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United States Court of Appeals,
Fifth Circuit.
Nos. 904629 to 904632, 904847 to 904853, 904881 and 914497.
Charles T. GREEN and Kay E. Green, PetitionersAppellants,
v.
COMMISSIONER OF INTERNAL REVENUE, RespondentAppellee.
Robert WHITE and Jean R. White, PetitionersAppellants,
v.
COMMISSIONER OF INTERNAL REVENUE, RespondentAppellee.
Robert WHITE and Jean R. White, PetitionersAppellants,
v.
COMMISSIONER OF INTERNAL REVENUE, RespondentAppellee.
Gene C. ELKINS and Louise Elkins, PetitionersAppellants,
v.
COMMISSIONER OF INTERNAL REVENUE, RespondentAppellee.
R. Talley and Carolyn MELTON, PetitionersAppellants,
v.
COMMISSIONER OF INTERNAL REVENUE, RespondentAppellee.
Norman C. WAY and Mary K. Way, PetitionersAppellants,
v.
COMMISSIONER OF INTERNAL REVENUE, RespondentAppellee.
Bobby L. and Ramona A. DAVIS, PetitionersAppellants,
v.
COMMISSIONER OF INTERNAL REVENUE, RespondentAppellee.
James R. and Elizabeth J. GRAVES, PetitionersAppellants,
v.
COMMISSIONER OF INTERNAL REVENUE, RespondentAppellee.

Don C. and Audrey N. QUAST, PetitionersAppellants,
v.
COMMISSIONER OF INTERNAL REVENUE, RespondentAppellee.
Elizabeth C. MAYFIELD, PetitionerAppellant,
v.
COMMISSIONER OF INTERNAL REVENUE, RespondentAppellee.
Jack E. and Jeanne BLANCO, PetitionersAppellants,
v.
COMMISSIONER OF INTERNAL REVENUE, RespondentAppellee.
Mike and Sandra Ann KANE, PetitionersAppellants,
v.
COMMISSIONER OF INTERNAL REVENUE, RespondentAppellee.
Martin BRODY and Jerrilyn Brody, PetitionersAppellants,
v.
COMMISSIONER OF INTERNAL REVENUE, RespondentAppellee.
June 22, 1992.
Appeals from the United States Tax Court.
Before GOLDBERG, DUHÉ, and BARKSDALE, Circuit Judges.
GOLDBERG, Circuit Judge:
The statute of limitations in section 6501 of the Internal
Revenue Code declares that "the amount of any tax imposed by this
title shall be assessed within 3 years after the return was filed."
26 U.S.C. § 6501(a).1 A Subchapter S corporation makes a return
for a taxable year and, more than three years after the S
corporation files its return, the Commissioner of Internal Revenue
1Unless otherwise indicated, all citations to the Internal
Revenue Code refer to the Internal Revenue Code as amended and
effective during the years involved in this appeal.

seeks to assess a deficiency against a shareholder of that S
corporation for certain losses passed through from the S
corporation, within three years after the shareholder filed its
return. Must the Commissioner act within three years from the
filing of both the shareholder's individual income tax return and
the return of the Subchapter S corporation, or can the Commissioner
determine the shareholder's tax liability within three years from
the filing of the shareholder's return? We hold that the statute
of limitations must be open only as to the individual taxpayer for
the Commissioner to adjust the shareholder's tax liability based on
the disallowance of losses passed through to the shareholder from
the S corporation.
I. BACKGROUND
Martin and Jerrilyn Brody owned ten percent of the stock of a
qualified, duly electing Subchapter S corporation called Delta
Selectune, Inc. during the taxable years 1977, 1978 and 1979. The
Brodys also owned ten percent of the stock of another qualified,
duly electing Subchapter S corporation called St. Louis Selectune,
Inc. during the taxable years 1978 and 1979. The Delta and St.
Louis Selectune Subchapter S corporations engaged in the business
of selling cassette and eight-track audiotapes of music selected by
customers from compositions in the record library of Franklin
Industries, Inc. The Brodys limited their participation in the
corporations to these passive investments. The Brodys did not know
the names of the other shareholders or the names of the directors
of the two S corporations.

Delta reported losses on its return for its taxable year 1977,
while both of the Subchapter S corporations reported losses on
their returns for their taxable years 1978 and 1979. The Brodys,
as shareholders of the Subchapter S corporations, claimed
deductions for their pro rata share of these losses on their
individual income tax returns for the years 1977, 1978 and 1979.
Both Delta and St. Louis ceased operations and closed their offices
in 1981.
Complying with a request by the Internal Revenue Service, the
Brodys entered into written agreements with the Service extending
the statutes of limitations for assessing tax against them for the
years 1977, 1978 and 1979 indefinitely. Neither of the S
corporations agreed to extend the statute of limitations for any of
the taxable years involved in this case. The Commissioner of
Internal Revenue subsequently determined deficiencies in income tax
against the Brodys for the taxable years 1977, 1978 and 1979,
disallowing the deductions of the Brody's pro rata share of the
losses incurred by the Subchapter S corporations. In December of
1986, before the extended statute of limitations for the Brodys
expired, but after the statutes of limitations for the S
corporations expired, the Commissioner issued a notice of
deficiency to the Brodys for these years.
The Brodys petitioned the United States Tax Court for a
redetermination of the deficiencies determined by the Commissioner.
The tax court tried the case on stipulated facts, deciding an issue

of law: whether the expiration of the statute of limitations as to
a Subchapter S corporation barred the assessment of deficiencies
against individual taxpayers attributable to the disallowance of
losses claimed by the taxpayers as shareholders in the Subchapter
S corporations. Brody v. Commissioner, 61 T.C.M. (CCH) 1993, 1994
(1991). The tax court followed its decision in Fehlhaber v.
Commissioner, 94 T.C. 863 (1990) (reviewed by the tax court),
aff'd, 954 F.2d 653 (11th Cir.1992), and held that since the
statute of limitations did not bar the assessment, the Commissioner
timely issued the notice of deficiency. Brody, 61 T.C.M. at 1995.
In reaching this decision, the tax court rejected the reasoning of
the Ninth Circuit in Kelley v. Commissioner, 877 F.2d 756 (9th
Cir.1989). The taxpayers appeal, arguing that the statute of
limitations must be open as to both the individual taxpayer and the
Subchapter S corporation and urging this Court to embrace the
reasoning of the Ninth Circuit as articulated in Kelley.2 We
engage in a de novo review of the tax court's conclusion of law.
Texas Learning Technology Group v. Commissioner, 958 F.2d 122, 124
(5th Cir.1992) (citations omitted). We choose to follow the
persuasive reasoning of the Eleventh Circuit in Fehlhaber and the
Second Circuit in Bufferd and thus affirm the tax court.3
2Although this Court did reference the Kelley opinion in an
unpublished decision, Tom Brown, Inc. v. United States, 883 F.2d
71 (5th Cir.1989), we expressly stated that "we need not and do
not now pass on the precise issue presented in Kelley." Today we
confront the issue decided in the Kelley case for the first time.
3We do not reach the second issue presented by the
Appellants concerning certain of the taxpayers' motions to vacate
because we decide the statute of limitations issue in favor of
the Commissioner.

II. DISCUSSION
A truncated description of how Subchapter S corporations
operate under the Internal Revenue Code helps clarify the facts of
this case. Congress adopted Subchapter S in 1958. Subchapter S
generally exempts an "electing small business corporation" from all
corporate income taxes. William M. Richardson & Samuel P. Starr,
Task Force Report on Taxable and TaxFree Acquisitions Involving S
Corporations, 45 Tax Law. 435, 437 (1992). A Subchapter S
corporation, then, unlike a Subchapter C corporation, usually does
not pay taxes. Rather, Subchapter S of the Internal Revenue Code
treats the S corporation as a " "pass through' entity under which
income and losses flow directly to the shareholders." Fehlhaber,
954 F.2d at 654 & n. 2 (citation omitted). The S corporation files
an information return, which reports the corporation's gross
income, deductions, the names and addresses of its shareholders,
distributions to the shareholders, and the shareholders' pro rata
share of each item of the corporation for the taxable year. Id. at
654 & n. 3 (citing Treas.Reg. § 1.60371(a) (1959)). It is the
shareholders who include their distributive "share of the S
corporation's income, gain, losses, deductions, and credits on
their own personal returns." Id. at 654 & n. 4 (citation omitted).
In our interpretation of the Internal Revenue Code, we
"adhere to the plain language of the law unless "literal
application of [the] statute will produce a result demonstrably at
odds with the intentions of its drafters." Federal Deposit Ins.
Corp. v. Meyerland Co. (In re Meyerland Co.), 960 F.2d 512, 516

(5th Cir.1992) (en banc) (quoting Griffin v. Oceanic Contractors,
Inc., 450 U.S. 564, 102 S.Ct. 3245, 3250, 73 L.Ed.2d 973 (1982)).
Section 6501(a) of the Internal Revenue Code provides that "the
amount of any tax imposed by this title shall be assessed within 3
years after the return was filed." 26 U.S.C. § 6501(a). The plain
language of section 6501 thus establishes a three year period of
limitations "for assessing any tax imposed under the Code."
Fehlhaber, 954 F.2d at 654.
The taxpayer and the Commissioner can, however, contract to
extend the three-year statute of limitations period. An exception
to the limitations period arises when the Commissioner and the
taxpayer consent in writing--before the three-year period expires--to
an extension of time for the assessment of tax. 26 U.S.C. §
6501(c). The Brodys executed a "Special Consent to Extend the Time
to Assess Tax" for the taxable years 1977, 1978 and 1979. These
Consents permitted the Commissioner to assess the income tax due on
the return for a particular year until the agreement ended. Each
agreement, by its terms, continued in effect until ninety days
after revocation of the Consent by the Brodys. The extension of
the period of limitations does not alter our discussion: it works
no change in our analysis whether the Commissioner asserted the
deficiency either within three years after the Brodys filed a
particular return or, as here, within the time allowed under the
extension for that taxable year. The parties do not dispute that
the Commissioner issued the notice of deficiency for the taxable
years 1977, 1978 and 1979 before the agreements extending the time

to assess the income tax due on the returns for those years
terminated. Our inquiry remains the same: Does the filing of the
taxpayer return or the Subchapter S return commence the running of
the statute of limitations?
Section 6501(a), the focus of our statutory analysis, is
quite simple, yet curiously inexplicit. Section 6501(a) mandates
that any tax imposed under the Internal Revenue Code must be
assessed within three years after "the return was filed." The
issue in this case reduces to the conspicuous question: Three
years after which return was filed? Although the plain language of
the provision establishes a three year limitations period, Congress
neglected to specify whether--when the Commissioner attempts to
assess a deficiency against that taxpayer for adjustments to the
taxpayer's distributive share of items passed through from the S
corporation--the period begins when the S corporation files its
return or when the shareholder files his or her personal income tax
return. See Kelley, 877 F.2d at 759 (Section 6501 "does not
indicate whether the relevant return is the taxpayer's or the
corporation's.").
The Brodys argue that the statutory period for assessing
deficiencies in income tax from the shareholders of an S
corporation that relate to adjustments in items passed through from
a Subchapter S corporation commences when the S corporation files
its return. Since the S corporations filed their returns in 1978,
1979 and 1980, the Brodys claim that the three-year statute of

limitations expired "long before the Commissioner sent the 1986
notice of deficiency" to them. The Commissioner contends that the
deficiencies were asserted within the period of limitations because
it is the taxpayer's return, not the Subchapter S corporation's
return, that triggers the running of the period of limitations.
And, because the Commissioner asserted the deficiencies within the
period allowed under the extensions signed by the Brodys, section
6501 does not bar the assessment. We agree with the Commissioner.
In agreeing with the Commissioner, we find ourselves in accord
with the Eleventh Circuit, Fehlhaber, 954 F.2d at 655, and the
Second Circuit, Bufferd v. Commissioner, 952 F.2d 675, 677 (2nd
Cir.1992), petition for cert. filed, U.S.L.W. (U.S. Mar.
31, 1992) (No. 914099). We are persuaded by the Eleventh
Circuit's emphasis on the nature of the return filed by the
Subchapter S corporation in interpreting the meaning of section
6501(a). As explained above, the S corporation ordinarily pays no
corporate income tax; rather, "its income is taxed directly to its
shareholders under personal income tax rates." Fehlhaber, 954 F.2d
at 655 (citation omitted). The return of the S corporation
contains information about the corporation, including its gross
income and deductions, and its shareholders, including the names
and addresses of its shareholders, distributions to the
shareholders, and the shareholder's pro rata share of each item of
the corporation for the taxable year. Id. at 654 & n. 3; see 26
U.S.C. § 6037. The return of the S corporation typically does not
reflect any corporate tax liability, so the return filed by the

Subchapter S "is merely an informational return." Fehlhaber, 954
F.2d at 655 (emphasis added). Each shareholder reports her pro
rata share of these S corporation items, using this information to
assist in calculating her federal income tax on her individual
income tax return. The information relayed by the S corporation's
return about its shareholders falls far short of that needed to
compute an individual shareholder's tax liability. Id. The
Subchapter S corporation's return obviously does not reveal each
shareholder's adjusted basis in the corporate stock, "nor does it
show [the shareholder's] income, losses, deductions, and credits
from other sources." Fehlhaber, 94 T.C. at 869. For these
reasons, the information return filed by the S corporation cannot
support the assessment of a tax against the entity, for "the
corporation itself is ordinarily not subject to any tax," or the
shareholder, for "the return lacks sufficient information to
determine the individual's tax liability." Fehlhaber, 954 F.2d at
655.
When Congress revised Subchapter S in 1982, it described the
provisions in effect at the time.4 The Senate Report explained
that
[u]nder present law, a taxpayer's individual tax liability is
determined in proceedings between the Internal Revenue Service
and the individual whose tax liability is in dispute. Thus,
any issues involving the income or deductions of a subchapter
4The 1982 amendments to Subchapter S concerning the tax
treatment of subchapter S items do not apply to the 1977, 1978 or
1979 taxable years involved in this appeal. See 26 U.S.C. §§
62416245 (West 1989).

S corporation are determined separately in administrative or
judicial proceedings involving the individual shareholder
whose tax liability is affected. Statutes of limitations
apply at the individual level, based on the returns filed by
the individual. The filing by the corporation of its return
does not affect the statute of limitations applicable to the
shareholders.
S.Rep. No. 640, 97th Cong., 2d Sess. 25 (1982), reprinted in 1982
U.S.C.C.A.N. 3253, 3275 (emphasis added). We agree with the
Eleventh Circuit that this legislative history, although not
contemporaneous, supports the conclusion that "the limitations
period for assessing a tax liability against a shareholder begins
to run from the date that the individual, and not the S
corporation, files his return." Fehlhaber, 954 F.2d at 657
(emphasis added); see Bufferd, 952 F.2d at 678 ("[T]he relevant
return for determining the statute of limitations is the return of
the taxpayer against whom the tax is sought."). But see Kelley,
877 F.2d at 759 ("[T]he IRS may not adjust a shareholder's return
based on an adjustment to an S corporation's return when the
statute of limitations has run on the S corporation's return.").
The expiration of the period of limitations as to the
Subchapter S corporations does not preclude the Commissioner from
assessing deficiencies attributable to the disallowance of losses
passed through from the S corporations to the shareholders. The
statute of limitations applicable to the shareholders commences at
the time the shareholders file their individual income tax returns.
The Commissioner has three years, or, as in this case, an extended
period of time pursuant to agreements between the shareholder and
the Commissioner, to assess a tax upon the shareholder for S

corporation-related items. The Consents signed by the Brodys
granted the Commissioner the power to assess tax due on the Brody's
1977, 1978 and 1979 tax returns at the time the Commissioner issued
the notice of deficiency. We hold that the Commissioner issued the
notice of deficiency within the period of limitations.
The Brodys advance several arguments that militate against
commencing the statute of limitations at the time the shareholders
file their returns. First, the Brodys contend that our holding
promotes unfairness. The Ninth Circuit in Kelley expressed a
similar concern. See Kelley, 877 F.2d at 758. When the IRS seeks
to adjust a shareholder's return for items passed through from an
S corporation more than three years after the filing of the S
corporation's return, the shareholder opposing the adjustment can
defend itself "only by resort to the corporation's books and
records." Id. According to the Ninth Circuit, inimical
repercussions would result from a rule construing the words of
6501(a) as referencing the shareholder's return: Either the
corporation would bear an onerous obligation to maintain its books
and records beyond three years after it files its information
return or the shareholder would experience a diminished ability to
defend against the adjustment because the corporation had
demolished the relevant records. Cf. id.
This assertion does not sway our adherence to interpreting the
statute of limitations as we do today. First, it is not unfamiliar
in the world of tax to have "an individual's income tax return ...

dependent on records maintained by another entity." Fehlhaber, 954
F.2d at 658 (citing partnership and trust taxation as examples).
Second, the rule generally does not impose an undue burden on the
corporation or the shareholder. S corporations, by definition,
have only a small number of shareholders. A shareholder can "take
the necessary steps to ensure that the corporation preserves the
relevant records." Id. Such protective steps simply do not
constitute an overly oppressive task for the shareholder. Bufferd,
952 F.2d at 678. Even if we were to hold that the statute of
limitations commenced with the filing of the Subchapter S return,
we could issue no guarantee that the corporation would preserve its
records until that period expired, just as we cannot assure the
shareholder that the corporation will preserve the relevant books
and records when the shareholder requests that it do so. In either
event, the shareholder remains dependent on the corporation to
retain the relevant records. We cannot alter this feature of the
relationship between the Subchapter S corporation and its
shareholders. In 1979, the management of one of the S
corporations, Delta, alerted the Brodys to an audit of Delta's 1977
return. Two of the consents to extend the time to assess tax
against the Brodys, executed in 1982 and 1983, limited any
deficiency assessment to that resulting from, inter alia, any
adjustment to the Brody's "distributive share of any item of
income, gain, loss, deduction, or credit of" Delta and St. Louis.
The Brodys do not argue that they took immediate action to ensure
that the S corporations safeguarded the books and records needed to
support the S corporation items on their individual returns when

they learned of potential problems with the pass-through items.
See Bufferd, 952 F.2d at 678 (citing Siben v. Commissioner, 930
F.2d 1034, 1037 (2nd Cir.), cert. denied, U.S. , 112 S.Ct.
429, 116 L.Ed.2d 449 (1991)). Indeed, the Brodys did not attempt
to locate the corporate records for the taxable years 1977, 1978,
and 1979 until after receipt of the notice of deficiency in 1986.
Finally, we reject any suggestion that we elevate the "perceived
unfairness to taxpayers" over our duty to strictly construe in
favor of the government a statute of limitation when the petitioner
seeks application of the statute so as to bar the rights of the
government. Fehlhaber, 954 F.2d at 658 (citing Badaracco v.
Commissioner, 464 U.S. 386, 104 S.Ct. 756, 761, 78 L.Ed.2d 549
(1984)) (quoting E.I. Du Pont De Nemours & Co. v. Davis, 264 U.S.
456, 44 S.Ct. 364, 366, 68 L.Ed. 788 (1924)); see Sage v. United
States, 908 F.2d 18, 24 (5th Cir.1990).
Second, the Brodys forcefully assert that section 6037 of the
Internal Revenue Code answers the question posed by section
6501(a). Section 6037 requires that every S corporation file a
return each taxable year. 26 U.S.C. § 6037. Furthermore, "[a]ny
return filed pursuant to [section 6037] shall, for purposes of
chapter 66 (relating to limitations), be treated as a return filed
by the corporation under section 6012." Id. The Brodys claim that
this language in section 6037 supplies a ready answer to the
question raised by section 6501: Three years after which return
was filed? The "return filed by the corporation."

The answer suggested by the taxpayers ignores one critical
part of the final sentence of section 6037. If we treat "any
return" filed pursuant to section 6037 as "a return filed by the
corporation under section 6012 " for period of limitations
purposes, we must, of course, consult section 6012. Section
6012(a) simply requires that "every corporation subject to
taxation" file a tax return. 26 U.S.C. § 6012(a) (emphasis added).
We read the plain language of 6037 to mean that any information
return filed by the Subchapter S corporation pursuant to section
6037 constitutes a tax return filed by the S corporation under
section 6012 for limitations purposes--should the S corporation fall
into the somewhat extraordinary position of owing tax itself. Both
the Eleventh and Second Circuits extensively considered the effect
of 6037 on the section 6501 issue. Both courts concluded, as we
do, that "[s]ection 6037 provides the limitations period for
organizations that file returns as S corporations but are
nonetheless required to pay some tax on the organization's income."
Bufferd, 952 F.2d at 677. "[T]he last sentence in section 6037
does not apply to a subchapter S corporation unless its return
establishes that the corporation owes a tax." Fehlhaber, 954 F.2d
at 656.
Two examples surface in which a corporation that files a
return pursuant to section 6037 pays tax directly, rather than
merely functioning in its typical role as a pass-through entity.
If an S corporation receives certain capital gains, the S
corporation itself must pay tax on that income. Bufferd, 952 F.2d

at 678; Kelley, 877 F.2d at 758. Moreover, if a corporation files
an S corporation return, yet was not eligible for treatment as an
S corporation, the filing of the return under 6037 triggers the
three-year statute of limitations for assessing taxes on the
corporation's income. See Fehlhaber, 954 F.2d at 656 n. 15
(citations omitted); Kelley, 877 F.2d at 758. The legislative
history to section 6037 supports this reading of the section's last
sentence:
Notwithstanding the fact that an electing small-business
corporation is not subject to the tax imposed by chapter 1 of
the 1954 Code, such corporation must make a return for each
taxable year in accordance with new section 6037.... Such
return will be considered as a return filed under section 6012
for purposes of the provisions of chapter 66, relating to
limitations. Thus, for example, the period of limitation on
assessment and collection of any corporate tax found to be due
upon a subsequent determination that the corporation was not
entitled to the benefits of subchapter S, will run from the
date of filing of the return required under the new section
6037.
S.Rep. No. 1983, 85th Cong., 2d Sess. 226 (1958), reprinted in 1958
U.S.C.C.A.N. 4791, 5014. But see Kelley, 877 F.2d at 759 ("While
[the Senate Report] refers to an unqualified corporation as an
example, it leaves open whether the statute of limitations applies
in other situations."). The parties do not dispute that the filing
of the Subchapter S corporations' returns commenced the running of
the statutes of limitations applicable to the assessment of any
corporate tax. Nor do the parties assert that the returns filed by
the S corporations for the taxable years involved in this appeal
established that the Subchapter S corporations separately owed any
tax for those years. The final sentence of 6037 simply does not
apply to the facts of this case.

III. CONCLUSION
For the reasons explained above, we AFFIRM the judgments of
the United States Tax Court.