial advisor that altering social security numbers on trust bank accounts was "another good thing to do * * * because * * * (without a social security number) there's no way the IRS will ever tie anything into you on any check over $10,000" (GX 246, at 94). Durst also warned the special agent, "If they get a hold of your books and records, they could probably shoot holes in this thing. * * * Yeah. If they do, you're in trouble" (GX 243B, at 23). He further stated that if the IRS obtained access to the participant's books and records, "Then you're talking about tax avoidance, tax fraud, and the whole thing" (GX 243B, at 26). /7/ The evidence showed that purchasers of the ALA program were required to sign an ALA membership affidavit (see GX 212) stating that the member concerned did not work for a federal or state government, was not investigating respondents, and would not aid any government agency in any civil, criminal, or administrative action against respondents or the ALA. The affidavit also stated that the member would not divulge to any government agency any information concerning his relationship with respondents. 2. A divided panel of the Ninth Circuit reversed the convictions. The court held that the evidence was insufficient to establish that respondents had acted willfully. Citing Brandenburg v. Ohio, 395 U.S. 444, 447 (1969), the court also held that respondents' promotion of their "tax shelter" program was protected by the First Amendment because the actual filing of the fraudulent returns was not "imminent" at the time respondents counseled such action. /8/ The court did not question the sufficiency of the evidence that respondents had aided or assisted in the preparation of false and fraudulent tax returns. Nor did the court question the adequacy of the evidence that respondents actually believed that their scheme was false and fraudulent. However, noting that no prior decision had invalidated the foreign trust organizations involved in this case, /9/ the court concluded that respondents could not possess the specific intent to violate Section 7206. App., Infra, 8a-10a. The court also held that the insufficiency of the evidence of willfulness as to the substantive counts invalidated respondents convictions on the conspiracy count as well (id. at 12a-13a). Judge Goodwin, dissenting, reviewed the proof in the case and condluded: "There could hardly be any clearer evidence that the defendants in this case knew that what they were advising and assisting clients to do was patently illegal" (App., infra, 15a). He also rejected the majority's reliance on the First Amendment (id. at 18a). REASONS FOR GRANTING THE PETITION 1. Schemes for fraudulent tax evasion are as numerous as human ingenuity can devise. Most -- like the scheme involved here -- are but variations on established themes. Like the jazz musician improvising on a popular tune, the tax evasion artist adapts the basic elements of the sham transaction to the needs and mood of the day, adding a twist here or a grace note there to maximize gain or reduce the risk of detection. There is no doubt that respondents' "tax shelter" program was illegal, and the government's evidence in this case clearly established that respondents knew and understood that it was illegal. Legitimate tax advisers do not advocate that their clients write their checks with "copy-not" pens, so that bank microfilms will not be readable by the IRS. They do not provide false social security numbers to prevent the IRS from "ever tie(ing) anything into you" ((GX 246, at 94). They do not suggest fictitious names for authorized signatures on bank accounts. They do not require their clients to sign an affidavit forswearing any cooperation with tax authorities that may be investigating them. They do not advise their clients that disclosure of their books and records to the IRS would lead to prosecution for "tax avoidance, tax fraud, and the whole thing" (GX 243B, at 26). When they do these things -- as the evidence here proves respondents did -- the jury cannot be faulted for finding that they believed their scheme to be unlawful, and thus that they acted willfully. The court of appeals held, however, that a defendant does not willfully counsel and assist in the preparation of false and fraudulent tax returns if the scheme he promotes has not yet been invalidated under "clearly relevant precedent" (App., infra, 9a). According to the court, it does not matter whether the defendant has manifested an intent to assist in defrauding the government; the absence of a prior "statute, regulation, or court decision" in point precludes criminal prosecution (id. at 13a). The court thus effectively removed the threat of criminal liability from any tax evasion counselor creative enough to devise an as-yet-unchallenged variety of tax fraud. The result here was to overturn the convictions of five individuals who counseled and assisted in the preparation of false and fraudulent tax returns, and who plainly believed at the time that their tax evasion scheme was unlawful. We submit that the court of appeals erred, and that the decision represents a severe blow to the ability to enforce the tax laws effectively. Review of the decision by this Court is therefore entirely warranted. a. The court's holding that the absence of a statute, regulation, or court decision directly on point precludes prosecution under Section 7206(2) is unworkable in practice and erroneous as a matter of law. It is far too easy for promoters of tax evasion programs to devise a new scheme, not yet anticipated by the IRS or litigated in court. It should suffice to prove that the promoters program was fraudulent and that the promoters recognized that it was fraudulent; to require the existence of an advance ruling would cripple law enforcement. Accordingly, the courts have frequently sustained criminal tax prosecutions based on the general concept of sham transactions, provided there is evidence of actual fraudulent intent. See, e.g., United States v. Baskes, 687 F.2d 165 (7th Cir. 1981); United States v. Conforte, 624 F.2d 869, 873-875 (9th Cir.), cert. denied, 449 U.S. 1012 (1980); United States v. Turkish, 623 F.2d 769, 771 (2d Cir. 1980), cert. denied, 449 U.S. 1077 (1981); United States v. Clardy, 612 F.2d 1139, 1151-1153 (9th Cir. 1980); United States v. Fruehauf Corp., 577 F.2d 1038, 1068 (6th Cir.), cert. denied, 439 U.S. 953 (1978); United States v. Raub, 177 F.2d 312, 313-314 (7th Cir. 1949). Willfulness under Section 7206(2) depends not on whether the IRS and the courts have had the chance to rule authoritatively on a particular scheme. It depends on whether the scheme was in fact unlawful and whether the defendant believed the scheme was unlawful. The court of appeals' contrary holding simply invites fraud and puts a premium on criminal ingenuity. The scienter requirement of the offenses involved in tax crimes -- willfulness -- "relieve(s) the statute of the objection that it punishes without warning an offense of which the accused was unaware." Screws v. United States, 325 U.S. 91, 102 (1945); see Boyce Motor Lines, Inc. v. United States, 342 U.S. 337, 342 (1952); United States v. Ragen, 314 U.S. 513, 524 (1942); Gorin v. United States, 312 U.S. 19, 26-28 (1941); Hygrade Products Co. v. Sherman, 266 U.S. 497, 502-503 (1925). As this Court stated in United States v. Bishop, 412 U.S. 346, 361 (1973), the willfulness requirement of Section 7206 is intended to "separate the purposeful tax violator from the well-meaning, but easily confused, mass of taxpayers." Willfulness is thus a question of subjective intent. The issue is the defendant's own state of mind, not the objective certainty or uncertainty of the law. See United States v. Herzog, 632 F.2d 469, 473 (5th Cir. 1980). To turn it about, as the court of appeals did, and say that uncertainties about the application of the law preclude prosecution even of those who clearly knew they were committing, and intended to commit, a violation, is to ignore the very purpose of the requirement of specific intent. Boyce Motor Lines, 342 U.S. at 342; Screws, 325 U.S. at 102-103. As Justice Brandeis said for the Court concerning a similar contention over 65 years ago, "any danger to (potential violators) which might otherwise arise from indefiniteness, is removed by (the statute's scienter requirement)." Omaechevarria v. Idaho, 246 U.S. 343, 348 (1918). The principle still holds today. See Colautti v. Franklin, 439 U.S. 379, 395 & n.13 (1979). Practical considerations of legislative draftsmanship compel this conclusion. As this Court observed in Boyce Motor Lines, 342 U.S. at 340 (footnote omitted): (M)ost statutes must deal with untold and unforeseen variations in factual situations, and the practical necessities of discharging the business of government inevitably limit the specificity with which legislators can spell out prohibitions. Consequently, no more than a reasonable degree of certainty can be demanded. Nor is it unfair to require that one who deliberately goes perilously close to an area of proscribed conduct shall take the risk that he may cross the line. These "practical necessities" are as compelling in the context of the tax laws as in any other. Bishop, 412 U.S. at 360-361. Of course, in a prosecution under Section 7206(2) defendants are entitled to present evidence to show that they did not believe that their actions were unlawful, and therefore did not act willfully. Such evidence may take many forms (see United States v. Brown, 411 F.2d 1134, 1137 (10th Cir. 1969), but its purpose is always to show their actual state of mind. Respondents had this opportunity, but the jury did not decide in their favor. See United States v. Pomponio, 563 F.2d 659, 662 (4th Cir. 1977), cert. denied, 435 U.S. 942 (1978). The court of appeals erred in concluding that the existence of some objective uncertainty in the law negates criminal intent, where the respondents themselves were shown to believe that the actions they counseled were unlawful. United States v. Ingredient Technology Corp., 698 F.2d 88, 96 (2d Cir. 1983), cert. denied, No. 82-1526 (June 20, 1983). /11/ Here, the jury heard ample evidence concerning respondents' efforts to assist participants in concealing their transactions. The jury also learned that respondents informed the participants of the very principle of tax law -- substance over form -- violated by their scheme, and that respondent Durst had told a participant that if the IRS were to discover his books and records, "then you're talking about tax avoidance, tax fraud, and the whole thing" (GX 243B, at 26). This provides a sufficient basis for concluding that respondents' violation of the law was willful. Holland v. United States, 348 U.S. 121 (1954); Spies v. United States, 317 U.S. 492, 499 (1943); United States v. Kaatz, 705 F.2d 1237, 1246 (10th Cir. 1983); United States v. Scott, 660 F.2d 1145, 1160 (7th Cir. 1981), cert. denied, 455 U.S. 907 (1982); United States v. Voorhies, 658 F.2d 710, 715 (9th Cir. 1981); United States v. Tunnell, 481 F.2d 149, 152 (5th Cir. 1973), cert. denied, 415 U.S. 948 (1974); Greenberg v. United States, 295 F.2d 903, 907 (1st Cir. 1961); see Moore v. Commissioner, 619 F.2d 619 (6th Cir. 1980). The issues of uncertainty in the law raised by respondents, as in Pomponio, 563 F.2d at 662, "constitute no more than defenses which were rejected by the jury." The court of appeals invaded the province of the jury in holding, on this record, that respondents' conduct could not as a matter of law be found to have been "willful." b. The decision below squarely conflicts with Ingredient Technology Corp. In that case, the Second Circuit rejected the theory that "uncertainty in the law negates willfulness whether or not the defendants are actually confused about the extent of their tax liability" (698 F.2d at 97). The court stated that "prior cases on willfulness consistently require factual evidence of the defendants' state of mind to negate willfulness under any theory" (ibid.). There, as here, "there was no evidence that (the defendants) * * * genuinely thought that what they were doing was lawful and proper; on the contrary, their conduct indicated a subjective belief in the unlawfulness of the conduct" (ibid. (emphasis in original)). /12/ For its contrary holding, the court of appeals relied (App., infra, 9a) on United States v. Critzer, 498 F.2d 1160 (4th Cir. 1974), and United States v. Garber, 607 F.2d 92 (5th Cir. 1979) (en banc). Those decisions, however, are factually distinguishable in material respects and provide only slight support for the court of appeals' reasoning. In Critzer, the defendant, an Eastern Cherokee Indian, had been advised by the Bureau of Indian Affairs that her income in question was not taxable. Indeed, the Bureau continued to maintain that position at the time of trial. The Fourth Circuit held that "(a)s a matter of law, defendant cannot be guilty of willfully evading and defeating income taxes on income, the taxability of which is so uncertain that even co-ordinate branches of the United States Government plausibly reach directly opposing conclusions" (498 F.2d at 1162). We have little objection to the narrow holding of Critzer -- that a taxpayer should not be found to have acted willfully if she relied on advice from a responsible agency of the federal government -- especially under the facts of the case, which involved an indian and the agency of the federal government charged with looking after her affairs. This narrow holding has no application to the instant case, however, because here there is no conflict between government agencies and no evidence that respondents relied on statements or positions of the government. We take issue with the broader dicta of Critzer, that in a case of legal uncertainty the "defendant's actual intent is irrelevant" (498 F.2d at 1162), and that "when the law is vague or highly debatable, a defendant -- actually or imputedly -- lacks the requisite intent to violate it" (ibid. (quoted at App., infra, 9a)). On the contrary, the issue of intent is one of fact, to be decided by the jury. Morissette v. United States, 342 U.S. 246 (1952). Where, as here, there is ample evidence that the defendants had the requisite intent to violate the law, and there was no evidence of reliance on government positions, the purely legal issues concerning the uncertainty of the law do not preclude conviction. In Garber, the Fifth Circuit held that, where there is sufficient uncertainty in the law, the trial court must allow the defendant to introduce expert testimony on that uncertainty, and must instruct the jury that a reasonable misconception of the tax law on his part would negate the necessary intent. /13/ Unlike the court below, the Garber court did not hold that the perceived legal uncertainty was a bar to conviction; on the contrary, it remanded for retrial with the expert evidence and revised jury instructions, thereby leaving the question of willfulness within the province of the jury. 607 F.2d at 100. Garber thus does not support, but rather conflicts with, the result below. Respondents were permitted to introduce expert testimony concerning the purported uncertainty in the law (see Tr. 3784-3823, 3832-3869, 3878-3941), /14/ and the trial court properly instructed the jury that respondents could not be found guilty if they had a good faith belief in the lawfulness of their tax program (R. 341, Instruction 29). The jury nonetheless found respondents guilty of willful violations of Section 7206(2). Respondents' convictions were fully consistent with the Fifth Circuit's position in Garber. In Critzer, the court relied heavily on James v. United States, 366 U.S. 213 (1961), in which this Court reviewed a conviction for failing to report income from embezzled funds. In an earlier decision, Commissioner v. Wilcox, 327 U.S. 404 (1946), the Court had held that embezzled funds did not constitute taxable income to the embezzler. In James, the Court overruled Wilcox but nonetheless reversed the conviction. A three-justice plurality held that "the element of willfulness could not be proven in a criminal prosecution" in light of the prior inconsistent holding in Wilcox. 336 U.S. at 221-222. The Critzer court concluded from James that "when the law is vague or highly debatable, a defendant * * * lacks the requisite intent to violate it" (498 F.2d at 1162). We do not believe this sweeping conclusion can be appropriately drawn from the rather unusual circumstances of James. In James, the three dissenting justices concluded that the permissibility of retrial of the defendants depended on their actual reliance, if any, on Wilcox (366 U.S. at 241, 242-243). The three concurring justices, who dissented on the question of overruling Wilcox, necessarily agreed with the plurality that the conviction should be reversed, but two of them -- Justices Black and Douglas -- criticized the plurality's decision to make its holding prospective only. /15/ Only the three justices in the plurality subscribed to the statement relied on in Critzer. Moreover, this Court subsequently characterized James as holding merely that "(t)he requirement of an offense committed 'willfully' is not met * * * if a taxpayer has relied in good faith on a prior decision of this Court" (Bishop, 412 U.S. at 361 (emphasis added)). Thus, James cannot properly be read to stand for a constitutional rule that would preclude prosecution of defendants evincing the requisite mens rea and committing acts illegal in fact simply because there may have been some objective uncertainty about the illegality of their accounts. In any event, James is a far cry from the instant case. We can agree there is some unfairness in punishing conduct that was expressly upheld by governing Supreme Court precedent at the time it was engaged in. We do not think there is any unfairness in convicting persons who acted both unlawfully and willfully, and in a manner not theretofore held lawful by any court or agency, where their sole substantiated claim is that no case directly in point had yet actually invalidated the specifics of their scheme. c. The court of appeals' decision is particularly troublesome because the legal uncertainty it deemed dispositive -- the question of the validity of foreign trusts /16/ -- was a wholly collateral issue of law. Any confusion there may have been concerning the law of foreign trusts was simply irrelevant here. It was the nature of the transactions, rather than the nature of the entities, that made respondents' scheme fraudulent. As the dissent pointed out (App., infra, 14a), this case is governed by "settled principles of tax law regarding sham 'gifts' and transactions." Those principles clearly established that the transactions respondents advocated were blatantly fraudulent. Under respondents' scheme, a user would claim as a deduction the amount of money paid to a trust as a purported business expenditure. But he would retain control of the money and, pursuant to a prestructured scheme, ultimately cause all or a portion of the money to return to himself as a so-called "gift" /17/ or "loan." This Court has held that in determining tax consequences, the economic realities of the transaction, rather than its form, are controlling. Frank Lyon Co. v. United States, 435 U.S. 561, 573 (1978); Knetsch v. United States, 364 U.S. 361 (1960); Commissioner v. Court Holding Co., 324 U.S. 331, 334 (1945); Higgins v. Smith, 308 U.S. 473, 477 (1940); Gregory v. Helvering, 293 U.S. 465, 469-470 (1935). Further, in determining the substance of a transaction, it is necessary to view the transaction as a whole, taking into consideration each of its steps. Court Holding Co., 324 U.S. at 334; Minnesota Tea Co. v. Helvering, 302 U.S. 609, 613 (1938). Here the "gift" or "loan" was but a part of a single integrated transaction, and must be viewed as a reimbursement of the earlier payment. Thus, the full amount of the expenditure could not be claimed as a deduction; it had to be reduced by the amount of the "gift" or "loan." See Manocchio v. Commissioner, 710 F.2d 1400, 1402 (9th Cir. 1983); United States v. Daniels, 617 F.2d 146, 147-148 (5th Cir. 1980); Glendinning, McLeish & Co. v. Commissioner, 61 F.2d 950 (2d Cir. 1932); see also United States v. Fruehauf Corp., 577 F.2d 1038, 1067-1068 (6th Cir.), cert. denied, 439 U.S. 953 (1978). Even if all uncertainties in the use of foreign trusts were resolved in favor of the taxpayer, respondents' scheme would still be illegal. Regardless of the entities or persons involved (see Griffiths v. Commissioner, 308 U.S. 355, 357-358 (1939)), the transactions used to create deductions in this case were shams and could not be recognized for tax purposes. Respondents' scheme is similar in this respect to that found to support criminal liability in United States v. Baskes, 687 F.2d 165 (7th Cir. 1981). There, the defendant assisted in the establishment of foreign trusts for the purpose of disguising a fraudulent form of commodity tax straddle. The taxpayers then engaged in risk-free commodity transactions in which losses generated in the United States (and deducted from income taxes) were offset by gains to the foreign trusts. Based on evidence of criminal intent, /18/ the court upheld Baskes' conviction under Section 7206(2). There, as here, the validity vel non of the foreign trusts was irrelevant to the prosecution; there, as here, the foreign trusts were mere vehicles for sham transactions. Respondents attempted to conceal the fictitious nature of the deductions created through use of the ALA program by covering them with a facade of apparent legality. By focusing on the validity of the trusts, rather than on the nature of the transactions accomplished through use of the trusts, the court of appeals was misled by the deception and was distracted from the substance of the transaction. This makes the court's holding all the more troublesome, for it extends the immunity from prosecution for violations of "uncertain" tax laws to tax evasion schemes involving any "uncertain" element -- even where that uncertainty could not possibly give rise to any doubt about the fraudulent character of the overall scheme. /19/ 2. The court of appeals also held that promotion of a fraudulent tax avoidance scheme of this sort is protected by the First Amendment. /20/ This holding conflicts with decisions of this and other courts, embodies a fundamental misconception about the scope of First Amendment protections, and is gravely injurious to the government's efforts to prevent and deter fraudulent and abusive "tax shelter" promotions. a. Relying on Brandenburg v. Ohio, 395 U.S. 444, 447 (1969), the court of appeals stated (App., infra, 10a (deletions in original)): Nothing should be clearer at this stage in the development of first amendment jurisprudence than "the principle that the constitutional guarantees of free speech and free press do not permit a State to forbid or proscribe advocacy . . . of law violation except where such advocay is directed to inciting or producing imminent lawless action and is likely to incite or produce such action." The court of appeals did not explain its understanding of the term "imminent," nor did it cite any other decisions bearing on the application of the First Amendment to speech employed to instigate unlawful conduct. The court simply concluded, without analysis, that "(n)othing in the record indicates that the advocacy practiced by these defendants contemplated imminent lawless action" (App., infra, 10a (emphasis in original)). The court thus held that "the first amendment would require a further inquiry before a criminal penalty could be enforced" (ibid.). /21/ In the specific context of tax evasion, the decision is in conflict with decisions of the Eighth Circuit in United States v. Moss, 604 F.2d 569 (8th Cir. 1979). cert. denied, 444 U.S. 1071 (1980), and United States v. Buttorff, 572 F.2d 619 (8th Cir.), cert. denied, 437 U.S. 906 (1978). In Buttorff and Moss, the defendants were convicted of aiding and abetting the filing of fraudulent income tax withholding forms, in violation of 26 U.S.C. (Supp. V) 7205 and 18 U.S.C. 2. They had made speeches in which they advised taxpayers how to file false withholding forms, and taxpayers had followed their advice. The convictions were upheld against First Amendment challenge, without any requirement that unlawful action be immediate. The decision below is also difficult to reconcile with United States v. Damon, 676 F.2d 1060, 1062 (5th Cir. 1982), in which the Fifth Circuit rejected a defense assertion that 26 U.S.C. 7206(2) violated the First Amendment. The court held that the conduct proscribed by Section 7206(2) "can not be considered 'pure speech'" (676 F.2d at 1062). Analyzing the statute in light of Brandenburg, the court determined (ibid. (citations omitted)): The statute here involved proscribes only purposefully incited imminent lawless activity. This is clearly discerned from the commonly understood meanings of "procure," "counsel" and "advise," and from judicial interpretations of the statute itself. The type of incitive speech with which we are here concerned is surely not constitutionally protected speech. Moreover, the court of appeals has misconstrued this Court's decisions. Speech that incites unlawful conduct is not protected merely because the conduct is not completed immediately. The fundamental principle, derived from the common law, is "that a person who procures another to do an act is responsible for that act as though he had done it himself." Dennis v. United States, 341 U.S. 494, 545 (1951) (Frankfurter, J., concurring); see Yates v. United States, 354 U.S. 298, 320 (1957); Fox v. Washington, 236 U.S. 273, 277-278 (1915). /22/ The issue is causation, not timing. Where protected speech -- especially political rhetoric -- is involved, however, the courts have looked to proximity in time as an objective indicator of causation. A speaker thus cannot be held responsible for the remote consequences of his speech. See Brandenburg, 395 U.S. at 447. The Brandenburg rule has recently been restated by this Court in NAACP v. Claiborne Hardware Co., 458 U.S. 886, 927 (1982): "a finding that (a person's) public speeches were likely to incite lawless action could justify holding him liable for unlawful conduct that in fact followed within a reasonable period." At issue in Claiborne Hardware were the speeches of NAACP State Secretary Charles Evers, described by the Court as "spontaneous and emotional appeals for unity and action in a common cause" (id. at 928). The lower courts had held Evers liable for damages to property caused some time after the speech. A "reasonable period" for determining whether Evers could be held responsible for the subsequent acts of violence, according to this Court, was no more than "weeks or months" (ibid.). Here, there was pecuniarily motivated counseling of fraudulent tax transactions that led to prompt preliminary steps by program participants to implement respondents' program. See, e.g., Tr. 1036-1037, 1047-1056, 1094-1113, 1840-1850, 1858-1869. While the actual filing of false tax returns occurred somewhat later, it is absurd to suggest in the tax evasion context that the fraudulent return must be filed immediately on the heels of the tax promoter's counsel and assistance. Unlike the flash of violence that may follow an inflammatory speech, a tax evasion scheme requires time. In this case, the trust organizations recommended by respondents had to be set up (a process inevitably more time-consuming because done abroad), the paper transactions had to be carried out, and the tax returns had to be prepared. Moreover, the transactions had to take place during the year for which taxes were to be evaded, whereas participants would not complete their unlawful activity until the time to file tax returns -- usually April 15 of the following year. To find such conduct insufficiently "imminent" as a matter of constitutional law is to insulate virtually all tax evasion promotion schemes from punishment. /23/ b. The court of appeals compounded its error by treating this as a case of pure speech within the core protections of the First Amendment, like that in Brandenburg and Claiborne Hardware, when in fact it involved extensive conduct other than speech, directly leading to actual violations of law. Moreover, the court disregarded the fact that the speech itself was less-protected, commercial speech. Respondents were not prosecuted for mere advocacy of violation of the tax laws. Their conduct went far beyond mere speech. In addition to respondent Durst's assistance in the preparation of a false individual tax return, recognized by the court of appeals (App., infra, 10a), respondents provided materials to assist in carrying out the "tax shelter" program, set up foreign trust organizations for some participants, provided false social security numbers and suggested fictitious names for use on authorized bank account records, and accompanied some participants to assist them in opening accounts under phony names. They also distributed and required program participants to sign affidavits pledging to withhold participants to sign affidavits pledging to withhold cooperation from law enforcement authorities. See pages 3-8, supra. The court of appeals' conclusion that their activities fell within First Amendment protections is thus contrary to this Court's holding that "the constitutional freedom for speech and press * * * (does not extend) its immunity to speech or writing used as an integral part of conduct in violation of a valid criminal statute." Giboney v. Empire Storage & Ice Co., 336 U.S. 490, 498 (1949). The court of appeals also disregarded the commercial character of respondents' speech. Respondents' speech was simply a service, sold to the participants for a price. Cf. Ohralik v. Ohio State Bar Association, 436 U.S. 447, 456-457, 459 (1978). But this Court has unequivocally held that "(t)he government may ban * * * commercial speech related to illegal activity." Central Hudson Gas & Electric Corp. v. Public Service Commission, 447 U.S. 557, 563-564 (1980), citing Pittsburgh Press Co. v. Human Relations Commission, 413 U.S. 376, 388 (1973). See Village of Hoffman Estates v. Flipside, Hoffman Estates, Inc., 455 U.S. 489, 496 (1982); see also Lamar Outdoor Advertising v. Mississippi State Tax Commission, 701 F.2d 314, 323 (5th Cir. 1983); Casbah, Inc. v. Thone, 651 F.2d 551, 564 (8th Cir. 1981), cert. denied, 455 U.S. 1005 (1982). Thus, under the decisions of this Court respondents can legitimately claim no constitutional right to sell "how-to" materials on breaking the law. 3. The decision in this case, if not reversed, will seriously interfere with the collection of the revenue. Our tax system depends to a large degree on voluntary compliance. Fraudulent tax evasion schemes are doubly pernicious: not only do they lead participants to file false and fraudulent returns; they also undermine the vital national sense that conscientious tax reporting is a shared obligation of all. See 1 S. Rep. 97-494, 97th Cong., 2d Sess. 266 (1982) Moreover, as a question of law enforcement strategy, "(a)busive tax shelters must be attacked at their source: the organizer and salesman" (ibid.). Combatting organized tax evasion promotion schemes, such as respondents', is therefore one of the highest priorities of the IRS (General Accounting Office, With Better Management Information, IRS Could Further Improve Its Efforts Against Abusive Tax Shelters 1, 6-7, 30-33 (1983)). The IRS reports that some 340,000 returns are currently under audit because of potential tax shelter questions, and that 18,570 out of some 58,000 cases docketed in the Tax Court as of November 30, 1983, involved tax shelter issues. The abusive tax shelter problem is also a source of grave concern in Congress. /24/ The decision below borders on the irresponsible. Both of the alternative holdings serve to frustrate the fair and effective enforcement of tax obligations. The holding regarding willfulness will encourage the proliferation of abusive tax shelters, as promoters discover that they can avoid criminal responsibility even for knowingly fraudulent schemes, if they can but devise a variation not anticipated by statute, regulation, or case law. Especially given the way the court of appeals evaluated the scheme in this case, it will be a rare case where prior precedent is so clear that a nonfrivolous claim of uncertainty cannot be made. The First Amendment holding will give promoters the confidence that -- at least if their schemes are not carried out immediately -- they will be cloaked with the protections of the First Amendment. As applied in the Ninth Circuit alone, the decision is troubling, for it affects a large population and creates an inconsistency in national standards of tax law enforcement. /25/ And even if the holding below is rejected by other courts, it will lend credence to the claims and pretensions of abusive tax shelter promoters, whose best tactic is to play on the limited legal understanding of the public. CONCLUSION The petition for a writ of certiorari should be granted. Respectfully submitted. REX E. LEE Solicitor General GLENN L. ARCHER, JR. Assistant Attorney General ANDREW L. FREY Deputy Solicitor General MICHAEL W. McCONNELL Assistant to the Solicitor General ROBERT E. LINDSAY ALAN HECHTKOPF Attorneys February 1984 /1/ Section 7206(2) has since been amended to provide for fines of up to $100,000 (and $500,000 in the case of corporations). Tax Equity and Fiscal Responsibility Act of 1982, Pub. L. No.97-248, Section 329(c), 96 Stat. 618. /2/ The prison terms imposed were as follows: Dahlstrom, five years; Ripley, four years; Conley, three years; Morris, eighteen months; and Durst, one year (Tr. 4404-4407). /3/ Although the ALA was nominally a membership organization, it was controlled by Dahlstrom. He was trustee of a trust organization which, in turn, was trustee of the ALA (Tr. 3421-3422). Ripley served as executive vice-president of the ALA (Tr. 3422-3423). Dahlstrom formed the ALA in order not to run afoul of laws prohibiting the practice of law without a license (Tr. 3021). /4/ United States tax liability on the "income" to trust two from the payments from the taxpayer would be avoided by causing trust two to make payments to trust three. These payments would not give rise to United States tax liability because both trusts were non-resident aliens for tax purposes. App., infra, 4a. /5/ The "gifts" or "loans" would generally take the form of a transfer from trust three to the taxpayer participant of a demand note payable by trust two. App., infra, 4a. There is no gift tax payable on gifts of intangible property by a nonresident alien to a United States citizen. 26 U.S.C. (& Supp. V) 2501. /6/ The record does not reveal how the materials were purportedly acquired by the trust. /7/ Respondents also provided program purchasers with materials explaining the principle that the incidence of taxation is determined by the substance, rather than the form, of the transaction (e.g., GX 304, at 86-90 of syllabus). /8/ The court also held that an additional reason for reversing the convictions on Count VII was that a false income tax return prepared by respondent Durst for a government informer was never actually filed as the informer's income tax return (App., infra, 11a-12a). Although we consider that ruling erroneous (see App., infra, 17a (dissenting opinion)), we are not seeking review of it by this Court. /9/ Similar schemes have since been held to be invalid for tax purposes. United States v. Landsberger, 692 F.2d 501 (8th Cir. 1982); Zmuda v. Commissioner, 79 T.C. 714 (1982), appeal pending, No. 83-7374 (9th Cir. Filed May 23, 1983). /10/ We can agree that in some circumstances a criminal prosecution would violate due process because the law is so vague that it fails to "give a person of ordinary intelligence fair notice that his contemplated conduct is forbidden." United States v. Harriss, 347 U.S. 612, 617 (1954): see United States v. Ingredient Technology Corp., 698 F.2d 88, 96 (2d Cir. 1983), cert. denied, No. 82-1526 (June 20, 1983). The court of appeals reached no such conclusion here. The court held that respondents' conduct was not willful -- not that Section 7206(2) is unconstitutionally vague. In any event, where proof of willfulness is required to sustain a conviction, we believe due process requirements of definiteness are usually satisfied. Boyce Motor Lines, 342 U.S. at 340; United States v. McClain, 545 F.2d 988, 1001-1002 n.30 (5th Cir. 1977). See United States v. Ragen, 314 U.S. at 524 ("A mind intent upon willful evasion is inconsistent with surprised innocence."): cf. Lambert v. California, 355 U.S. 225 (1957). /11/ Conversely, it may be well settled as a legal matter that a certain tax treatment of a transaction is unlawful, yet a defendant in a criminal case would have a valid defense if the jury found that -- however erroneously as a matter of objective fact -- he actually believed his course of action to be proper. See, e.g., Mann v. United States, 319 F.2d 404, 409 (5th Cir. 1963), cert. denied, 375 U.S. 986 (1964). /12/ The Ingredient Technology court also rejected the notion that a criminal tax statute could be unconstitutionally vague merely because "'there is no litigated fact pattern precisely in point.'" 698 F.2d at 96 (quoting United States v. Brown, 555 F.2d 336, 339-340 (2d Cir. 1977)). /13/ The Fifth Circuit has subsequently narrowed the application of Garber to cases involving failure to report income, and has refused to apply it to a case of filing false information. United States v. Herzog, 632 F.2d 469, 473 (1980). The court reasoned that "no amount of expert testimony could help" a defendant who filed falsely (ibid.). /14/ We do not agree with the Garber court (607 F.2d at 98) that proof of uncertainty in the law is relevant where the defendant was not aware of the uncertainty. In our view, the ultimate issue is the defendant's subjective intent; the objective state of the law is not ordinarily probative of that intent. See id. at 113 (Tjoflat, J., dissenting). To the limited extent that proof of uncertainty in the law might add credence to the defendant's own claim of subjective good faith, its relevance is likely to be outweighed by the dangers of prejudice and confusion (ibid.). Because expert testimony was admitted in this case, however, the issue is not presented. /15/ The concurring and dissenting opinion of Justices Black and Douglas in James has been a source of some confusion. We believe that the opinion states: (1) that the willfulness requirement was satisfied in James despite the legal uncertainty (366 U.S. at 223); (2) that the Court could not legitimately apply interpretations of criminal statutes prospectively (id. at 225); and (3) that a statute so ambiguous that interpretation of it brings about unexpected results raises serious questions of unconstitutional vagueness (id. at 224). Contrary to the Critzer court (498 F.2d at 1163 n.5), these views do not support the James plurality "on the point in issue"; nor do they support the holding in the instant case. /16/ "The government, however, has not pointed to any cases which invalidated the FTO's (Foreign Trust Organizations) presented in this particular case" (App., infra, 8a). "The use of foreign trusts to save taxes was still a highly debatable issue" (ibid.). /17/ In his dissent, Judge Goodwin correctly concluded (App., infra, 14a): "There were no 'gifts' here within the clear intent of the statute because the taxpayers controlled the transactions of their trusts. See Hilda M. Royce, 18 T.C. 761 (1952); see also Jackson, 32 BTA 470 (1935); Stine, 32 BTA 482 (1935)." Moreover, as part of a prestructured transaction the "gift" was plainly in consideration of the expenditure, and therefore was not a gift within the contemplation of the tax laws. See Commissioner v. Duberstein, 363 U.S. 278, 285 (1960). /18/ The defendant in Baskes, like respondents here, argued that his conduct was not willful because he could reasonably have believed the domestic commodity trade losses were deductible. /19/ On the basis of its holding on the substantive counts, the court of appeals also held that there was insufficient evidence of criminal intent to sustain the conspiracy convictions (App., infra, 12a-13a). It reasoned that the substantive offenses underlying the conspiracy count were violations of Section 7206(2); if there was insufficient evidence to support a finding of willful violations of Section 7206(2), the court reasoned, there could be no conviction on the conspiracy count either. However, the indictment here alleged a conspiracy to defraud the United States, not to commit a particular offense. Consequently, the necessary intent is to interfere with or impair a governmental function by deceit, craft, or trickery. Hammerschmidt v. United States, 265 U.S. 182, 188 (1924). Here, as discussed above, there was ample evidence that the respondents intended to impair the government's tax collection efforts by deceit, craft, or trickery. Thus, the evidence was sufficient to sustain the conspiracy convictions even if, as the court held, respondents could not be convicted on the substantive counts. United States v. Klein, 247 F.2d 908 (2d Cir. 1957), cert. denied, 355 U.S. 924 (1958). In any event, if this Court agrees with our position regarding the substantive counts, the reversal of respondents' convictions on the conspiracy count will not stand. /20/ For purposes of this alternative holding, the court expressly assumed -- contrary to its holding -- that respondents "knew that a taxpayer who actually performed the actions they advocated would be acting illegally" (App., infra, 10a). /21/ The court did not explain what "further inquiry" might be in order. In light of the court's conclusion that "concern with protecting the public fisc" cannot "justify" criminal prosecution for speech of this kind (App., infra, 10a), we can envision no further proceedings that could cure the alleged constitutional defect in this prosecution. /22/ Significantly, federal statutes directed at promoters of abusive tax shelters are predicated on the congressional judgment that the "professional advisor or salesman of a tax shelter is generally more culpable than the purchaser who may have relied on their representat(ions) as to the tax consequences of the investment." 1 S. Rep. 97-494, 97th Cong., 2d Sess. 266 (1982) (emphasis added). /23/ The court of appeals' holding could lead to the wholly irrational result that those who counsel and advise the filing of false tax returns early in the tax year are constitutionally protected, but that those who give their advice and counsel on April 14 (when it is ordinarily too late to put it to use in the returns about to be filed) are not. /24/ In 1982, Congress enacted several measures specifically directed against abusive tax shelters, including a penalty for promoting abusive tax shelters (codified at 26 U.S.C. 6700); a procedure for enjoining promoters of abusive tax shelters (codified at 26 U.S.C. 7408); and new penalties for substantial understatements (codified at 26 U.S.C. 6661). See Pub. L. No. 97-248, Sections 320(a), 321(a), and 323(a), 96 Stat. 611, 612, and 613. /25/ Even before Dahlstrom was decided, the United States District Court for the Eastern District of Wisconsin granted protest leader Alton R. Moss, a/k/a John L. Freeman, an acquittal on the ground that his advising taxpayers to violate the tax laws was protected by the First Amendment, even though the taxpayer committed violations on his advice. (No. 81-CR-112; see R. 336). Dahlstrom could lead to more district court actions of that sort. APPENDIX Appendix material is not available on juris.