Paul L. Caron

Monday, December 4, 2023

Lesson From The Tax Court Repost: Ipse Dixit Cannot Fix It

Camp (2021)[Author's Note: I am preparing exams and so take a break this week from writing a new Lesson.  I offer a reposting of a Lesson from 2019 that I really liked, but one that did not get a lot of views when originally posted.  I hope you enjoy it!]

Mitchel Skolnick and Leslie Skolnick, et al. v. Commissioner, T.C. Memo. 2019-64 (June 3, 2019) (Judge Lauber), teaches an important lesson about the proper use of expert witnesses.  In Skolnick, the Tax Court rejected the taxpayer’s expert witness valuation of of 153 horses at two points in time 7 years apart because the expert did not adequately disclose the facts and methodology used to value each horse.  Judge Lauber held that the taxpayer could not fix the value of the horses through expert’s ipse dixit.

The form of the lesson is also instructive.  The opinion merely grants an interstitial motion, called a motion in limine, to exclude the expert’s report from the evidentiary record at trial, held in April 2019.  The 68-page final decision was issued in December 2019 (you can read it here) and the taxpayers lost, as you might expect. They then took an appeal to the Third Circuit...and lost again. Skolnick v. Commissioner, 62 F.4th 95 (3rd Cir. 2023).

One might ask why the Court would take the time to issue an opinion on just one aspect of a case after the bother of a trial.  Why did not the Court just issue an opinion on the merits of the dispute?  After all, if the expert’s opinion is worthless enough to exclude from evidence, it is unlikely to really be helpful in deciding the merits of the case. 

I give my thoughts on both lessons below the fold, although I won’t blame you if you prefer to just watch this classic Monty Python sketch “The Argument Clinic.” Ipse Dixit is the form of argument that predominates in the sketch and is part of what makes it funny.  In real life, however, taxpayer representatives who do not heed today’s lesson will not be laughing.

Law: Using Expert Witnesses
Fact-finding in Tax Court is often the product of stipulations agreed to by the parties.  Tax Court practice is more collaborative than other trial practices, in part, because the parties already have developed their facts and positions during the administrative process that leads to Tax Court.  That is, the taxpayer has already had the chance to convince the IRS about the relevant facts and thus often the parties just disagree on how the tax laws should apply to known facts.  The ultimate fact-finder in Tax Court litigation is, of course, the Tax Court.  There is no jury.

One area that sometimes eludes easy stipulation is when the parties’ positions depend on property valuations.  When taxpayers cannot convince the IRS to accept those valuations, that is a problem for them because the strong presumption of correctness given NODs includes a presumption that IRS valuations are correct.  See e.g. Lucas v. Commissioner, 281 U.S. 264 (1930) (taxpayer’s argument disputing IRS inventory valuations “falls far short of meeting the heavy burden of proving that the Commissioner's action was plainly arbitrary.”). 

Taxpayers typically solve their proof problem by using expert testimony.  Unlike normal witnesses, experts get to give opinion testimony about a subject, even when based on facts that would be inadmissible to a jury.  Experts can even give opinions on an ultimate issue at trial.  Without expert testimony, a taxpayer has a far, far more difficult climb to overcome the strong presumption of correctness. 

The use of expert evidence in federal courts is governed by Federal Rules of Evidence (FRE) 702-706.  Section 702 is the gate-keeping statute.  The trial judge is the gate-keeper.  As applied to Tax Court practice (via Tax Court Rule 143(a) as amended) FRE 702 permits expert witness testimony if the Judge thinks that (1) testimony will be helpful to him or her and that (2) the testimony is reliable.  To be reliable, FRE 702 requires that the expert’s testimony be based on (a) good data; (b) a reliable method; and (c) a reliable applicable of the method to the data.  If any one of those three reliability factors is deficient, the trial court will not allow the testimony.  It reminds me of the IRAC method we teach in law school.

Judges make the reliability determination using the U.S. legal system's bedrock judicial process: the adversarial process.  That is, Judges perform their gate-keeping function on expert testimony not simply on the basis of their own inquiry, as would be done in an inquisitorial system, but by allowing all opposing parties to test the proposed testimony.  The Supreme Court reminded us of that in the leading case on expert testimony Daubert v. Merrell Dow Pharmaceutical, 509 U.S. 579 (1993).  There the court said:  “Vigorous cross-examination, presentation of contrary evidence, and careful instruction on the burden of proof are the traditional and appropriate means of attacking shaky but admissible evidence.” 509 U.S. at 595.

You cannot have that vigorous cross-examination, however, if you lack information from the get-go.  That is why Tax Court Rule 143(g)(1) says that “any party who calls an expert witness shall cause that witness to prepare a written report for submission to the Court and to the opposing party....” 

Rule 143(g) goes on to specify that the report must contain the kind of information that will allow effective cross-examination, including “a complete statement of all opinions the witness expresses and the basis and reasons for them” and “the facts or data considered by the witness in forming them.”  To give opposing parties adequate time to prepare to examine the opposing experts, Tax Court Rule 143(g)(2) tells parties to give the other side the report within 30 days of the date the case is called for trial.

The central taxpayer in this set of three consolidated cases is Mr. Skolnick.  Mr. Skolnick is one of three members of Bluestone Farms, LLC.  According to its about page, “Bluestone Farms’ mission is to develop a well recognized and respected broodmare band that will produce high quality, and ultimately successful, yearlings for the Standardbred racing industry. We expect that prospective Standardbred Yearling purchasers will find a high level of comfort with the philosophy employed by Bluestone.”

The IRS audited multiple returns for years not mentioned in the opinion and, it appears, determined that Mr. Skolnick’s Bluestone Farm activity was not a trade or business.  At any rate, Judge Lauber says that §183 was “a central question” in the case. 

The case was called for trial at a special session of the Court beginning on April 8, 2019.  The taxpayers were represented by Paul Husband, who runs a boutique law firm specializing in equine law.  In particular, his “about me” page explains that he “frequently represents horsemen in IRS proceedings.” So one would think he knows what he is doing.  After reading this opinion I am not so sure, but you be the judge.

Mr. Husband attempted to introduce the expert testimony of a Mr. David Reid, the owner of Preferred Equine Marketing, Inc., the self-proclaimed “world's #1 Standardbred sales agency.”  The purpose of the testimony was to show valuations of the taxpayer’s ownership interests in 93 horses in 2010 and compare it to their ownership interest in 60 horses 2017.  I assume the taxpayers were trying to link a reasonable expectation of profit to increased value of their horses?  Not sure.  But it does not matter.

Mr. Reid’s report was a wimpy 3.5 pages with 2 spreadsheets attached, all prepared in 2019.  The meat of the report was presented in three paragraphs.  Judge Lauber notes that the report “indicat[es] some familiarity with our rules” (Op. at 3) because it complied with some of the information requirements in Rule 143(g).  Sadly, however, it failed to comply with the most important part of Rule 143(g).

Lesson 1: Avoid Ipse Dixit
Mr. Reid's report was an epic fail.  It was woefully inadequate at meeting the central information requirements of Rule 143(g)(1).  Yes, the two attached spreadsheets assigned a different value for each of the 153 horses, ranging from $2.5k to $1.9m, but there was nothing to explain how Mr. Reid got those values.  Judge Lauber found that “the totality of his 'appraisal' of each horse is simply a number inserted into a box on a spreadsheet.  This amounts to an ipse dixit.”  Judge Lauber lucidly explains the report's infirmities.  I encourage readers to read his opinion to get the full take-down.  But here’s a taste: “[Reid’s] report does not indicate that he personally viewed any of the horses.  And his report does not explain what (if any) data he consulted in order to evaluate, in February 2019, the conformation, health conditions, breeding/pregnancy status, or fertility of the horses owned by Bluestone Farms in August 2010 and August 2017, respectively.”  Yowsa. 

Mr. Husband also ignored Rule 143(g)(2)'s 30 day rule.  While the wimpy report was given timely, Mr. Husband waited until four days before trial to give Chief Counsel attorneys a thumb drive containing Mr. Reid’s in-house database of horse sales and the like.  It was too much too late.  It was too much because it was a data dump that did nothing to connect the data to the 153 valuations.  And it was too late because four days is not enough time for opposing counsel to come up with a coherent cross-examination to test the validity of the expert opinion.  And Rule 143(g)(2) is really explicit!  It warns attorneys like Mr. Husband that:

"An expert witness’s testimony will be excluded altogether for failure to comply with the provisions of this paragraph [note: including the 30-day rule], unless the failure is shown to be due to good cause and unless the failure does not unduly prejudice the opposing party, such as by significantly impairing the opposing party’s ability to cross-examine the expert witness or by denying the opposing party the reasonable opportunity to obtain evidence in rebuttal to the expert witness’s testimony."

In short, if you are going to present expert testimony, be sure to take Rule 143 seriously.  Judge Lauber's opinion tells you how to do that, at least for valuation experts.  The more complex the opinion, in fact, the more information you may need to give the Chief Counsel attorney to show what data your expert considered and what methods your expert used to apply that data to come to a valuation. 

Lesson 2:  Judicial Case Management
Even though the case was fully tried in April, Judge Lauber’s opinion is not an opinion on the merits of the case.  Instead, it is simply an opinion about why he is granting an interstitial motion to exclude testimony.  You may wonder why.  After all, Judge Lauber could have waited until his opinion on the merits and dealt with the evidence issue then.  I am not sure of the answer but my guess is that is has to do with case management.  I think issuing the opinion may help Judge Lauber process this and other cases more efficiently. 

Normally, I think it takes about two or three years from petition date for taxpayers to get a opinion in cases where the Tax Court issues one.  I don’t have firm data on this and I imagine much depends on the nature of the case, but when I read issued opinions I always look at the docket number, which reflects the year the taxpayer filed the petition.  Two to three years seems the norm. For example, if one looks only at the 18 opinions issued between June 2 and June 20, 2019, one sees the following petitions dates: 2010 (1); 2013 (1); 2014 (2); 2015 (5); 2016 (2); 2017 (5); and 2018 (2).  Today's consolidated case has a 2016 docket number for each of the three petitions, and trial took place in April 2019. 

The length of time has nothing to do with Tax Court work ethic.  For example, one seemingly old case was just because the Circuit Court of Appeals had remanded for further proceedings.  More importantly, the issued opinions are but the tip of the work-load iceberg as Bob Kamman nicely explained in his excellent blog post “All In A Days Work” over on Procedurally Taxing.  Here, for example, it took six months after this opinion for the hard-working Judge Lauber (who seems always in the running for “most issued opinions” award each year) to issue his very comprehensive opinion on the merits.

Another reason to issue this interstitial opinion is that once the taxpayers see that Mr. Reid’s testimony is excluded, they may well agree to a stipulated decision that gives them at least a little something sooner than risk losing everything later.  Naturally, Judge Lauber would have to approve a stipulated decision.  In Tax Court, once you file a petition in Tax Court you can check out but you can never leave.  See my November 2018 Lesson From The Tax Court: The Hotel California Rule.  So a stipulated decision is still a decision.  But it sure is easier on the Court because it does not require the Court to wade through all the messy §183 factors and then write an opinion explaining the disposition. 

Thus, by writing this short 12.5 page opinion, Judge Lauber not only teaches a good lesson for this and future litigants, he also increased the odds for a quicker resolution.  It did not actually work out that way in this case.  But that’s my take, anyway.  Others are free to give theirs in the comments.

Bryan Camp is the George H. Mahon Professor of Law at Texas Tech University School of Law.  He invites readers to return each Monday (or Tuesday if Monday is a federal holiday) to TaxProf blog for another Lesson From The Tax Court.

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Bryan, on expert testimony with an equally dismal result for the proponent, your readers might enjoy or learn from my recent blog: Tax Case Illustrating the First Rule of Persuasion--Avoid Irritating the Person You Seek to Persuade (Federal Tax Procedure 12/3/23)

Posted by: Jack Townsend | Dec 4, 2023 8:07:44 AM

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