1 BEFORE THE CALIFORNIA STATE BOARD OF EQUALIZATION 2 5901 GREEN VALLEY CIRCLE 3 CULVER CITY, CALIFORNIA 4 5 6 7 8 REPORTER'S TRANSCRIPT 9 OCTOBER 20, 2010 10 11 12 13 14 15 FINAL ACTIONS 16 B1a AND B1b FROM OCTOBER 19, 2010 17 18 OTHER MATTERS RE OCTOBER 19, 2010 19 20 21 22 23 24 25 REPORTED BY: JULI PRICE JACKSON 26 CSR NO. 5214 27 28 1 1 2 P R E S E N T 3 4 For The Board Betty T. Yee of Equalization: Chair 5 Jerome E. Horton 6 Vice-Chair 7 Barbara Alby Acting Member 8 Michelle Steel 9 Member 10 Marcy Jo Mandel Appearing for John Chiang 11 State Controller (per Government Code 12 Section 7.9) 13 Diane G. Olson Chief, Board 14 Proceedings Division 15 16 ---OOO--- 17 18 19 20 21 22 23 24 25 26 27 28 2 1 5901 GREEN VALLEY CIRCLE 2 CULVER CITY, CALIFORNIA 3 OCTOBER 20, 2010 4 ---o0o--- 5 MS. YEE: Good morning. Good morning. We'll 6 call the Board of Equalization meeting to order. 7 Ms. Olson, I think what I'd like to do is go 8 back to item B1a and B1b from yesterday. 9 MS. OLSON: Okay. 10 ---o0o--- 11 B1a DONALD R. DIAMOND AND JOAN B. DIAMOND 12 NO. 441030 13 B1b FRANK A. ARIES AND MARY LOU ARIES 14 NO. 464475 15 ---o0o--- 16 MS. YEE: Donald and Joan Diamond and Frank and 17 Mary Lou Aries. 18 And we have Ms. Kelly and Mr. Epolite here. 19 Members, we have put the action on this matter over 20 until today for further review, I think particularly of 21 the Magneson court decision specifically. 22 Is there a further discussion on this matter or 23 a motion? 24 MS. ALBY: Yes. 25 MS. YEE: Ms. Alby. 26 MS. ALBY: I award to grant taxpayer. 27 MS. YEE: Okay, motion by Ms. Alby to grant the 28 appeal. 3 1 Is there a second? 2 MS. STEEL: Second. 3 MS. YEE: Second by Ms. Steel. 4 Discussion? 5 MR. HORTON: Hum -- 6 MS. YEE: Mr. Horton? 7 MR. HORTON: Madam Chair -- Madam Chair, 8 Members, thank you very much for indulging me with an 9 opportunity to -- to review the cases and related cases. 10 Unfortunately, I was up to we hours in the 11 morning reviewing various different cases as they relate 12 to this particular transaction. In doing so -- and 13 particularly I sought to take the facts patterns in this 14 particular case and place them in each of these various 15 different court cases. 16 In doing so, it brought to light a couple of 17 things, first this -- there are -- there were three 18 basic transactions. The first transaction was the 19 forced sale of the property, which, in turn, the 20 partnership decided to do a number of things. The -- 21 MS. KELLY: I'm sorry, Mr. Horton, are we 22 talking -- we're about Magneson? 23 MR. HORTON: No, no. 24 MS. YEE: He's -- 25 MS. KELLY: Diamond, Aries? 26 MS. YEE: Yes. 27 MS. KELLY: Okay, thank you. I'm sorry. 28 MR. HORTON: The partners of GGA -- 4 1 MS. KELLY: Right. 2 MR. HORTON: -- decided to do a number of 3 things. 4 They invested in seven different transactions, 5 six of which was clearly an exchange for a position in a 6 partnership. 7 MS. KELLY: Right, those were the LLC 8 interests. 9 MR. HORTON: Right. The seventh transaction, 10 which is the one before us, where the -- one of the 11 partners, the taxpayer, acquired a piece of property and 12 acquired real interest in that property via a 1033 13 exchange and then transferred that real interest to a 14 limited partnership, general partnership. 15 MS. KELLY: What they did was GGA purchased the 16 Scottsdale property, real property. 17 MR. HORTON: Uh-huh. 18 MS. KELLY: And then they transferred their 19 real property for an interest in the LLC. 20 MR. HORTON: In the LLC? 21 MS. KELLY: Uh-huh. 22 MR. HORTON: Okay. And that interest then 23 became a personal interest. 24 MS. KELLY: That's right, under Arizona and 25 California law. 26 MR. HORTON: And California law. 27 So -- and therein is the difference, in my 28 mind, in the Madison (verbatim) case, because in that 5 1 case you had a transfer of real property for a general 2 partnership interest. 3 And, so, once we sort of get beyond that, we 4 began to look at the step transaction doctrine and to 5 see if there is -- if the transactions are or can be 6 separated. 7 Or, as the Franchise Tax Board seeks to do, can 8 they collapse it all into one transaction? 9 And, so, in that case the facts that there was 10 a pre-existing agreement says that -- which required all 11 three transactions to take place, even though it was 12 pursuant to a mortgage arrangement that in and of itself 13 made all three of the transactions one integral flow of 14 a transaction. 15 So, then, you know, I sort of began to look at 16 the evidence to see if there was an economic purpose for 17 the 1031 exchange. And all of the court decisions that 18 I've had an opportunity look at in the past and 19 certainly most recently has consistently ruled that the 20 arrangement of one's finances for tax purposes is not a 21 sin. It's not a bad thing. And, in fact, it's a wise 22 thing to do that. 23 However, in order to assure (verbatim) that you 24 have the exemption, there must be an economic business 25 purposes, you can't just simply do it for tax purposes. 26 So, in this case, I couldn't really find an 27 economic purpose. I couldn't find a business purpose. 28 I think near the end the taxpayers sort of threw in a 6 1 testimony that there was a business purpose by virtue of 2 taking the title in a particular way in order to 3 avoid some liabilities. Well, that's not really a 4 business purpose. 5 In looking at the step transaction, we don't 6 have -- seem to have the economic purpose. And the 7 transfer, in and of itself, happened in the blink of an 8 eye for the most part. And, so, if there were an 9 economic purpose, it was only for seconds. 10 And it's difficult to argue that in a matter of 11 a few seconds there's some economic benefit to this 12 particular transaction. 13 So, it appears that the step transaction 14 doctrine does apply. And it is somewhat unfortunate 15 because the law is written in such a way that the 16 transaction could have been structured differently, but 17 wasn't. 18 The pre-existing agreement, the true 19 economic -- one of the major economic reasons for the 20 transaction was predicated by the lender. The lender 21 said, basically, is that, "I want this property 22 taking -- the title taken to this property taken by the 23 partnership, not the individual." 24 But as it is most often, we can't necessarily 25 argue the case for the taxpayer or prepare the 26 transaction prior to their arrival here. It's always a 27 condition subsequent that we have to make these 28 judgments. 7 1 So, based on the conditions the fact patterns 2 and the law itself, I find it hard to -- not to sustain 3 the Franchise Tax Board. 4 MS. YEE: Okay, thank you, Mr. Horton. 5 Other discussion, Members? 6 Ms. Alby? 7 MS. ALBY: I'd like to ask Miss Kelly, would it 8 have made a difference in they had transferred their 9 limited partnership interest to into a living trust 10 instead of that -- instead of the LLC? 11 MS. KELLY: Well, the inquiry is whether or not 12 the acquisition is for like kind property. 13 So, whatever they replaced the property that 14 they lost to the City of San Francisco, it would need to 15 be -- they would have to have a similar relationship to 16 it. 17 And here GGA owned the apartments outright. 18 And, so, whatever the acquired property would have to be 19 of a similar nature as far as their control and 20 relationship to the property. 21 MS. ALBY: So, you would argue that an 22 equitable interest in a trust is not a like kind 23 transaction -- 24 MS. KELLY: No, not necessarily. It would 25 depend on the -- 26 MS. ALBY: -- legal interest in real property. 27 MS. KELLY: It would depend on the -- 28 MR. HORTON: How the trust is structured. 8 1 MS. KELLY: Right, the -- exactly, how the 2 trust is structured and the circumstances. 3 I'm sorry, I can't answer that without more 4 information. 5 MS. ALBY: All right. 6 MS. YEE: Okay, other discussion, Members? 7 Questions? 8 Okay, we have a motion by Ms. Alby, second by 9 Ms. Steel to grant the appeal. 10 Please call the roll. 11 MS. OLSON: Madam Chair? 12 MS. YEE: No. 13 MS. OLSON: Ms. Alby? 14 MS. ALBY: Aye. 15 MS. OLSON: Ms. Steel? 16 MS. STEEL: Aye. 17 MS. OLSON: Mr. Horton? 18 MR. HORTON: No. 19 MS. OLSON: Ms. Mandel? 20 MS. MANDEL: No. 21 MS. OLSON: Motion fails. 22 MS. YEE: Okay, may I have another motion, 23 please? 24 MS. MANDEL: Sustain the Franchise Tax Board. 25 MS. YEE: Okay, motion by Ms. Mandel to sustain 26 the Franchise Tax Board. 27 MR. HORTON: Second. 28 MS. YEE: Mr. Horton seconds. 9 1 Please call the roll. 2 MS. OLSON: Madam Chair? 3 MS. YEE: Aye. 4 MS. OLSON: Ms. Alby? 5 MS. ALBY: No. 6 MS. OLSON: Ms. Steel? 7 MS. STEEL: No. 8 MS. OLSON: Mr. Horton? 9 MR. HORTON: Aye. 10 MS. OLSON: Ms. Mandel? 11 MS. MANDEL: Aye. 12 MS. OLSON: Motion carries. 13 MS. YEE: Okay, thank you very much. 14 ---o0o--- 15 16 17 18 19 20 21 22 23 24 25 26 27 28 10 1 MS. YEE: And then Ms. Steel? . 2 MS. STEEL: Madam Chair? 3 MS. YEE: Yes? 4 MS. STEEL: Before Miss Kelly is going to leave 5 today, I just want to ask you to recommend -- yesterday, 6 you know, the one Franchise Tax Board case that six 7 letters went out to the taxpayer, never -- I mean, 8 taxpayer never received even one letter out of those 9 six, all came back to Franchise Tax Board. 10 I found out that Board of Equalization has that 11 even it's automated all the letters going out, when it 12 comes back, you know, all of them come back to Board of 13 Equalization, what they do is before they take a lien, I 14 mean, put the lien on the property, what they do is 15 supervisor look at it. 16 So, if it's okay with other Board Members that 17 I want to send strong recommendation letters going out 18 to Franchise Tax Board that even it's automated letters, 19 that if everything comes back, that taxpayer never 20 received it, before we put lien on any properties that 21 they should -- supervisor had to review it before they 22 put lien on it. 23 MS. YEE: Ms. Mandel? 24 MS. MANDEL: The -- the volume and the 25 operations of the Franchise Tax Board may be dissimilar 26 enough from Board of Equalization. 27 Certainly letting Franchise Tax Board know 28 and -- how Board of Equalization handles something and 11 1 the facts in particular cases and, you know, whether -- 2 I'm not aware of exactly what -- I don't remember 3 exactly what Franchise Tax Board has looked at and 4 considered in the past on the automated systems, but it 5 is a -- as Miss Kelly noted yesterday, a much, much 6 larger volume of things. 7 And, as we know at least 15 -- at least on the 8 personal income tax side, without regard to the 9 companies, 15 times the number of taxpayers as a 10 population that Franchise Tax Board has as compared to 11 Board of Equalization. So, operationally, I'm not -- 12 I'm not exactly sure, you know, what -- what -- you 13 know, they can look at their operation. But I can't 14 tell them, sitting as a Board of Equalization Member, 15 what they, in fact, should do because it may be 16 dissimilar. 17 But, you know, the pleasure of the Board. I 18 understand the concern, I'm just -- I'm not sitting 19 here to tell FTB what do with their internal operations. 20 And I don't know what's been considered in 21 terms of their -- you know, asking them to look at it 22 and here's what we do at FTB -- or BOE and, you know, 23 what you -- you know, they do have different systems and 24 systems that they -- things that they do today may be 25 very different than what did some years ago when -- you 26 know, when the cases come to us, they're older cases. 27 So, I just feel funny sitting here to tell them 28 you should do X. 12 1 MS. STEEL: You know what, actually I'm not 2 suggesting that telling them what to do. 3 This is a kind of recommendation letter. And 4 not only that, I understand the caseload that what they 5 have, but at the same time none of those case -- I don't 6 think that there is that many cases are actually there 7 that all these taxpayers -- all these letters that 8 yesterday this taxpayer specially didn't get any of 9 those letters, that's what I'm asking. 10 I'm not asking those taxpayers who received 11 couple of letters, that's totally different story. So, 12 I don't know exactly how many cases that Franchise Tax 13 Board has that every letter is went out and came back. 14 That's really different. 15 If you are not, you know, willing to do that, I 16 just send my letter out to Franchise Tax Board, just 17 it's a recommendation, but I'm not telling them that 18 what to do because it's totally different tax agency. 19 So, I don't think I have enough power to do 20 that. So, I'm -- what I'm suggesting is this is just as 21 a courtesy to the taxpayers when they don't receive any 22 notices, how they know? 23 If they make just one phone call, we could save 24 money for taxpayers, don't have to pay interest, at the 25 same time State doesn't have to waste their money to 26 come all the way up here because they didn't have a clue 27 because CPA, who was working on it, and they thought 28 they were paying enough taxes to the tax agencies. So, 13 1 they didn't even know they were in trouble. 2 So, we can save money for both agencies here, I 3 mean agency and taxpayers. 4 So, if you're not feeling -- you don't feel 5 comfortable with it, I send a letter out on, you know, 6 behalf of my district that, you know, I just recommend. 7 But this is not -- let me make it very clear, 8 that telling them what to do, it's a recommendation 9 letter because we are doing it. 10 I don't know how many cases that all the 11 letters came back to Franchise Tax Board, that taxpayer 12 never received a letter. So, I don't think it's very 13 many cases out there. So, you know, this is a 14 recommendation letter because we know, we are hearing 15 all these cases. 16 So, this is kind of strong recommendation 17 letter. I just want them to know that when taxpayers 18 don't receive any letters, how they know that they owe 19 us taxes? 20 So, that's the bottom line at this point. 21 MS. MANDEL: Okay, I understand. 22 MS. STEEL: I feel really comfortable with 23 this. 24 MS. MANDEL: I understand what you're saying. 25 MS. YEE: Okay. Ms. Kelly, you understand the 26 direction that goes back to the Franchise Tax Board -- 27 just to take a look at how we -- how they may be able to 28 improve upon this process of notifying taxpayers? 14 1 MS. KELLY: We can make that inquiry, yes. 2 MS. YEE: Okay. And -- yes, Mr. Horton, I'm 3 sorry. 4 MR. HORTON: Members, I just want to share my 5 thoughts relative to our authority. 6 I heard the discussion and concerns and 7 certainly share those concerns, irrespective of the 8 volume. 9 There are situations that are the exception to 10 the rule. And that when exceptions occur, it often 11 requires exceptional action on the part of the taxing 12 agency. And, so -- and those exceptions don't always 13 occur in the same quantity is the universe of the 14 population they are responsible for. So, I understand 15 that. 16 I -- I must say that as the -- as a Member of 17 the Board of Equalization, it is my belief that we have 18 jurisdiction of some sort, if not just to the point of 19 having a fiduciary responsibility and responsibility to 20 the taxpayers as an adjudicating body to provide insight 21 to our sister organization. 22 But in the notion of a sister organization, 23 we're in a fortunate position that we can actually meet 24 and confer. I mean, we can actually -- the Directors of 25 the Board of Equalization and the Director of the 26 Franchise Tax Board, they meet on a regular basis. And, 27 so, we can probably expedite this -- the resolution of 28 the concern of Ms. Steel and all of the Members of the 15 1 Board by just asking those two individuals to discuss 2 it. 3 But I must say I do feel that we have the 4 authority as a body to give direction to our sister 5 organization as well as the Board of Equalization. 6 And we have the responsibility, which is often 7 greater than authority, to act when we see any 8 inequities or injustice that may occur. 9 So, I would not want us to -- to -- to not do 10 so, even I don't think that was the intent. So, I 11 concur with the recommendation of our Chair and would 12 just augment that to -- to encourage that the Executive 13 Director of the Franchise Tax Board and Executive 14 Director of the Board of Equalization sort of meet and 15 confer on this relatively policy issue. And out of it 16 may come improvements on our side as well as the 17 Franchise Tax Board. 18 And let me share, these automated systems, they 19 frustrate me to no end. And they make mistakes because 20 of the lack of a human element. And, so, I think 21 three's a lot of wisdom in injecting that human element 22 that -- that oversight at some point. 23 What that point is, I agree with my colleague 24 that I really don't know because I'm not managing that 25 operation, when, where and how, but it's evident as a 26 result of the -- some of the transactions that have come 27 before us, it's evident that possibly it may be time to 28 take a look at it. 16 1 MS. MANDEL: I didn't want to make it sound 2 like we shouldn't tell them that we see something and, 3 you know, can you, you know, consider these things and 4 look at it. 5 I guess -- I guess, it just had to do -- has to 6 do with the phrasing. 7 MR. HORTON: Subjective. 8 MS. MANDEL: It was kind of my -- 9 MS. YEE: Okay. Thank you, Members. 10 Any other discussion related to this item? 11 Ms. Kelly, you have enough information? 12 MS. KELLY: Yes, thank you. 13 MS. YEE: Thank you very much. Thank you both 14 for staying over. 15 ---o0o--- 16 17 18 19 20 21 22 23 24 25 26 27 28 17 1 REPORTER'S CERTIFICATE 2 3 State of California ) 4 ) ss 5 County of Sacramento ) 6 7 I, JULI PRICE JACKSON, Hearing Reporter for the 8 California State Board of Equalization certify that on 9 October 20, 2010 I recorded verbatim, in shorthand, to 10 the best of my ability, the proceedings in the 11 above-entitled hearing; that I transcribed the shorthand 12 writing into typewriting; and that the preceding pages 1 13 through 17 constitute a complete and accurate 14 transcription of the shorthand writing. 15 16 Dated: November 8, 2010 17 18 19 20 21 22 ____________________________ 23 JULI PRICE JACKSON 24 Hearing Reporter 25 26 27 28 18