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Kovarik v. Iowa Department of Revenue

Court of Appeals of Iowa

December 5, 2018

EDWARD J. KOVARIK, Plaintiff-Appellant,

          Appeal from the Iowa District Court for Howard County, Margaret L. Lingreen, Judge.

         A taxpayer challenges orders by the Iowa Department of Revenue denying him relief under the Iowa Tax Amnesty Act of 2007 and disallowing business losses claimed in four tax years.

          Kevin E. Schoeberl of Story Schoeberl & Seebach, LLP, Cresco, for appellant.

          Thomas J. Miller, Attorney General, and Hristo Chaprazov, Assistant Attorney General, for appellee.

          Heard by Tabor, P.J., and Mullins and Bower, JJ.


         Seeking tax amnesty was a costly move for Edward Kovarik. He petitioned under the Iowa Tax Amnesty Act of 2007 and attached his state returns for 2003 through 2006. The Iowa Department of Revenue (the department) not only denied amnesty but disallowed deductions claimed for business expenses on the attached returns. Kovarik unsuccessfully pursued an administrative remedy and judicial review. He continues to challenge the revenue department decisions in this appeal.

         Like the district court, we conclude the department correctly denied amnesty, finding Kovarik failed to file his 2002 return and owed outstanding obligations from the four following years. We also agree Kovarik must repay amounts he improperly deducted as "hobby losses" in those tax years.

         I. Facts and Prior Proceedings

         Kovarik grew up on an eighty-acre farm near Elma, Iowa. In his youth, Kovarik helped out on the acreage and joined clubs such as 4-H and Future Farmers of America. But after high school he left rural Iowa. He attended college in Washington, D.C. and served in the United States Navy from 1956 to 1960.

         He spent his career in the railway industry. Because his work involved transfers around the country, Kovarik ended up owning two condominiums-one in Forest Park, Georgia, and one in Roanoke, Virginia. Kovarik retired in 1990 and returned to Iowa. In his retirement, Kovarik continued to do consulting as a freight car inspector. At first, he lived with his sister and her husband in Marion. When his brother who stayed on the farm died in 2003, Kovarik stepped in to manage the family's land. Kovarik moved back to Howard County in 2006.

         One year later, our legislature enacted the Iowa Tax Amnesty Act of 2007. 2007 Iowa Acts ch. 177. The program opened a narrow window for taxpayers to meet delinquent liabilities with fifty-percent less interest and no penalties.[1] The program was available to taxpayers who had "tax liabilities delinquent as of December 31, 2006, including tax due on returns not filed, tax liabilities owed to the department as of December 31, 2006, or tax liabilities not reported nor established but delinquent as of December 31, 2006." Id. § 3. Taxpayers could apply for amnesty from September 4 through October 31, 2007. Id.

         Kovarik applied on the last day. In his October 31 application, he checked a box stating: "Return has not been filed." Kovarik attached his unfiled return for tax year 2006 and the amount due of $299.15 (including $293 in taxes and $6.15 representing "one-half interest"). He also attached copies of his filed tax returns for 2003, 2004, and 2005-stating he owed no additional tax for those years.

         On November 9, the revenue department notified Kovarik his amnesty request was under review. For its review, the department needed information about his failure to file a 2002 Iowa tax return.[2] The department also sought documentation to verify the expenses Kovarik claimed on his filed tax returns. The department set a fifteen-day deadline for Kovarik to respond.

         As the department awaited Kovarik's response to its inquiry about the unfiled 2002 return, it began scrutinizing his 2003 through 2006 filed returns. There, the department "discovered a pattern of substantial losses and little or no income being reported on them," according to investigator Schutt. Kovarik had reported losses for his railway consulting business, condominium rentals, and the farming operation.

         After some back and forth with Kovarik, the department denied his request for tax amnesty in late November 2007. The department reasoned Kovarik did not qualify for amnesty because he did not file a 2002 Iowa individual income tax return. The department also disallowed Kovarik's claimed business losses for 2003 through 2006. As a result, the department assessed Kovarik additional income tax, penalty, and interest for those four years totaling $13, 182.98.

         Kovarik filed an unsuccessful protest. An administrative law judge (ALJ) affirmed the denial of amnesty and found the additional assessment to be "essentially correct." The ALJ noted the "unpaid tax liability" from 2003 through 2007 provided the department "an additional basis for denial of Kovarik's application for amnesty." The ALJ's proposed order directed the department to revise the assessment to allow Kovarik to deduct expenses related to his rental of the tillable farmland. The department's director affirmed the ALJ's proposed order. Kovarik sought judicial review. The district court affirmed the director's final order. Kovarik now appeals the judicial review.

         II. Scope and Standards of Review

         The Iowa Administrative Procedure Act governs our review. Iowa Code § 17A.19(10) (2017); Nance v. Iowa Dep't of Revenue, 908 N.W.2d 261, 267 (Iowa 2018) (citing Lange v. Iowa Dep't of Revenue, 710 N.W.2d 242, 246 (Iowa 2006)). In reviewing the judicial review order, we act in the same appellate capacity as the district court. Nance, 908 N.W.2d at 267. If we reach the same conclusions as the district court did about the agency action under the administrative standards, we affirm. Id. Otherwise we reverse. Id.

         Several different standards are at play here. The first question is whether substantial evidence supported the department's action. See Iowa Code § 17A.19(10)(f). Evidence is substantial if its quantity and quality "would be deemed sufficient by a neutral, detached, and reasonable person, to establish the fact at issue when the consequences resulting from the establishment of that fact are understood to be serious and of great importance." Id. § 17A.19(10)(f)(1). When we assess the evidentiary support for the agency's fact findings, we consider proof detracting from those findings, as well as evidence in support of them. Nance, 908 N.W.2d at 267 (citing Lange, 710 N.W.2d at 247). We defer to credibility determinations by the "presiding officer" who had an opportunity to observe the demeanor of the witnesses. Id. (citing Lange, 710 N.W.2d at 247); see also Iowa Code § 17A.19(10)(f)(3).

         The second question is whether the department properly applied the law to the facts-an application vested in the department's discretion. See Nance, 908 N.W.2d at 267. So we only reverse the department's application of the law to the facts if we determine the application was "irrational, illogical, or wholly unjustifiable." See id. (citing Iowa Ag Constr. Co. v. Iowa State Bd. of Tax Review, 723 N.W.2d 167, 174 (Iowa 2006)); see also Iowa Code § 17A.19(10)(m).

         The third question involves a constitutional challenge. We review de novo the taxpayer's claim the department violated his right to due process by not allowing him enough time to show he was eligible for tax amnesty. See ABC Disposal Sys., Inc. v. Dep't of Nat. Res., 681 N.W.2d 596, 605 (Iowa 2004).

         III. Discussion

         A. Amnesty

         Kovarik first contests the denial of his application for tax amnesty. Before addressing his points of contention, we pause to consider the purpose ...

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