The IRS sought to enforce a summons issued pursuant to IRC § 7602 to force Textron to produce workpapers for an audit of the tax years 1998–2001. The audit focused on nine “sale-in, lease-out” (SILO) transactions, which the IRS has classified as listed transactions engaged in for the purpose of tax avoidance, pursuant to Treas. Reg. § 1.6011-4(b)(2). Textron argued, in part, that the information was privileged.
The workpapers contained the opinions of Textron’s attorneys and accountants regarding the estimated hazards of litigation percentages and their calculations of tax reserve amounts. The court concluded the workpapers were subject to the attorney-client privilege and the tax practitioner privilege of IRC § 7525(a)(1), but Textron waived those privileges when it disclosed the documents to an independent auditor, Ernst & Young. The court still denied the government’s motion because the workpapers were protected by the work product privilege.
The workpapers fell within the work product rule described by the Supreme Court in Hickman v. Taylor , 329 U.S. 495 (1947), and codified in Federal Rule of Civil Procedure 26(b)(3). The court said the materials contained the “mental impressions, conclusions, opinions, or legal theories of an attorney or other representative of a party concerning the litigation,” and the materials were created “because of” anticipated litigation. Textron would not have created the papers had it not anticipated a dispute, the court said. The court noted that the “because of” test adopted by the First Circuit is less restrictive than some other circuits, which require that anticipation of litigation be the “primary purpose” the materials were created for work product privilege to attach.
Disclosure to the independent auditor did not waive the work product privilege because Ernst & Young did not have an adversarial relationship with the taxpayer and had a professional obligation under AICPA Code of Professional Conduct section 301 not to disclose confidential information without the consent of the client, in this case Textron. Furthermore, the court said, the determination of Textron’s tax liability must be based on factual information, none of which would be found in the requested workpapers.
IRS Chief Counsel Korb said “nothing in the decision undermines the IRS policy of seeking tax accrual workpapers when appropriate.” The records are “produced in the ordinary course of business for non-litigation purposes,” he said, essentially to conform with SEC regulations, and are not protected by the work product privilege.
Future litigation in this area could determine whether the public disclosure of workpapers on tax positions required by FASB Interpretation no. 48 waives the work product privilege. The years contested in Textron predate FIN 48, which applies to periods beginning after Dec. 15, 2006.
U.S. v. Textron Inc. , 100 AFTR2d 2007-5221
Prepared by JofA staff member Jeffrey Gilman , J.D.