WASHINGTON – A federal appeals court said Tuesday that the former owners of an Arizona broadcasting company owe $15 million in taxes on the 2001 sale of their business.
A three-judge panel of the 9th U.S. Circuit Court of Appeals said that deals between Slone Broadcasting Co. and another company that assumed Slone’s tax liability, only to claim later that it did not have assets to pay the taxes, had “no legitimate economic purpose … other than to avoid paying the taxes.”
It’s the second time the appeals court has overturned rulings by a tax court, which sided previously with the broadcaster.
Slone Broadcasting Co. was an Arizona-based company with a handful of radio stations around Tucson, according to an archived web site of the now-defunct company.
Its owners agreed to sell their assets in 2001 to Citadel Broadcasting Co. for $45 million, realizing a capital gain of $38.6 million that incurred federal and state taxes of about $15.3 million, according to court documents.
Before that sale closed, Slone was approached by Fortrend International with an offer to buy all of Slone’s shares and restructure the company “to engage in the asset recovery business.” Slone investigated the deal, hiring an attorney and experts who said Fortrend was legitimate and “represented by well-regarded accounting and law firms.”
But when Slone officials asked how Fortrend would reduce their tax liability, the company refused to answer, saying its methods were proprietary but reassuring the Slone shareholders. On Dec. 10, 2001, a Fortrend affiliate, Berlinetta, bought Slone’s shares for $35.8 million and agreed to assume their income tax liability.
Berlinetta and Slone merged into Arizona Media Holdings, which paid the loan that Berlinetta used to buy the Slone stock. At that point, Arizona Media Holdings claimed it no longer had assets to pay the tax from the sale – leading the Internal Revenue Service to seek payment of the taxes from the former Slone shareholders.
A tax court sided with Slone, ruling that its shareholders “neither knew, nor should have known that Fortrend and Berlinetta were involved in an illegitimate tax evasion scheme.”
In the latest appeal, judges on the circuit court panel appeared to be wrestling with the question of just how much due diligence the Slone shareholders were required to exercise before entering into the deal with Berlinetta, according to a video of the hearing.
Judge Paul Watford said that Slone’s experts asked Fortrend for details so they could “figure out whether there’s a legitimate basis for doing that.” But when they were told the details were proprietary, “They said, ‘Oh, OK, we’ll go home now,’ and I don’t think that is sufficient at all in terms of what your client should have done.”
But Stephen Silver, the attorney for Slone, said at the hearing that the government had the burden of proving knowledge of an illegal scheme by Slone’s shareholders. The “undisputed evidence” from the tax court hearings showed that they believed the deal was OK, he said.
“I think the record shows sufficient due diligence in this case based upon the testimony,” Silver said, citing the research by respected experts in the field.
But Assistant U.S. Attorney Arthur Catterall said there were “plenty of red flags” to alert the Slone shareholders about the deal.
The appeals court agreed, holding that the shareholders’ sale to Berlinetta was a “cash-for-cash exchange lacking independent economic substance beyond tax avoidance.”
Judge Mary Schroeder wrote in the opinion for the panel that there was “no legitimate economic purpose other than to avoid paying the taxes that would normally accompany a liquidating asset sale and distribution to shareholders.”
Neither Silver nor government attorneys responded to requests for comment on the ruling this week or possible next steps.