As I write this it is the first day of my seventy-fifth autumn. I am still hoping to finish the August round-up before October.
John Anthony Castro
Last month I wrote that John Anthony Castro’s appeal for a new trial and adjustment of his sentence had been turned down by the Fifth Circuit. Castro is serving a long sentence for the unique way he ran his tax practice and there may be some political aspects to his case. Apparently the July opinion did not take care of all his challenges, so there was another denial in August. In despair over figuring it out, I asked Grok how one of these things was not like the other. Here is Grok’s answer in part:
“What the August opinion contains that the July opinion could not have contained:
– A citation to *United States v. Fullerton*, 2026 WL 2097531 (5th Cir. July 21, 2026). That case came down eleven days after the withdrawn July 10 opinion. The panel used it to reinforce the low bar for who counts as a “participant” when deciding whether a scheme is “otherwise extensive” under the leadership guideline. That is the analysis that let the court treat family members, outside attorneys, and a CPA as participants even if they were not criminally culpable themselves, supporting the $15-million extrapolated tax-loss figure that drove the sentence.
– An explicit ruling on the later-filed bail appeal (No. 26-10428), which the July opinion predated.”
Who Owns The S Corporation Election?
In 2023 I wrote about Jack Owoc, owner of the bankrupt Vital Pharmaceuticals which sold Bang energy drinks using an aggressive digital marketing structure that used around 1,000 influencers who reached 1.3 billion followers. The problems were created by a lawsuit by Monster Beverage Corporation, which was one of its largest creditors. The creditors committee had ousted Owoc as CEO, but he remained the sole shareholder. There was a sale of the business to Monster in the works which would produce a large taxable gain, but no cash for the shareholder. Owoc went to force the corporation to revoke the S election and elect an interim closing of the books which would give him a lot of losses and none of the gain. The bankruptcy court was not having it:
‘Judge Russin sank Owoc’s plan by ruling that S status is property of the bankrupt entity not of the shareholder. S status is elected by the corporation with the consent of the shareholders. It is the same with the revocation of S status. And the close the books election is a corporate election. In making the ruling Judge Russin was critical of a Third Circuit decision, In re Majestic Star Casino.’
Now the Eleventh Circuit has weighed in. Interestingly they had received an amicus brief from DOJ Tax. The government wanted the court to rule that the whole thing was moot, because there was no way in which the IRS could retroactively changed thing given that all the deadlines were passed. On the other hand if the court did rule, they wanted it to follow In re Majestic Star Casino and rule that the S election was not property of the corporation. The court gave the government the second half of its ask.
“We reverse the bankruptcy court’s denial of Mr. Owoc’s motions for confirmation that the automatic stay does not apply to revocation or termination of VPX’s Subchapter S status, and remand for proceedings consistent with this opinion.”
I can’t figure out what is going to happen from here, but the principle that the S election is not a corporate asset is significant. The law firm of Pillsbury put out an alert on the opinion. Louis Vlahos of Rivkin Radler has “The S Corporation in Bankruptcy – To Whom Does its Passthrough Tax Status Belong?“. They are both thoughtful pieces, but I still don’t know what the outcome for Owoc is going to be.
The maneuver that Owoc was trying to pull was really kind of clever and it reminded me of a joke from the old days. The tax shelters that I worked in the eighties were leveraged real estate partnerships. You would get loss allocations of twice your contribution during the pay-in period making the interest seem like it was free. Losses would continue for a while after that, but then you would come to the dreaded cross-over where depreciation deductions were less than principal amortization so you would be getting income allocations without cash. The joke was that there were three ways to get out of a burned out tax shelter tax free. You could put it into a defective grantor trust and after crossover cure the defect. It was a great idea, but probably didn’t work. You could die, but that was a little extreme. The one that really worked was to give it to your spouse and get a divorce. Owoc’s maneuver smacked of that just a little.
A Theft Loss Mostly Allowed
The story of Aladar Deutsch is really sad, although it is nice that the Tax Court gave him and spouse, Sylvia a break. They were contesting a deficiency notice of $107,913 and penalty of $21,583 for 2010. At issue was a Schedule A theft loss of $1,137,005. It is rather a long story, but you can get the flavor of it from this brief excerpt:
“In October 2009 Mr. Visel told Mr. Deutsch that the $70 million was in a UBS account and ready to be transferred, but a special type of account at Lloyds Bank in London needed to be opened with a balance of $2 million to receive such a large transfer. However, he said Mr. Davidson and Peter knew people at Lloyds Bank that could arrange for an account to be opened there with a minimum balance of $200,000.”
Do you think that Mr. Deutsch ever got that two hundred grand back? If so I just got this email about some gold in a safe deposit box somewhere. That $200,000 was just starters.
There were two components to the loss. One was a series of uncollected advances to Mr. Visel to cover living expenses for 19 months while he was pursuing these great opportunities. That amounted to $295,600 and was not deductible as a theft loss. I didn’t note any discussion of a business bad debt which is what I would think. $925,000 was allowed as a theft loss for 2010 not 2013 as IRS had argued based on a final email exchange between Deutsch and Visel. Penalty was voided due to reasonable cause. I would think, given the size of the deficiency relative to the deduction claimed, that there will not be a deficiency anyway.
It is tough to discern why IRS took such a hardnosed attitude to this. The other thing that I can’t figure out is why it took so long. Petition was filed in 2014 and trial and briefs were done in 2016 and I don’t see much action on the docket in between.
Ed Zollars covered the case in Current Federal Tax Developments. He attributes the success to good record keeping. Mike Wallace at Greenback Expat Tax Services discusses the case and theft loss in general with a nice little chart. Mark Leeds of Pillsbury had some sharp observations. And of course Lew Taishoff was not going to skip this one as he gives us We Wuz Robbed – And How!. Mr. Taishoff wrote:
“Why IRS didn’t fold eludes me. Judge Ashford’s extensive review of State (TX) law (larceny by trick or device) is overkill. Identifying the thief, charging him/her/them criminally, and pursuing such as are identifiable, are essential elements of establishing Section 165 theft loss. But here the thief is offshore and smart; Al’s and Syl’s trusty attorneys (both onshore and offshore) and their investigative team cannot nail him, nor can they establish to Judge Ashford’s satisfaction that buddy Visel was in on the fraud. He might have been just another one deceived.”
There Is More
You might note here that the references to other coverage makes my relative slowness more of a feature than a bug. I will do my best to get you the rest of August before my seventy-fifth September has passed.
