JERSEY SHORE STATE BANK v. UNITED STATES
Legal provision: Internal Revenue Code
Argument of Martin A. Flayhart
Mr. Flayhart: Mr. Chief Justice and may it please the Court:
The issue presented in this case is whether a lender is entitled to notice pursuant to Section 6303(a) of the Internal Revenue Code of an assessment which has been made against an employer for unpaid income withholding taxes in Federal Insurance Contribution Act, or FICA, taxes in order for the Government to obtain judgment against a third party lender for these taxes on a derivative basis under Section 3505 of the Internal Revenue Code.
As noted by the Eighth Circuit Court of Appeals in the recent case of Messina Builders, this issue has left the Court of Appeals in disarray.
To date, the Seventh, Eighth, and Eleventh Circuits Court of Appeals have decided that notice must be provided to a lender, and the Third and Ninth Circuit Court of Appeals have decided that no such notice is required.
Very briefly, the facts of this case show that beginning in 1976 Jersey Shore entered into a commercial lending relationship with a corporation known as Pennmount Industries, Incorporated.
Subsequent to entering into that commercial relationship, in which Jersey Shore advanced funds which were secured by mortgages and accounts receivable, Pennmount Industries became delinquent from the fourth quarter of 1977 through the first quarter of 1980 with regard to paying to the Government its employee withholding taxes which it had withheld.
Unknown Speaker: Do I understand that you concede liability for a portion of that time, but I take it not collectability in view of the lack of notice?
Mr. Flayhart: That is correct.
For the period of time from January of 1979 through March of 1980, we would concede that the bank would otherwise be liable for the taxes except for the issue of notice, which of course applies across the board to the entire liability in this case.
And of course, if that were the only section... portion of taxes that the Government were seeking to collect, we really wouldn't be here today.
But the issue which is before the Court applies across the board.
The principle remains the same.
On December the 30th, 1983, approximately six years after the first tax liability of Pennmount arose, the Government filed suit against Jersey Shore to collect the--
Unknown Speaker: May I.
I didn't quite understand part of your response to Justice Blackmun.
You concede liability for part of the tax, is that correct, you say?
Mr. Flayhart: --During the period of time from January of 1979 through March of 1980.
Unknown Speaker: Does that mean you also concede that you had actual notice of the tax?
Mr. Flayhart: No, we do not concede that.
Unknown Speaker: Well then, how could you be liable under the statute?
Mr. Flayhart: Well, if I could rephrase my answer perhaps just to clarify.
With regard to... the statute provides under Section 6303(a) that the Government is required to furnish notice to each person liable for the tax once an assessment has been made.
For the purpose of considering the notice issue under the 6303(a), we believe that in a procedural framework that the bank must be considered to be a person liable for the tax and therefore--
Unknown Speaker: And therefore it concedes that it had actual knowledge of the deficiency?
Mr. Flayhart: --No, I don't mean to say--
Unknown Speaker: Isn't the notice... there's a scienter requirement in the statute, isn't there?
Mr. Flayhart: --Yes, there is.
And I don't mean to say that we concede the issue as to the ultimate liability under the statute, and I'm sorry if I--
Unknown Speaker: Well then, you don't concede liability.
Mr. Flayhart: --All right, yes, we don't, in that limited context.
Unknown Speaker: Well, because to concede liability you've got to concede scienter, do you not?
Mr. Flayhart: Under 6303(a), yes.
Unknown Speaker: All right, so you don't concede liability.
Mr. Flayhart: No, we do not.
Unknown Speaker: Or anything?
Mr. Flayhart: We don't concede anything.
We'll start off on that basis.
The Government admits that no notice was provided and asserts that none was required to be given under Section 6303(a).
To begin my discussion, I would like to address my remarks to the function which the furnishing of notice provides to a lender and then examine briefly the plain statutory language of Section 6303(a).
It should be noted that furnishing of notice to a lender is not simply a formalistic requirement which is devoid of substance.
Once an assessment has been made against an employer within the three year period of time for bringing assessments under Section 6501, then the statute of limitations is correspondingly extended for an additional six year period of time under Section 6502.
Not only is the statute extended against the employer, but it is also extended against the lender as well.
In the present context, the employer receives notice under Section 6303(a) and the lender does not.
Having the benefit of this extended period of time, up to nine years, there is an inherent prejudice which results in the failure of the Government to provide notice to the lender.
In the nine year interval, the following may happen:
Personnel records... personnel changes can be made on the part of the lender; records can be lost.
The opportunity to mitigate damages is eliminated by stopping the flow of the tax liability.
And there will indeed in--
Unknown Speaker: Can the Government sue the taxpayer or the lender without an assessment?
Go right directly into court?
Mr. Flayhart: --Without an assessment having been made at all, they can do it within a three year period of time.
Unknown Speaker: Only three years.
Mr. Flayhart: Three years, that's right.
Unknown Speaker: That is, they could haul you into court without you ever knowing until you were served with a complaint?
Mr. Flayhart: Within that three year period, yes.
Of course, this is not the case in our instance.
It's six years down the road.
During this interval, a maximum of nine years, there is lost the opportunity of stopping funds to prevent the tax liability from accruing.
In addition, in many of these instances you will have the corporate employer who has gone bankrupt and there will be selective recollection on the part of the corporate officers.
Chief Justice Rehnquist: We'll resume there at 1:00 o'clock.
We'll proceed with the arguments in Jersey Shore.
Mr. Flayhart: Thank you, Mr. Chief Justice, and may it please the Court:
I concluded my remarks this morning with a discussion of the function that notice would provide if timely given to a lender.
Under the present practice, an employer who is clearly liable for the tax receives greater procedural protection than the lender does, inasmuch as the lender receives no notice and yet is subject to being sued by the Government for collection of the tax for nine years after the employer's liability for the tax arose.
The majority opinion of the Third Circuit--
Unknown Speaker: Excuse me.
The employer doesn't necessarily receive any notice either if the tax isn't assessed.
Mr. Flayhart: --That's right.
But if the... once the employers files his tax return, he files it and says, I owe X dollars of tax, the Government then either can sue him within a three year period of time without having furnished the assessment--
Unknown Speaker: In which case he has no notice.
Mr. Flayhart: --That's correct.
Unknown Speaker: But you're arguing here that you want notice before you can be sued.
Mr. Flayhart: No, Your Honor.
If I can explain, we are not here asking any different statute of limitations period from what the employer receives.
If the Government had brought suit against Jersey Shore within three years of the employer's tax liability having arisen, we would not contest that fact.
What we are saying is that once the assessment has been been, then that triggers the notice provision under Section 6303(a), which must be given to each person liable for the tax.
That person would be the employer and the lender as well.
Unknown Speaker: Well, right here you're making a statute of limitations argument.
But I don't regard you to have made that below.
Were you making a statute of limitations argument, or simply the argument that you are not liable for the tax, period, because you had not been assessed?
I thought it was the latter... or had not received notice.
Mr. Flayhart: We are making the argument that we had not received notice.
But in order for the statute of limitations to be extended, the precondition of that is that notice having been given.
We were arguing the fact that we had received no notice and therefore the Government was precluded from bringing suit against us.
Unknown Speaker: Precluded because of the statute of limitations or just because you weren't liable?
Did you argue the statute of limitations point below?
Mr. Flayhart: We argued it in regard to the issue of notice, which was a precondition for the institution of suit.
We did not argue the statute of limitations in terms of the bringing of the suit within a six year period of time, because we are not really questioning that.
As I say, we are not requesting a different statute of limitations period than would be applicable to the employer.
The employer is entitled to notice.
If the employer had not received notice after the assessment had been made, then the Government likewise would be precluded from suing the employer as well.
Unknown Speaker: After three years.
Mr. Flayhart: No.
After it makes the assessment and doesn't give the notice within the 60 days required by the statute.
That's the prerequisite for then commencing with the suit.
We are not requesting a different period of time than what the employer receives.
Unknown Speaker: I see what you're saying.
You're saying that, even against the employer, once you make an assessment you have to give notice even though you could have proceeded against the employer without making an assessment?
Mr. Flayhart: That's correct.
Unknown Speaker: Just bring a lawsuit.
If you do make an assessment, you can't bring suit at all, even within the three years--
Mr. Flayhart: Without having provided--
Unknown Speaker: --without having provided notice.
Why would that be?
Mr. Flayhart: --Well, that's under Section 6303(a), and that of course is the issue which is before the Court.
The Third Circuit in the majority opinion here seemed to justify the lack of notice to the lender on the basis that on the substantive grounds that actual notice or knowledge under Section 3505 of the Code was required to be shown on the part of... by the Government, in order to foist liability on the lender for this tax.
However, as the Eight Circuit in Messena Builders--
Unknown Speaker: May I ask you, to be sure I understand your colloquy with Justice Scalia, had there never been an assessment in this case at all, would you claim that you were entitled... and say the Government sued you.
So the employer went bankrupt so there's no money around, and within a three year period they brought an action against you under the statute.
Would you contend that there was a... that the statute... that the claim would be barred by the failure to give a Section 6303(a) notice?
Mr. Flayhart: --If there had been no assessment, no.
Unknown Speaker: You would agree that you could be sued without any notice if there's no assessment?
Mr. Flayhart: Within a three year period of time, that's right, yes.
Unknown Speaker: But you're saying that since there was an assessment you cannot be sued, neither within the three year period of time nor, of course, later?
Mr. Flayhart: Nor beyond that, although for the purposes of the facts of this case, of course, all of the period of time that the Government seeks to impose liability on the bank would be beyond the three year period of time, although I understand your point as far as the notice.
Unknown Speaker: Suppose we disagree with you on that.
Do you think that you have adequately preserved the further point, whether, even though without the giving of notice you could have been sued within the three year period, you cannot be sued beyond the three year period?
Mr. Flayhart: Yes, we do, because of the issue of the notice.
In other words, the notice is crucial to this, the entire issue.
Unknown Speaker: Well, the notice is crucial, but you never did say the magic words, statute of limitations.
Mr. Flayhart: Well, not to belabor the point, but the reason that we didn't is because we are not requesting any different period of statute of limitations.
We're not trying to say that we ought to... you see, the Ninth Circuit in the Hunter Engineers went off on this point, and I think mistakenly so, saying that the lenders were really coming in and saying, well, the Government would be forced to institute a suit against the lender within a three year period of time.
Unknown Speaker: So you're saying you did not raise the statute of limitations point?
Mr. Flayhart: No, we didn't raise it in that context, no.
We raised it in the context of the notice issue.
The Third Circuit, however, in its majority opinion seemed to justify this differing treatment that's being afforded to a lender as opposed to an employer on the basis of the notice requirement contained in Section 3505 itself.
In other words, the Third Circuit said that a lender cannot be held liable unless the Government can prove actual notice or knowledge that the employer had not paid its employee withholding taxes or that the funds were supplied by the lender to the employer with knowledge that the employer would not pay those taxes.
However, this distinction, as noted by the Messina Builders case in the Eighth Circuit, is inapplicable because of the fact that actual notice or knowledge under Section 3505 is a defined term which includes within it the definition contained in Section 6323 of the Code, which can indeed mean lack of due diligence.
Therefore, a lender can be held liable under Section 3505(b) not only on the basis of actual notice or knowledge, but on the basis that the lender failed to exercise due diligence with regard to ascertaining the fact that the employee taxes had not been paid.
With regard to the legislative history of Section 3505, there is nothing to show in that history or the Congressional reports that Congress in creating a new class of persons who were liable for this tax on a derivative basis, that is to say lenders, intended to exempt the Government from providing the notice required under Section 6303(a) to persons liable for the tax.
It must be presumed, we would urge, that Congress does not legislate in a vacuum.
If Congress had intended to place an exemption for Section 6303 notice and had intended to afford the Government the right to that exemption, then it would have changed the statute.
It did not do so and the statute remains under Section 6303(a) that each person liable for the tax is entitled to notice.
Unknown Speaker: What's tax?
Mr. Flayhart: That is the unpaid employee withholding tax and the Federal Contribution Insurance Act taxes, which had not been paid by the employer.
Unknown Speaker: But this provision about notice applies across the board, doesn't it, not just to this particular--
Mr. Flayhart: Yes, it applies to each person liable for the tax.
Unknown Speaker: --Any tax?
Any part of the income tax, any income tax?
Mr. Flayhart: That's my understanding, yes, it would.
For the purpose of this case, of course, it's--
Unknown Speaker: So you would say, you would think the employer ought to be told what the total assessment is?
Mr. Flayhart: --Yes, we would.
Now, I wouldn't just--
Unknown Speaker: What information would that give you?
Mr. Flayhart: --You mean the lender receiving--
Unknown Speaker: Telling the lender, yes.
Mr. Flayhart: --Okay.
We would suggest that... the Government has made the argument that such notice, one, would not serve any function, because supposedly the lender is already somehow on notice, that it must know that it has supplied funds.
However, I think that's why we make the argument in terms of the actual notice or knowledge being a defined term within Section 6323, which can include lack of due diligence on the part of the lender.
Notice that would be given to a lender of the employer's tax liability that the Government intends to seek from the lender would allow the lender to evaluate its ongoing relationship with its employer-borrower and make a determination, one, either to monitor the funds more closely to make sure that the taxes were paid, or two, to stop the flow of money entirely, which of course would have the effect of limiting the tax liability, which in essence is--
Unknown Speaker: Well, how is the Government supposed to know at the time of an assessment who all the people are that may be liable?
Mr. Flayhart: --The Government makes this argument, that at present it has no way of knowing that.
We would suggest that it would be a simple matter for the Government to modify its.941 withholding tax forms that the employer sends in.
Under Section 6011, the Government is empowered to authorize or to make whatever forms are necessary for the liabilities of taxpayers to be reported.
It would be a simple matter for the Government to modify an employer's tax form to have a line item to say, if any money is being furnished to you for payroll from a lender, please list the lenders who are furnishing such payroll money.
And in that event, when the employer files the return and says that he doesn't... acknowledges liability for the tax, but doesn't forward the tax, the Government then... it would be a simple matter for the Government to notify those lenders.
Unknown Speaker: What if the employer doesn't comply?
Mr. Flayhart: Well, this gets back to the--
Unknown Speaker: Then are you off the hook?
Mr. Flayhart: --I think that if the employer engages in fraud, which I think for the general purpose--
Unknown Speaker: He just doesn't fill in the blank.
Mr. Flayhart: --Well then, I think he would be engaging in a fraudulent tax return in that instance.
Unknown Speaker: So who pays for that?
Mr. Flayhart: Well, at that point I think it would still be the Government's responsibility, because of the statutory requirement.
If Congress wanted to rewrite the statute, then it could do so to take care of that situation.
Unknown Speaker: The language of 6303(a) doesn't really square very well with the kind of notice you want given here.
It says that it shall give
"notice to each person liable for the unpaid tax, stating the amount. "
And it is not the case that the amount that the employer is liable for is the same as the amount that the lender is liable for, is it?
Mr. Flayhart: That's right, there could be a difference.
Unknown Speaker: There would be, wouldn't there?
Mr. Flayhart: It quite probably could be that situation, because the employer's liability will also include an assessment for the amount of the employer's contribution towards social security contributions.
However, that being said, we would envision a notice which would say something to the effect that you... and it would be directed to the lender... are hereby notified that an assessment of X dollars has been been made against Widget Corporation for unpaid withholding taxes which are now due and owing; your liability for these taxes as a lender is set forth under Section 6305 of the Internal Revenue Code, a copy of which is attached to this notice.
Unknown Speaker: That doesn't state the amount.
Mr. Flayhart: Well, if you put in the amount of the dollars.
You are hereby notified that an assessment of $50,000 has been made.
It will not state the amount of the lender's liability.
Unknown Speaker: The lender's liability.
But you're arguing that this statute refers to liability of the lender.
Mr. Flayhart: That is right.
Unknown Speaker: And if it does refer to liability of the lender, the amount in question has to be the amount of the lender's liability.
Mr. Flayhart: The type of notice that we are envisioning, though, would serve the purpose, we believe, of placing the lender on notice that under 3505 the Government intends to seek that liability.
Unknown Speaker: I have no doubt it would do a whole lot of good for the lender.
But I'm just saying it's hard to see that this statute addresses it.
It might be a very good idea.
I'm just saying you haven't yet told us how the Government can possibly state the amount of the liability of the lender, and if it can't then one is not inclined to think that this section is meant to address that.
Mr. Flayhart: We would urge that, if in fact the Government feels that it could not give a precise indication of the liability, that the notice function as we have discussed is still worthwhile, and that the notice that can be contained under Section 6303(a) would still provide the basic function of putting the lender on notice of the fact that the Government intends to seek a liability.
After all, Section 6303(a) does not say that notice will be given to each person against whom an assessment has been made.
It says notice will be given to each person liable for the tax.
Unknown Speaker: Or the unpaid tax.
Mr. Flayhart: Pardon?
Unknown Speaker: Liable for the unpaid tax.
Mr. Flayhart: Unpaid tax.
Unknown Speaker: Which includes the entire unpaid tax, does it not?
And your client is not liable for the total unpaid tax.
Mr. Flayhart: That is correct.
It is a portion of the liability.
There's no argument with regard to that factor.
However, the Government clearly believes that the lender is a person liable for the tax, and if the lender is a person liable for the tax then the question begins, which was raised by Judge Weis in his dissenting opinion--
Unknown Speaker: Well, they're liable for a sum equal to a portion of the tax.
That's not quite the same as being liable for the tax.
Mr. Flayhart: --Well, it says that notice of assessment--
Unknown Speaker: The statutory language in 3505(a) and (b) is
"a sum equal to a portion. "
basically a portion.
Mr. Flayhart: --Under 3505(a) it is the amount equal to the unpaid tax liability for funds which are advanced directly, ad under 3505(b) Congress has placed the limitation with regard to 25 percent of those funds in the enumerated situations.
Unknown Speaker: Well, would it satisfy the terms of the notice requirement just to say, we have made an assessment against the employer for his unpaid tax liabilities, and part of this assessment is for withholding tax, and we are notifying you that you are liable for your proper share of that tax?
Would that satisfy that?
Mr. Flayhart: I think it would, really.
And I say that by simply saying that you could have this type of notice notifying--
Unknown Speaker: You would have to say that.
You have to take that position, don't you?
Mr. Flayhart: --Excuse me?
Unknown Speaker: You have to take that position, because you wouldn't expect the Government to come out with the dollars figure.
Mr. Flayhart: Not necessarily, no.
It would change, although we are not so sure that the duty is still not imposed on the Government by the statute.
Unknown Speaker: But if it did that with the employer, you wouldn't suggest that you could satisfy 6303(a) by writing such a letter to the employer saying, you know, we have checked our records and it doesn't seem to me you've paid the right amount of tax, we hereby give you notice of tax deficiency.
Mr. Flayhart: Well, it would be an assessment.
The President makes the statement against the employer and then sends the notice on the amount of the assessment for the unpaid tax, which could be less than what the... assuming the employer pays a portion of the tax and doesn't remit the balance, why, it would be a different figure, that's right.
I think it's important to note that we are not here today requesting that this Court judicially craft a notice requirement by imputation into the Code.
The language of Section 6303(a) plainly requires notice of this tax to be given to each person liable for the tax, of which the lender is one such person.
I think it is also important to emphasize that the Government contends not only that it has no obligation for furnishing notice to a lender under Section 6303(a) in order for the statute of limitations to be extended, it contends that it has no obligation for furnishing notice to anyone, including the employer, in order for the extended statute under Section 6501 and Section 6502.
So our position is that the Government basically is attempting to write Section 6303(a) out of the Code entirely, while at the same time having the benefit of the extended period of time for bringing suit under Section 6502.
Unknown Speaker: That's a statute of limitations position, that they shouldn't be able to sue beyond three years unless they have given notice.
But you're saying more than that.
You're saying they can't sue at all, even during the three years, unless they have given notice.
Mr. Flayhart: We're saying, yes, under 6303(a) that the filing of the assessment triggers the notice provision.
Unknown Speaker: So you can't make the argument that you've just made, that it's not fair for them to be able to have the benefit of the supplemental three years.
You're saying they don't even have the benefit of the three years, which they do against the employer himself whether or not they've even made an assessment.
Mr. Flayhart: If the corollary as far as the facts of our case are concerned, that in this instance the Government wishes to go beyond the three year period without giving the notice--
Unknown Speaker: Do you have any cases involving assessment against an employer in which an assessment has been made, but notice has not been given, and the employer is held therefore not subject to suit even within the three year period?
Mr. Flayhart: --At the moment I cannot think of a case.
Unknown Speaker: But that's the principle that you're arguing be applied to your client.
Mr. Flayhart: Yes.
Lastly, the Government urges that it has a common law right to bring suit that exists independent of the statute.
The Government argues that it has a right to sue on the tax based as a debt.
Both the Eighth Circuit and the Eleventh Circuits have considered this issue and rejected the claim.
Clearly, the tax imposed under Section 3505 creates a derivative liability on the part of the lender which is unknown at common law.
For such tax to be imposed, we would therefore urge that there must be compliance with all elements of the statute in creating the liability on the part of the lender.
One of those statutory elements which must be complied with is subtitle F notice under Section 6303(a).
If there are no other questions, I would wish to reserve--
Unknown Speaker: The bank can't really protect itself with its customer, can it, as easily as the Government can?
Mr. Flayhart: --Well, the Government makes the argument that the bank could have the employer execute, I believe--
Unknown Speaker: Because this is an ongoing relationship, it happens every month.
I mean, if you're going to lend for payroll you are constantly... it's sort of a working capital advance.
Mr. Flayhart: --It does happen perhaps on every month.
But again, it's the issue--
Unknown Speaker: And I don't suppose it's automatic.
Some loan officer, isn't he always in on it, or not?
Mr. Flayhart: --In some cases it could be.
In other cases it could be a line of credit extension just that's available on an ongoing basis.
Unknown Speaker: Well--
Mr. Flayhart: But that could be drawn down.
Unknown Speaker: --Even with a line of credit, there can be some checks as to what's the status of your withholding tax.
Mr. Flayhart: That's a possibility.
But again, you'd have the same argument as to whether the employer is going to be truthfully responding to that as well.
And we would suggest that if the Government--
Unknown Speaker: Well, you'd like to shift that risk to the Government?
Mr. Flayhart: --We think the risk is already there.
If there are no other questions, I wish to reserve the remainder of my time for rebuttal.
Argument of Alan I. Horowitz
Chief Justice Rehnquist: Thank you, Mr. Flayhart.
We'll hear now from you, Mr. Horowitz.
Mr. Horowitz: Thank you, Mr. Chief Justice, and may it please the Court:
Let me make a couple of preliminary observations about things that have already gone on in the argument before I get to my main presentation.
First, as a factual matter, the district court's opinion at page 29A of the appendix reflects that the Petitioner did concede liability in this case in the district court for a portion of the liability that the Government sought to collect.
And it also reflects that that was liability under Section 3505(a).
That is, they concede that they were actually paying the taxes directly, and under 3505(a) there is not even a scienter requirement at all, since Congress understood that if they were paying the taxes directly... excuse me... if they were paying the wages directly, they would certainly know that withholding taxes were not being paid.
So that I think is undisputed, and I think there was just a little confusion earlier.
Unknown Speaker: I'd also like to talk about exactly what the issue is here, because I think that's gotten a little bit confused before also.
Petitioner does seem to be at least partly making the argument that the statute of limitations bars the suit here because we brought suit more than three years after the tax return was filed and that the suit is therefore timely only under Section 6502.
That argument, that notice of assessment is required to extend the statute of limitations, in fact was not raised below and is now before the Court.
I think the argument is erroneous even if it were to be raised, and I hope to address that later if I have time.
But I think that the question that is before the Court is whether... is kind of a question of remedy.
Their claim is that there is this requirement that a notice of assessment be sent both to the employer and to the bank, and that the failure to send such a notice somehow completely eliminates any possibility of collecting 3505 liability, whether or not it's within the three year period, whether or not it's within the six year period.
If it did it for them, I presume it would do it for the employer as well.
Mr. Horowitz: If it did it for them, I presume it would do it for the employer as well.
Unknown Speaker: Do you know of any--
Mr. Horowitz: --it does not it for the employer as well.
Unknown Speaker: --It does not?
Mr. Horowitz: It does not, no.
We've cited... they're old cases.
It hasn't come up very often.
But the Jenkins case, the Erie Forge case that are cited in our brief, are cases like that where notice of assessment through oversight was not sent, and we brought suit against the employer.
And the Court said the notice of assessment is relevant to the assessment process, to the administrative collection process, but it has nothing to do with the Government's right to collect by suit.
Their position is just, they're just saying that failure to send this notice somehow completely prevents the Government from doing other things that are unrelated.
They might as well say that we can't collect income tax or we can't enforce--
Unknown Speaker: Well, such a doctrine is not unknown, Mr. Horowitz, holding a surety or a guarantor liable in some situations under the common law.
The original debtor can never get off the hook just because of the failure to give notice, but occasionally a surety or a guarantor can, is my understanding.
Mr. Horowitz: --Well, if there were a notice requirement that was of some significance, I suppose theoretically the surety or the guarantor could.
And I guess that's why I'd like to turn to what I think the case is about, which is whether there is such a notice requirement at all, that it be given to the bank.
But I would say that I think, at least is this situation, even if there were, the correct remedy would not be to completely bar a 3505 suit.
I think the cases you're speaking about, Mr. Chief Justice, are cases where the surety would be able to show that it was somehow prejudiced by the failure to receive notice, and that there was a reason why it shouldn't be sued.
This case is really just a case of statutory interpretation, where this Court must divine Congressional intent, the intent reflected in Section 6303(a).
In our view, this is not a difficult case.
Petitioner's contention rests on an effort to create a relationship between two provisions of the Code that are simply not closely related.
It wrenches the language of 6303 from its context and gives it a meaning that is plainly not intended by Congress.
Moreover, the practical effect of their argument is to completely destroy the efficacy of Section 3505.
Now, we think our position is clearly correct, but I guess the only way to explain the fact that we've lost several times in the lower courts is that I think the Code provisions here are somewhat confusing.
And so, if the Court will bear with me, I'd like to have a fairly detailed discussion of the statutory background before I really get into the merits of Petitioner's contentions.
Unknown Speaker: Where are the sections you're going to talk about?
Are they it the appendix to the petition?
Mr. Horowitz: Well, the statutes are set out at page 50A and 51A of the appendix to the petition.
Unknown Speaker: Fine.
Mr. Horowitz: The Internal Revenue Code sets up two distinct methods of collecting liabilities against the Government.
There is an administrative collection system and a judicial collection system.
The judicial collection system I don't need to dwell on.
The Government files a suit in court and if it wins the suit it has a judgment in its favor and it could collect.
Now, the administrative system is triggered by what is called a Government assessment of liability.
The assessment is a term of art, and that's what is involved in this case.
When an assessment is made, triggering this administrative system, the Government does not need to go to court in order to satisfy its liability.
It can resort to summary collection procedures, which involve levying on the property of the taxpayer.
The issuance of an assessment followed by a demand also establishes a lien on the taxpayer's property.
And the only way the taxpayer can deal with an assessment, really, is by paying the tax and then filing the refund suit, in which case the burden is then on the taxpayer to prove an entitlement to a refund.
Because of this, there is a preference for the Commissioner to assess in many cases, because it's more convenient for him.
On the other hand, all liabilities are not assessable.
There are classes of liabilities where an assessment cannot be made.
Most taxes are assessable, but the Code also requires that certain taxes... that there must be a notice of deficiency issued before the taxes can be assessed.
For example, if one files on income tax return and the Commissioner determines that there is a deficiency in that return, that the amount reported as due on the return is less than what is actually owed, and the Commissioner issues a notice of deficiency, the taxpayer has the opportunity to contest that notice in the Tax Court before an assessment can be made.
Now, for the purposes here we must remember that employment taxes are assessable against the employer.
On the other hand, Section 3505 liability for third party lenders is not assessable.
The only way the Government can collect that liability is by bringing a suit.
Now, Section 6303, the provision at issue here, is part of this assessment process.
It's on page 51A, and it is triggered by the making of an assessment.
It provides that when an assessment is made, the Secretary shall within 60 days after making the assessment of the tax give notice to each person liable for the unpaid tax, stating the amount and demanding payment thereof.
Now, a little bit later I hope to talk about, parse the statute carefully, and discuss Petitioner's plain meaning argument.
But for now I would just like to explain how this fits into the system.
When an assessment is made, the Government gives this notice of assessment to the taxpayer, who then is on notice as to what he owes and what amount has been assessed against him.
And there is also a demand for payment of that amount by the Government.
If the taxpayer refuses to make that payment, at that point the lien provisions kick in and the Government is entitled to levy on his property.
The purpose... I think clearly the purpose of this section... and I'm not sure the Petitioner would dispute that this is the primary purpose, although he tries to read some other purposes into it as well... the purpose is to give the taxpayer the opportunity to take steps to avoid the summary collection procedures, so that he is put on notice that these things are about to commence.
Section 3505 is a completely different animal.
It creates a liability for third party lenders.
It was passed by Congress in 1966 to address a specific problem that they had discovered, the practice of net payroll financing.
The way the system works... and it's described in some detail in the Court of Appeals opinion at page 4A and 5A.
It was pretty prevalent in the construction industry.
When a particular subcontractor started running into financial difficulties, it would receive funds, either from a prime contractor or from a lender, to help it keep its business going.
But in order to limit their liability, the lenders would advance funds only to the extent of the net payroll, the money that the employer would actually have to pay to the employees.
The money that the employers were withholding, at least on paper, would not be advanced by the lender and would never appear... would never be paid to the Government.
Now, this is the Government's money and the Government is out the money at some point.
For example, if one of the employees has a significant amount listed as withholding tax that's withheld from his paycheck, but then it ultimately turns out he doesn't owe any tax, the Government... he'll file his tax return and the Government will have to pay a refund of several thousand dollars to him.
It's refunding money that the Government never got, because no one ever paid it in as withholding tax.
So Congress viewed this as a serious problem, and the way it sought to... well, the reason... I'm sorry, let me backtrack for a minute.
The reason Congress could not collect this money from the lenders before was because the Code only defined, only gave the Government a right to collect it from employers, and these lenders were not employers within the meaning of the Code.
So they passed Section 3505 to give the Government a direct remedy against these lenders, and the statute, which is set out at page 50A, has two sections.
It applies to third party lenders who are directly paying the net payroll.
They are made subject to liability in the amount of the withholding taxes.
And Section 3505(b) also extends this liability, I think to prevent lenders from just circumventing this by going through a conduit.
It also applies to lenders who are making loans for the purpose of paying a payroll.
Now, the notion here was that these lenders were sitting in the same position as the employers, and the Government thought it was... excuse me... Congress thought that it was reasonable to treat them the same as employers for these purposes and to make them assume liability for these taxes.
The overriding purpose of this statute was to make sure that the Government got its withholding tax, preferably at the outset, but if not through a later suit under Section 3505.
Now, Petitioner's contention here is that it can escape this liability that Congress deliberately put upon it, simply by the essentially unrelated fact that an assessment has been made against the employer and that it did not receive a notice of that assessment.
This is really an absurd contention.
Clearly, clearly there is no entitlement to notice at all.
If the Government brought suit within three years, without making a notice of assessment, it could sue the employer, it could sue the lender, without issuing any notice at all.
So the purported notice requirement only arises somehow from the making of an assessment against an employer.
But that is not an event that has any particular bearing on the lender.
Unknown Speaker: But under the statute that duty surely does arise, at least if you read the statute as written, when there has been an assessment against the employer.
You don't dispute that, do you?
Mr. Horowitz: There is a duty to give notice to the employer.
There is a duty to give notice to the person against whom the tax is assessed.
Unknown Speaker: Well, to give notice to each person liable for the unpaid tax.
You say the lender it this situation is not such a person?
Mr. Horowitz: That's correct, and I'll try to explain that in a minute.
Unknown Speaker: Mr. Horowitz, would you straighten me out on one thing.
In 3505 both (a) and (b), the statute doesn't say that the lender is responsible for the tax.
It says that he is responsible for a sum equal to the taxes.
Mr. Horowitz: That's correct.
Unknown Speaker: Is there any significance in that language?
Mr. Horowitz: Yes, there is significance in that language.
That's one of the reasons why the lender is in fact not covered by Section 6303(a), because that refers only to persons who are liable for the tax.
A lender is not subject to the tax; he is subject to liability, to a separate liability created by Section 3505.
In fact, as I mentioned earlier, Section 3505 liability is not assessable.
It probably would be assessable if Congress had established it as a tax, because all taxes are assessable.
So this, the fact that Congress set it up this way, redounds to the benefit of the lenders because it immunizes them from these administrative collection procedures and requires the Government to resort to judicial action in order to collect this liability.
Unknown Speaker: If the situation were such that the taxes were personally paid, that would be the lender's liability?
The statute says an amount equal to the tax.
Mr. Horowitz: I think... well, I think... I'm sure that it means an amount equal to the unpaid tax.
I mean, there is no provision for double collection by the Government.
Unknown Speaker: It doesn't say that.
It isn't even that, is it?
It's the only the portion withheld from the wages of the employee, not the employer contribution.
Mr. Horowitz: No.
Unknown Speaker: No liability for that.
Mr. Horowitz: No.
I thought Justice Blackmun was only asking about the taxes that are referred to in the section.
No, the lender is liable--
Unknown Speaker: But that's a different tax.
That's a different amount than the one referred to in 6303.
Mr. Horowitz: --Absolutely.
Unknown Speaker: But it says
"taxes which are not paid over to the United States by such employer. "
Mr. Horowitz: Yes.
Well, deducted and withheld from such wages by the employer.
Well, at any rate, I think it's clear that the statute, what it does make the lender liable for is withholding taxes, not the employer's portion of social security, but withholding taxes, which means income tax that are withheld and the employee's portion of social security; and that it does not require payment of taxes over and above what has already been paid 100 percent.
I'm told that the legislative history makes it clear that there is a credit.
Well, I think there are... let me say two things briefly about Petitioner's contention.
One, this notice that they're asking for tells them nothing that they don't already know.
It doesn't serve any purpose.
The only purpose I think that Petitioner adverted to in his argument is this notion of extending the statute of limitations.
Putting that aside for a moment, certainly getting notice that the taxes have been assessed against the employer doesn't tell the lender anything, because there is this scienter requirement in the statute.
They can only be held liable under Section 3505 if they have actual notice that withholding taxes have not been paid by the employer.
And the amount, as has been discussed before, the amount that is on the notice of assessment to the employer, doesn't mean anything to the bank.
It doesn't tell it what its liability might be.
Nor does sending it at copy suggest that the Government is planning to sue the bank.
It would just be sending it a copy.
And the other serious problem here is that the interpretation sought by Petitioner would completely eliminate 3505(a) from the Code, because there's just no way that the IRS can know at the time it makes these assessments, which is usually within a couple of months of the time the withholding tax return is filed, whether there is a lender, whether the lender might arguably be subject to 3505(a) liability.
So I do think that Petitioner's contention here makes absolutely no sense within the structure of the Code.
Now, given that, the only argument that he has really is the plain meaning of the statute, and that is the argument that the other Court of Appeals have gone off on.
I think even Judge Weis dissenting here and some of the other courts have recognized that the Government's position makes more sense, but they have found themselves to be bound by the plain meaning.
So I would like to talk a little bit about the plain meaning of the statute, because I think even looking at 6303(a) alone, without considering its impact on the rest of the Code, the plain meaning in fact does support the Government's reading of it.
First of all, I won't dwell on this because it came up quite a bit earlier, but Section 6303(a) clearly contemplates the sending of a particular kind of notice.
"After making of an assessment of tax, shall give notice to each person liable for the unpaid tax, stating the amount and demanding payment thereof. "
Now, the notice that Petitioner seeks just doesn't do that.
Sending a copy to the lender does not demand payment of the taxes from the lender.
The Government can't demand payment of the taxes from the lender, because the lender is not obligated to pay those until we have brought a suit and established its liability in a civil proceeding.
And it does not state the amount that we might even ultimately hope to hold it liable for.
Unknown Speaker: Before you establish the lender's liability in a civil proceeding, you certainly have a claim against the lender.
Mr. Horowitz: Well, we have a potential claim against the lender.
Unknown Speaker: But you wouldn't say that your claim against the employer is a potential claim, would you, until you have won a suit in the district court?
Mr. Horowitz: Well, no.
The claim against the employer... the employer is liable right at that time to pay the money because... this is what I was trying to explain before... because the liability has been assessed against the employer.
That means we don't have to go to court to collect from the employer.
That means that the levy provisions of the Code come into play and that we can go and seize the employer's car, seize the employer's assets, if he doesn't pay.
So he can demand--
Unknown Speaker: But he can go into district court, can't he?
Mr. Horowitz: --I'm sorry?
Unknown Speaker: He can go into district court if he disputes his liability, can't he?
Mr. Horowitz: Not unless he's paid the money first.
He has to pay and then he can file a refund suit.
But this notice and demand that is sent under 6303(a) is a demand for payment from the employer, and he cannot refuse that payment except at the pain of having his assets levied upon.
Unknown Speaker: The word "liable" could mean that, but it could mean the other.
It could also mean what the Chief Justice suggested.
Are you saying that whenever it's used in the Code it has that narrower meaning, that it is not just a claim that remains ultimately to be determined in court or by some tribunal, but rather it means an unqualified obligation here and now to pay?
That's a very unusual meaning of that word.
Mr. Horowitz: I'm sorry, Justice Scalia.
I'm not sure which word you're asking about.
Unknown Speaker: The phrase "liable".
Mr. Horowitz: I'm not talking about the phrase "liable".
I'm talking about the word "demanding payment thereof", which I think is the type of notice that is contemplated by this section.
"a notice stating the amount and demanding payment thereof. "
And what I'm trying to say is that sending this notice to the employer does demand payment of that money from the employer.
The employer has no... has only to choices: it can either pay the money or it can not pay the money, in which case the IRS has the power to seize his assets to satisfy the debt.
And the only way he can contest that liability in court is by paying the money and then filing the refund suit.
The bank is in a very different position.
Sending a copy of this to the bank, even assuming it had the right amount that the bank might potentially be liable for, is not a demand for payment from the bank.
We have no right to demand payment from the bank until we have sued them and established their liability in court.
So I do think that sending the notice to the bank is not at all the notice that is contemplated by Section 6303(a).
And I would say that even... Petitioner tries to litigate this case by focusing on the one phrase in the statute,
"a person liable for the unpaid tax. "
and not looking at the rest of the statute.
Even looking at that particular phrase, the plain meaning does not support its position.
First of all, "the unpaid tax" seems to me pretty clearly to refer to same tax that is referred to in the previous sentence, which is the tax that has been assessed.
And that is not the tax that the bank is liable for.
Another point is that, as I mentioned before in talking with Justice Blackmun, it's not a tax at all that is imposed on the employer.
It is just a liability, specially created by Section 3505, and that is not a tax.
It is certainly not the tax that is listed in the notice of assessment because, as we've mentioned before, the amounts are not going to be the same.
So I don't think there's any reason why courts have to feel compelled by the plain meaning of the statute to reach a result that is really quite absurd in the context of the rest of the Code.
If anything, the statute, if read in a sensible way, I think reflects its intended purpose, which is that when a liability, tax liability, is assessed against an employer or any other taxpayer, he has to be told what that assessment is so that he can take whatever steps are necessary to avoid having his property levied upon.
Now, I would like to talk about the statute of limitations a little bit because I think that's the only thing that Petitioner has come up with where the notice could conceivably make any difference.
First, there's the general claim that there's an element of unfairness here because he's not receiving... the bank is not receiving notice of this extended... I'm sorry.
Unknown Speaker: I thought Petitioner said that it would certainly do him an awful lot of good to know as soon as possible that you had made an assessment against the bank's customer.
Mr. Horowitz: Well--
Unknown Speaker: They might want to stop this monthly cutlay.
Mr. Horowitz: --Well, I don't think Congress intended the IRS to be out there doing the bank's work for them.
I don't think there's any statutory obligation to assist banks in making good loans.
And as I said before, I don't think we're telling the bank anything they don't already know, because in order to be liable under 3505 they have to have notice of the fact that the withholding taxes are not being paid.
Now, there is this statute of limitations issue, where Section 6502, which is the six year statute of limitations, kicks in upon the making of an assessment.
I really think the statute of limitations issue is a red herring, though.
There really is no unfairness in this present system, and there's no reason for the bank to complain about it.
First of all, it's a little misleading to talk about this as an extension of the statute of limitations.
The Code sets up two different statutes of limitations.
There is a three year statute of limitations on assessments, and along with that there is the same statute of limitations on suits that are brought without assessments.
Basically, what that section does is that it tells the President that it has to get its act together within three years.
It has to decide what the taxpayer's liability is for its own purposes, and either make an assessment or bring a suit to get it going.
Then there is a second provision, Section 6502, which says that once an assessment is made, once the Government has made this determination, it then has six years to collect the liability.
Now, that's the way the system works.
That's the standard statute of limitations is six years after assessment.
The normal course of business... and the bank I don't think can deny this... in almost every case, since assessments are routinely sent out when withholding tax is not paid, there is going to be an assessment made and there is then going to be a six year statute of limitations on the collection.
That will apply to the employer, that will apply to the bank.
And there is no reason for the bank to think that the statute is going to be anything less.
So this isn't a situation where the bank has--
Unknown Speaker: Let me stop you here.
Why do you say that?
If the assessment is irrelevant to the collection process against the bank, why should the effect of the assessment on the statute of limitations have anything to do with the bank either?
Why wouldn't the three year limitation simply continue to apply?
Because you're not using the administrative collection proceeding against the--
Mr. Horowitz: --Well, I don't think... the three year limitations period doesn't directly apply to the bank.
Unknown Speaker: --Well, what is the provision that you say applies to the bank?
Say there has never been an assessment.
What would apply?
Mr. Horowitz: What statute of limitations here?
Unknown Speaker: Yes.
Mr. Horowitz: I don't think there's any statute of limitations provision that applies to the bank.
There are these provisions that--
Unknown Speaker: That's either with or without an assessment?
Mr. Horowitz: --Either with or without an assessment, that's correct.
But there is... the bank's liability is derivative of the employer, and there is the Updike case which was cited in our brief, which has generally taken the view that these kinds of derivative liabilities are subject to the same statute of limitations that is applicable to the primary liability.
And we have conceded here that the bank therefore has the right to the same statute of limitations that applies to the employer.
So I don't think there is... if it weren't for the Updike case, I don't think there is any statute of limitations that would apply to 3505 actions.
I think they could be brought at any time, even 50 years down the road.
But because there are statutes of limitation that apply to suits against the employer, and we've taken the view that the bank is entitled to the same statute of limitations, so therefore filing the assessment extends the period against the employer, and the same thing would happen to the bank.
Unknown Speaker: What if notice of assessment had not been given to the employer?
Would you acknowledge that then suit could not have been brought after three years against either the employer or the bank?
Mr. Horowitz: Yes.
I guess one other point I should make on the statute of limitations is that the bank... there's really no reason for the bank to be thinking of a three year statute, aside from the general practice of the IRS.
If the bank is as ignorant of what's going on with the employer as it's trying to make itself out to be, it wouldn't even know that the employer had filed a withholding tax return.
It's quite possible that the employer wouldn't file a return at all, and the three year statute only runs from the time the return is filed.
So if the employer doesn't file a return, there's no statute of limitations running at all at any time.
So I don't think there's any reason for the bank to be sitting here saying it thinks its statute of limitations has expired without notice.
Unknown Speaker: Mr. Horowitz, supposing that an employer had an obligation to withhold $25,000 out of a particular payroll period and remit it to the Government as the amount withheld from wages, then it had to pay another $25,000, I assume, for the employer's share; is that how it works?
Mr. Horowitz: Well, there are two separate taxes here.
There's the social security tax, which as an employee's share and an equal employee's share.
Unknown Speaker: Just confine this to that one for a moment.
And what if the bank knew that an amount equal to the employee's share had been remitted with the return?
Would the Government always credit that on the employee's share, or do they have the option to credit that against the amount that the employer should have contributed for its own share?
Mr. Horowitz: I'm not sure of the answer to that, but I don't see why we should credit it to the employee's share.
Unknown Speaker: Well, because conceivably the bank might get a copy of a return showing an amount paid equal to the only amount it could be liable for, and the Government might say: No, no, we apply that to the employer' liability.
Mr. Horowitz: Well, the return would have to list both liabilities.
So the return would list as tax due say $20,000, just say it's $10,000 each.
The return would list $20,000 and you're saying only $10,000 is remitted with the return?
Unknown Speaker: Presumably they didn't remit at all.
That's how you generally assess them, I suppose.
Or maybe they didn't file.
Mr. Horowitz: Yes.
Well, I don't see why--
Unknown Speaker: It would seem to me that there might be situations in which an employer might have thought the full amount of the withheld wages was paid over and it might now be true.
Mr. Horowitz: --Well, then it would have a defense under 3505, if it didn't have any notice.
Then it wouldn't be liable.
But I'm not sure that case would qualify.
If there are no further questions.
Rebuttal of Martin A. Flayhart
Chief Justice Rehnquist: Thank you, Mr. Horowitz--
Mr. Flayhart, do you have anything more to say?
You have three minutes remaining.
Mr. Flayhart: We would just like to address two points, Mr. Chief Justice.
The first is that counsel for the Government seems to indicate that the notice that is given to the employer of the assessment, that we would urge to be given to the lender, doesn't tell the lender already something that it doesn't know.
Well, of course the first response to that is, well, what does the notice tell the employer?
Certainly the employer already knows that he's liable for the tax because he's filed the return and indicates that he owes the money.
Unknown Speaker: It tells him that the Government's about to come and garnish his... you know, attach his property.
Mr. Flayhart: --That's right, and that the tax is due and the Government agent's going to be there within a period of time.
Unknown Speaker: Up to that amount.
That's something important for him to know.
The lender doesn't have to know that, because it can't happen to the lender.
Mr. Flayhart: Except for the fact that it also tells the lender that the Government's going to be there up to nine years later, about to do likewise in terms of foisting liability on the lender for these same taxes.
The employer gets the notice, the lender doesn't.
Unknown Speaker: Well, that's a different point.
That shows why it would be useful to the lender, but it doesn't show that it would be useful to the lender for the same reason that it would be useful to the employer.
Mr. Flayhart: Well, we wouldn't quibble with that.
I mean, I think the point is that it's useful to both parties and therefore is required to be given to both parties.
Unknown Speaker: What statutory provision do you say sets the limitations period against the lender?
Mr. Flayhart: It would be 6501 and 6502.
Unknown Speaker: 6501 and 2.
Mr. Flayhart: Yes.
If there are no other questions from the Court, I conclude my presentation.
Chief Justice Rehnquist: Thank you, Mr. Flayhart.
The case is submitted.
Argument of Chief Justice Rehnquist
Mr. Rehnquist: I have the opinion of the Court to announce the No. 85-1736, Jersey Shore State Bank versus United States.
This case involves the provision of the Internal Revenue Code which requires an employer to withhold income and social security taxes from the wages of its employees and to pay over those taxes to the government, but in some instances, a person other than the employers such as one who lends money to the employer, may indirectly or directly pay the employees wages.
If the taxes required to be withheld from the employees wages are not paid, the statute makes such a lender liable for a sum equal to the unpaid taxes.
In this case, the government brought suit against the Jersey Shore State Bank which is located in Central Pennsylvania, alleging that Jersey Shore was a lender liable for amounts reflecting unpaid withholding taxes owned by the employer.
The District Court ruled in favor of the bank.
The Third Circuit held that the bank was liable to the government.
As explained in a unanimous opinion filed today, we agree with the conclusion of the Court of Appeals that Congress did not intend the notice requirement of the Internal Revenue Code to apply where the government seeks to collect unpaid withholding taxes from a third party lender.
So, the judgment of the Court of Appeals is therefore affirmed.