Antitrust Law Daily Wrap Up, FRANCHISING & DISTRIBUTION—6th Cir.: Injunction preventing tax return preparation business franchisor from tax business largely affirmed, (Nov 24, 2014)

By Peter Reap, J.D., LL.M.

A permanent injunction issued by the federal district court in Dayton, Ohio, enjoining tax return preparation business franchisor ITS Financial, LLC, its principal, Fesum Ogbazion, TCA Financial, LLC, and Tax Tree, LLC from further involvement in the tax return preparation business was largely affirmed because Section 7402(a) of the Internal Revenue Code authorized the district court to enjoin the defendants, the U.S. Court of Appeals in Cincinnati has decided (U.S. v. ITS Financial, LLC, November 21, 2014, Michelson, L.). However, the district court’s finding that Tax Tree violated § 6695(f) was reversed, and the case remanded for the district court to determine whether there is any other basis on which to apply the injunction to Tax Tree.

Background. In its complaint, the Government alleged that the defendants violated § 6701 of the Internal Revenue Code, which generally prohibits causing the understatement of tax liability, for which the Government sought injunctive relief under I.R.C. § 7408. Second, the Government alleged that the defendants engaged in conduct substantially interfering with the administration and enforcement of the internal revenue laws, making injunctive relief also appropriate under I.R.C. § 7402(a).

In October 2012, as tax season approached, the defendants and the Government negotiated a stipulated preliminary injunction. In November 2013, after a nine-day bench trial, and on the strength of 594 findings of fact and 152 conclusions of law, the district judge issued a permanent injunction enjoining the defendants from, among other things, “[o]perating, or being involved with in any way, any work or business relating in any way to preparation of tax returns.”

In its decision, the court found that ITS and Ogbazion had engaged in a range of fraudulent conduct, including: filing tax returns for customers without their permission and encouraging franchisees to do the same; training and encouraging franchisees to prepare and file tax returns prematurely with paycheck stubs that omitted and understated income, resulting in the submission of false federal tax returns; defrauding customers by marketing false and fraudulent loan products to lure them into the tax-preparation offices; defrauding customers by requiring franchisees to charge phony and exorbitant fees; forging customers’ signatures on loan checks and using those forged checks to operate Ogbazion’s businesses; willfully failing to pay over $1 million of their own employment taxes and lying about assets in connection with the collection of those taxes, while hiding money in a secret bank account and defrauding the United States and third party creditors; lying on government forms and encouraging franchisees to do the same; obstructing government agents and materially assisting franchisees in circumventing Internal Revenue Service law enforcement efforts involving the suspension of electronic filing identification numbers; and telling franchisees to lie to government agents in connection with IRS compliance visits.

Scope of the injunction. The defendants argued that the injunction was not authorized by I.R.C. §§ 7402 or 7408 because it shuts down the defendant companies entirely, instead of enjoining specific conduct that violates the tax code or interferes with the enforcement of the internal revenue laws. According to the defendants, a “business death penalty” injunction is authorized only by 26 U.S.C. § 7407, but that statute “is not applicable to ITS, and was appropriately not raised or discussed in this case.”

The defendants’ argument was not persuasive, the appellate court held. The plain text of § 7402(a) provides a broad grant of authority to enter injunctions “as may be necessary or appropriate for the enforcement of the internal revenue laws . . . in addition to and not exclusive of any and all other remedies . . . .” 26 U.S.C. § 7402(a). Numerous courts have commented on the statute’s expansive scope, the court noted.

I.R.C. § 7402(a) is not limited to enjoining specific conduct proven to violate tax laws, as the defendants contended. Courts have invoked § 7402(a) to enter an injunction even where there was no violation of the internal revenue laws. The defendants acknowledged that the “language is indeed broad,” but argue “it is completely unprecedented and improper for a court to use § 7402 as the basis to issue a blanket injunction shutting down an entire business.”

The injunction in this case could be extreme, but it is not unfounded, the court determined. Moreover, the injunction is not as unprecedented as the defendants claimed. The district court cited numerous cases in which courts enjoined tax preparers from continuing to do business, and the parties cited a few more in their appellate briefs. Some went further than enjoining the defendants from preparing tax returns to enjoin them from operating a tax return preparation business more generally.

The defendants argument hinged on the fact that the district court did not rely on § 7407, which they say is “[t]he only section of the tax code that provides for the Court to shut down a tax preparation business.” § 7407 is directed at tax return preparers, and the defendants’ business model and violative conduct extended beyond direct preparation of taxes, to operating a nationwide network of franchises. There was no reason that a franchisor should be allowed to continue where its franchisee could not, the court reasoned. To the contrary, the violations here were even more serious and harmful than those that can be perpetrated by a lone tax preparer. Congress provided a broad grant of authority in § 7402(a) for just this type of situation, according to the court.

Vagueness and overbreadth. The defendants also argued that the injunction is impermissibly vague under Federal Rule of Civil Procedure 65(d). The defendants primarily relied on an unpublished decision in which a panel of the Sixth Circuit vacated a “one sentence injunction” enjoining a defendant “from continuing to violate the Plaintiff’s rights.” The injunction language at issue here is not nearly so vague and specifically identifies the acts restrained, the court explained.

The defendants also argued that the injunction is broader than necessary. However, it was clear from the district court’s findings that the defendants’ modus operandi was to train and encourage its franchisees to flout the tax laws, using the franchisees to distance themselves from the illegality. Enjoining the defendants from engaging in tax preparation themselves would thus not be sufficient. The injunction is neither vague nor overbroad, according to the appellate court.

Consideration of irrelevant factors. the defendants’ argued that the district court “gave weight to various matters that were irrelevant to the statutory determination before it. To the contrary, the district court did not abuse its discretion by considering all of the defendants’ wrongful behavior, including “fraudulent and misleading commercial practices” and violations of other statutes, to determine whether the defendants were likely to violate the federal tax laws again if the requested injunction was not entered, the court decided.

Application of § 6695 against Tax Tree. The defendants made several arguments that the district court erred in finding that Tax Tree violated I.R.C. § 6695(f), “which, in turn, was held to be a violation of § 7402 and a basis for the permanent injunction.” The appellate court agreed with the defendants that the statute does not apply to Tax Tree because Tax Tree is not a tax return preparer. The court therefore did not address the defendants’ other arguments about § 6695(f).

The district court’s finding that Tax Tree violated § 6695(f) was reversed, and the case remanded for the district court to determine whether there is any other basis on which to apply the injunction to Tax Tree.

The case is No. 13-4341.

Attorneys: Randolph Lyons Hutter, U.S. Department of Justice, for United States of America. Todd E. Bryant (Law Office of Todd E. Bryant), and Susan D. Solle (Dinsmore & Shohl) for ITS Financial, LLC, TCA Financial, LLC, Fesum Ogbazion, and Tax Tree, LLC.

Companies: United States of America; ITS Financial, LLC; TCA Financial, LLC; Tax Tree, LLC

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