Commissioner v. Tellier

PETITIONER:Commissioner
RESPONDENT:Tellier
LOCATION:United States Department of Justice

DOCKET NO.: 351
DECIDED BY: Warren Court (1965-1967)
LOWER COURT: United States Court of Appeals for the Second Circuit

CITATION: 383 US 687 (1966)
ARGUED: Jan 27, 1966
DECIDED: Mar 24, 1966

Facts of the case

Question

Audio Transcription for Oral Argument – January 27, 1966 in Commissioner v. Tellier

Earl Warren:

Number 351, Commissioner of Internal Revenue, Petitioner versus Walter F. Tellier, et ux.

Mr. Levin.

Jack S. Levin:

Mr. Chief Justice, may it please the Court.

This income tax case presents the question whether a taxpayer who has been convicted of a criminal offense arising out of his business activities may take a deduction on his income tax return for the expenses incurred in defending against the criminal prosecution which resulted in conviction.

Respondent was in the business of underwriting and selling securities.

He was indicted in a Federal District Court on 36 counts charging that he had knowingly and intentionally made false and fraudulent representations which induced the public to invest hundreds of thousands of dollars in an insolvent enterprise.

The indictment charged violations of three federal statutes, the fraud provision of the Securities Act of 1933, the mail fraud statute and the federal conspiracy statute.

After a full trial to a jury, respondent was convicted on all 36 counts.

The judge sentenced him to four-and-a-half years imprisonment on each count, the sentence is to run concurrently, and a total fine of $18,000.

In connection with his defense of this criminal prosecution, petitioner — respondent paid his attorney approximately $23,000.

This case concerns the question whether he can deduct that approximately $23,000 from his other income.

The Tax Court following an administrative and judicial rule of approximately 40-year standing disallowed the deduction.

The Second Circuit en banc overruled a number of that court’s prior decisions and held that the $23,000 incurred in connection with the criminal prosecution was in fact deductible.

The governing statute in this case is Section 162 of the Internal Revenue Code of 1954 which is the general provision allowing a deduction for ordinary and necessary expenses incurred in carrying on a trade or business.

The position of the Commissioner of Internal Revenue which has enjoyed at least 40 years of consistent judicial acceptance both in the trial courts and the Court of Appeals is that expenses incurred in defending against a criminal prosecution which results in the taxpayer’s conviction are not deductible.

This position is bottomed upon the public policy expressed in the statute which the taxpayer is convicted of violating.

The Commissioner in the courts had, at various times, expressed this theory in a couple of different ways.

At times, they have said that the expenses are not ordinary and necessary and other times they have stated that the expenses are nondeductible because they violate the public policy expressed by the state legislature or by Congress in enacting the criminal statute.

In essence, regardless of the way of phrasing it, the Commissioner believes that the theory of nondeductibility is premised upon the public policy ground.

That is that Congress or the state legislature in prohibiting criminal acts could not have been intending that a taxpayer receive a deduction for his expenses of resisting a suit which results in his conviction.

In this case, the Solicitor General in the brief has expressed some doubts as to whether the public policy doctrine, which as I will point out in a moment this Court has accepted in other contexts in tax cases, extends to the disallowance of attorney’s fees.

However, the Commissioner of Internal Revenue declined to abandon this position which had long standing support in the cases both trial and appellate, and therefore, the Solicitor General has applied for certiorari which was granted.

During the course of this argument, I will attempt to set forth the reasoning which underlies both the position of the Commissioner and the Solicitor General.

However, before doing that, I would like to deal with two preliminary statutory questions which I think will put the public policy question in proper perspective.

First, Section 262 of the Internal Revenue Code specifically states that no deduction shall be allowed for personal expenses.

While it can be argued that the expenses of attempting to avoid a criminal conviction and possible imprisonment are personal in nature, the Commissioner does not believe that this case can be disposed of on that ground.

In a number of cases involving the deductibility of attorney’s fees incurred in defending civil lawsuits, this Court has recognized that whether the expenses of resisting a lawsuit are to be regarded as personal or business in nature depends on the type of activities out of which the claim arose, rather than upon the consequences losing a suit would have on the taxpayer.

For example, if the taxpayer engaged in the business of delivering packages is involved in an accident and defend the tort suit arising out of that accident, his expenses of resisting the damage claim would be deductible, because the origin of the suit would be his business activities.

Whereas if the same taxpayer was on the way to a cocktail party was engaged in an automobile accident, his expenses of resisting a lawsuit would be personal in nature.

Abe Fortas:

Suppose you’re on the way to a business, to a friend of yours to plainly discuss the business and he had an automobile accident?

Jack S. Levin:

I think that undoubtedly there is — there is room here as in most other tax questions for argument as to whether the activities were in fact personal or business in nature in closed cases.

There is no such question in this case where the taxpayer’s activities which led to this criminal indictment and conviction were attempts to sell security which in fact he did so approximately $700,000 or $800,000 worth and received commission to total $540,000.

So his activities which gave rise to this lawsuit were clearly business in nature.

The question — undoubtedly, there are cases where there could be some doubt as to whether the activities were sufficiently business in nature so that your expense in resisting lawsuit would be business rather than personal.

Abe Fortas:

I see.

This is business in nature if it’s nondeductible.

Jack S. Levin:

Yes, and we take that position not on the ground that the expense is personal in nature.

The Commissioner concedes that in this case the expenses of resisting a lawsuit are business in nature.

The second ground, the second statutory question is the meaning of the words ‘ordinary’ and ‘necessary’, because in order for a business expenditure to be deductible, it must be ordinary and necessary.

That’s the statutory language.

Now, this Court has interpreted the words ordinary and necessary, as have the lower courts quite liberally in order to effectuate their purpose and has interpreted them to include in general any expenditures which the taxpayer reasonably expects to further his profit-making purpose, his profit-making business purpose.

There are, however, two questions which arise in relation to this ordinary and necessary phraseology.

The first is that in a 1940 opinion of this Court, the Deputy versus Du Pont, which the Commissioner has at time cited and which the lower courts have also cited.

This Court used language to the following effect.

And he said that in order for an expenditure to be ordinary, it must be of common or frequent occurrence in the type of business involved.

Now, if that test is correct and if that is the law, then we believe that the expenses here in question would have to be disallowed, because as I just stated in answer to Mr. Justice Fortas’ question, the expenses of resisting a lawsuit must be viewed in light of the activities which gave rise to the lawsuit.

And here, the expenses of the lawsuit were occasioned by the taxpayer’s criminal fraud in his securities business.

And since criminal fraud is certainly not common or frequent in the securities business of this nation, it becomes necessary to decide whether frequency is actually an essential ingredient of the phrase ‘ordinary and necessary’.

As spelled out in more detail in our brief, we do not believe that it is.

For if expenses were to be disallowed whenever the activities of the type engaged in by the taxpayer were not common or frequent in his business or industry, we think this rationale would apply in cases not involving criminal violations at all but would tend to discourage business initiative and innovation.

A result that certainly is not suggested or compelled by either the statutory language, the purpose or the legislative history of the relevant code provisions.

Abe Fortas:

Does the record show whether the respondent was engaged in a general securities business or was this an isolated transaction?

Jack S. Levin:

The record is rather scanty, Your Honor, but we have cited in our brief in a footnote, the Second Circuit’s opinion affirming his criminal conviction.

And in that case, the facts are set forth at much greater length, but also the facts in the record are also ample to demonstrate.

The taxpayer was regularly engaged in the securities business.

He employed 25 to 30 salesmen who were, I believe from the record, mainly on his premises making telephone calls and attempting to induce costumers to purchase securities.

Abe Fortas:

And there was only part of his securities business that was involved here, is that right?

Jack S. Levin:

That’s correct.

The indictment related only to one securities issue, to one company for separate issuances of debentures for that company.

Taxpayer dealt mainly in securities which sold for under $1 and which were issued principally by companies which had no earnings record, had never engaged in business before, new enterprises.

Abe Fortas:

Well, that’s not unlawful, is it?

Jack S. Levin:

No sir, it’s not unlawful at all.

Abe Fortas:

Particularly if go up.

Jack S. Levin:

It’s — it’s not unlawful at all.

The indictment involved for issuances of debentures by an Alaska telephone corporation.

There was also a New York State injunction proceeding which is reported at 155 New York Supp. 2d 245 involving another issue of securities in which the respondent was enjoined from selling securities in the State of New York for five years.

That was not a criminal but rather a civil proceeding.

Byron R. White:

Well, do you draw a distinction between his attorney’s fees in resisting a — an injunction suit and attorney’s fees for defending a criminal prosecution?

Jack S. Levin:

Yes.

Byron R. White:

On the same — the identical transaction.

Jack S. Levin:

That’s correct.

The Commissioner believes —

Byron R. White:

And you and also between his attorney’s fees — how about his attorney’s fees he pays for setting the transaction out?

Jack S. Levin:

The Commissioner has at least 40 years, consistently taken the position that three types of expenditures are encompassed by the public policy doctrine.

First, expenditures which are themselves illegal such as bribes, second, criminal fines and penalties assessed by courts in punishment for criminal acts, and third the attorney’s fees incurred in resisting a criminal prosecution which results in the taxpayer’s conviction.t

Abe Fortas:

Now on page 5 of the Government’s brief, it is that third category that the Solicitor General does not endorse, is that a correct statement?

Jack S. Levin:

That’s correct, Your Honor.

The Solicitor General has doubts as to whether the public policy doctrine should be extended to that third category.

The Solicitor General has expressed no doubts and in fact has endorsed the application of the public policy doctrine to the first two types of expenses.

For at least —

Earl Warren:

Those first two types are established here, does that decide the case?

Jack S. Levin:

No.

Earl Warren:

You have to have the third?

Jack S. Levin:

That’s correct.

This case involves solely attorney’s fees involved and incurred in resisting the criminal conviction.

This does not involve either one of the first two categories of expenses, this case does not —

Earl Warren:

Well, is it fair to say that the Solicitor General does not believe that he should sustain the third?

Jack S. Levin:

The Solicitor General has expressed serious doubts as to whether the public policy doctrine does in fact extend to the third.

He set forth on the brief at length his reasoning which leads him to conclude that he acknowledges serious doubt that such an overriding policy in favor of disallowance exist with respect to attorney’s fees in this sort of a case.

Earl Warren:

In this sort of a case.

Earl Warren:

Is there anything peculiar about the — about the Act, the Securities Act or the businessman that was in that would distinguish it from an ordinary business case?

Jack S. Levin:

No.

Earl Warren:

I was just thinking this, suppose a man was in the automobile business, secondhand automobile business, and it was charged that in connection with that business, he had acted as offense for stolen automobile and he was convicted.

Would it be the position of the Solicitor General that his attorney’s fees and cost would be deductible?

Jack S. Levin:

Well, to take it in two steps Your Honor —

Earl Warren:

Could that — that could not be distinguished from this case, I gather?

Jack S. Levin:

No, I don’t think so.

Let me just take it very briefly Mr. Chief Justice.

First, attorney’s fees incurred in connection with a criminal prosecution arising out of personal acts, such as assault and battery on a man that you had personal distaste for.

That would be nondeductible and I don’t think there’s any question about that on the ground that it was personal rather than business.

Wherever the activities which gave rise to the criminal prosecution brought a profit-making endeavor or out of the business, the question is the same, then the question is whether the expenditures will be disallowed under the public policy doctrine or whether they will be deductible.

The Solicitor General has expressed serious doubt that the public policy doctrine would apply here and in the case that you hypothesized.

Earl Warren:

Would you think that in that case that I — that I gave you that there’s serious doubt as to whether — whether he could deduct his — no, as a serious doubt as to whether you could have to pay his tax on that money.

Jack S. Levin:

Well, the Solicitor General has expressed some doubt as to whether the Commissioner’s position which would disallow those expenses is correct.

Earl Warren:

But that has been done you say for —

Jack S. Levin:

40 years.

Earl Warren:

— by the Commissioner for 40 years?

Jack S. Levin:

That’s correct.

Earl Warren:

When did the — when did the Solicitor General first start to express such doubts?

Jack S. Levin:

When the case reached this Court.

Earl Warren:

This Court?

Jack S. Levin:

That’s correct.

Earl Warren:

That’s the first time?

Jack S. Levin:

That’s correct.

This —

Earl Warren:

Have other Solicitor General acquiesced in — in the viewpoint of the Commissioner?

Jack S. Levin:

Yes, I believe to the extent that the case is — the question has been presented to them, they have.

Earl Warren:

They ever — have they supported it in the courts?

Jack S. Levin:

Well, the case — a similar case was before this Court once before.

In 1943, this Court had the case of Heininger versus the Commissioner.

Jack S. Levin:

There the taxpayer had incurred attorney’s fees in resisting an administrative fraud order issued by the postal department banning him from using the mails in his business.

And the Commissioner and the Solicitor General took the position that the public policy expressed by the postal statute there in question prevented a deduction for attorney’s fees incurred in unsuccessfully resisting this fraud order.

This Court in that case carefully examined the postal statute in question and concluded that the statute was designed solely “to protect the public” and that it was not designed “to impose personal punishment on violators”.

Therefore, this Court held that Heininger had not been judicially determined to have violated a criminal or penal statute and that his expenses were deductible.

At the same time, this Court expressed in a footnote the following thought.

A taxpayer who has been hurt and prosecuted under a federal or state statute and convicted of a crime has not been permitted a tax deduction for his attorney’s fees.

And this Court then quote, cited the decisions, some of the decisions of the lower courts which had consistently so held.

Thus while the Court in Heininger did not decide this issue because it didn’t find public policy had been violated, it observed the lower court’s consistent rule.

Hugo L. Black:

It said that they had done it.

Jack S. Levin:

It said that the lower courts had done it, that footnote is quoted and cited in our brief.

Hugo L. Black:

But that wasn’t cited in the body.

Jack S. Levin:

It was not in the body, in the footnote.

The Court concluded in the body of the case that there was no violation of public policy, therefore, it didn’t have to reach the question.

Byron R. White:

Mr. Levin, what do you say about the respondent’s argument that after Heininger v. Commissioner really reversed this field in that Louisiana 1943?

Jack S. Levin:

Well —

Byron R. White:

And that reading of the law until ’56 or ’62 was just the contrary.

Jack S. Levin:

We filed a short reply briefly which I think adequately covers that.

It’s our position that the 1944 G.C.M. issued by the Commissioner by the general counsel of the Bureau of Internal Revenue, merely created the temporary and erroneous limited exception to this doctrine.

In that G.C.M., the Commissioner said that a corporation which incurs attorney’s fees and resisting a criminal antitrust prosecution may deduct those attorney’s fees.

So far as we know, that G.C.M. was never applied outside the antitrust area as quoted in our reply brief.

Byron R. White:

The Commissioner asserts that regularly in ’43 right on up until now outside the antitrust field it has been nondeductible.

Jack S. Levin:

That’s’ correct.

We cite cases in our reply brief which so hold and which — some of which while not so holding so state.

They say, “Here was in the Green case decided the very next year in 1945.”

Byron R. White:

This was the role when the fit to foreclose was adopted, for example?

Jack S. Levin:

That’s right, Your Honor.

We contend — the Commissioner contends that the — for 40 years consistently since the 20s, he has disallowed these expenses with the one exception that from 1944 until 1962 when he revoked that G.C.M., he was allowing deductions for criminal antitrust fees.

In 1962, he revoked that limited exception.

We think that the reply brief adequately sets forth the cases which demonstrate this.

Byron R. White:

Well, does the Commissioner feel — the Commissioner feel — was that G.C.M. based on Heininger or not?

Jack S. Levin:

Based on what Your Honor?

Byron R. White:

Based on Heininger?

Jack S. Levin:

I do not believe that the — well the G.C.M. does cite Heininger.

It does cite Heininger.

Byron R. White:

It felt that — the Commissioner felt compelled by Heininger to adopt this G.C.M.?

Jack S. Levin:

Well I find it difficult to —

Byron R. White:

For antitrust —

Jack S. Levin:

I find it difficult to say just what the Commissioner felt in 1944, but —

Byron R. White:

Well did he rely on Heininger or not?

Jack S. Levin:

He cited Heininger.

It’s — there’s a discussion of Heininger, discussion of other cases.

I don’t think the G.C.M. should give the impression that Heininger was controlling but now solely because of Heininger, this has changed any great position.

We now concede that that 1944 G.C.M. was wrong.

It’s been revoked, it just widely was an exception created for attorney’s fees and antitrust prosecutions —

Byron R. White:

When you concede, you mean you argue that it’s wrong?

Jack S. Levin:

What Your Honor?

Byron R. White:

What do you mean you concede?

Jack S. Levin:

We concede that the G.C.M. was wrong in creating an exception for antitrust prosecutions.

But it should not have been deducted –(Voice Overlap)

Abe Fortas:

But you don’t have to mean that, do you?

Byron R. White:

But now you — but now you — the Solicitor General has some —

Jack S. Levin:

When I said we there, I meant the Commissioner.

Byron R. White:

Your position now is that it’s right?

Jack S. Levin:

I’ve got to be careful with my use of the word ‘we’ it sort of slips out.

The Commissioner believes that the G.C.M. was erroneous.

The Solicitor General’s position of course being far broader would be that that G.C.M. was right and should have been much broader than it was but it was not.

The Solicitor General does not take the position that that G.C.M. was broad.

He also takes the position that that G.C.M. was quite narrow.

Hugo L. Black:

Suppose the man had been acquitted?

Jack S. Levin:

The man had been acquitted, there’s no question but that the attorney’s fees would be allowed as a deduction because they arose out of his business.

Jack S. Levin:

The Commissioner takes the position that when the court determines that there has been a violation of a sharply defined public policy embodied in a criminal statute, then the attorney’s fees as well as the criminal fine which is paid and as well as the expenses of committing the illegal act are nondeductible.

Hugo L. Black:

Well, that would have to be a concession that the expense is ordinarily unnecessary, wouldn’t it?

Jack S. Levin:

Well, I don’t think it’s —

Hugo L. Black:

Unless you’re basing it purely on the question of public policy.

Jack S. Levin:

It is based purely on public policy whether this Court chooses to read ordinary and necessary as in themselves embodying a public policy exception or whether the Court reads public policy as a gloss on the statute which Congress intended, I’m not prepared to say.

Hugo L. Black:

Well what —

Jack S. Levin:

The court has —

Hugo L. Black:

Well, I thought you had to say it was that I understood you to say if he’s acquitted.

It’s deductible as an ordinary and necessary business expense.

Jack S. Levin:

Because the man has not been determined judicially to have violated a sharply defined public policy.

If he hasn’t violated public policy, the Commissioner will not invoke public policy.

Hugo L. Black:

But if it’s an ordinary and necessary business expense, it shouldn’t be deducted, should it?

Jack S. Levin:

It is ordinary and necessary in the —

Hugo L. Black:

If he’s acquitted.

Jack S. Levin:

It is ordinary and necessary unless some concept of public policy which Congress intended to be embodied in that statute prevents the deduction.

Now —

What is advantage of the (Inaudible)

Jack S. Levin:

Well, I think the Solicitor General’s position would of course have to apply there.

This Court has held that the expenses early held — that the expenses of an illegal business are just as taxable as the expense — that the income of an illegal business is just as taxable as the income of a lawful business.

And as Mr. Justice Douglas said in the — in the Sullivan case, the expenses incurred by an illegal business are just as deductible as the expenses of a legal business.

Mr. Justice Douglas said there the normal expenses of an illegal business are deductible such as rent and salaries, but we contend and I think that the cases certainly bear out that a bribe paid by either a legal or an illegal business would be nondeductible.

Attorney’s fees would be determined the same in either event.

If this Court holds it deductible here, then I — the Solicitor General’s position is that they would most likely be deductible in the bank robbery case where the man was in the business of doing it.

Now, whether —

Hugo L. Black:

For a long number of years, certainly 29, it’s always been an argument about whether courts could adopt public policy to require people from getting deducted on the ground that that’s public policy.

Has it ever been presented in Congress?

Jack S. Levin:

Well, it has been inferentially required we believe by Congress over the past 40 years during which Congress has frequently reenacted the code.

This Court as well as the other courts had disallowed certain expenditures violating public policy.

This Court’s decision of course didn’t come from 1958.

If the lower courts consistently disallowed the three categorical sentences that are illegal payments such as bribes, criminal fines and penalties and attorney’s fees during that period, the code was repeatedly reenacted.

Jack S. Levin:

The general words ordinary and necessary which have been read is including a public policy exception were retained unchanged.

In fact in 1958, Congress adopted a new section — subsection to 162 the expense deductible.

It said that the expense of paying bribes to foreign officials will henceforth be nondeductible and the Committee Report show we believe that Congress was assuming that bribes paid to domestic officials were nondeductible but that there was some question about foreign officials since they didn’t — such bribes didn’t violate American law.

So Congress there in 1958 was quite clearly assuming that this Court and the lower courts insistent disallowance of such illegal payments were nondeductible.

In the same year, 1958, this Court decided the Tank Truck case.

In that case, the taxpayer had repeatedly been convicted of violating state overweight truck laws.

And the case did not involve attorney’s fees but only the payment of criminal fines in these cases.

And this Court held in 1958 in Tank Truck that criminal fines were nondeductible because they violated public policy the same time this Court clearly stated that payments such as bribes which are themselves illegal were also nondeductible because they violated the sharply defined public policy embodied in the criminal statute which had been violated.

And this Court said that Congress could not be presumed to have intended when it enacted this general expense section to allow a deduction for an expenditure which was intimately related o a criminal act in which — but only if the expenditure was remote, and this Court used the word ‘remote’ from the illegal act.

It’s the Commissioner’s position here that the attorney’s fees incurred in a criminal proceeding in which the taxpayer is convicted far from being only remotely related to the illegal act are intimately related both to the taxpayer’s illegal conduct and to the nondeductible fine levied upon conviction.

The expenses here in question were after all incurred in the very proceeding between respondent and the sovereign in which his guilt was determined and in which he was punished.

And the Commissioner takes the position that the strong public policy expressed by three federal statutes here in question requires the disallowance of his fees in litigating just as much as it requires the disallowance of the $18,000 fine which was levied against him upon conviction.

Abe Fortas:

Well in fact this was to reflect a public policy in contingent fees for lawyers, isn’t it?

Jack S. Levin:

I —

Abe Fortas:

If the lawyer wins and the client’s in a better position to pay him the fee, but the lawyer looses and the lawyer gets penalized.

Jack S. Levin:

Well, I haven’t really considered that aspect of it, especially in criminal cases, but — while the Commissioner recognizes that if the policy of the United States certainly to provide counsel for those who cannot afford to retain them, the Commissioner does not believe that this policy would be furthered by upholding the respondent’s position in this case, because the deduction in a case such as this one would certainly bear no relation to the taxpayer’s ability to pay for counsel himself.

In fact, in most cases allowing a deduction would bear — the benefit of allowing a deduction would bear an inverse relationship to the tax benefit afforded.

The higher the taxpayer’s income, of course, the higher his tax bracket; the higher this tax bracket, the greater the benefit he’ll receive from a deduction.

In other words, if a man incurs $20,000 worth of attorney’s fees and he’s in the 80% bracket or the 70% bracket, he gets a $14,000 tax subsidy so to speak.

If he’s in the 10% or 20% bracket, his tax subsidy is only 20% of his attorney’s fees.

Therefore, we would come out with the result of allowing a deduction here that the higher the taxpayer’s income, the higher his tax bracket, the greater his benefit from the deduction.

The man with the large income who least needs a federal subsidy to guarantee his constitutional right to counsel would get the largest amount of tax benefit, while the man who has little or no income and who most needs federal help would get the smallest tax rate.

Therefore, the Commissioner believes that the use of the income tax laws is a vehicle for promoting adequate representation by counsel is a singularly inappropriate choice and —

Abe Fortas:

Well, maybe — maybe — how does it feel about the converse of that proposition?

Jack S. Levin:

Well, he believes that Congress could not have intended to grant a tax subsidy to people who have violated the laws so that they may retain counsel absent to showing of need in order to defend against that conviction.

Hugo L. Black:

May I ask you what does the deduction was decided to be taken from.

Jack S. Levin:

Well, I do not know the exact figures in this case.

It would be deductible from the —

Hugo L. Black:

Was it profit — is it profit this man has made in this business —

Jack S. Levin:

It may be profit —

Hugo L. Black:

— that he was to keep the cost?

Jack S. Levin:

— it may be profit, I don’t know whether in the year that he paid the attorney’s fee he was still earning any profits, he may well have been out of business by then.

Hugo L. Black:

Well I’m talking about the deduction he sought.

On the other side there was some income.

Where’d that income come from?

Jack S. Levin:

I’m informed that that to at least some extent he was still in the securities business, although I should imagine his business was probably greatly reduced.

If the man had, and I don’t know the facts, accumulated a great deal of wealth, he would be having dividends, interest —

Hugo L. Black:

No, but did — didn’t the crime to take his income tax on the grounds to violate the public policy, did it?

Jack S. Levin:

No it did not.

This Court long ago held that illegal income is nevertheless taxable just as clearly as legal income.

Let me just — if I may have just one more moment to try to quickly summarize the Commissioner’s position and state very briefly the Solicitor General’s.

Well I’ll rest on the point set forth in the brief such as the Cammarano case that clearly shows that expenditures which are related to a constitutional right are not necessarily deductible merely because there is a constitutional right.

Respondent himself concedes that attorney’s fees incurred in defending a criminal prosecution arising out of personal acts are not deductible despite the fact that there’s a constitutional right.

Let me set forth for just one moment the Solicitor General’s position which I’ve mentioned but not given the — his reasoning.

His reasoning is that the constitutional right to retain counsel while it does not necessarily require a deduction may well be considered as one of the policies mitigating in favor of a deduction.

Moreover, the Solicitor General finds it difficult to believe that anyone about to engage in criminal activities would be encouraged to engage in those activities merely because he knows that his expenses of retaining counsel if he’s caught and convicted will be deductible.

And finally that allowing a deduction for attorney’s fees arising out of a business crime would give them no more or no better treatment than other business-related expenditures, and thus that public policy ground invoked by the Commissioner while it has been consistently accepted for 40 years by the courts during reenactment does not apply as strongly here as it does to the cases that this Court has already upheld such as illegal bribes and criminal fines assessed by a court.

Thank you.

Earl Warren:

What is the — what does the Solicitor General urge that we do with this case, affirm it or reverse it?

Jack S. Levin:

Well, the Solicitor General has not urged either position by expressing his doubts about the correctness of the Commissioner’s position.

Earl Warren:

Then he comes here merely as a friend of the Court?

Jack S. Levin:

I assume that the Solicitor General’s position by expressing doubts is that he has serious doubts that this case should be reversed.

He has not said he thinks it should be affirmed, in that sense, he’s here as a friend of the Court stating his view.

Earl Warren:

I would think the Commissioner would be entitled to some real representation then in this case.

We’re not accustomed to have just friend of the Court on one side in the Government’s case and counsel on the other.

Why in the situation of this kind wouldn’t the Commissioner represent himself?

Jack S. Levin:

Well, the Solicitor General who designated the man who to argue this case hoped that in this oral argument I would be able to set forth the Commissioner’s position with some strength if I have —

Earl Warren:

Yes, well do you have the case that we followed back then, follow the argument of the Commissioner?

Jack S. Levin:

Well, perhaps I’m wearing two hats, but I am here advocating that this Court reverse the conviction in behalf of the Commissioner.

Earl Warren:

Seriously or are you just stating his arguments as a friend of the Court and then stating the arguments of the other side?

Jack S. Levin:

When I make —

Earl Warren:

And urge him a little stronger.

Jack S. Levin:

When I make the arguments on behalf of the Commissioner, I am seriously urging this Court to reverse the conviction.

However, at the same time, I have the duty of setting forth the Solicitor General’s position.

Earl Warren:

Seems an odd situation but you’re here that way.

Hugo L. Black:

Can I ask you one other question?

Neither of this, so far as I recall it, referred to a case I think we had a few years ago from North Carolina, where the Commissioner declined to give deduction to a doctor who had a cutback on prescription.

Jack S. Levin:

That was the Lilly case.

Hugo L. Black:

What case?

Jack S. Levin:

The Lilly case.

Hugo L. Black:

Lilly.

Jack S. Levin:

L-I-L-L-Y.

In the Lilly case, opticians were granting a 33.3% kickback, as I recall, to a prescribing doctor who sent a prescription there to be filled for eyeglasses.

It was a kickback to the prescribing doctor.

The Commissioner and the Solicitor General took the position that these kickbacks were nondeductible so far as the payer, the company that makes the glasses is concerned, on the ground that sharply defined public policy prevented such a deduction.

This Court in that case held that there was no governmentally enunciated public policy which was violated by this practice, no state statute, no federal statute, perhaps it was found upon by the AMA, but it was not a sharply defined governmentally enunciated public policy.

Therefore, this Court allowed the deduction.

Later in the Tank Truck case where this Court found that the activities violated state statutes, they are overweight truck statutes, this Court invoked the public policy doctrine and confirmed the lower courts 40 years of consistent use of that doctrine at least to the extent of disallowing criminal fines.

Here, the Commissioner takes the position that the three federal statutes here involved which were all violated by the respondent for which he was convicted and sentenced of violating, express a very strong public policy which requires the disallowance of the deductions here in question.

Earl Warren:

Mr. Kaminsky.

Michael Kaminsky:

Mr. Chief Justice, and may it please the Court.

Before commencing on the argument itself, I should like to point out to the Court that there are two things wrong in which the statements made by the representative of the Solicitor General’s office.

The first thing is that the issue of ordinary and necessary expenses is definitely not in this case.

It was admitted at every stage below that these expenses are the proximate result of the taxpayer’s business within the full leading of Kornhauser against the United States and Bingham’s Trust.

The only issue involved in this case is whether there is such a thing as overriding public policy which operates to destroy a taxpayer’s right to a deduction which he would ordinarily without any question be entitled to.

The second thing that I should like to say to the Court is that in this very recent reply brief served only yesterday, the Solicitor General seeks to prove that my statement that since the time of Heininger and up to the time when the Commissioner reversed the G.C.M. and substituted the revenue ruling that he has followed a consistent program of disallowing these deductions.

What he has failed to tell the Court is that the case that he cites, the Tax Court case Green Motor Company against Commissioner 5 T.C. 314 is an acquiesced case.

Now, the Court is aware that the position of the Commissioner is determined not from the overzealous efforts of local counsel in the Tax Court but by what the Commissioner does with the decision when it comes down.

It happens and is very clear that in this case the Commissioner acquiesced and the acquiescence is in 1945 (c) (b) page 3.

Now, the bare unvarnished fact is that this acquiescence could not have occurred had the revenue ruling been in effect.

Michael Kaminsky:

Have the revenue ruling been effect the Commissioner would have been obliged to non-acquiesce of the case and take it for appeal.

Now, the reply brief always also cites a good deal of what the late Judge Clark used to call the chit-chat in the decision.

It is very true that the Tax Court in the Green Motor Company made all the statements that the Solicitor General says it did.

But that’s not the ruling of the case.

The ruling of the case is identical in Longhorn Portland Cement Company as it is in Green Motor Company, and the ruling is that the Commissioner’s reliance either on Helvering against Superior Wines & Liquor or on Outdoor Advertising is misplaced because those are the specific cases which this Court reversed in the Commissioner against Heininger when it grant us certiorari in that latter case.

Now, there is indeed a very important question of public policy in this case.

However, it’s not the public policy question that the Solicitor General has outlined in behalf of the Commissioner of Internal Revenue.

The Commissioner of Internal Revenue urges this Court to disallow attorney fees in the case of a lost criminal defense solely for the reason that he says that it is necessary in order to discourage criminality, to discourage the Commission of criminal acts.

There are two defects of that argument.

Number one as this Court has said in Commissioner against Heininger, there is a complete lack of direct cause and effect between the use of counsel, the employment of counsel and the Commission of illegal acts.

And second, perhaps even more important is the fact that that never has been the reason for the rule.

Now, I refer the Court, respectfully refer the Court to the late Judge Learned Hand’s decision in Rossman against Commissioner reported at 175 F.2d. 711 in 1949.

In that case, Judge Learned Hand referred to the rule which had existed in the Second Circuit before Commissioner against Heininger, the rule that disallowed attorney fees in civil cases where the defendant was employing counsel in a vain effort to avoid the imposition of civil fines.

Judge Learned Hand said, “Indeed to hold otherwise would be to subsidize the obduracy of those offenders who were unwilling to pay without a contest and who therefore added impenitence to their offense.”

And for this reason in the decisions just cited we held that such legal expenses were never deductible.

Of course, Judge Learned Hand also hastened to add that this Court in Commissioner against Heininger had rejected that doctrine.

But it’s the great merit of Judge Hand’s decision that he unabashedly faced the real purpose of the rule, so-called rule.

The real purpose of that rule was to inhibit the use of counsel in an effort to defend against charges of criminal action.

Now, it’s unfortunate that Judge Hand —

Abe Fortas:

I thought you said the opposite?

Michael Kaminsky:

I beg your pardon?

Abe Fortas:

Would you restate what — that last sentence?

Didn’t Judge Hand say that the real purpose of the rule is to inhibit the employment of counsel in civil — in cases involving civil case, isn’t it?

Michael Kaminsky:

Yes, Your Honor, this was a civil case.

Yes, Your Honor.

Abe Fortas:

I think you said just the other way around.

Michael Kaminsky:

I beg your pardon, Your Honor.

But however, the facts still remains that Judge Hand unashamedly faced the reason for the rule and he said the Second Circuit disallows attorney fees because we want to discourage the employment of counsel.

Now, it’s unfortunate that the late Judge Hand used the word subsidy.

He said that it would — he said to hold otherwise would be to subsidize.

Michael Kaminsky:

But the label which Judge Hand used is of relative unimportance.

It’s a relative unimportance because if it is a subsidy to allow a deduction where a defendant is successful, where a defendant is not successful it is just as much as subsidy to allow it where the defendant fails, or by getting it twisted, it doesn’t make any difference whether the defendant has succeeded or failed, there’s a subsidy in either way.

And the bare fact remains that if the defendant looses, he loses a subsidy, if it is called a subsidy.

So it makes no difference whether we call it a right to an allowance or whether we call it a subsidy, the fact that the defendant has lost a case in court and causes the imposition of a substantial tax penalty, a sanction.

Now that, Your Honors, is the true question in this case.

The true question of public policy is whether we have reached such a point or whether the mores of our community has reached such a point that we are going to penalize a man because he has failed to win vindication in a court of law.

I think that this Court answered that question in Commissioner against Heininger.

I think that when this Court in Commissioner against Heininger said it is not the purpose of the statutes for which the defendant had violated.

It was never the purpose of those statutes to deter him from using counsel in defense against such charges, this Court meant to say that it is never the purpose of any statute to deter a man from using counsel in defense whether the case is criminal or whether the case is civil.

Certainly, it would be a tremendous inconsistency if this Court were to say that when a man is charged with guilt in an administrative proceeding, it is not the function of any statute to deny him the right to counsel.

But if he is charged in a criminal case where the penalty is life or liberty, if he fails, he fails at his risk, he must be denied the right to — he must be denied a deduction for the right of counsel.

Earl Warren:

Is it denying a man his constitutional right that he has to pay a tax on money that he expends for his defense in a criminal case?

Michael Kaminsky:

Your Honor, I believe that it is an absolute denial of his constitutional right because the payment of the tax which is being imposed on that individual constitutes a sanction.

He would have that deduction if he were successful.

He does not have that deduction simply because he has lost, so then —

Earl Warren:

I thought that’s a different argument from the one you’re making about the Sixth Amendment about he’s entitled to counsel and entitled to —

Michael Kaminsky:

Yes, Your Honor.

Earl Warren:

— to his deduction.

Michael Kaminsky:

Your Honor, it is our position — it is our position that when this Court decided — when this Court decided the case of Gideon against Wainwright, the case in which this Court said that no jurisdiction, no court has jurisdiction over the person of a defendant unless that defendant is adequately represented by counsel.

Earl Warren:

That’s right.

Michael Kaminsky:

This Court stated a fundamental right which is superior to any statute.

No statute in the light of this case may ever take for its purpose the deterrence of the right to a man — right of a man to use to employ counsel in his defense in a criminal case.

Earl Warren:

Well let’s take Gideon versus Cochran, he was burglar, allegedly a burglar.

Was he entitled to the tax deduction for defense in his case?

Michael Kaminsky:

Your Honor, the question cannot be answered simply.

Cochran is a burglar.

Earl Warren:

It can be answered as simply as yes or no.

Was he entitled to — was he entitled to a deduction?

Michael Kaminsky:

If Cochran is engaged in the business of burglarizing, there is sufficient reason to permit him the deduction, but if Cochran is not engaged in the business of burglarizing there is no reason to allow him.

But the answer — can be answered no in this way, Your Honor, if I may.

Earl Warren:

In other words, if Gideon was a habitual burglar and made his entire living by burglarizing stores, if he was alleged to have done here, he’d be entitled to a deduction.

But if he just did it once, he wouldn’t be.

Michael Kaminsky:

Your Honor, does not Gideon say that the United States Government must subsidize Gideon’s defense by paying for his counsel if he has none?

Earl Warren:

We’re not talking about that.

We’re talking about taxes here.

Michael Kaminsky:

Yes but —

Earl Warren:

Where the man is entitled to —

Michael Kaminsky:

Gideon —

Earl Warren:

— as a deduction.

Michael Kaminsky:

Gideon’s offense was not a business offense.

Therefore Gideon had no authority under the statute.

But the distinguishing feature of this case is the fact that there is no question, but that these deductions arise out of the man’s trade or business.

We have no difficulty of establishing that under the Kornhauser case.

We could not establish that probably in the case of Gideon and we certainly could not establish it in the case of a burglar.

But in this case, it is a fact of the case that this man was engaged in a business which the Government said violated an SEC regulation and the Government convicted him on that and destroyed his business.

No different than in the case of Heininger where the post office said that Dr. Heininger was violating the rules of the post office, found him guilty, and destroyed his business.

There is a distinction between a burglary Your Honor and a business which some government agency says violates a prohibitory statute enacted either by the state or by the federal government.

And that Your Honor is the answer upon which I must rest.

Earl Warren:

Well, you take the case that I asked to Mr. Levin.

Michael Kaminsky:

Yes.

Earl Warren:

A man in the automobile business, a secondhand automobile business covers up by his business the fact that his offense for stolen automobiles and he is charged with knowingly receiving and handling stolen goods and he’s convicted of it.

Michael Kaminsky:

Yes, Your Honor.

Earl Warren:

You feel — do you feel that he should be entitled to a tax deduction because he was in the business of selling secondhand automobiles and therefore have the privilege of also doing offense for stolen automobiles to the extent that he would be entitled to deduct his expenses in maintaining himself his offense?

Michael Kaminsky:

I would answer Your Honor’s question that he is entitled to the deduction but for another reason Your Honor.

The reason being that since the Government taxes him on his profit from being offense as the Court puts it, the Government has no right to tax his gross receipts, the income tax law permits the Government to tax only the net income, permits the Commissioner to tax only the net income.

And if by reason of the fact that this man is offense, the Government should tax his gross receipts rather than his net income, then the sanction which would be imposed upon him might be tremendous depending upon how much expenses he has.

And nowhere does any statute of the United States say that a man should be punished in addition to the punishment which is imposed by the crime — by the statutes describing the crime.

He should, in addition, be punished by the disallowance of all his expenses so that he is obliged to pay a tax out of money that he no longer has.

And that is the reason Your Honor.

I think that the question of whether or not the taxpayer is engaged in an illegal business is not relevant to the matter because we are trying to tax economic profit that a man makes.

Michael Kaminsky:

The whole theory of the income tax law is that the Government will share the profit that the taxpayer makes.

Taking a certain proportion in accordance with law and leaving the balance for that man to spend as he wishes or to save if he wishes.

Now, the moment that you disallow expenses, you destroy that percentage between the Government, and if Your Honor please, I could give you the illustration of a man who pays $100,000 for stolen cars, sells them for $110,000 and if the Commissioner disallows the $100,000, his tax would be 52% of $110,000 not $10,000 which is his profit.

The fact remains Your Honor that the income tax is a peculiarly unfitted law for the punishment of crime because the income tax law does not punish in accordance with crime.

It punishes by taking that which does not exist.

It punishes by taking income.

Now, if I bring the case down to the particular of my own situation here, if Mr. Tellier had spent $100,000 in attorney fees to save his business having received only $110,000 in receipts, if we disallow the $100,000, we bring him to a 75% price on a $110,000 which is obviously more than he ever had in his life out of that business.

In other words, the penalty is not in accordance with the crime.

Moreover, the penalty has the propensity of bankrupting an individual depending upon how large the expenses as being disallowed.

Now, in this case, Mr. Tellier’s attorney fees in 1954 were small.

That doesn’t mean they were not larger in other years.

The fact remains that if we disallow the attorney fees, we have created income and having created income, we are taxing that which does not exist and we’re taxing it under the guise of a penalty to prevent this man from doing further — from engaging in criminal activities.

That is not so.

We’re — what we are taking from him is his right to be defended in a court, because we’re making it impossible for him to pay for attorney fees.

If a man who has received $110,000 and is required to pay $100,000 for attorney fees is denied a deduction for the $100,000 he simply doesn’t have the assets to pay the attorney fees.

Abe Fortas:

May I ask you this question please?

Michael Kaminsky:

Yes, Your Honor.

Abe Fortas:

In taking this particular case and making the assumption that the respondent was advised by counsel with respect to the securities transactions before he embarked them, is that correct?

Michael Kaminsky:

No, that is not correct.

Abe Fortas:

Well, the respondent here was engaged in the securities business.

Michael Kaminsky:

Yes, Your Honor.

Abe Fortas:

And we — and I’m asking you to assume that he hired counsel to advise him about the lawfulness or unlawfulness and the form of the transactions that were subsequently attacked under the Securities Act.

Now, does the Commissioner’s theory extend to the disallowance of the — as deductions of the fees paid to counsel who advised respondent’s originally as to setting up these transaction.

Michael Kaminsky:

I believe that there is a case Your Honor where the Commissioner has argued that any relationship to criminality makes the crime — makes the attorney fees nondeductible.

Abe Fortas:

You suppose the lawyer —

Michael Kaminsky:

My honest opinion that in that case, he would allow the deductions.

Abe Fortas:

He would?

Michael Kaminsky:

He would.

If you have went to counsel and you asked counsel whether an act was criminal or noncriminal and you were advised either way that the Commissioner would allow, because the rule so far does not to say that the Commissioner won’t go farther.

But the rule so far is that only the attorney fees that have relation to the particular offense and it is not yet an offense when you ask the counsel.

Michael Kaminsky:

You asked the advice of counsel whether to do or not to do.

Abe Fortas:

Well, specifically what I’m asking is whether the Commissioner has extended the application of this so-called rule beyond counsel engaged for the litigation?

Michael Kaminsky:

Yes.

The — he has — he has disallowed the cost of counsel in actions before the internal revenue designed to prevent a referral of the case to the Department of Justice for criminal prosecution.

Abe Fortas:

Well that’s litigation connected.

Michael Kaminsky:

Well, not yet the litigation in his examination.

Well, the special agent checks on the case, Your Honor.

The special agent has within his power either to recommend the prosecution or not to recommend.

At that particular point, if you hire counsel and the case goes on to the Department of Justice and there is a conviction, the cost of that counsel is not allowable, Your Honor.

William O. Douglas:

My recollection, this may not be accurate, but there were some special rulings in the General Electric case.

Michael Kaminsky:

Yes, Your Honor.

William O. Douglas:

The settlement of those (Voice Overlap)

Michael Kaminsky:

Yes Your Honor, I presume that we —

William O. Douglas:

Are they cited — is that ruling cited in your brief?

I don’t find them in your brief.

Michael Kaminsky:

I have not cited it directly because they relate to the question of whether those payments are penalties.

There’s no question of materiality —

William O. Douglas:

I know but I thought they were damage suit, weren’t they?

Michael Kaminsky:

Yes, but the Commissioner has ruled that they are damages and not fines.

William O. Douglas:

Oh, I see.

Michael Kaminsky:

Yes.

I have referred to them.

I have referred to the staff report of the committee, joint committee.

I have referred to that because I think —

William O. Douglas:

Is that in you brief?

Michael Kaminsky:

Yes I have referred to it, if Your Honor will bear with me for a moment.

William O. Douglas:

Well, if it’s in your brief I can find it.

Michael Kaminsky:

Yes, it’s on page 18.

I believe it’s a footnote on page 18 on my brief.

I have referred to it for valid reasons.

William O. Douglas:

I see, yes.

Michael Kaminsky:

Footnote 7.

I referred to it under the proposition —