United States
Court of Appeals for the Federal Circuit
01-5015
MELLON BANK, N.A., TRUSTEE
361330 C.B.M. 1961 TRUST FOR CHILDREN, TAX YEAR 1989,
MELLON BANK, N.A., TRUSTEE
360874 CONSTANCE B. MELLON 1961 TRUST, TAX YEAR 1989,
MELLON BANK, N.A., TRUSTEE
360874 CONSTANCE B. MELLON 1961 TRUST, TAX YEAR 1990,
REAL ESTATE TRUST, MELLON
BANK, N.A., TRUSTEE 361330 CONSTANCE B. MELLON 1961
TRUST FOR CHILDREN, TAX
YEAR 1990, MELLON BANK, N.A., TRUSTEE 361331 SEWARD
PROSSER MELLON 1961 TRUST
FOR CHILDREN, MELLON BANK, N.A., TRUSTEE 360875 SEWARD
PROSSER MELLON 1961 TRUST,
MELLON BANK, N.A., TRUSTEE 360872 RICHARD P. MELLON 1961
TRUST, MELLON BANK, N.A.,
TRUSTEE 361328 RICHARD P. MELLON 1961 TRUST FOR CHILDREN,
MELLON BANK, N.A., TRUSTEE
360873 CASSANDRA M. MILBURY 1961 TRUST, MELLON BANK, N.A.,
TRUSTEE 361329 CASSANDRA M.
MILBURY 1961 TRUST FOR CHILDREN, MELLON BANK, N.A., TRUSTEE
360138 CONSTANCE B. MELLON
1941 TRUST, MELLON BANK, N.A., TRUSTEE 361448 CONSTANCE B. MELLON
1965 TRUST, MELLON BANK,
N.A., TRUSTEE 361330 C.B.M. 1961 TRUST FOR CHILDREN, MELLON BANK, N.A.,
TRUSTEE 360158 SEWARD
PROSSER MELLON 1942 TRUST, MELLON BANK, N.A., TRUSTEE 360118 RICHARD P.
MELLON 1940 TRUST, and
MELLON BANK, N.A., TRUSTEE 360874 CONSTANCE B. MELLON 1961 TRUST,
Plaintiffs-Appellants,
v.
UNITED
STATES,
Defendant-Appellee.
Joseph W.
Klein, Reed Smith LLP, of Pittsburgh, Pennsylvania, argued
for
plaintiffs-appellants. With him on the
brief were Mark Bookman, Carolyn D.
Duronio, and Leo
N. Hitt.
Gilbert S.
Rothenberg, Attorney, Tax Division, Appellate Section, Department
of Justice, of Washington, DC, argued for
defendant-appellee. With him on the
brief
was Anthony T. Sheehan, Attorney. Of counsel was Steven W. Parks,
Attorney.
Mark R.
Baran, American Bankers Association, of Washington, DC, for
amicus curiae American Bankers Association.
Appealed
from: United States Court of
Federal Claims
Judge
Roger B. Andewelt
United States Court of
Appeals for the Federal Circuit
01-5015
MELLON BANK, N.A., TRUSTEE 361330 C.B.M. 1961 TRUST FOR
CHILDREN, TAX YEAR 1989,
MELLON BANK, N.A., TRUSTEE 360874 CONSTANCE B. MELLON 1961
TRUST, TAX YEAR 1989,
MELLON BANK, N.A., TRUSTEE 360874 CONSTANCE B. MELLON 1961
TRUST, TAX YEAR 1990,
REAL ESTATE TRUST,
MELLON BANK, N.A., TRUSTEE 361330 CONSTANCE B. MELLON 1961
TRUST FOR CHILDREN, TAX YEAR 1990,
MELLON BANK, N.A., TRUSTEE 361331 SEWARD PROSSER MELLON 1961
TRUST FOR CHILDREN,
MELLON BANK, N.A., TRUSTEE 360875 SEWARD PROSSER MELLON 1961
TRUST,
MELLON BANK, N.A., TRUSTEE 360872 RICHARD P. MELLON 1961
TRUST,
MELLON BANK, N.A., TRUSTEE 361328 RICHARD P. MELLON 1961
TRUST FOR CHILDREN,
MELLON BANK, N.A., TRUSTEE 360873 CASSANDRA M. MILBURY 1961
TRUST,
MELLON BANK, N.A., TRUSTEE 361329 CASSANDRA M. MILBURY 1961
TRUST FOR CHILDREN,
MELLON BANK, N.A., TRUSTEE 360138 CONSTANCE B. MELLON 1941
TRUST,
MELLON BANK, N.A., TRUSTEE 361448 CONSTANCE B. MELLON 1965
TRUST,
MELLON BANK, N.A., TRUSTEE 361330 C.B.M. 1961 TRUST FOR
CHILDREN,
MELLON BANK, N.A., TRUSTEE 360158 SEWARD PROSSER MELLON 1942
TRUST,
MELLON BANK, N.A., TRUSTEE 360118 RICHARD P. MELLON 1940
TRUST,
and
MELLON BANK, N.A., TRUSTEE 360874 CONSTANCE B. MELLON 1961
TRUST,
Plaintiffs-Appellants,
v.
UNITED
STATES,
Defendant-Appellee.
DECIDED: September 7, 2001
Before MAYER, Chief Judge, LOURIE and RADER, Circuit
Judges.
MAYER, Chief Judge.
Mellon
Bank, N.A. and Real Estate Trust (collectively, “Mellon Bank”) appeal the
September 18, 2000, judgment of the Court of Federal Claims granting summary
judgment to the United States. Mellon
Bank, N.A. v. United States, No. 97-CV-151*
(September 18, 2000) (“Mellon II”).
Because the Court of Federal Claims properly construed I.R.C. §
67(e)(1), we affirm.
Background
Mellon Bank seeks a consolidated tax
refund of income taxes paid in years 1989 through 1992 by thirteen irrevocable
trusts created for the benefit of members of the Richard K. Mellon family. Mellon Bank sought reimbursement for
expenditures paid by the trustees for the outside services they employed for
the administration and management of the trusts. The services included investment strategy advice, accounting, tax
preparation, and financial management.
I.R.C. §
67(a) allows individuals to deduct “miscellaneous itemized deductions” only to
the extent that the aggregate of the deductions exceeds two percent of the
taxpayer’s adjusted gross income. This
is referred to as the “two percent floor.”
Section 67(e) requires the adjusted gross income for a trust to be
computed in the same manner as in the case of an individual. Therefore, the two percent floor rule
generally applies to deductions for trust income. However, section 67(e)(1) allows deductions below the two percent
floor if the claimed expenditures are “paid or incurred in connection with the
administration of the estate or trust and . . . would not have been incurred if
the property were not held in such trust or estate.”
In October
of 1990, Mellon Bank filed a Form 1041 Fiduciary Income Tax Return (Form 1041)
for tax year 1989. Form 1041 provides
for the deduction of “Fiduciary fees”; “Other deductions NOT subject to the 2%
floor”; and “Allowable miscellaneous itemized deductions subject to the 2%
floor.” Mellon Bank claimed a deduction
for income distribution and administrative costs that would not have been
incurred had the property not been held in a trust. Relying on the then recent O’Neill v. Commissioner, 994
F.2d 302 (6th Cir. 1993), in October 1993, Mellon Bank filed an amended Form
1041, seeking a refund. The Internal
Revenue Service (IRS) denied the refund claim, and the bank filed suit in the
Court of Federal Claims. The parties
cross-moved for summary judgment.
On July 17, 2000, the Court of
Federal Claims denied both motions for summary judgment. Mellon Bank, N.A. v. United States, 47
Fed. Cl. 186 (2000) (“Mellon I”).
The court denied Mellon Bank’s motion because it rejected its
interpretation of section 67(e)(1). Id.
at 196. The court denied the
government’s motion because there were material issues of fact as to whether
the additional expenditures deducted by the bank on the October 1993 Form 1041
would not have been incurred if the property were not held in a trust. Id.
On September 14, 2000, the parties filed a stipulation eliminating any
subsequent fact finding. The stipulation
reads, in relevant part, as follows:
1. In the taxable years 1989 through 1992, inclusive, some or all of the Plaintiff Trusts incurred costs for the services of Richard K. Mellon and Sons and of certain investment specialists . . . . These stipulations will refer to all of these costs as “the costs at issue.”
2. It is the position of the Plaintiff Trusts that the construction
of I.R.C. §67(e), set forth in the July 17, 2000 opinion of the Court of
Federal Claims, is erroneous. To isolate
and preserve the issue of the proper construction of §67(e) for appeal, the
Plaintiff Trusts stipulate that they will not present evidence before the trial
or appellate court in this proceeding as to whether any of the costs at issue
“would not have been incurred if the property were not held in such trust or
estate,” as the Court of Federal Claims has construed that statutory phrase in
its Opinion of July 17, 2000.
Accordingly,
the trial court entered judgment on the merits in favor of the United
States. Mellon Bank appeals the court’s
construction of the statute.
Discussion
We have
jurisdiction to hear this appeal from a final judgment of the Court of Federal
Claims under 28 U.S.C. § 1295(a)(3).
“Summary judgment is appropriate when there is no genuine issue as to
any material fact and the moving party is entitled to judgment as a matter of
law.” Cenex, Inc. v. United States,
156 F.3d 1377, 1378 (Fed. Cir. 1998) (quoting Barseback Kraft AB v. United
States, 121 F.3d 1475, 1479 (Fed. Cir. 1997). Accordingly, our review is de novo. Gump v. United States, 86 F.3d 1126,
1127 (Fed. Cir. 1996).
The question is whether the Court of Federal Claims in Mellon I properly interpreted the second requirement of I.R.C. § 67(e)(1) to mean that a trustee’s costs are subject to the two percent floor established by I.R.C. § 67(a) unless the costs occur only in the context of trust administration and are not routinely incurred by individual investors. Section 67 provides:
(a) General rule.—In the case of an individual, the miscellaneous itemized deductions for any taxable year shall be allowed only to the extent that the aggregate of such deductions exceeds 2 percent of adjusted gross income.
* * *
(e) Determination of adjusted gross income in case of estates and trusts.—For purposes of this section, the adjusted gross income of an estate or trust shall be computed in the same manner as in the case of an individual, except that—
(1) the deductions for costs which are paid or incurred in connection with the administration of the estate or trust and which would not have been incurred if the property were not held in such trust or estate, and
* * *
shall be treated as allowable in arriving at adjusted gross income.
It is undisputed that trustee fees are fully deductible. Mellon maintains that trustee fees are merely a label for fiduciary services performed by the trustee. It thus argues that there are really no unique “trustee” services--all are requirements of state fiduciary law. Services delegated by the trustee remain subject to fiduciary standards and are fiduciary services under governing law. Therefore, payments for outside fiduciary services are in fact, trustee fees, and should be fully deductible under section 67(e)(1).
Mellon relies on the Sixth
Circuit’s ruling in O’Neill for the proposition that the taxpayer may
satisfy section 67(e)(1) by proving that the expenses incurred were necessary
to fulfill his fiduciary obligations under state law. O’Neill determined that the trustees lacked the knowledge
and experience to manage a $4.5 million trust and hired outside investors. 994 F.2d at 303. The trustees deducted these management fees under section
67(e). Id. The Tax Court denied the deduction,
reasoning that such fees were not “unique to the administration” of a
trust and “[i]ndividual investors routinely incur costs for investment advice
as an integral part of their investment activities.” O’Neill v. Comm’r, 98 T.C. 227, 230 (1992). However, the Sixth Circuit reversed, finding
that individual investors are “not required to consult advisors and
suffer no penalties or potential liability if they act negligently for
themselves.” 994 F.2d at 304. The court concluded that “fiduciaries
uniquely occupy a position of trust for others and have an obligation to the
beneficiaries to exercise proper skill and care with the assets of the
trust.” Id. Therefore, the fees were eligible for the
section 67(e) exception and not subject to the two percent floor requirement of
section 67(a). Id.
We agree with the Sixth Circuit’s conclusion that different legal obligations apply to assets held in a trust. The prudence standard for trustee investing traces back to Harvard College v. Amory, 26 Mass. 446 (Mass. 1830). The Massachusetts Supreme Judicial Court stated that trustees should “observe how men of prudence, discretion and intelligence manage their own affairs, not in regard to speculation, but in regard to the permanent disposition of their funds.” Id. at *11. The Uniform Prudent Investor Act incorporated much of this language, and has been subsequently adopted by thirty-six states. For example, the Pennsylvania Prudent Investor Act recognizes that trustees are generally subject to a prudent person standard, and are charged to manage trusts with diligence and care. 20 Pa. Cons. Stat. § 7302 (2001) (“Any investment shall be an authorized investment if purchased or retained in the exercise of that degree of judgment and care, under the circumstances then prevailing, which men of prudence, discretion and intelligence exercise in the management of their own affairs.”).
In construing the federal income tax code, however, we are not bound by the fiduciary standards established by state law, and must instead defer to Congress and the plain meaning of the statute. Comm’r v. Nat’l Alfalfa Dehydrating & Milling Co., 417 U.S. 134, 148-49 (1974). “The propriety of a deduction does not turn upon general equitable considerations, such as a demonstration of effective economic and practical equivalence. Rather, it depends on legislative grace; and only as there is clear provision therefor [sic] can any particular deduction be allowed.” Id. (citations omitted).
“We start,
as always, with the language of the statute.”
Williams v. Taylor, 529 U.S. 420, 431 (2000). We must determine
“whether
the language at issue has a plain and unambiguous meaning with regard to the
particular dispute in the case. Our
inquiry must cease if the statutory language is unambiguous and the statutory
scheme is coherent and consistent. The
plainness or ambiguity of statutory language is determined by reference to the
language itself, the specific context in which that language is used, and the
broader context of the statute as a whole.”
Robinson
v. Shell Oil Co., 519 U.S. 337, 340-41 (1997) (internal citations
omitted). Words such as “legal
obligations,” “trustee fees,” and “fiduciary responsibility” are not found
within section 67(e)(1). Instead,
section 67(e)(1) unambiguously establishes two requirements for expenditures to
qualify for exclusion from the two percent floor.
First,
fees are fully deductible if they are “costs which are paid or incurred in
connection with the administration of the estate or trust.” This prerequisite defines the relationship
between the costs and the administration of the trust. All expenses resulting from the fiduciary
obligations of the trustee satisfy the first prerequisite. Mellon Bank’s proposed construction of the
statute would end here. Mellon Bank
argues that trustees are fulfilling their fiduciary duty when they, acting in
good faith, incur expenses in connection with the administration of a
trust. Therefore, as Mellon asserts,
all expenses incurred by a trustee in connection with the administration of a
trust would be fully deductible. This
argument eliminates the second requirement of section 67(e)(1), which is
directed to the question whether an expense would not have been incurred if
there had been no trust.
Our
interpretation, however, must give full effect to the entire statute, not
merely the first clause. Kawaauhau
v. Geiger, 523 U.S. 57, 62 (1998) (“[W]e are hesitant to adopt an
interpretation of a congressional enactment which renders superfluous another
portion of that same law.” (citing Mackey v. Lanier Collection Agency &
Serv., Inc., 486 U.S. 825, 837 (1988))).
The second clause of section 67(e)(1) serves as a filter, allowing a
full deduction only if such fees are costs that “would not have been incurred
if the property were not held in such trust or estate.” The requirement focuses not on the relationship
between the trust and costs, but the type of costs, and whether those costs
would have been incurred even if the assets were not held in a trust. Therefore, the second requirement treats as
fully deductible only those trust-related administrative expenses that are
unique to the administration of a trust and not customarily incurred outside of
trusts.
Investment advice and management fees are commonly incurred outside of trusts. An individual taxpayer, not bound by a fiduciary duty, is likely to incur these expenses when managing a large sum of money. Therefore, these costs are not exempt under section 67(e)(1) and are required to meet the two percent floor of section 67(a).
Mellon Bank argues that only its interpretation of section 67(e) is consistent with the legislative history. We disagree. Congress sought to increase fairness, economic efficiency, and simplification of the tax system with the passage of the Tax Reform Act of 1986. S. Rep. No. 99-313, at 3 (1986), reprinted in 1986-3 C.B. 3 (Senate Report). It expressed a concern that “under present law, some taxpayers can exclude or deduct from income certain items that differ little from items that are treated as taxable compensation or nondeductible expenditures for other taxpayers.” H.R. Rep. No. 99-426, at 57 (1986), reprinted in 1986-3 C.B. 57 (House Report). Congress further stated that “[f]airness requires that these items be treated similarly,” id., and again stressed the importance of a fair tax system. It warned that over-simplification of the system could supersede the goal of fairness. “Some taxpayers who attempt to use various preferences to reduce their tax liability significantly may find that the bill does not simplify the tax filing process for them as much as for other individuals. In part, the complexity of the tax system for these individuals is needed to measure accurately their income and to ensure that these individuals pay a rate of tax appropriate for their income.” Senate Report at 4. Finally, Congress sought to eliminate or reduce the tax benefit of placing assets in a trust. Id. at 78. (“[T]he tax benefits which result from the ability to split income between a trust or estate and its beneficiaries should be eliminated or significantly reduced.”).
This result was achieved not through a significant change in the taxation of trusts, but through the application of the two percent floor rule to deductions from trust income. Under Mellon’s construction, the second prerequisite of section 67(e)(1) would be rendered superfluous because any costs associated with a trust will always be deductible. This is contrary to the legislative intent to equate the taxation of trusts with the taxation of individuals, limit the ability of sophisticated taxpayers to use trusts or other complex arrangements to lower their tax burden compared to similarly situated individuals, and to minimize the impact of the tax code on economic decision making. “Only very clear evidence of contrary legislative intent can displace the plain meaning of a statute.” Thompson/Center Arms Co. v. United States, 924 F.2d 1041, 1044-45 (Fed. Cir. 1991) (citing Aaron v. SEC, 446 U.S. 680, 700 (1980) (“In the absence of a conflict between reasonably plain meaning and legislative history, the words of the statute must prevail.”)). Mellon’s attempts to bolster its interpretation of the statute through legislative history are unpersuasive.
The Supreme Court has “observed repeatedly that, while a taxpayer is free to organize his affairs as he chooses, nevertheless, once having done so, he must accept the tax consequences of his choice, whether contemplated or not, . . . and may not enjoy the benefit of some other route he might have chosen to follow but did not.” Nat’l Alfalfa Dehydrating & Milling Co., 417 U.S. at 148; see also Rite Aid Corp. v. United States, 255 F.3d 1357, 1360 (Fed. Cir. 2001) (“A taxpayer is free to organize his affairs as he chooses, but once organized, he must accept the tax consequences of his choice.”). Mellon Bank chose to hire outside consultants to satisfy their fiduciary duty as trustees. The plain meaning of I.R.C. § 67(e)(1) prevents the deduction of fees thus incurred unless they satisfy the general requirement of I.R.C. § 67(a).
Conclusion
Accordingly, we affirm the judgment of the Court of Federal Claims.
AFFIRMED