## Facts

- Harold Nix, Charles Patterson, and Nelson Roach were partners in a Texas plaintiffs’ law firm and had no specialized tax knowledge.
- In 2001, the partners wanted to invest in foreign currency because they believed it could offer high returns and behave differently from the stock market.
- Their longtime CPA, Sid Cohen, introduced them to Diversified Group, Inc. (DGI), which offered a strategy using paired long and short foreign-currency digital options and described a “sweet spot” at which the investors could profit.
- The partners understood that the currency price was unlikely to land in the sweet spot, but they were told the transactions could generate large tax losses.
- Attorney R. J. Ruble explained that profit was unlikely but opined that losses from the options strategy could yield favorable tax results.
- The partners formed NPR Investments, LLC (NPR) and contributed the options to NPR in exchange for partnership interests.
- About a month later, the partners withdrew from NPR and received cash and foreign currency in exchange for their interests; they contributed the foreign currency to their law firm.
- The law firm sold the foreign currency during 2001 through 2003.
- Before filing federal tax returns, the partners received a written tax opinion from Ruble’s firm (which Cohen endorsed) stating that the currency sales generated losses that could reduce taxable income.
- Unknown to the partners, DGI paid Cohen a $325,000 referral fee connected to the transaction.
- The IRS issued an FPAA for NPR’s 2001 partnership return and determined, among other things, that NPR was subject to accuracy-related penalties under I.R.C. § 6662(b) for negligence and substantial understatement (valuation-misstatement penalties were addressed separately and removed earlier in the case).
- NPR brought a TEFRA partnership action under 26 U.S.C. § 6226 challenging the IRS’s determinations; after partial summary-judgment rulings, the court held a bench trial focused on the remaining penalties and defenses.

## Issues

1. Whether the IRS’s second FPAA was valid in this TEFRA proceeding such that the partnership-level adjustments disallowing the claimed losses could be sustained.
2. Whether accuracy-related penalties for negligence and substantial understatement under I.R.C. § 6662(b) applied, or whether NPR established defenses such as substantial authority/reasonable basis and the reasonable-cause-and-good-faith exception under I.R.C. § 6664(c)(1).

## Decision

- The court upheld the second FPAA and sustained the IRS’s partnership-level adjustments, leaving the partners liable for the tax resulting from disallowance of the claimed losses.
- The court held the partners were not liable for the § 6662(b) negligence or substantial-understatement penalties because they established reasonable cause and good faith under § 6664(c)(1), including reliance on professional advice.
- Consistent with prior rulings in the case, valuation-misstatement penalties were not imposed.

## Legal Principles

- In a TEFRA partnership proceeding under 26 U.S.C. § 6226, the court determines partnership items adjusted in an FPAA and can address penalty determinations tied to those partnership-level adjustments.
- A later FPAA can be sustained where TEFRA’s notice and timing rules allow it; if valid, the FPAA may support partnership-level adjustments that affect partners’ tax liability.
- The accuracy-related penalty under I.R.C. § 6662(b) may apply for negligence or substantial understatement unless the taxpayer shows an applicable exception.
- Under I.R.C. § 6664(c)(1), no § 6662 penalty is imposed if the taxpayer shows reasonable cause and acted in good faith, evaluated in light of all facts and circumstances.
- Reliance on professional advice can support reasonable cause and good faith when the taxpayer seeks advice in good faith, provides necessary information, and reasonably believes the adviser is qualified and independent; a hidden adviser conflict may not defeat reliance if the taxpayer did not know of it.
- Disallowance of the claimed tax result does not, by itself, establish negligence or substantial understatement penalties; penalty liability depends on the taxpayer’s conduct, including efforts to determine the correct tax treatment and the reasonableness of reliance on advisers.

## Conclusion

NPR Investments upheld the IRS’s second FPAA and disallowed the partnership’s claimed losses from the paired-options Son-of-BOSS-style transaction, resulting in additional tax, but the court declined to impose negligence and substantial-understatement penalties because the partners showed reasonable cause and good faith by relying on professional advice, including a written tax opinion and their CPA’s endorsement, without knowledge of the CPA’s undisclosed referral fee.


NPR Investments, LLC v. United States, 732 F. Supp. 2d 676 (2010)