Larry D. ARMSTRONG and Coleen Armstrong, Plaintiffs, v. UNITED STATES of America, Defendant., United States District Court, D. North Dakota, Northwestern Division., 277 F.Supp.2d 1040, No. A4-02-042., April 25, 2003

Larry D. ARMSTRONG and Coleen Armstrong, Plaintiffs, v. UNITED STATES of America, Defendant.

United States District Court, D. North Dakota, Northwestern Division.

277 F.Supp.2d 1040

No. A4-02-042.

April 25, 2003.

Order Denying Reconsideration

May 23, 2003.

Jon Jay Jensen, Pearson, Christensen, Clapp, Fiedler, Fisher & Jensen, Grand Forks, ND, for Plaintiffs.

Hilarie Snyder, U.S. Dept. of Justice, Tax Div., Washington, DC, for Defendant.

MEMORANDUM AND ORDER

HOVLAND, Chief Judge.

Before the Court are cross-motions for summary judgment filed by the Plaintiffs and the Defendant. The Plaintiffs, Larry and Coleen Armstrong, initiated the above-entitled action to recover taxes they paid as a result of an allegedly erroneous as╜sessment by the Internal Revenue Service ("IRS"). For the reasons set forth below, the Plaintiffs' Motion for Summary Judg╜ment is DENIED and the Defendant's Mo╜tion for Summary Judgment is GRANT╜ED .

I. BACKGROUND

This case is about two . retirement ac╜counts pledged as collateral for a personal loan. The dispute centers around the col╜lateral for a 1989 loan between the Plain╜tiff, Larry Armstrong, and Midwest Fed╜eral Savings Bank in Minot, North Dakota. According to Larry Armstrong, he met with Thomas Gietzen, an Assistant Vice President with Midwest Federal Saving Bank of Minot, North Dakota ("Midwest Federal") to arrange for a short-term $134,000 loan. Gietzen asked for, and Armstrong agreed to provide, life insur╜ance as collateral for the loan. Armstrong directed Gietzen to go to his office to pick up his life insurance policies. However, Armstrong's secretary gave Gietzen two retirement plan annuity contracts ("retire╜ment policies") owned by National Market╜ing Company, Inc. ("National Marketing") and issued by UNUM Life Insurance Company of America ("UNUM") in lieu of Armstrong's life insurance policies.

Using information obtained from the re╜tirement policies, Gietzen proceeded to prepare a Promissory Note, Assignment Forms, and Collateral Receipt Forms as╜signing National Marketing's retirement policies to Midwest Federal. Armstrong, National Marketing's president and sole stockholder, had signed the Collateral Re╜ceipt Forms and Promissory Note in blank before Gietzen filled in the collateral infor╜mation. Judy Ballantyne, National Mar╜keting's Secretary-Treasurer, and Susan Armstrong, Larry Armstrong's daughter, also signed the Assignment Forms.

Thereafter, Armstrong learned that the forms completed by Gietzen assigned Na╜tional Marketing's retirement policies to Midwest Federal as collateral for his per╜sonal loan of $134,000. Armstrong con╜tacted Gietzen and stated that he could not pledge National Marketing's retirement policies as collateral and offered to return the loan proceeds. Gietzen reportedly ac╜knowledged the error and assured Arm╜strong that Midwest Federal would consid╜er the loan unsecured. Meanwhile, UNUM, the underwriter of National Mar╜keting's retirement policies, recorded the assignment of the retirement policies to Midwest Federal on November 9, 1989. On November 15, 1989, Armstrong re╜ceived the $134,000 from Midwest Federal and spent the money for various personal expenses.

In the fall of 1990, the Resolution Trust Corporation (RTC) took over Midwest Federal. Armstrong's loan came due on November 15, 1990. Armstrong defaulted on the loan which prompted the Resolution Trust Corporation, Midwest Federal's suc╜cessor in interest, ¹ to send Armstrong a demand letter in March of 1991. In June 1991, after efforts to collect from Arm╜strong had failed, the RTC proceeded to withdraw $159,375.53 from the UNUM re╜tirement policies to repay Armstrong's loan. UNUM issued notice of the with╜drawal of money from these retirement policies in early 1992. However, the Arm╜strongs did not include this money as in╜come on their tax returns.

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^1. The RTC was appointed as receiver for Midwest Federal in September 1990.

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The Armstrongs were subsequently as╜sessed taxes, penalties, and interest by the IRS as a result of an increase in taxable income from the retirement policies. On August 21, 1996, the IRS issued a Notice of Deficiency to the Armstrongs asserting deficiencies in the amount of $63,534 for tax year 1989 and $5,025 for tax year 1991. The deficiencies were assessed on March 26, 1996.

The Armstrongs paid the deficiencies for the 1991 tax year in full in June of 1998. They paid the IRS $156,142.02-the bal╜ance of the tax, penalty and interest due and owing for the tax year 1989--on No╜vember 1, 1999. On October 1, 2001, they filed an amended tax return for calendar year 1989, seeking. a refund in the amount of $149,871 plus statutory interest. The Armstrongs also filed an amended tax re╜turn for calendar year 1991, seeking a refund in the amount of $9,505 plus statu╜tory interest. They initiated the above-captioned action seeking a refund on April 3, 2002.

According to the Armstrongs, the IRS's assessments for tax years 1989 and 1991 were erroneous and illegal because no tax╜able event had occurred. Specifically, they asserted that the assignment of the retire╜ment policies was improper because of a mutual mistake and/or lack of corporate authorization and therefore should not have been taxed as income by the IRS. Essentially, the Armstrongs contend that they never intended to pledge the policies. The Government has taken the position that the IRS neither wronged the Arm╜strongs nor misapplied the Internal Reve╜nue Code. The Government also argues that the Armstrongs' complaint is mis╜placed because the IRS was not a party to the loan agreement between the Arm╜strongs and Midwest Federal. The Arm╜strongs never sued RTC, Midwest Feder╜al, or UNUM for the alleged improper withdrawal. They never replaced the money in the UNUM retirement policies. Instead, the Armstrongs sued the Govern╜ment for a tax refund for 1989 and 1991.

The Court, in orders dated January 3, 2003, and January 14, 2003, granted the Government's Motion for Partial Summary Judgment as to damages and dismissed the Armstrongs' claim seeking a tax re╜fund for the 1991 tax year on the grounds that the claim was barred by the applica╜ble statute of limitations. Therefore, the only issue presently before the Court is whether the Armstrongs are entitled to a refund for the 1989 tax year.

II. STANDARD OF REVIEW

The Court will grant a motion for sum╜mary judgment if there is no genuine issue as to any material fact and the moving party is entitled to judgment as a matter of law. Fed.R.Civ.P. 56(c); see also Celo╜tex Corp. v. Catrett , 477 U.S. 317, 322-24, 106 S.Ct. 2548, 91 L.Ed.2d 265 (1986) (ex╜plaining that the Court must resolve all ambiguities and draw all reasonable infer╜ences in the non-movant's favor). If the moving party can show that there is no issue as to any material fact, then the non╜moving party must "set forth specific facts showing that there is a genuine issue for trial." Fed.R.Civ.P. 56(e); see also Celo╜tex Corp. , 477 U.S. at 324, 106 S.Ct. 2548. A mere trace of evidence supporting the non-moving party's position is insuffi╜cient-the facts must generate evidence from which a jury could reasonably find for the non-moving party. Anderson v. Liberty Lobby, Inc. , 477 U.S. 242, 252, 106 S.Ct. 2505, 91 L.Ed.2d 202 (1986).

III. LEGAL DISCUSSION

Money deposited in retirement plans such as National Marketing's retirement policies is generally not taxed until with╜drawn, assigned, or pledged. See 26 U.S.C. ╖╖ 72(d), 72(p)(B), 401(a), 402(a), 402(b), and 501(a). Because of the favor╜able tax treatment given such retirement policies, money can be withdrawn, as╜signed, or pledged without penalty only when the recipient reaches a certain age. If money is withdrawn, assigned, or pledged earlier, the recipient is required to pay taxes on that money as well as an early withdrawal penalty of 10%. See 26 U.S.C. ╖ 72(q).

Section 72(p)(1) of the Internal Revenue Code treats loans, assignments, and/or pledges as taxable distributions from quali╜fied retirement- plans. It provides that:

(A) Loans. If during any taxable year a participant or beneficiary receives (di╜rectly or indirectly) any amount as a loan from a qualified employer plan, such amount shall be treated as having been received by such individual as a distribution under such plan.

(B) Assignments or pledges.-If during any taxable year a participant or benefi╜ciary assigns (or agrees to assign) or pledges (or agrees to pledge) any por╜tion of his interest in a qualified employ╜er plan, such portion shall be treated as having been received by such individual as a loan from such plan.

26 U.S.C. ╖ 72(p)(1).

The Armstrongs do not dispute the ap╜plication of Section 72(p)(1) of the Internal Revenue Code. Rather, they assert that money withdrawn from National Market╜ing's retirement policies should not have been taxed as a disbursement by the IRS because the underlying assignment of the retirement policies to Midwest Federal was invalid. Larry Armstrong maintains that the assignments were forwarded to UNUM without his knowledge or consent; that he did not complete the requisite cor╜porate authorization resolution necessary to effectuate such an assignment; and that neither he nor Midwest Federal ever in╜tended to use the retirement policies as security for his loan of $134,000. He also maintains that the assignment was void because it had not been approved by Na╜tional Marketing's Board of Directors.

A. MISTAKE OF FACT

Larry Armstrong asserts that there was a mutual mistake of fact and that neither he nor Midwest Federal intended to assign National Marketing's retirement policies as collateral for the loan. As a result, Armstrong maintains that the assignment was "void or unenforceable" for lack of mutual consent. The Government coun╜ters that any lack of mutual consent is inconsequential in this case because Arm╜strong is not seeking to reverse, rescind, or revise his loan agreement with Midwest Federal. In the alternative, the Govern╜ment asserts that even if the assignment was deemed void, the retirement proceeds received by the Armstrongs are still tax╜able because they accepted the benefit of the assignment-the repayment of their loan. In other words, Armstrong bor╜rowed money from Midwest Federal; signed documents collateralizing the loan with the UNUM retirement, policies; de╜faulted on the loan; the RTC withdrew previously untaxed retirement money to repay Armstrong's overdue personal loan; and Armstrong benefitted by receiving the money and being taxed by the IRS in accordance with the realities of the trans╜action.

The assignment at issue is gov╜erned by the law of contracts: See North Dakota Mineral Interests, Inc. v. Berger , 509 N.W.2d 251, 256 (N.D.1993). The con╜struction of a written contract is an issue of law. Lenthe Investments, Inc., v. Ser╜vice Oil Inc. , 636 N.W.2d 189 (N.D.2001). Under North Dakota law, the consent of the parties is essential to the existence of a valid contract. See N.D. Cent.Code ╖ 9-01-02. Their consent must be free, mutu╜al, and communicated by each to the other. See N.D. Cent.Code ╖ 9-03-01. Consent is not real or free when obtained through, among other things, mistake. See N.D. Cent.Code ╖ 9-03-03. It is not considered mutual unless the parties all agree upon the same thing in the same sense. See N.D. Cent.Code ╖ 9-03-16.

For the purposes of the Arm╜strongs' motion, the Court accepts that Larry Armstrong and Gietzen were under the mistaken belief that National Market╜ing's retirement policies would not be used as collateral. However, the existence of such a mistake is not dispositive. A mutu╜al mistake alone does not, as the Arm╜strongs suggest, render a contract void or without legal force and binding effect un╜der state law. Rather, it renders the con╜tract voidable . See N.D. Cent.Code ╖ 3-01-10 (ratification may be rescinded when made without such consent as is required in a contract or with an imperfect knowl╜edge of the material facts of the transac╜tion ratified, but not otherwise); N.D. Cent.Code ╖ 32-04-17 (when a written contract does not truly express the parties intentions on account of a mutual mistake, it may be revised on the application of a party aggrieved).

Avoidance of such a contract would generally require that one of the parties take action.. See N.D. Cent.Code ╖╖ 3-01-10 and 32-04-17. However, the Arm╜strongs are not seeking a contractual rem╜edy, but instead, a tax refund. The IRS was not a party to the Armstrongs' loan agreement with Midwest Federal. More important, the IRS has not wronged Arm╜strong or misapplied the Internal Revenue Code. There is nothing in the record to indicate that the Armstrongs took any di╜rect action to reform or rescind the loan agreement that precipitated their dispute with the IRS. The record establishes that UNUM contacted Armstrong in November of 1989 to confirm the assignment to Mid╜west Federal. Despite his protestations that the assignment was made in error, Armstrong waited until April 2002-approx╜imately 13 years-to launch this collateral attack on the validity of the assignment, Regardless of whether the assignment was voidable, the fact remains that it was never voided and any efforts to void the assign╜ment were never followed through to com╜pletion.

B. LACK OF BOARD AUTHORIZATION

The Armstrongs also contend that the assignment was void and unenforceable as a matter of law because National Market╜ing's Board of Directors did not approve the assignment of its retirement policies to Midwest Federal as required by National Marketing's bylaws and by Section 10-19.1-89(1) of the North Dakota Century Code. In response, the Government argues that Section 10-19.1-89(1) does not pre╜scribe the remedy sought by the Arm╜strongs; that proceeds of National Mar╜keting's retirement policies were in fact used to repay Larry Armstrong's loan; and that a majority of National Market╜ing's Board did approve the assignment as evidenced by the operative documents signed by Larry Armstrong and Judy Bal╜lantyne.

Section 10-19.1-89(1) of the North Dakota Century Code permits corpora╜tions to guarantee or pledge its assets if it obtains the approval of its Board of Di╜rectors. However, as the Government cor╜rectly points out, it does not prescribe the remedy or explicitly state that an assign╜ment lacking board approval is void per se.

A settled principal of tax law is that transactions are to be given effect based on what has actually happened. Comm'r of Internal Revenue v. Nat'l Al╜falfa Dehydrating and Milling Co. , 417 U.S. 134, 138, 94 S.Ct. 2129, 40 L.Ed.2d 717 (1974). There is no dispute that the assignment forms signed by Judy Ballan╜tyne assigned National Marketing's retire╜ment policies to Midwest Federal. There is no dispute that the loan agreement signed by Larry Armstrong referred to the assignment forms. Judy Ballantyne and Larry Armstrong constituted two-thirds of National Marketing's Board of Directors. ² The fact remains that the Armstrongs never pursued an action to rescind or revise the agreement after learning of the assignment. Whether or not the Board of Directors approved the assignment, it is clear and undisputed that monies from the contract were ultimately used to satisfy the Armstrongs overdue debt to Midwest Federal. The Arm╜strongs have unquestionably reaped a ben╜efit as a result of the assignment and they cannot avoid the tax consequences of the assignment.

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^2. National Marketing's Board of Directors consisted of three officers-President Larry Armstrong, Vice President Coleen Armstrong, and Secretary-Treasurer Judy Ballantyne.

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IV. CONCLUSION

This is a tax refund suit. It is not an action in contract. Although the Arm╜strongs claim that the assignment at issue was invalid, the Armstrong have not chal╜lenged the validity of the assignment which was executed approximately 13 years ago, and they have taken no steps to revise or rescind the underlying loan agreement with Midwest Fedcral. The Armstrongs cannot escape the tax conse╜quences wrought by the assignment after having enjoyed its benefits. The IRS taxed the Armstrongs based on the reali╜ties of the transactions that were carried out. Accordingly, the Court GRANTS the Government's Motion for Summary Judg╜ment (Docket No. 30) and DENIES the Armstrongs' Motion, for Summary Judg╜ment (Docket No. 31).

IT IS SO ORDERED.

ORDER DENYING MOTION FOR RECONSIDERATION AND REQUEST FOR COSTS

Before the Court is the Plaintiffs' Mo╜tion to Reconsider. Judgment in favor the Government was entered pursuant to the Court's Memorandum and Order dated April 25, 2003. The Plaintiffs request that the Judgment be amended pursuant to Rule 59(e) of the Federal Rules of Civil Procedure to award summary judgment in their favor. In the alternative, the Plain╜tiffs request relief from the Judgment pur╜suant to Rule 60(b) of the Federal Rules of Civil Procedure. The Government resists the Plaintiffs' motion and seeks the recov╜ery of costs in the amount of $2,213.55.

Having carefully reviewed the record, the Court finds no basis for reversing its previous Order. Accordingly, the Court DENIES the Plaintiffs' Motion for Recon╜sideration (Docket No. 48). Further, the Court, in its discretion, DENIES the Gov╜ernment's request for costs (Docket No. 50).

IT IS SO ORDERED.

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