Applying Tennessee law, a federal district court has held that a tax shelter exclusion precludes coverage for two underlying complaints alleging that the insured implemented investment strategies constituting illegal tax avoidance schemes. Financial Strategy Group, PLC v. Continental Casualty Co., No. 2:14-cv-2154 (W.D. Tenn. Sept. 23, 2014). Wiley Rein represented the insurer in this case.
In finding that the tax shelter exclusion applied, the court rejected the insured’s contention that the exclusion was ambiguous. The insured argued that the exclusion was missing words and had a vague heading. The court held that the exclusion was not ambiguous when read as a whole and in the context of the entire policy. The court also reasoned that the exclusion’s heading could not be used to alter the detailed text of the exclusion itself.
The court also disagreed with the insured’s argument that the exclusion only would be triggered if the Internal Revenue Service (IRS) actually determined that the transaction at issue constituted a tax shelter. The court held that the exclusion encompassed transactions “substantially similar” to transactions the IRS had determined constitute tax avoidance schemes. In addition, the court observed that the underlying complaints alleged that the IRS had determined that the strategies implemented by the insured were illegal tax shelters.
Finally, the court held that all of the allegations in the complaints “arose out of” tax shelters subject to the exclusion. Although the insured argued that preparation of tax returns fell outside the scope of the exclusion, the court found that the act of tax preparation was a “step in the overarching tax shelter scheme.” The claimants also complained that the insured charged excessive fees, but the court noted that the fees at issue were those charged by the insured in connection with the illegal tax shelters and did not constitute a “substantial factor when considering the alleged injuries as a whole.”